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UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-Q
 
 
x
 
QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
 

For the quarterly period ended September 30, 2018
OR
 
o
 
TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
 

Commission File Number: 000-51999
 

FEDERAL HOME LOAN BANK OF DES MOINES
(Exact name of registrant as specified in its charter)
 
Federally chartered corporation
(State or other jurisdiction of incorporation or organization)
 
42-6000149
(I.R.S. employer identification number)
 
 
 
 
 
 
 
909 Locust Street
Des Moines, IA
(Address of principal executive offices)
 


50309
(Zip code)
 

Registrant’s telephone number, including area code: (515) 412-2100
 

Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days.
x Yes o No
Indicate by check mark whether the registrant has submitted electronically every Interactive Data File required to be submitted pursuant to Rule 405 of Regulation S-T (section 232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit such files).
x Yes o No
Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, a smaller reporting company, or an emerging growth company. See the definitions of large accelerated filer, accelerated filer, smaller reporting company, and emerging growth company in Rule 12b-2 of the Exchange Act.
Large accelerated filer o
 
Accelerated filer o
Non-accelerated filer x
 
Smaller reporting company o
 
 
Emerging growth company o

If an emerging growth company, indicate by check mark if the registrant has elected not to use the extended transition period for complying with any new or revised financial accounting standards provided pursuant to Section 13(a) of the Exchange Act. o

Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act).

o Yes x No
Indicate the number of shares outstanding of each of the issuer’s classes of common stock, as of the latest practicable date.
 
 
Shares outstanding as of October 31, 2018
 
Class B Stock, par value $100
 
56,298,366
 
 
 
 
 
 
 
 
 



Table of Contents
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 

Table of Contents

PART I - FINANCIAL INFORMATION

ITEM 1. FINANCIAL STATEMENTS (UNAUDITED)

FEDERAL HOME LOAN BANK OF DES MOINES
STATEMENTS OF CONDITION
(dollars and shares in millions, except capital stock par value)
(Unaudited)
 
 
September 30,
2018
 
December 31,
2017
ASSETS
 
 
 
 
Cash and due from banks
 
$
155

 
$
503

Interest-bearing deposits
 
1

 
1

Securities purchased under agreements to resell
 
5,100

 
4,600

Federal funds sold
 
6,390

 
4,250

Investment securities
 
 
 
 
Trading securities (Note 3)
 
903

 
1,177

Available-for-sale securities (Note 4)
 
19,630

 
20,796

Held-to-maturity securities (fair value of $3,131 and $3,686) (Note 5)
 
3,115

 
3,628

Total investment securities
 
23,648

 
25,601

Advances (includes $15 and $0 at fair value under the fair value option) (Note 7)
 
100,787

 
102,613

Mortgage loans held for portfolio, net of allowance for credit losses of $1 and $2 (Notes 8 and 9)
 
7,549

 
7,096

Accrued interest receivable
 
286

 
223

Derivative assets, net (Note 10)
 
70

 
100

Other assets
 
109

 
112

TOTAL ASSETS
 
$
144,095

 
$
145,099

LIABILITIES
 
 
 
 
Deposits
 
 
 
 
Interest-bearing
 
$
756

 
$
1,013

Non-interest-bearing
 
79

 
94

Total deposits
 
835

 
1,107

Consolidated obligations (Note 11)
 
 
 
 
Discount notes
 
42,101

 
36,682

Bonds
 
92,998

 
98,893

Total consolidated obligations
 
135,099

 
135,575

Borrowings from other FHLBanks
 
—

 
600

Mandatorily redeemable capital stock (Note 12)
 
277

 
385

Accrued interest payable
 
243

 
210

Affordable Housing Program payable
 
154

 
142

Derivative liabilities, net (Note 10)
 
4

 
6

Other liabilities
 
178

 
53

TOTAL LIABILITIES
 
136,790

 
138,078

Commitments and contingencies (Note 14)
 

 

CAPITAL (Note 12)
 
 
 
 
Capital stock - Class B putable ($100 par value); 52 and 51 issued and outstanding shares
 
5,163

 
5,068

Retained earnings
 
 
 
 
Unrestricted
 
1,612

 
1,504

Restricted
 
407

 
335

Total retained earnings
 
2,019

 
1,839

Accumulated other comprehensive income (loss)
 
123

 
114

TOTAL CAPITAL
 
7,305

 
7,021

TOTAL LIABILITIES AND CAPITAL
 
$
144,095

 
$
145,099

The accompanying notes are an integral part of these financial statements.

3
Table of Contents

FEDERAL HOME LOAN BANK OF DES MOINES
STATEMENTS OF INCOME
(dollars in millions)
(Unaudited)
 
 
For the Three Months Ended
 
For the Nine Months Ended
 
 
September 30,
 
September 30,
 
 
2018
 
2017
 
2018
 
2017
INTEREST INCOME
 
 
 
 
 
 
 
 
Advances
 
$
633

 
$
451

 
$
1,761

 
$
1,165

Interest-bearing deposits
 
—

 
—

 
1

 
1

Securities purchased under agreements to resell
 
21

 
14

 
49

 
30

Federal funds sold
 
34

 
26

 
79

 
53

Trading securities
 
7

 
12

 
23

 
35

Available-for-sale securities
 
132

 
98

 
364

 
266

Held-to-maturity securities
 
22

 
20

 
65

 
60

Mortgage loans held for portfolio
 
64

 
59

 
185

 
176

Total interest income
 
913

 
680


2,527

 
1,786

INTEREST EXPENSE
 
 
 
 
 
 
 
 
Consolidated obligations - Discount notes
 
212

 
163

 
506

 
396

Consolidated obligations - Bonds
 
535

 
338

 
1,517

 
877

Deposits
 
4

 
1

 
9

 
3

Mandatorily redeemable capital stock
 
6

 
4

 
15

 
13

Total interest expense
 
757

 
506


2,047

 
1,289

NET INTEREST INCOME
 
156

 
174


480

 
497

Provision (reversal) for credit losses on mortgage loans
 
—

 
1

 
—

 
1

NET INTEREST INCOME AFTER PROVISION (REVERSAL) FOR CREDIT LOSSES
 
156

 
173

 
480

 
496

OTHER INCOME (LOSS)
 
 
 
 
 
 
 
 
Net gains (losses) on trading securities
 
(9
)
 
1

 
(33
)
 
10

Net gains (losses) on derivatives and hedging activities
 
9

 
(2
)
 
43

 
1

Gains on litigation settlements, net
 
—

 
—

 
—

 
21

Other, net
 
7

 
5

 
13

 
13

Total other income (loss)
 
7


4


23

 
45

OTHER EXPENSE
 
 
 
 
 
 
 
 
Compensation and benefits
 
15

 
12

 
46

 
39

Contractual services
 
3

 
2

 
9

 
8

Professional fees
 
6

 
5

 
13

 
15

Other operating expenses
 
6

 
6

 
17

 
16

Federal Housing Finance Agency
 
2

 
3

 
7

 
8

Office of Finance
 
2

 
1

 
5

 
5

Other, net
 
2

 
1

 
4

 
2

Total other expense
 
36

 
30


101

 
93

NET INCOME BEFORE ASSESSMENTS
 
127

 
147


402


448

Affordable Housing Program assessments
 
14

 
15

 
42

 
46

NET INCOME
 
$
113

 
$
132


$
360


$
402

The accompanying notes are an integral part of these financial statements.

4
Table of Contents


FEDERAL HOME LOAN BANK OF DES MOINES
STATEMENTS OF COMPREHENSIVE INCOME
(dollars in millions)
(Unaudited)
 
 
For the Three Months Ended
 
For the Nine Months Ended
 
 
September 30,
 
September 30,
 
 
2018
 
2017
 
2018
 
2017
Net income
 
$
113

 
$
132

 
$
360

 
$
402

Other comprehensive income (loss)
 
 
 
 
 
 
 
 
Net unrealized gains (losses) on available-for-sale securities
 
(19
)
 
12

 
9

 
117

Pension and postretirement benefits
 
—

 
(1
)
 
—

 
1

Total other comprehensive income (loss)
 
(19
)
 
11


9


118

TOTAL COMPREHENSIVE INCOME (LOSS)
 
$
94

 
$
143


$
369


$
520

The accompanying notes are an integral part of these financial statements.




5
Table of Contents

FEDERAL HOME LOAN BANK OF DES MOINES
STATEMENTS OF CAPITAL
(dollars and shares in millions)
(Unaudited)

 
Capital Stock Class B (putable)
 
Additional Capital from Merger
 
Shares
 
Par Value
 
BALANCE, DECEMBER 31, 2016
59

 
$
5,917

 
$
52

Comprehensive income (loss)
—

 
—

 
—

Proceeds from issuance of capital stock
43

 
4,364

 
—

Repurchases/redemptions of capital stock
(46
)
 
(4,617
)
 
—

Net shares reclassified (to) from mandatorily redeemable capital stock
—

 
(40
)
 
—

Cash dividends on capital stock
—

 
—

 
(52
)
BALANCE, SEPTEMBER 30, 2017
56

 
$
5,624

 
$
—

 
 
 
 
 
 
BALANCE, DECEMBER 31, 2017
51

 
$
5,068

 
$
—

Comprehensive income (loss)
—

 
—

 
—

Proceeds from issuance of capital stock
58

 
5,837

 
—

Repurchases/redemptions of capital stock
(57
)
 
(5,693
)
 
—

Net shares reclassified (to) from mandatorily redeemable capital stock
—

 
(49
)
 
—

Cash dividends on capital stock
—

 
—

 
—

BALANCE, SEPTEMBER 30, 2018
52

 
$
5,163

 
$
—

The accompanying notes are an integral part of these financial statements.

6
Table of Contents

FEDERAL HOME LOAN BANK OF DES MOINES
STATEMENTS OF CAPITAL (continued from previous page)
(dollars and shares in millions)
(Unaudited)
 
 
Retained Earnings
 
Accumulated Other Comprehensive Income (Loss)
 
Total
Capital
 
 
Unrestricted
 
Restricted
 
Total
 
 
BALANCE, DECEMBER 31, 2016
 
$
1,219

 
$
231

 
$
1,450

 
$
(18
)
 
$
7,401

Comprehensive income (loss)
 
322

 
80

 
402

 
118

 
520

Proceeds from issuance of capital stock
 
—

 
—

 
—

 
—

 
4,364

Repurchases/redemptions of capital stock
 
—

 
—

 
—

 
—

 
(4,617
)
Net shares reclassified (to) from mandatorily redeemable capital stock
 
—

 
—

 
—

 
—

 
(40
)
Cash dividends on capital stock
 
(78
)
 
—

 
(78
)
 
—

 
(130
)
BALANCE, SEPTEMBER 30, 2017
 
$
1,463

 
$
311

 
$
1,774

 
$
100

 
$
7,498

 
 
 
 
 
 
 
 
 
 
 
BALANCE, DECEMBER 31, 2017
 
$
1,504

 
$
335

 
$
1,839

 
$
114

 
$
7,021

Comprehensive income (loss)
 
288

 
72

 
360

 
9

 
369

Proceeds from issuance of capital stock
 
—

 
—

 
—

 
—

 
5,837

Repurchases/redemptions of capital stock
 
—

 
—

 
—

 
—

 
(5,693
)
Net shares reclassified (to) from mandatorily redeemable capital stock
 
—

 
—

 
—

 
—

 
(49
)
Cash dividends on capital stock
 
(180
)
 
—

 
(180
)
 
—

 
(180
)
BALANCE, SEPTEMBER 30, 2018
 
$
1,612

 
$
407

 
$
2,019

 
$
123

 
$
7,305

The accompanying notes are an integral part of these financial statements.


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Table of Contents

FEDERAL HOME LOAN BANK OF DES MOINES
STATEMENTS OF CASH FLOWS
(dollars in millions)
(Unaudited)
 
 
For the Nine Months Ended
 
 
September 30,
 
 
2018
 
2017
OPERATING ACTIVITIES
 
 
 
 
Net income
 
$
360

 
$
402

Adjustments to reconcile net income to net cash provided by (used in) operating activities
 
 
 
 
Depreciation and amortization
 
31

 
30

Net (gains) losses on trading securities
 
33

 
(10
)
Net change in derivatives and hedging activities
 
142

 
—

Other adjustments
 
—

 
7

Net change in:
 
 
 
 
Accrued interest receivable
 
(128
)
 
(85
)
Other assets
 
3

 
(2
)
Accrued interest payable
 
32

 
46

Other liabilities
 
19

 
(11
)
Total adjustments
 
132

 
(25
)
Net cash provided by (used in) operating activities
 
492

 
377

INVESTING ACTIVITIES
 
 
 
 
Net change in:
 
 
 
 
Interest-bearing deposits
 
91

 
40

Securities purchased under agreements to resell
 
(500
)
 
425

Federal funds sold
 
(2,140
)
 
(1,675
)
Premises, software, and equipment
 
(24
)
 
(25
)
Loans to other FHLBanks
 
—

 
200

Trading securities
 
 
 
 
Proceeds from maturities of long-term
 
241

 
771

Available-for-sale securities
 
 
 
 
Proceeds from maturities of long-term
 
2,467

 
1,962

Purchases of long-term
 
(1,365
)
 
(402
)
Held-to-maturity securities
 
 
 
 
Proceeds from maturities of long-term
 
521

 
844

Advances
 
 
 
 
Repaid
 
228,179

 
211,223

Originated or purchased
 
(226,534
)
 
(197,191
)
Mortgage loans held for portfolio
 
 
 
 
Principal collected
 
700

 
790

Originated or purchased
 
(1,169
)
 
(925
)
Proceeds from sales of foreclosed assets
 
6

 
7

Net cash provided by (used in) investing activities
 
473

 
16,044

The accompanying notes are an integral part of these financial statements.

8
Table of Contents

FEDERAL HOME LOAN BANK OF DES MOINES
STATEMENTS OF CASH FLOWS (continued from previous page)
(dollars in millions)
(Unaudited)
 
 
For the Nine Months Ended
 
 
September 30,
 
 
2018
 
2017
FINANCING ACTIVITIES
 
 
 
 
Net change in deposits
 
(180
)
 
(171
)
Borrowings from other FHLBanks
 
(600
)
 
—

Net payments on derivative contracts with financing elements
 
(1
)
 
(3
)
Net proceeds from issuance of consolidated obligations
 
 
 
 
Discount notes
 
130,226

 
162,882

Bonds
 
31,217

 
53,241

Payments for maturing and retiring consolidated obligations
 
 
 
 
Discount notes
 
(124,838
)
 
(190,878
)
Bonds
 
(36,944
)
 
(40,832
)
Proceeds from issuance of capital stock
 
5,837

 
4,364

Payments for repurchases/redemptions of capital stock
 
(5,693
)
 
(4,617
)
Net payments for repurchases/redemptions of mandatorily redeemable capital stock
 
(157
)
 
(282
)
Cash dividends paid
 
(180
)
 
(130
)
Net cash provided by (used in) financing activities
 
(1,313
)
 
(16,426
)
Net increase (decrease) in cash and due from banks
 
(348
)
 
(5
)
Cash and due from banks at beginning of the period
 
503

 
223

Cash and due from banks at end of the period
 
$
155

 
$
218

 
 
 
 
 
SUPPLEMENTAL DISCLOSURES
 
 
 
 
Cash Transactions:
 
 
 
 
Interest paid
 
$
2,010

 
$
1,277

Affordable Housing Program payments
 
30

 
25

Non-Cash Transactions:
 
 
 
 
Capitalized interest on reverse mortgage investment securities
 
66

 
43

Mortgage loan charge-offs
 
1

 
1

Transfers of mortgage loans to other assets
 
3

 
5

Capital stock reclassified to (from) mandatorily redeemable capital stock, net
 
49

 
40

The accompanying notes are an integral part of these financial statements.

9
Table of Contents

FEDERAL HOME LOAN BANK OF DES MOINES
CONDENSED NOTES TO THE UNAUDITED FINANCIAL STATEMENTS

Background Information

The Federal Home Loan Bank of Des Moines (the Bank) is a federally chartered corporation organized on October 31, 1932, that is exempt from all federal, state, and local taxation (except real property taxes) and is one of 11 district Federal Home Loan Banks (FHLBanks). The FHLBanks were created under the authority of the Federal Home Loan Bank Act of 1932 (FHLBank Act). With the passage of the Housing and Economic Recovery Act of 2008 (Housing Act), the Federal Housing Finance Agency (Finance Agency) was established and became the new independent federal regulator of Federal National Mortgage Association (Fannie Mae) and Federal Home Loan Mortgage Corporation (Freddie Mac) (collectively, Enterprises), as well as the FHLBanks and FHLBanks’ Office of Finance, effective July 30, 2008. The Finance Agency’s mission is to ensure that the Enterprises and FHLBanks operate in a safe and sound manner so that they serve as a reliable source of liquidity and funding for housing finance and community investment. The Finance Agency establishes policies and regulations governing the operations of the Enterprises and FHLBanks. Each FHLBank operates as a separate entity with its own management, employees, and board of directors.

The FHLBanks are government-sponsored enterprises (GSEs) that serve the public by enhancing the availability of funds for residential mortgages and targeted community development. The Bank provides a readily available source of funding and liquidity to its member institutions and eligible housing associates in Alaska, Hawaii, Idaho, Iowa, Minnesota, Missouri, Montana, North Dakota, Oregon, South Dakota, Utah, Washington, Wyoming, and the U.S. Pacific territories of American Samoa, Guam, and the Commonwealth of the Northern Mariana Islands. Commercial banks, savings institutions, credit unions, insurance companies, and community development financial institutions (CDFIs) may apply for membership. State and local housing associates that meet certain statutory criteria may also borrow from the Bank; while eligible to borrow, housing associates are not members of the Bank and, as such, are not permitted to hold capital stock.

The Bank is a cooperative. This means the Bank is owned by its customers, whom the Bank calls members. As a condition of membership in the Bank, all members must purchase and maintain membership capital stock based on a percentage of their total assets, subject to a minimum and maximum amount, as of the preceding December 31st. Each member is also required to purchase and maintain activity-based capital stock to support certain business activities with the Bank.

The Bank’s current and former members own all of the outstanding capital stock of the Bank. Former members own capital stock (included in mandatorily redeemable capital stock) to support business transactions still carried on the Bank’s Statements of Condition. All stockholders, including current and former members, may receive dividends on their capital stock investment to the extent declared by the Bank’s Board of Directors.




10
Table of Contents

Note 1 — Basis of Presentation

The accompanying unaudited financial statements have been prepared in accordance with accounting principles generally accepted in the United States of America (GAAP) for interim financial information. Accordingly, they do not include all of the disclosures required by GAAP for annual financial statements and should be read in conjunction with the audited financial statements for the year ended December 31, 2017, which are contained in the Bank’s 2017 Annual Report on Form 10-K filed with the SEC on March 12, 2018 (2017 Form 10-K).

In the opinion of management, the unaudited financial information is complete and reflects all adjustments, consisting of normal recurring adjustments, necessary for a fair statement of results for the interim periods. The preparation of financial statements in accordance with GAAP requires management to make assumptions and estimates that affect the amounts reported in the financial statements and accompanying notes. Actual results could differ from these estimates. The results of operations for interim periods are not necessarily indicative of the results to be expected for the full year ending December 31, 2018.

Reclassifications

Certain amounts in the Bank’s 2017 financial statements and footnotes have been reclassified to conform to the presentation as of September 30, 2018. In particular, due to the change in current presentation, variation margin on cleared derivatives has been allocated to the individual derivative instruments. Previously, this amount was included as a component of netting adjustments and cash collateral. For additional details regarding this reclassification, refer to “Note 10 — Derivatives and Hedging Activities.”

SIGNIFICANT ACCOUNTING POLICIES

There have been no material changes to the Bank’s significant accounting policies during the nine months ended September 30, 2018. Descriptions of all significant accounting policies are included in “Note 1 — Summary of Significant Accounting Policies” in the 2017 Form 10-K.










11
Table of Contents

Note 2 — Recently Adopted and Issued Accounting Guidance

ADOPTED ACCOUNTING GUIDANCE

Improving the Presentation of Net Periodic Pension Cost and Net Periodic Postretirement Benefit Cost (ASU 2017-07)
On March 10, 2017, the FASB issued amended guidance that requires an employer to disaggregate the service cost component from the other components of net periodic pension cost and net periodic postretirement benefit cost (net benefit cost). The amendments also provide explicit guidance on how to present the service cost component and the other components of net benefit cost in the income statement and allow only the service cost component of net benefit cost to be eligible for capitalization. This guidance became effective for the Bank for the interim and annual periods beginning on January 1, 2018 and was adopted retrospectively. The adoption of this guidance resulted in a reclassification of other net benefit costs from “Compensation and Benefits” to “Other Expense, Net” in the Bank’s Statements of Income. The adoption of this guidance did not have a material effect on the Bank’s financial condition, result of operations, or cash flows.
Classification of Certain Cash Receipts and Cash Payments (ASU 2016-15)

On August 26, 2016, the FASB issued amendments to clarify guidance on the classification of certain cash receipts and payments in the statement of cash flows. This guidance is intended to reduce existing diversity in practice in how certain cash receipts and cash payments are presented and classified in the statement of cash flows. This guidance became effective for the Bank for the interim and annual periods beginning on January 1, 2018 and was adopted retrospectively. The adoption of this guidance did not have a direct effect on the Bank’s financial condition, results of operations, or cash flows. However, the Bank did revise its previously reported supplemental interest paid disclosure to align with the clarified accounting guidance.
Recognition and Measurement of Financial Assets and Financial Liabilities (ASU 2016-01)

On January 5, 2016, the FASB issued amended guidance on certain aspects of recognition, measurement, presentation, and disclosure of financial instruments. This guidance includes, but is not limited to, the following:

•
Requires equity investments (with certain exceptions) to be measured at fair value with changes in fair value recognized in income.

•
Requires an entity to present separately in other comprehensive income (OCI) the portion of the total change in the fair value of a liability resulting from a change in the instrument-specific credit risk when the entity has elected to measure the liability at fair value in accordance with the fair value option for financial instruments.

•
Requires separate presentation of financial assets and financial liabilities by measurement category and form of financial asset (that is, securities or loans and receivables) on the statements of condition or the accompanying notes to the financial statements.

•
Eliminates the requirement for public entities to disclose the method(s) and significant assumptions used to estimate the fair value that is required to be disclosed for financial instruments measured at amortized cost on the statements of condition.

This guidance became effective for the Bank for the interim and annual periods beginning on January 1, 2018 and was adopted using the modified retrospective approach. The adoption of this guidance affected the Bank’s fair value disclosures. However, the guidance did not have any effect on the Bank’s financial condition, results of operations, or cash flows.

Revenue from Contracts with Customers (ASU 2014-09)

On May 28, 2014, the FASB issued guidance on revenue from contracts with customers. This guidance outlines a single comprehensive model for recognizing revenue arising from contracts with customers and supersedes most current revenue recognition guidance. In addition, this guidance amends the existing requirements for the recognition of a gain or loss on the transfer of non-financial assets that are not in a contract with a customer. This guidance applies to all contracts with customers except those that are within the scope of certain other standards, such as financial instruments, certain guarantees, insurance contracts, and lease contracts. The guidance provides entities with the option of using either of the following adoption methods: a full retrospective method, retrospectively to each prior reporting period presented; or a modified retrospective method, retrospectively with the cumulative effect of initially applying this guidance recognized at the date of initial application.


12
Table of Contents

On August 12, 2015, the FASB issued an amendment to defer the effective date of this guidance issued in May 2014 by one year. In 2016, the FASB issued additional amendments to clarify certain aspects of the new revenue guidance. However, these amendments did not change the core principle in the new revenue standard.

This guidance became effective for the Bank for the interim and annual periods beginning on January 1, 2018, and was adopted retrospectively. Given that the majority of the Bank’s financial instruments and other contractual rights that generate revenue are covered by other U.S. GAAP, the adoption of this guidance did not have a material effect on the Bank’s financial condition, results of operations, and cash flows.

ISSUED ACCOUNTING GUIDANCE
Inclusion of the Secured Overnight Financing Rate (SOFR) Overnight Index Swap (OIS) Rate as Benchmark Interest Rate for Hedge Accounting Purposes (ASU 2018-16)
On October 25, 2018, the FASB issued amended guidance to include the SOFR OIS rate as a U.S. benchmark interest rate for hedge accounting purposes. Including the OIS rate based on SOFR as an eligible benchmark interest rate during the early stages of the marketplace transition will facilitate the LIBOR to SOFR transition and provide sufficient lead time for entities to prepare for changes to interest rate risk hedging strategies for both risk management and hedge accounting purposes. The amendments apply to all entities that elect to apply hedge accounting of the benchmark interest rate, and will be effective prospectively for qualifying new or re-designated hedging relationships entered into on or after January 1, 2019. The Bank is currently evaluating the effect this guidance may have on its hedging strategies.
Accounting for Implementation Costs Incurred in a Cloud Computing Arrangement that is a Service Contract (ASU 2018-15)
On August 29, 2018, the FASB issued amended guidance to align the requirements for capitalizing implementation costs incurred in a hosting arrangement that is a service contract with the requirements for capitalizing implementation costs incurred to develop or obtain internal-use software (and hosting arrangements that include an internal-use software license). The accounting for the service element of a hosting arrangement that is a service contract is not affected by this guidance.
The amendments require a customer in a hosting arrangement that is a service contract to follow the guidance outlined in ASC Topic 350-40 to determine which implementation costs to capitalize as an asset related to the service contract and which costs to expense. They require the customer to expense the capitalized implementation costs over the term of the hosting arrangement. The amendments also require the customer to present the expense in the same line item in the statement of income as the fees associated with the hosting element (service) and classify payments for capitalized implementation costs in the statement of cash flows in the same manner as payments made for fees associated with the hosting element. Lastly, capitalized implementation costs should be presented in the statement of condition in the same line item that a prepayment for the fees of the associated hosting arrangement would be presented.
This guidance becomes effective for the Bank for the interim and annual periods beginning on January 1, 2020, and can be applied either retrospectively or prospectively to all implementation costs incurred after the date of adoption. Early adoption is permitted. The Bank is in the process of evaluating this guidance, and its effect on the Bank’s financial condition, results of operations, and cash flows has not yet been determined.
Changes to the Disclosure Requirements for Defined Benefit Plans (ASU 2018-14)
On August 28, 2018, the FASB issued amended guidance that modifies the disclosure requirements for defined benefit plans to improve disclosure effectiveness. This guidance becomes effective for the Bank for annual periods ending on December 31, 2020. Early adoption is permitted. The adoption of this guidance is not expected to have any effect on the Bank’s financial condition, results of operations, or cash flows; however, it may reduce certain disclosures.
Changes to the Disclosure Requirements for Fair Value Measurement (ASU 2018-13)
On August 28, 2018, the FASB issued amended guidance that modifies the disclosure requirements for fair value measurements to improve disclosure effectiveness. This guidance becomes effective for the Bank for interim and annual periods beginning on January 1, 2020. Early adoption is permitted. The adoption of this guidance is not expected to have any effect on the Bank’s financial condition, results of operations, or cash flows; however, it may reduce certain disclosures.

13
Table of Contents

Targeted Improvements to Accounting for Hedging Activities (ASU 2017-12)
On August 28, 2017, the FASB issued amended guidance to improve the financial reporting of hedging relationships to better portray the economic results of an entity’s risk management activities in its financial statements. This guidance requires that, for fair value hedges, the entire change in the fair value of the hedging instrument included in the assessment of hedge effectiveness be presented in the same income statement line that is used to present the earnings effect of the hedged item. For cash flow hedges, the entire change in the fair value of the hedging instrument included in the assessment of hedge effectiveness must be recorded in OCI. In addition, the amendments include certain targeted improvements to the assessment of hedge effectiveness and permit, among other things, the following:
•
Measurement of the change in fair value of the hedged item on the basis of the benchmark rate component of the contractual coupon cash flows determined at hedge inception.
•
Measurement of the hedged item in a partial-term fair value hedge of interest-rate risk by assuming the hedged item has a term that reflects only the designated cash flows being hedged.
•
Consideration only of how changes in the benchmark interest rate affect a decision to settle a prepayable instrument before its scheduled maturity in calculating the change in the fair value of the hedged item attributable to interest-rate risk.
•
For a cash flow hedge of interest-rate risk of a variable-rate financial instrument, an entity could designate as the hedged risk the variability in cash flows attributable to the contractually specified interest-rate.
This guidance becomes effective for the Bank for the interim and annual periods beginning on January 1, 2019, and early adoption is permitted. The amended presentation and disclosure guidance is required only prospectively. The Bank does not intend to adopt this guidance early. The Bank has evaluated this guidance and it is not expected to affect the Bank’s application of hedge accounting for existing hedge strategies, with the exception of designation of a fallback long-haul method for its short-cut hedge strategies, which will not have an impact on the Bank’s financial condition, results of operations or cash flows. Upon adoption, this guidance will prospectively affect the Bank’s income statement presentation for fair value hedge relationships and will require certain new disclosures. The Bank will continue to assess opportunities enabled by the new guidance to expand its risk management strategies.
Premium Amortization on Purchased Callable Debt Securities (ASU 2017-08)

On March 30, 2017, the FASB issued guidance to shorten the amortization period for certain purchased callable debt securities held at a premium. Specifically, this guidance requires the premium to be amortized to the earliest call date. This guidance does not require an accounting change for securities held at a discount; the discount continues to be amortized to maturity. This guidance is effective for the Bank for the interim and annual periods beginning on January 1, 2019, and early adoption is permitted. This guidance should be applied using a modified retrospective method through a cumulative-effect adjustment directly to retained earnings as of the beginning of the period of adoption. The Bank does not intend to adopt this guidance early. The Bank has evaluated this guidance and its effect on the Bank’s financial condition, results of operations, and cash flows is not expected to be material.

Measurement of Credit Losses on Financial Instruments (ASU 2016-13)

On June 16, 2016, the FASB issued amended guidance for the accounting of credit losses on financial instruments. The amendments require entities to measure expected credit losses based on relevant information about past events, including historical experience, current conditions, and reasonable and supportable forecasts that affect the collectability of the reported amount. An entity must use judgment in determining the relevant information and estimation methods that are appropriate in its circumstances. The new guidance requires a financial asset, or a group of financial assets, measured at amortized cost to be presented at the net amount expected to be collected. The guidance also requires, among other things, the following:
•
The statement of income to reflect the measurement of credit losses for newly recognized financial assets, as well as the expected increases or decreases of expected credit losses that have taken place during the period.

•
Entities to determine the allowance for credit losses for purchased financial assets with a more-than-insignificant amount of purchased credit deterioration (PCD) since origination that is measured at amortized cost in a similar manner to other financial assets measured at amortized cost. The initial allowance for credit losses is required to be added to the purchase price of the assets acquired.


14
Table of Contents

•
Entities to record credit losses relating to available-for-sale (AFS) debt securities through an allowance for credit losses. The amendments limit the allowance for credit losses to the amount by which fair value is below amortized cost.

•
Public entities to further disaggregate the current disclosure of credit quality indicators in relation to the amortized cost of financing receivables by the year of origination (i.e., vintage).

This guidance is effective for the Bank for the interim and annual periods beginning on January 1, 2020. Early application is permitted as of the interim and annual reporting periods beginning after December 15, 2018. This guidance should be applied using a modified-retrospective approach, through a cumulative-effect adjustment to retained earnings as of the beginning of the first reporting period in which the guidance is effective. In addition, entities are required to use a prospective transition approach for PCD assets upon adoption and for debt securities for which an other-than-temporary impairment had been recognized before the effective date. The Bank does not intend to adopt the new guidance early. While the Bank is in the process of evaluating this guidance, the Bank expects the adoption of the guidance may result in an increase in the allowance for credit losses and corresponding expense, including an allowance for debt securities, given the requirement to assess losses for the entire estimated life of the financial asset. The effect on the Bank’s financial condition, results of operations, and cash flows will depend upon the composition of financial assets held by the Bank at the adoption date as well as the economic conditions and forecasts at that time.
Leases (ASU 2016-02)

On February 25, 2016, the FASB issued guidance which requires recognition of lease assets and lease liabilities on the statement of condition and disclosure of key information about leasing arrangements. Specifically, this guidance requires a lessee, of operating or finance leases, to recognize on the statement of condition a liability to make lease payments and a right-of-use asset representing its right to use the underlying asset for the lease term. For leases with a term of 12 months or less, a lessee is permitted to make an accounting policy election not to recognize lease assets and lease liabilities. Under previous GAAP, a lessee was not required to recognize lease assets and lease liabilities arising from operating leases on the statement of condition. While this guidance does not fundamentally change lessor accounting, some changes have been made to align that guidance with the lessee guidance and other areas within GAAP.

This guidance becomes effective for the Bank for the interim and annual periods beginning on January 1, 2019, and early application is permitted. In July 2018, the FASB issued amendments that, among other things, provide entities with an additional transition method to adopt the guidance. The new transition method allows entities an option to recognize a cumulative-effect adjustment to the opening balance of retained earnings in the period of adoption. The Bank does not intend to adopt this new guidance early. Upon adoption, the Bank estimates that it will recognize right-of-use assets and lease liabilities for its operating leases of approximately $5 million on its statements of condition. The Bank does not anticipate the adoption of this guidance will have a material effect on its results of operations or cash flows.


15
Table of Contents

Note 3 — Trading Securities

MAJOR SECURITY TYPES

Trading securities were as follows (dollars in millions):
 
September 30,
2018
 
December 31,
2017
Non-mortgage-backed securities
 
 
 
U.S. obligations1
$
157

 
$
197

GSE and Tennessee Valley Authority obligations
56

 
260

Other2
262

 
272

     Total non-mortgage-backed securities
475

 
729

Mortgage-backed securities
 
 
 
GSE multifamily
428

 
448

Total fair value
$
903

 
$
1,177


1
Represents investment securities backed by the full faith and credit of the U.S. Government.

2
Consists of taxable municipal bonds.

NET GAINS (LOSSES) ON TRADING SECURITIES

The Bank did not sell any trading securities during the three and nine months ended September 30, 2018 and 2017. During the three and nine months ended September 30, 2018, the Bank recorded net holding losses of $9 million and $33 million on its trading securities compared to net holding gains of $1 million and $10 million for the same periods in 2017.


16
Table of Contents

Note 4 — Available-for-Sale Securities

MAJOR SECURITY TYPES

AFS securities were as follows (dollars in millions):
 
September 30, 2018
 
Amortized
Cost1
 
Gross
Unrealized
Gains
 
Gross
Unrealized
Losses
 

Fair
Value
Non-mortgage-backed securities
 
 
 
 
 
 
 
U.S. obligations2
$
2,675

 
$
10

 
$
(2
)
 
$
2,683

GSE and Tennessee Valley Authority obligations
988

 
35

 
—

 
1,023

State or local housing agency obligations
846

 
—

 
(2
)
 
844

Other3
257

 
12

 
—

 
269

Total non-mortgage-backed securities
4,766

 
57

 
(4
)
 
4,819

Mortgage-backed securities
 
 
 
 
 
 
 
U.S. obligations single-family2
4,291

 
29

 
(1
)
 
4,319

GSE single-family
834

 
6

 
(6
)
 
834

GSE multifamily
9,612

 
54

 
(8
)
 
9,658

Total mortgage-backed securities
14,737

 
89

 
(15
)
 
14,811

Total
$
19,503

 
$
146

 
$
(19
)
 
$
19,630


 
December 31, 2017
 
Amortized
Cost1
 
Gross
Unrealized
Gains
 
Gross
Unrealized
Losses
 

Fair
Value
Non-mortgage-backed securities
 
 
 
 
 
 
 
U.S. obligations2
$
3,096

 
$
8

 
$
(5
)
 
$
3,099

GSE and Tennessee Valley Authority obligations
1,197

 
39

 
—

 
1,236

State or local housing agency obligations
935

 
—

 
(1
)
 
934

Other3
269

 
9

 
—

 
278

Total non-mortgage-backed securities
5,497

 
56

 
(6
)
 
5,547

Mortgage-backed securities
 
 
 
 
 
 
 
U.S. obligations single-family2
3,716

 
11

 
(1
)
 
3,726

GSE single-family
983

 
7

 
(2
)
 
988

GSE multifamily
10,482

 
57

 
(4
)
 
10,535

Total mortgage-backed securities
15,181

 
75

 
(7
)
 
15,249

Total
$
20,678

 
$
131

 
$
(13
)
 
$
20,796



1
Amortized cost includes adjustments made to the cost basis of an investment for accretion, amortization, and/or fair value hedge accounting adjustments.

2
Represents investment securities backed by the full faith and credit of the U.S. Government.

3
Consists of taxable municipal bonds and/or Private Export Funding Corporation (PEFCO) bonds.



17
Table of Contents

UNREALIZED LOSSES

The following tables summarize AFS securities with unrealized losses by major security type and length of time that individual securities have been in a continuous unrealized loss position (dollars in millions). In cases where the gross unrealized losses for an investment category are less than $1 million, the losses are not reported.
 
September 30, 2018
 
Less than 12 Months
 
12 Months or More
 
Total
 
Fair
Value
 
Unrealized
Losses
 
Fair
Value
 
Unrealized
Losses
 
Fair
Value
 
Unrealized
Losses
Non-mortgage-backed securities
 
 
 
 
 
 
 
 
 
 
 
U.S. obligations1
$
508

 
$
(1
)
 
$
325

 
$
(1
)
 
$
833

 
$
(2
)
State or local housing agency obligations
217

 
—

 
593

 
(2
)
 
810

 
(2
)
Total non-mortgage-backed securities
725

 
(1
)
 
918

 
(3
)
 
1,643

 
(4
)
Mortgage-backed securities
 
 
 
 
 
 
 
 
 
 
 
U.S. obligations single-family1
547

 
(1
)
 
—

 
—

 
547

 
(1
)
GSE single-family
192

 
(6
)
 
27

 
—

 
219

 
(6
)
GSE multifamily
2,872

 
(5
)
 
860

 
(3
)
 
3,732

 
(8
)
Total mortgage-backed securities
3,611

 
(12
)
 
887

 
(3
)
 
4,498

 
(15
)
Total
$
4,336

 
$
(13
)
 
$
1,805

 
$
(6
)
 
$
6,141

 
$
(19
)

 
December 31, 2017
 
Less than 12 Months
 
12 Months or More
 
Total
 
Fair
Value
 
Unrealized
Losses
 
Fair
Value
 
Unrealized
Losses
 
Fair
Value
 
Unrealized
Losses
Non-mortgage-backed securities
 
 
 
 
 
 
 
 
 
 
 
U.S. obligations1
$
29

 
$
—

 
$
1,783

 
$
(5
)
 
$
1,812

 
$
(5
)
State or local housing agency obligations
6

 
—

 
655

 
(1
)
 
661

 
(1
)
Total non-mortgage-backed securities
35

 
—

 
2,438

 
(6
)
 
2,473

 
(6
)
Mortgage-backed securities
 
 
 
 
 
 
 
 
 
 
 
U.S. obligations single-family1
111

 
—

 
887

 
(1
)
 
998

 
(1
)
GSE single-family
222

 
(2
)
 
53

 
—

 
275

 
(2
)
GSE multifamily
224

 
(1
)
 
1,756

 
(3
)
 
1,980

 
(4
)
Total mortgage-backed securities
557

 
(3
)
 
2,696

 
(4
)
 
3,253

 
(7
)
Total
$
592

 
$
(3
)
 
$
5,134

 
$
(10
)
 
$
5,726

 
$
(13
)


1
Represents investment securities backed by the full faith and credit of the U.S. Government.





18
Table of Contents

CONTRACTUAL MATURITY

The following table summarizes AFS securities by contractual maturity. Expected maturities of some securities may differ from contractual maturities as borrowers may have the right to call or prepay obligations with or without call or prepayment fees (dollars in millions):
 
 
September 30, 2018
 
December 31, 2017
Year of Contractual Maturity
 
Amortized
Cost
 
Fair
Value
 
Amortized
Cost
 
Fair
Value
Non-mortgage-backed securities
 
 
 
 
 
 
 
 
Due in one year or less
 
$
34

 
$
34

 
$
158

 
$
159

Due after one year through five years
 
1,129

 
1,138

 
750

 
755

Due after five years through ten years
 
2,796

 
2,810

 
3,574

 
3,583

Due after ten years
 
807

 
837

 
1,015

 
1,050

Total non-mortgage-backed securities
 
4,766

 
4,819

 
5,497

 
5,547

Mortgage-backed securities
 
14,737

 
14,811

 
15,181

 
15,249

Total
 
$
19,503

 
$
19,630

 
$
20,678

 
$
20,796





19
Table of Contents

Note 5 — Held-to-Maturity Securities

MAJOR SECURITY TYPES

Held-to-maturity (HTM) securities were as follows (dollars in millions):
 
September 30, 2018
 
Amortized
Cost1
 
Gross
Unrealized
Gains
 
Gross
Unrealized
Losses
 
Fair
Value
Non-mortgage-backed securities
 
 
 
 
 
 
 
GSE and Tennessee Valley Authority obligations
$
390

 
$
42

 
$
(3
)
 
$
429

State or local housing agency obligations
394

 
1

 
(2
)
 
393

Total non-mortgage-backed securities
784

 
43

 
(5
)
 
822

Mortgage-backed securities
 
 
 
 
 
 
 
U.S. obligations single-family2
10

 
—

 
—

 
10

U.S. obligations commercial2
1

 
—

 
—

 
1

GSE single-family
2,309

 
5

 
(27
)
 
2,287

Private-label residential
11

 
—

 
—

 
11

Total mortgage-backed securities
2,331

 
5

 
(27
)
 
2,309

Total
$
3,115

 
$
48

 
$
(32
)
 
$
3,131


 
December 31, 2017
 
Amortized
Cost1
 
Gross
Unrealized
Gains
 
Gross
Unrealized
Losses
 
Fair
Value
Non-mortgage-backed securities
 
 
 
 
 
 
 
GSE and Tennessee Valley Authority obligations
$
393

 
$
65

 
$
—

 
$
458

State or local housing agency obligations
454

 
2

 
(2
)
 
454

Total non-mortgage-backed securities
847

 
67

 
(2
)
 
912

Mortgage-backed securities
 
 
 
 
 
 
 
U.S. obligations single-family2
15

 
—

 
—

 
15

U.S. obligations commercial2
2

 
—

 
—

 
2

GSE single-family
2,752

 
7

 
(14
)
 
2,745

Private-label residential
12

 
—

 
—

 
12

Total mortgage-backed securities
2,781

 
7

 
(14
)
 
2,774

Total
$
3,628

 
$
74

 
$
(16
)
 
$
3,686


1
Amortized cost includes adjustments made to the cost basis of an investment for accretion or amortization.

2
Represents investment securities backed by the full faith and credit of the U.S. Government.



20
Table of Contents

UNREALIZED LOSSES

The following tables summarize HTM securities with unrealized losses by major security type and the length of time that individual securities have been in a continuous unrealized loss position (dollars in millions). In cases where the gross unrealized losses for an investment category are less than $1 million, the losses are not reported.
 
September 30, 2018
 
Less than 12 Months
 
12 Months or More
 
Total
 
Fair
Value
 
Unrealized
Losses
 
Fair
Value
 
Unrealized
Losses
 
Fair
Value
 
Unrealized
Losses
Non-mortgage-backed securities
 
 
 
 
 
 
 
 
 
 
 
GSE and Tennessee Valley Authority obligations
$
89

 
$
(3
)
 
$
—

 
$
—

 
$
89

 
$
(3
)
State or local housing agency obligations
71

 
—

 
152

 
(2
)
 
223

 
(2
)
Total non-mortgage-backed securities
160

 
(3
)
 
152

 
(2
)
 
312

 
(5
)
Mortgage-backed securities
 
 
 
 
 
 
 
 
 
 
 
U.S. obligations commercial1
—

 
—

 
1

 
—

 
1

 
—

GSE single-family
329

 
(1
)
 
1,079

 
(26
)
 
1,408

 
(27
)
Private-label residential
—

 
—

 
6

 
—

 
6

 
—

Total mortgage-backed securities
329

 
(1
)
 
1,086

 
(26
)
 
1,415

 
(27
)
Total
$
489

 
$
(4
)
 
$
1,238

 
$
(28
)
 
$
1,727

 
$
(32
)

 
December 31, 2017
 
Less than 12 Months
 
12 Months or More
 
Total
 
Fair
Value
 
Unrealized
Losses
 
Fair
Value
 
Unrealized
Losses
 
Fair
Value
 
Unrealized
Losses
Non-mortgage-backed securities
 
 
 
 
 
 
 
 
 
 
 
State or local housing agency obligations
$
2

 
$
—

 
$
168

 
$
(2
)
 
$
170

 
$
(2
)
Total non-mortgage-backed securities
2

 
—

 
168

 
(2
)
 
170

 
(2
)
Mortgage-backed securities
 
 
 
 
 
 
 
 
 
 
 
U.S. obligations single-family1
7

 
—

 
1

 
—

 
8

 
—

U.S. obligations commercial1
1

 
—

 
1

 
—

 
2

 
—

GSE single-family
42

 
—

 
1,427

 
(14
)
 
1,469

 
(14
)
Private-label residential
—

 
—

 
8

 
—

 
8

 
—

Total mortgage-backed securities
50

 
—

 
1,437

 
(14
)
 
1,487

 
(14
)
Total
$
52

 
$
—

 
$
1,605

 
$
(16
)
 
$
1,657

 
$
(16
)


1
Represents investment securities backed by the full faith and credit of the U.S. Government.


21
Table of Contents

CONTRACTUAL MATURITY

The following table summarizes HTM securities by contractual maturity. Expected maturities of some securities may differ from contractual maturities as borrowers may have the right to call or prepay obligations with or without call or prepayment fees (dollars in millions):
 
 
September 30, 2018
 
December 31, 2017
Year of Contractual Maturity
 
Amortized
Cost
 
Fair
Value
 
Amortized
Cost
 
Fair
Value
Non-mortgage-backed securities
 
 
 
 
 
 
 
 
Due in one year or less
 
$
9

 
$
9

 
$
20

 
$
20

Due after one year through five years
 
65

 
65

 
72

 
72

Due after five years through ten years
 
332

 
350

 
344

 
376

Due after ten years
 
378

 
398

 
411

 
444

Total non-mortgage-backed securities
 
784

 
822

 
847

 
912

Mortgage-backed securities
 
2,331

 
2,309

 
2,781

 
2,774

Total
 
$
3,115

 
$
3,131

 
$
3,628

 
$
3,686



Note 6 — Other-Than-Temporary Impairment

The Bank evaluates its individual AFS and HTM securities in an unrealized loss position for other-than-temporary impairment (OTTI) on a quarterly basis. As part of its evaluation of securities for OTTI, the Bank considers its intent to sell each debt security and whether it is more likely than not that it will be required to sell the security before its anticipated recovery. If either of these conditions is met, the Bank will recognize an OTTI charge to earnings equal to the entire difference between the security’s amortized cost basis and its fair value at the reporting date. For securities in an unrealized loss position that meet neither of these conditions, the Bank performs analyses to determine if any of these securities are other-than-temporarily impaired. The analysis of the Bank’s AFS and HTM investment securities in an unrealized loss position at September 30, 2018 is discussed below:

•
U.S. obligations and GSE and Tennessee Valley Authority obligations. The unrealized losses were due primarily to changes in interest rates and not to a significant deterioration in the fundamental credit quality of the obligations. The strength of the issuers’ guarantees through direct obligations or support from the U.S. Government was sufficient to protect the Bank from losses based on current expectations. The Bank expects to recover the amortized cost bases on these securities and neither intends to sell these securities nor considers it more likely than not that it will be required to sell these securities before recovery of their amortized cost bases. As such, the Bank did not consider these securities to be other-than-temporarily impaired at September 30, 2018.

•
State or local housing agency obligations. The unrealized losses were due to changes in interest rates and illiquidity in the credit markets, and not to a significant deterioration in the fundamental credit quality of the obligations. The creditworthiness of the issuers and the strength of the underlying collateral and credit enhancements were sufficient to protect the Bank from losses based on current expectations. The Bank does not intend to sell these securities nor is it more likely than not that it will be required to sell these securities before recovery of their amortized cost bases. As such, the Bank did not consider these securities to be other-than-temporarily impaired at September 30, 2018.

•
Private-label residential mortgage-backed securities. On a quarterly basis, the Bank engages other designated FHLBanks to perform cash flow analyses on its private-label mortgage-backed securities (private-label MBS). As of September 30, 2018, the Bank compared the present value of cash flows expected to be collected with respect to its private-label MBS to the amortized cost bases of the securities to determine whether a credit loss existed. At September 30, 2018, the Bank’s cash flow analyses for private-label MBS did not project any credit losses. The Bank does not intend to sell its private-label MBS nor is it more likely than not that the Bank will be required to sell its private-label MBS before recovery of their amortized cost bases. As a result, the Bank did not consider any of its private-label MBS to be other-than-temporarily impaired at September 30, 2018.


22
Table of Contents

Note 7 — Advances

CONTRACTUAL MATURITY

The following table summarizes the Bank’s advances outstanding by contractual maturity (dollars in millions):
 
 
September 30, 2018
 
December 31, 2017
Year of Contractual Maturity
 
Amount
 
Weighted
Average
Interest
Rate
 
Amount
 
Weighted
Average
Interest
Rate
Overdrawn demand deposit accounts
 
$
1

 
3.39
%
 
$
1

 
3.63
%
Due in one year or less
 
49,149

 
2.31

 
45,310

 
1.62

Due after one year through two years
 
16,892

 
2.33

 
17,094

 
1.79

Due after two years through three years
 
17,880

 
2.44

 
14,222

 
1.64

Due after three years through four years
 
6,836

 
2.55

 
17,561

 
1.79

Due after four years through five years
 
6,261

 
2.53

 
3,089

 
1.91

Thereafter
 
4,013

 
2.84

 
5,401

 
2.28

Total par value
 
101,032

 
2.39
%
 
102,678

 
1.73
%
Premiums
 
41

 
 
 
53

 
 
Discounts
 
(9
)
 
 
 
(12
)
 
 
Fair value hedging adjustments
 
(277
)
 
 
 
(106
)
 
 
Total
 
$
100,787

 
 
 
$
102,613

 
 


The following table summarizes all advances by year of contractual maturity or next call date for callable advances, and by year of contractual maturity or next put date for putable advances (dollars in millions):
 
 
Year of Contractual Maturity
or Next Call Date
 
Year of Contractual Maturity
or Next Put Date
 
 
September 30, 2018
 
December 31, 2017
 
September 30, 2018
 
December 31, 2017
Overdrawn demand deposit accounts
 
$
1

 
$
1

 
$
1

 
$
1

Due in one year or less
 
75,334

 
69,971

 
49,208

 
45,372

Due after one year through two years
 
9,792

 
16,539

 
16,892

 
17,094

Due after two years through three years
 
6,554

 
3,809

 
17,849

 
14,222

Due after three years through four years
 
4,850

 
8,511

 
6,816

 
17,520

Due after four years through five years
 
1,819

 
1,276

 
6,269

 
3,073

Thereafter
 
2,682

 
2,571

 
3,997

 
5,396

Total par value
 
$
101,032

 
$
102,678

 
$
101,032

 
$
102,678


 
The Bank offers advances to members and eligible housing associates that may be prepaid on pertinent dates (call dates) prior to maturity without incurring prepayment fees (callable advances). Other advances may require a prepayment fee or credit that makes the Bank financially indifferent to the prepayment of the advance. At September 30, 2018 and December 31, 2017, the Bank had callable advances outstanding totaling $35.7 billion and $27.0 billion.

The Bank also offers putable advances. With a putable advance, the Bank has the right to terminate the advance from the borrower on the predetermined exercise dates. Generally, these put options are exercised when interest rates increase relative to contractual rates. At September 30, 2018 and December 31, 2017, the Bank had putable advances outstanding totaling $70 million and $405 million.


23
Table of Contents

PREPAYMENT FEES

The Bank generally charges a prepayment fee for advances that a borrower elects to terminate prior to the stated maturity or outside of a predetermined call or put date. The fees charged are priced to make the Bank financially indifferent to the prepayment of the advance. For certain advances with symmetrical prepayment features, the Bank may charge the borrower a prepayment fee or pay the borrower a prepayment credit, depending on certain circumstances, such as movements in interest rates, when the advance is prepaid. Prepayment fees and credits are recorded net of fair value hedging adjustments in advance income in the Statements of Income. During the three and nine months ended September 30, 2018, the Bank recorded prepayment fees on advances, net of $2 million and $8 million compared to less than $1 million and $1 million for the same periods in 2017.

CREDIT RISK EXPOSURE AND SECURITY TERMS

The Bank’s potential credit risk from advances is concentrated in commercial banks, savings institutions, and insurance companies. At September 30, 2018 and December 31, 2017, the Bank had outstanding advances of $45.9 billion and $45.8 billion to one member that individually held 10 percent or more of the Bank’s advances, which represents 45 percent of total outstanding advances for both periods. For information related to the Bank’s credit risk exposure on advances, refer to “Note 9 — Allowance for Credit Losses.”

Note 8 — Mortgage Loans Held for Portfolio

Mortgage loans held for portfolio includes conventional mortgage loans and government-guaranteed or -insured mortgage loans obtained through the Mortgage Partnership Finance (MPF) program (Mortgage Partnership Finance and MPF are registered trademarks of the FHLBank of Chicago) and the Mortgage Purchase Program (MPP). The MPF program, which represents 96 percent of the Bank’s mortgage loans held for portfolio, involves investment by the Bank in single-family mortgage loans held for portfolio that are either purchased from participating financial institutions (PFIs) or funded by the Bank through PFIs. MPF loans may also be acquired through participations in pools of eligible mortgage loans purchased from other FHLBanks. The Bank’s MPF PFIs generally originate, service, and credit enhance mortgage loans that are sold to the Bank. MPF PFIs participating in the servicing release program do not service the loans owned by the Bank. The servicing on these loans is sold concurrently by the MPF PFI to a designated mortgage service provider.

Under the MPP, the Bank acquired single-family mortgage loans that were purchased directly from MPP PFIs. Similar to the MPF program, MPP PFIs generally originated, serviced, and credit enhanced the mortgage loans sold to the Bank. The MPP program represents four percent of the Bank’s mortgage loans held for portfolio. The Bank does not currently purchase mortgage loans under this program. All loans in this portfolio were originated prior to 2006.

The following table presents information on the Bank’s mortgage loans held for portfolio (dollars in millions):
 
September 30, 2018
 
December 31, 2017
Fixed rate, long-term single-family mortgage loans
$
6,552

 
$
5,998

Fixed rate, medium-term1 single-family mortgage loans
899

 
1,003

Total unpaid principal balance
7,451

 
7,001

Premiums
102

 
98

Discounts
(5
)
 
(6
)
Basis adjustments from mortgage loan commitments
2

 
5

Total mortgage loans held for portfolio
7,550

 
7,098

Allowance for credit losses
(1
)
 
(2
)
Total mortgage loans held for portfolio, net
$
7,549

 
$
7,096



1
Medium-term is defined as a term of 15 years or less.


24
Table of Contents

The following table presents the Bank’s mortgage loans held for portfolio by collateral or guarantee type (dollars in millions):
 
September 30, 2018
 
December 31, 2017
Conventional mortgage loans
$
6,942

 
$
6,472

Government-insured mortgage loans
509

 
529

Total unpaid principal balance
$
7,451

 
$
7,001


For information related to the Bank’s credit risk exposure on mortgage loans held for portfolio, refer to “Note 9 — Allowance for Credit Losses.”

Note 9 — Allowance for Credit Losses

The Bank has established an allowance for credit losses methodology for each of its financing receivable portfolio segments: advances, standby letters of credit, and other extensions of credit to borrowers (collectively, credit products), government-insured mortgage loans held for portfolio, MPF and MPP conventional mortgage loans held for portfolio, and term securities purchased under agreements to resell.

CREDIT PRODUCTS

The Bank manages its credit exposure to credit products through an approach that includes establishing a credit limit for each borrower. This approach includes an ongoing review of each borrower’s financial condition in conjunction with the Bank’s collateral and lending policies to limit risk of loss while balancing borrowers’ needs for a reliable source of funding. In addition, the Bank lends to eligible borrowers in accordance with the FHLBank Act, Finance Agency regulations, and other applicable laws.

The Bank is required by regulation to obtain sufficient collateral to fully secure credit products. The estimated value of the collateral required to secure each borrower’s credit products is calculated by applying collateral discounts, or haircuts, to the unpaid principal balance or market value, if available, of the collateral. Eligible collateral includes (i) fully disbursed whole first mortgages on improved residential real property or securities representing a whole interest in such mortgages, (ii) loans and securities issued, insured, or guaranteed by the U.S. Government or any agency thereof, including mortgage-backed securities (MBS) issued or guaranteed by Fannie Mae, Freddie Mac, or Government National Mortgage Association and Federal Family Education Loan Program guaranteed student loans, (iii) cash deposited with the Bank, and (iv) other real estate-related collateral acceptable to the Bank, such as second lien mortgages, home equity lines of credit, tax-exempt municipal securities, and commercial real estate mortgages, provided such collateral has a readily ascertainable value and the Bank can perfect a security interest in such property. In addition, community financial institutions may also pledge collateral consisting of secured small business, small agri-business, or small farm loans. As additional security, the FHLBank Act provides that the Bank has a lien on each member’s capital stock investment; however, capital stock cannot be pledged as collateral to secure credit exposures.

Collateral arrangements may vary depending upon borrower credit quality, financial condition and performance, borrowing capacity, and overall credit exposure to the borrower. The Bank can also require additional or substitute collateral to protect its security interest. The Bank periodically evaluates and makes changes to its collateral guidelines and collateral haircuts.

Borrowers may pledge collateral to the Bank by executing a blanket pledge agreement, specifically assigning collateral, or placing physical possession of collateral with the Bank or its custodians. The Bank perfects its security interest in all pledged collateral by filing Uniform Commercial Code financing statements or by taking possession or control of the collateral. Under the FHLBank Act, any security interest granted to the Bank by its members, or any affiliates of its members, has priority over the claims and rights of any party (including any receiver, conservator, trustee, or similar party having rights of a lien creditor), unless those claims and rights would be entitled to priority under otherwise applicable law and are held by actual purchasers or by parties that have perfected security interests.

25
Table of Contents

Under a blanket pledge agreement, the Bank is granted a security interest in all financial assets of the borrower to fully secure the borrower’s obligation. Other than securities and cash deposits, the Bank does not initially take delivery of collateral from blanket agreement borrowers. In the event of deterioration in the financial condition of a blanket pledge agreement, the Bank has the ability to require delivery of pledged collateral sufficient to secure the borrower’s obligation. With respect to non-blanket pledge agreement borrowers that are federally insured, the Bank generally requires collateral to be specifically assigned. With respect to non-blanket pledge agreement borrowers that are not federally insured (typically insurance companies, CDFIs, and housing associates), the Bank generally takes control of collateral through the delivery of cash, securities, or loans to the Bank or its custodians.

Using a risk-based approach and taking into consideration each borrower’s financial strength, the Bank considers the types and level of collateral to be the primary indicator of credit quality on its credit products. At September 30, 2018 and December 31, 2017, the Bank had rights to collateral on a borrower-by-borrower basis with an unpaid principal balance or market value, if available, in excess of its outstanding extensions of credit.

At September 30, 2018 and December 31, 2017, none of the Bank’s credit products were past due, on non-accrual status, or considered impaired. In addition, there were no troubled debt restructurings (TDRs) related to credit products during the nine months ended September 30, 2018 and 2017.

The Bank has never experienced a credit loss on its credit products. Based upon the Bank’s collateral and lending policies, the collateral held as security, and the repayment history on credit products, management has determined that there were no probable credit losses on its credit products as of September 30, 2018 and December 31, 2017. Accordingly, the Bank has not recorded any allowance for credit losses for its credit products.

GOVERNMENT-INSURED MORTGAGE LOANS

The Bank invests in government-insured fixed rate mortgage loans in both the MPF and MPP portfolios that are insured or guaranteed by the Federal Housing Administration, the Department of Veterans Affairs, and/or the Rural Housing Service of the Department of Agriculture. The servicer or PFI obtains and maintains insurance or a guaranty from the applicable government agency. The servicer or PFI is responsible for compliance with all government agency requirements and for obtaining the benefit of the applicable guarantee or insurance with respect to defaulted government-insured mortgage loans. Any losses incurred on these loans that are not recovered from the insurer/guarantor are absorbed by the servicers. As such, the Bank only has credit risk for these loans if the servicer or PFI fails to pay for losses not covered by the guarantee or insurance. Management views this risk as remote and has never experienced a credit loss on its government-insured mortgage loans. As a result, the Bank did not establish an allowance for credit losses for its government-insured mortgage loans at September 30, 2018 and December 31, 2017. Furthermore, none of these mortgage loans have been placed on non-accrual status because of the U.S. Government guarantee or insurance on these loans and the contractual obligation of the loan servicer to repurchase the loans when certain criteria are met.

CONVENTIONAL MORTGAGE LOANS

The Bank’s management of credit risk in the MPF and MPP programs involves several layers of legal loss protection that are defined in agreements among the Bank and its participating PFIs. These loss layers may vary depending on the product alternatives selected and credit profile of the loans. The Bank’s loss protection consists of the following loss layers, in order of priority:

•
Homeowner Equity.

•
Primary Mortgage Insurance (PMI). At the time of origination, PMI is required on all loans with homeowner equity of less than 20 percent of the original purchase price or appraised value, whichever is less and as applicable to the specific loan.

•
First Loss Account (FLA). For each MPF master commitment, the Bank’s potential loss exposure prior to the PFI’s credit enhancement obligation is estimated and tracked in a memorandum account called the FLA.

•
Credit Enhancement Obligation of PFI. PFIs have a credit enhancement obligation at the time an MPF mortgage loan is purchased to absorb certain losses in excess of the FLA in order to limit the Bank’s loss exposure to that of an investor in an investment grade MBS. PFIs pledge collateral to secure this obligation.



26
Table of Contents

Allowance Methodology

The Bank utilizes an allowance for credit losses to reserve for estimated losses in its conventional MPF and MPP mortgage loan portfolios at the balance sheet date. The measurement of the Bank’s MPF and MPP allowance for credit losses is determined by the following:

•
reviewing similar conventional mortgage loans for impairment on a collective basis. This evaluation is primarily based on the following factors: (i) current loan delinquencies, (ii) loans migrating to collateral-dependent status, and (iii) actual historical loss severities;

•
reviewing conventional mortgage loans for impairment on an individual basis; and

•
estimating additional credit losses in the conventional mortgage loan portfolio. These losses result from other factors that may not be captured in the methodology previously described at the balance sheet date, which include but are not limited to certain quantifiable economic factors, such as unemployment rates and home prices impacting housing markets.

The following table summarizes the allowance for credit losses and the recorded investment of the Bank’s conventional mortgage loan portfolio by impairment methodology (dollars in millions):
 
September 30, 2018
 
December 31, 2017
Allowance for credit losses
 
 
 
Collectively evaluated for impairment
$
1

 
$
2

 
 
 
 
Recorded investment1
 
 
 
Collectively evaluated for impairment
$
7,008

 
$
6,530

Individually evaluated for impairment, without a related allowance
57

 
61

Total recorded investment
$
7,065

 
$
6,591


1    Represents the unpaid principal balance adjusted for accrued interest, unamortized premiums, discounts, basis adjustments, and direct write-downs.


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CREDIT QUALITY INDICATORS

Key credit quality indicators for mortgage loans include the migration of past due loans, loans in process of foreclosure, and non-accrual loans. The tables below summarize the Bank’s key credit quality indicators for mortgage loans (dollars in millions):
 
September 30, 2018
 
Conventional MPF/MPP
 
Government-Guaranteed or -Insured6
 
Total
Past due 30 - 59 days
$
44

 
$
16

 
$
60

Past due 60 - 89 days
13

 
5

 
18

Past due 90 - 179 days
10

 
4

 
14

Past due 180 days or more
14

 
3

 
17

Total past due mortgage loans
81

 
28

 
109

Total current mortgage loans
6,984

 
494

 
7,478

Total recorded investment of mortgage loans1
$
7,065

 
$
522

 
$
7,587

 
 
 
 
 
 
In process of foreclosure (included above)2
$
8

 
$
2

 
$
10

Serious delinquency rate3
—
%
 
1
%
 
—
%
Past due 90 days or more and still accruing interest4
$
—

 
$
7

 
$
7

Non-accrual mortgage loans5
$
37

 
$
—

 
$
37


 
December 31, 2017
 
Conventional MPF/MPP
 
Government- Guaranteed or -Insured6
 
Total
Past due 30 - 59 days
$
58

 
$
19

 
$
77

Past due 60 - 89 days
16

 
6

 
22

Past due 90 - 179 days
15

 
5

 
20

Past due 180 days or more
21

 
6

 
27

Total past due mortgage loans
110

 
36

 
146

Total current mortgage loans
6,481

 
507

 
6,988

Total recorded investment of mortgage loans1
$
6,591

 
$
543

 
$
7,134

 
 
 
 
 
 
In process of foreclosure (included above)2
$
12

 
$
2

 
$
14

Serious delinquency rate3
1
%
 
2
%
 
1
%
Past due 90 days or more and still accruing interest4
$
—

 
$
11

 
$
11

Non-accrual mortgage loans5
$
48

 
$
—

 
$
48



1
Represents the unpaid principal balance adjusted for accrued interest, unamortized premiums, discounts, basis adjustments, and direct write-downs.

2
Includes loans where the decision of foreclosure or similar alternative such as pursuit of deed-in-lieu has been reported. Loans in process of foreclosure are included in past due or current loans depending on their payment status.

3
Represents mortgage loans that are 90 days or more past due or in the process of foreclosure expressed as a percentage of the total recorded investment.

4
Represents government-insured mortgage loans that are 90 days or more past due.

5
Represents conventional mortgage loans that are 90 days or more past due or TDRs.

6
The Bank did not record any allowance for credit losses on government-guaranteed or -insured mortgage loans at September 30, 2018 and December 31, 2017.

INDIVIDUALLY EVALUATED IMPAIRED LOANS

As previously described, the Bank evaluates certain conventional mortgage loans for impairment individually. A loan is considered impaired when, based on current information and events, it is probable that the Bank will be unable to collect all amounts due according to the contractual terms of the loan agreement.

The Bank did not recognize any interest income on impaired loans during the three and nine months ended September 30, 2018 and 2017.


28
Table of Contents

During both the three and nine months ended September 30, 2018, the average recorded investment of conventional impaired loans without an allowance was $58 million and $59 million as compared to $64 million and $68 million for the same periods in 2017.

TERM SECURITIES PURCHASED UNDER AGREEMENTS TO RESELL

Term securities purchased under agreements to resell are considered collateralized financing agreements and represent short-term investments. The terms of these investments are structured such that if the market value of the underlying securities decreases below the market value required as collateral, the counterparty must place an equivalent amount of additional securities as collateral or remit an equivalent amount of cash. Otherwise, the dollar value of the resale agreement will decrease accordingly. If an agreement to resell is deemed to be impaired, the difference between the fair value of the collateral and the amortized cost of the agreement will be charged to earnings to establish an allowance for credit losses. Based upon the collateral held as security, the Bank determined that no allowance for credit losses was needed for its term securities purchased under agreements to resell at September 30, 2018 and December 31, 2017.

OFF-BALANCE SHEET CREDIT EXPOSURES

At September 30, 2018 and December 31, 2017, the Bank did not record a liability to reflect an allowance for credit losses for off-balance sheet credit exposures. For additional information on the Bank’s off-balance sheet credit exposures, see “Note 14 — Commitments and Contingencies.”

Note 10 — Derivatives and Hedging Activities

NATURE OF BUSINESS ACTIVITY

The Bank is exposed to interest rate risk primarily from the effect of interest rate changes on its interest-earning assets and its related funding sources. The goal of the Bank’s interest rate risk management strategy is not to eliminate interest rate risk, but to manage it within appropriate limits. To mitigate the risk of loss, the Bank has established policies and procedures, which include guidelines on the amount of exposure to interest rate changes it is willing to accept.

The Bank enters into derivative contracts to manage the interest rate risk exposures inherent in its otherwise unhedged assets and funding positions. Finance Agency regulations and the Bank’s Enterprise Risk Management Policy (ERMP) establish guidelines for derivatives, prohibit trading in or the speculative use of derivatives, and limit credit risk arising from derivatives.

Derivative financial instruments are used by the Bank to achieve its financial and risk management objectives. The Bank reevaluates its hedging strategies from time to time and may change the hedging techniques it uses or may adopt new strategies. The most common ways in which the Bank uses derivatives are to:

•
reduce the interest rate sensitivity and repricing gaps of assets and liabilities;

•
preserve an interest rate spread between the yield of an asset and the cost of the related liability. Without the use of derivatives, this interest rate spread could be reduced or eliminated when a change in the interest rate on the asset does not match a change in the interest rate on the liability;

•
mitigate the adverse earnings effects of the shortening or extension of certain assets and liabilities;

•
manage embedded options in assets and liabilities; and

•
reduce funding costs by combining a derivative with a consolidated obligation, as the cost of a combined funding structure can be lower than the cost of a comparable consolidated obligation.

APPLICATION OF DERIVATIVES

The Bank transacts most of its derivative transactions with large banks and major broker-dealers. Over-the-counter derivative transactions may be either executed directly with a counterparty (uncleared derivatives) or cleared through a Futures Commission Merchant (i.e., clearings agent) with a Derivative Clearinghouse Organization (cleared derivatives). Once a derivative transaction has been accepted for clearing by the Derivative Clearinghouse Organization (Clearinghouse), the derivative transaction is novated and the executing counterparty is replaced with the Clearinghouse. The Bank is not a derivative dealer and does not trade derivatives for a short-term profit.

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Table of Contents

TYPES OF DERIVATIVES

The Bank may use the following derivative instruments:

•
interest rate swaps;

•
options;

•
swaptions;

•
interest rate caps and floors; and

•
futures/forwards contracts.

The Bank may have the following types of hedged items:

•
investment securities;

•
advances;
       
•
mortgage loans;
  
•
consolidated obligations; and
  
•
firm commitments.

For additional information on the Bank’s derivative and hedging accounting policy, see “Note 1 — Summary of Significant Accounting Policies” in the 2017 Form 10-K.

FINANCIAL STATEMENT EFFECT AND ADDITIONAL FINANCIAL INFORMATION

The notional amount of derivatives serves as a factor in determining periodic interest payments and cash flows received and paid. However, the notional amount of derivatives represents neither the actual amounts exchanged nor the overall exposure of the Bank to credit and market risk. The risks of derivatives can be measured meaningfully on a portfolio basis that takes into account the counterparties, the types of derivatives, the items being hedged, and any offsets between the derivatives and the items being hedged.


30
Table of Contents

The following table summarizes the Bank’s notional amount and fair value of derivative instruments and total derivative assets and liabilities. Total derivative assets and liabilities include the effect of netting adjustments and cash collateral. For purposes of this disclosure, the derivative values include the fair value of derivatives and the related accrued interest (dollars in millions):
 
 
September 30, 2018
 
December 31, 20171
 
 
Notional
Amount
 
Derivative
Assets
 
Derivative
 Liabilities
 
Notional
Amount
 
Derivative
Assets
 
Derivative
 Liabilities
Derivatives designated as hedging instruments (fair value hedges)
 
 
 
 
 
 
 
 
 
 
 
 
Interest rate swaps
 
$
45,834

 
$
142

 
$
90

 
$
52,120

 
$
77

 
$
151

Derivatives not designated as hedging instruments (economic hedges)
 
 
 
 
 
 
 
 
 
 
 
 
Interest rate swaps
 
1,325

 
32

 
20

 
1,407

 
20

 
37

Forward settlement agreements (TBAs)
 
169

 
1

 
—

 
66

 
—

 
—

Mortgage delivery commitments
 
178

 
—

 
1

 
72

 
—

 
—

Total derivatives not designated as hedging instruments
 
1,672

 
33

 
21

 
1,545

 
20

 
37

Total derivatives before netting and collateral adjustments
 
$
47,506

 
175

 
111

 
$
53,665

 
97

 
188

Netting adjustments and cash collateral2
 
 
 
(105
)
 
(107
)
 
 
 
3

 
(182
)
Total derivative assets and derivative liabilities
 
 
 
$
70

 
$
4

 
 
 
$
100

 
$
6


1
To conform with current presentation, $313 million in variation margin has been allocated to the individual derivative instruments as of December 31, 2017. Previously, this amount was included with netting adjustments and cash collateral.

2
Amounts represent the application of the netting requirements that allow the Bank to net settle positive and negative positions and also cash collateral and the related accrued interest held or placed with the same clearing agent and/or counterparty. At September 30, 2018 and December 31, 2017, cash collateral posted by the Bank (including accrued interest) was $101 million and $191 million. At September 30, 2018 and December 31, 2017, the Bank received cash collateral (including accrued interest) from clearing agents and/or counterparties of $99 million and $6 million.

The following table summarizes the components of “Net gains (losses) on derivatives and hedging activities” as presented in the Statements of Income (dollars in millions):
 
For the Three Months Ended
 
For the Nine Months Ended
 
September 30,
 
September 30,
 
2018
 
2017
 
2018
 
2017
Derivatives designated as hedging instruments (fair value hedges)
 
 
 
 
 
 
 
Interest rate swaps
$
—

 
$
(1
)
 
$
7

 
$
9

Derivatives not designated as hedging instruments (economic hedges)
 
 
 
 
 
 
 
Interest rate swaps
8

 
1

 
36

 
—

Forward settlement agreements (TBAs)
1

 
(1
)
 
3

 
(2
)
Mortgage delivery commitments
(1
)
 
1

 
(2
)
 
2

Net interest settlements
(1
)
 
(3
)
 
(4
)
 
(10
)
Total net gains (losses) related to derivatives not designated as hedging instruments
7

 
(2
)
 
33

 
(10
)
  Other1
2

 
1

 
3

 
2

Net gains (losses) on derivatives and hedging activities
$
9

 
$
(2
)
 
$
43

 
$
1



1
Consists of price alignment amount on derivatives for which variation margin is characterized as a daily settled contract.


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The following tables summarize, by type of hedged item, the gains (losses) on derivatives and the related hedged items in fair value hedging relationships, the net fair value hedge ineffectiveness, and the effect of those derivatives on the Bank’s net interest income (dollars in millions):
 
 
For the Three Months Ended September 30, 2018
Hedged Item Type
 
Net Gains (Losses) on
Derivatives
 
Net Gains (Losses) on
Hedged Items
 
Net Fair Value
Hedge
Ineffectiveness
 
Effect on
Net Interest
Income1
Available-for-sale investments
 
$
52

 
$
(51
)
 
$
1

 
$
(3
)
Advances2
 
25

 
(25
)
 
—

 
18

Consolidated obligation bonds
 
15

 
(16
)
 
(1
)
 
(59
)
Total
 
$
92

 
$
(92
)
 
$
—

 
$
(44
)


 
 
For the Three Months Ended September 30, 2017
Hedged Item Type
 
Net Gains (Losses) on
Derivatives
 
Net Gains (Losses) on
Hedged Items
 
Net Fair Value
Hedge
Ineffectiveness
 
Effect on
Net Interest
Income1
Available-for-sale investments
 
$
9

 
$
(13
)
 
$
(4
)
 
$
(21
)
Advances2
 
17

 
(16
)
 
1

 
(14
)
Consolidated obligation bonds
 
1

 
1

 
2

 
(8
)
Total
 
$
27

 
$
(28
)
 
$
(1
)
 
$
(43
)

 
 
For the Nine Months Ended September 30, 2018
Hedged Item Type
 
Net Gains (Losses) on
Derivatives
 
Net Gains (Losses) on
Hedged Items
 
Net Fair Value
Hedge
Ineffectiveness
 
Effect on
Net Interest
Income1
Available-for-sale investments
 
$
259

 
$
(254
)
 
$
5

 
$
(22
)
Advances2
 
181

 
(179
)
 
2

 
30

Consolidated obligation bonds
 
(139
)
 
139

 
—

 
(153
)
Total
 
$
301

 
$
(294
)
 
$
7

 
$
(145
)


 
 
For the Nine Months Ended September 30, 2017
Hedged Item Type
 
Net Gains (Losses) on
Derivatives
 
Net Gains (Losses) on
Hedged Items
 
Net Fair Value
Hedge
Ineffectiveness
 
Effect on
Net Interest
Income1
Available-for-sale investments
 
$
5

 
$
5

 
$
10

 
$
(74
)
Advances2
 
25

 
(22
)
 
3

 
(59
)
Consolidated obligation bonds
 
23

 
(27
)
 
(4
)
 
18

Total
 
$
53

 
$
(44
)
 
$
9

 
$
(115
)

1
Represents the net interest settlements on derivatives in fair value hedge relationships and the amortization of the financing element of off-market derivatives, both of which are included in the interest income or interest expense line item of the respective hedged item type. During the three and nine months ended September 30, 2018, the amortization for off-market derivatives totaled less than $1 million and $1 million compared to $3 million and $12 million for the same periods in 2017.

2
Includes net gains (losses) on fair value hedge firm commitments of forward starting advances.

MANAGING CREDIT RISK ON DERIVATIVES

The Bank is subject to credit risk due to the risk of nonperformance by counterparties to its derivative contracts. The Bank manages credit risk through credit analyses, collateral requirements, and adherence to the requirements set forth in the Bank’s policies, U.S. Commodity Futures Trading Commission regulations, and Finance Agency regulations.

For uncleared derivatives, the degree of credit risk depends on the extent to which master netting arrangements are included in these contracts to mitigate the risk. The Bank requires collateral agreements on its uncleared derivatives.


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Certain of the Bank’s uncleared derivative instruments contain provisions that require the Bank to post additional collateral with its counterparties if there is deterioration in the Bank’s credit rating. If the Bank’s credit rating is lowered by a nationally recognized statistical rating organization (NRSRO), the Bank may be required to deliver additional collateral on uncleared derivative instruments in net liability positions, unless the collateral delivery threshold is set to zero. The aggregate fair value of all uncleared derivative instruments with credit-risk related contingent features that were in a net liability position (before cash collateral and related accrued interest) at September 30, 2018 was $1 million, for which the Bank was not required to post collateral in the normal course of business. If the Bank’s credit rating had been lowered from its current rating to the next lower rating, the Bank would not have been required to deliver additional collateral to its uncleared derivative counterparties at September 30, 2018.
 
For cleared derivatives, the Clearinghouse is the Bank’s counterparty. The Clearinghouse notifies the clearing agent of the required initial and variation margin and the clearing agent in turn notifies the Bank. The Bank utilizes one Clearinghouse for all cleared derivative transactions, CME Clearing. Variation margin payments with CME Clearing are legally characterized as daily settlement payments, rather than collateral. Initial margin is considered cash collateral. The requirement that the Bank post initial and variation margin through the clearing agent, to the Clearinghouse, exposes the Bank to institutional credit risk if the clearing agent or the Clearinghouse fails to meet its obligations. The use of cleared derivatives is intended to mitigate credit risk exposure because a central counterparty is substituted for individual counterparties and collateral/payments for changes in the fair value of cleared derivatives is posted daily through a clearing agent.

The Clearinghouse determines initial margin requirements and generally credit ratings are not factored into the initial margin. However, clearing agents may require additional initial margin to be posted based on credit considerations, including, but not limited to, credit rating downgrades. The Bank was not required to post additional initial margin by its clearing agents, based on credit considerations at September 30, 2018.

OFFSETTING OF DERIVATIVE ASSETS AND DERIVATIVE LIABILITIES

The Bank presents derivative instruments, related cash collateral, including initial margin, received or pledged, and associated accrued interest on a net basis by clearing agent and/or by counterparty when it has met the netting requirements. Additional information regarding these agreements is provided in “Note 1 — Summary of Significant Accounting Policies” in the 2017 Form 10-K.

The Bank has analyzed the enforceability of offsetting rights incorporated in its cleared derivative transactions and has determined that the exercise of those offsetting rights by a non-defaulting party under these transactions should be upheld under applicable law upon an event of default, including a bankruptcy, insolvency, or similar proceeding involving the Clearinghouse or the clearing agent, or both. Based on this analysis, the Bank presents a net derivative receivable or payable for all of its transactions through a particular clearing agent with a particular Clearinghouse.

The following table presents the fair value of derivative instruments meeting or not meeting the netting requirements and the related collateral received from or pledged to counterparties (dollars in millions):
 
 
September 30, 2018
Derivative Instruments Meeting Netting Requirements
 
Amount Recognized
 
Gross Amount of Netting Adjustments and Cash Collateral
 
Total Derivative Assets and Total Derivative Liabilities
Derivative Assets
 
 
 
 
 
 
   Uncleared derivatives
 
$
169

 
$
(168
)
 
$
1

   Cleared derivatives
 
6

 
63

 
69

Total
 
$
175

 
$
(105
)
 
$
70

Derivative Liabilities
 
 
 
 
 
 
   Uncleared derivatives
 
$
99

 
$
(95
)
 
$
4

   Cleared derivatives
 
12

 
(12
)
 
—

Total
 
$
111

 
$
(107
)
 
$
4





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Table of Contents

The following table presents the fair value of derivative instruments meeting or not meeting the netting requirements and the related collateral received from or pledged to counterparties (dollars in millions):
 
 
December 31, 2017
Derivative Instruments Meeting Netting Requirements
 
Amount Recognized1
 
Gross Amount of Netting Adjustments and Cash Collateral
 
Total Derivative Assets and Total Derivative Liabilities
Derivative Assets
 
 
 
 
 
 
   Uncleared derivatives
 
$
88

 
$
(87
)
 
$
1

   Cleared derivatives
 
9

 
90

 
99

Total
 
$
97

 
$
3

 
$
100

Derivative Liabilities
 
 
 
 
 
 
   Uncleared derivatives
 
$
170

 
$
(164
)
 
$
6

   Cleared derivatives
 
18

 
(18
)
 
—

Total
 
$
188

 
$
(182
)
 
$
6


1    To conform with current presentation, $313 million in variation margin has been allocated to the individual derivative instruments as of December 31, 2017. Previously, this
amount was included with gross amount of netting adjustments and cash collateral.

Note 11 — Consolidated Obligations

Consolidated obligations consist of bonds and discount notes. The FHLBanks issue consolidated obligations through the Office of Finance as their agent. Bonds are issued primarily to raise intermediate- and long-term funds for the Bank and are not subject to any statutory or regulatory limits on their maturity. Discount notes are issued primarily to raise short-term funds for the Bank and have original maturities of up to one year. Discount notes sell at or below their face amount and are redeemed at par value when they mature.

Although the Bank is primarily liable for the portion of consolidated obligations issued on its behalf, it is also jointly and severally liable with the other FHLBanks for the payment of principal and interest on all FHLBank System consolidated obligations. The Finance Agency, at its discretion, may require any FHLBank to make principal and/or interest payments due on any consolidated obligation, whether or not the primary obligor FHLBank has defaulted on the payment of that consolidated obligation. The Finance Agency has never exercised this discretionary authority. At September 30, 2018 and December 31, 2017, the total par value of outstanding consolidated obligations of the FHLBanks was $1,019.1 billion and $1,034.2 billion.

DISCOUNT NOTES

The following table summarizes the Bank’s discount notes (dollars in millions):
 
September 30, 2018
 
December 31, 2017
 
Amount
 
Weighted
Average
Interest
Rate
 
Amount
 
Weighted
Average
Interest
Rate
Par value
$
42,257

 
2.08
%
 
$
36,740

 
1.20
%
Discounts and concessions1
(156
)
 
 
 
(58
)
 
 
Total
$
42,101

 
 
 
$
36,682

 
 


1
Concessions represent fees paid to dealers in connections with the issuance of certain consolidated obligation discount notes.


34
Table of Contents

BONDS

The following table summarizes the Bank’s bonds outstanding by contractual maturity (dollars in millions):
 
 
September 30, 2018
 
December 31, 2017
Year of Contractual Maturity
 
Amount
 
Weighted
Average
Interest
Rate
 
Amount
 
Weighted
Average
Interest
Rate
Due in one year or less
 
$
53,950

 
1.94
%
 
$
50,077

 
1.32
%
Due after one year through two years
 
21,505

 
2.02

 
32,249

 
1.43

Due after two years through three years
 
6,741

 
2.05

 
3,177

 
2.84

Due after three years through four years
 
4,279

 
2.15

 
7,422

 
1.69

Due after four years through five years
 
2,193

 
2.36

 
1,507

 
2.42

Thereafter
 
4,783

 
3.47

 
4,752

 
3.10

Total par value
 
93,451

 
2.07
%
 
99,184

 
1.54
%
Premiums
 
158

 
 
 
193

 
 
Discounts and concessions1
 
(49
)
 
 
 
(60
)
 
 
Fair value hedging adjustments
 
(562
)
 
 
 
(424
)
 
 
Total
 
$
92,998

 
 
 
$
98,893

 
 


1
Concessions represent fees paid to dealers in connections with the issuance of certain consolidated obligation bonds.

The following table summarizes the Bank’s bonds outstanding by call features (dollars in millions):
 
September 30,
2018
 
December 31,
2017
Non-callable or non-putable
$
89,128

 
$
97,196

Callable
4,323

 
1,988

Total par value
$
93,451

 
$
99,184




Note 12 — Capital

CAPITAL STOCK

The Bank’s capital stock has a par value of $100 per share, and all shares are issued, redeemed, and repurchased only at the stated par value. The Bank generally issues a single class of capital stock (Class B stock) and has two subclasses of capital stock: membership and activity-based. Each member must purchase and hold membership capital stock in an amount equal to 0.12 percent of its total assets as of the preceding December 31st, subject to a cap of $10 million and a floor of $10,000. Each member is also required to purchase activity-based capital stock equal to 4.00 percent of its advances and mortgage loans outstanding in the Bank’s Statements of Condition. All capital stock issued is subject to a notice of redemption period of five years.

The capital stock requirements established in the Bank’s Capital Plan are designed so that the Bank can remain adequately capitalized as member activity changes. The Bank’s Board of Directors may make adjustments to the capital stock requirements within ranges established in the Capital Plan.

EXCESS STOCK

Capital stock owned by members in excess of their investment requirement is deemed excess capital stock. Under its Capital Plan, the Bank, at its discretion and upon 15 days’ written notice, may repurchase excess membership capital stock. The Bank, at its discretion, may also repurchase excess activity-based capital stock to the extent that (i) the excess capital stock balance exceeds an operational threshold set forth in the Capital Plan, which is currently set at zero, or (ii) a member submits a notice to redeem all or a portion of the excess activity-based capital stock. At September 30, 2018 and December 31, 2017, the Bank’s excess capital stock outstanding was less than $1 million.


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Table of Contents

MANDATORILY REDEEMABLE CAPITAL STOCK

The Bank reclassifies capital stock subject to redemption from equity to a liability (mandatorily redeemable capital stock) at the time shares meet the definition of a mandatorily redeemable financial instrument. This occurs after a member provides written notice of intention to withdraw from membership, becomes ineligible for continuing membership, or attains non-member status by merger or consolidation, charter termination, or other involuntary termination from membership. Dividends on mandatorily redeemable capital stock are classified as interest expense in the Statements of Income.

At September 30, 2018 and December 31, 2017, the Bank’s mandatorily redeemable capital stock totaled $277 million and $385 million. During the three and nine months ended September 30, 2018, interest expense on mandatorily redeemable capital stock was $6 million and $15 million. Interest expense on mandatorily redeemable capital stock was $4 million and $13 million for the three and nine months ended September 30, 2017.

As a result of the final rule on membership issued by the Finance Agency effective February 19, 2016, the eligibility requirements for FHLBank members were changed rendering captive insurance companies ineligible for FHLBank membership. On the effective date of the final rule, the Bank reclassified the total outstanding capital stock held by all of the Bank’s captive insurance companies, to mandatorily redeemable capital stock. In accordance with the final rule, on February 17, 2017, the Bank terminated the membership of all captive insurance company members that were admitted as members after September 12, 2014 (the date the Finance Agency proposed this rule) and repurchased outstanding capital stock to these captive insurance company members in the amount of $148 million. Captive insurance company members that were admitted as members prior to September 12, 2014 will also have their memberships terminated no later than February 19, 2021.

The following tables summarize changes in mandatorily redeemable capital stock (dollars in millions):
 
For the Three Months Ended September 30,
 
2018
 
2017
Balance, beginning of period
$
373

 
$
480

Capital stock reclassified to (from) mandatorily redeemable capital stock, net
10

 
12

Net payments for repurchases/redemptions of mandatorily redeemable capital stock
(106
)
 
(70
)
Balance, end of period
$
277

 
$
422


 
For the Nine Months Ended September 30,
 
2018
 
2017
Balance, beginning of period
$
385

 
$
664

Capital stock reclassified to (from) mandatorily redeemable capital stock, net
49

 
40

Net payments for repurchases/redemptions of mandatorily redeemable capital stock
(157
)
 
(282
)
Balance, end of period
$
277

 
$
422



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Table of Contents

The following table summarizes the Bank’s mandatorily redeemable capital stock by year of contractual redemption (dollars in millions):
Year of Contractual Redemption1
 
September 30, 2018
 
December 31, 2017
Due in one year or less
 
$
—

 
$
4

Due after one year through two years
 
2

 
2

Due after two years through three years
 
1

 
—

Due after three years through four years
 
10

 
1

Due after four years through five years
 
25

 
22

Thereafter2
 
224

 
341

Past contractual redemption date due to outstanding activity with the Bank
 
15

 
15

Total
 
$
277

 
$
385


1
At the Bank’s election, the mandatorily redeemable capital stock may be redeemed prior to the expiration of the five year redemption period that commences on the date of the notice of redemption, or in the case of captive insurance company members, on the date of the membership termination.

2
Represents mandatorily redeemable capital stock resulting from the Finance Agency rule previously discussed that makes captive insurance companies ineligible for FHLBank membership. The related mandatorily redeemable capital stock is not required to be redeemed until five years after the member's termination.

RESTRICTED RETAINED EARNINGS

The Bank entered into a Joint Capital Enhancement Agreement (JCE Agreement) with all of the other FHLBanks in February 2011. The JCE Agreement, as amended, is intended to enhance the capital position of the Bank over time. It requires the Bank to allocate 20 percent of its quarterly net income to a separate restricted retained earnings account until the balance of that account equals at least one percent of its average balance of outstanding consolidated obligations for the previous quarter. The restricted retained earnings are not available to pay dividends. At September 30, 2018 and December 31, 2017, the Bank’s restricted retained earnings account totaled $407 million and $335 million.


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Table of Contents

ACCUMULATED OTHER COMPREHENSIVE INCOME

The following table summarizes changes in AOCI (dollars in millions):
 
Net unrealized gains (losses) on AFS securities (Note 4)
 
Pension and postretirement benefits
 
Total AOCI
Balance, June 30, 2017
$
91

 
$
(2
)
 
$
89

Other comprehensive income (loss) before reclassifications
 
 
 
 
 
Net unrealized gains (losses) on AFS securities
12

 
—

 
12

Reclassifications from AOCI to net income
 
 
 
 
 
Amortization - pension and postretirement
—

 
(1
)
 
(1
)
Net current period other comprehensive income (loss)
12

 
(1
)
 
11

Balance, September 30, 2017
$
103

 
$
(3
)
 
$
100

 
 
 
 
 
 
Balance, June 30, 2018
$
146

 
$
(4
)
 
$
142

Other comprehensive income (loss) before reclassifications
 
 
 
 
 
Net unrealized gains (losses) on AFS securities
(19
)
 
—

 
(19
)
Net current period other comprehensive income (loss)
(19
)
 
—

 
(19
)
Balance, September 30, 2018
$
127

 
$
(4
)
 
$
123

 
 
 
 
 
 
Balance, December 31, 2016
$
(14
)
 
$
(4
)
 
$
(18
)
Other comprehensive income (loss) before reclassifications
 
 
 
 
 
Net unrealized gains (losses) on AFS securities
117

 
—

 
117

Reclassifications from AOCI to net income
 
 
 
 

Amortization - pension and postretirement
—

 
1

 
1

Net current period other comprehensive income (loss)
117

 
1

 
118

Balance, September 30, 2017
$
103

 
$
(3
)
 
$
100

 
 
 
 
 
 
Balance, December 31, 2017
$
118

 
$
(4
)
 
$
114

Other comprehensive income (loss) before reclassifications
 
 
 
 
 
Net unrealized gains (losses) on AFS securities
9

 
—

 
9

Net current period other comprehensive income (loss)
9

 
—

 
9

Balance, September 30, 2018
$
127

 
$
(4
)
 
$
123



REGULATORY CAPITAL REQUIREMENTS

The Bank is subject to three regulatory capital requirements:

•
Risk-based capital. The Bank must maintain at all times permanent capital greater than or equal to the sum of its credit, market, and operations risk capital requirements, all calculated in accordance with Finance Agency regulations. Only permanent capital, defined as Class B stock (including mandatorily redeemable capital stock), and retained earnings can satisfy this risk-based capital requirement.

•
Regulatory capital. The Bank is required to maintain a minimum four percent capital-to-asset ratio, which is defined as total regulatory capital divided by total assets. Total regulatory capital includes Class B stock (including mandatorily redeemable capital stock) and retained earnings. It does not include AOCI.

•
Leverage capital. The Bank is required to maintain a minimum five percent leverage ratio, which is defined as the sum of permanent capital weighted 1.5 times and nonpermanent capital weighted 1.0 times, divided by total assets. The Bank did not hold any nonpermanent capital at September 30, 2018 and December 31, 2017.

If the Bank’s capital falls below the required levels, the Finance Agency has authority to take actions necessary to return it to levels that it deems to be consistent with safe and sound business operations.


38
Table of Contents

The following table shows the Bank’s compliance with the Finance Agency’s regulatory capital requirements (dollars in millions):
 
September 30, 2018
 
December 31, 2017
 
Required
 
Actual
 
Required
 
Actual
Regulatory capital requirements
 
 
 
 
 
 
 
Risk-based capital
$
1,239

 
$
7,459

 
$
1,041

 
$
7,292

Regulatory capital
$
5,764

 
$
7,459

 
$
5,804

 
$
7,292

Leverage capital
$
7,205

 
$
11,188

 
$
7,255

 
$
10,937

Capital-to-assets ratio
4.00
%
 
5.18
%
 
4.00
%
 
5.03
%
Leverage ratio
5.00
%
 
7.76
%
 
5.00
%
 
7.54
%


Note 13 — Fair Value

Fair value amounts are determined by the Bank using available market information and reflect the Bank’s best judgment of appropriate valuation methods. GAAP 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 at the measurement date (i.e., and exit price). The fair value hierarchy requires an entity to maximize the use of significant observable inputs and minimize the use of significant unobservable inputs when measuring fair value. The inputs are evaluated and an overall level for the fair value measurement is determined. This overall level is an indication of market observability of the fair value measurement for the asset or liability.

The fair value hierarchy prioritizes the inputs used to measure fair value into three broad levels:

•
Level 1 Inputs. Quoted prices (unadjusted) for identical assets or liabilities in an active market that the Bank can access on the measurement date.

•
Level 2 Inputs. Inputs other than quoted prices within Level 1 that are observable inputs for the asset or liability, either directly or indirectly. If the asset or liability has a specified (contractual) term, a Level 2 input must be observable for substantially the full term of the asset or liability. Level 2 inputs include the following: (i) quoted prices for similar assets or liabilities in active markets, (ii) quoted prices for identical or similar assets or liabilities in markets that are not active, (iii) inputs other than quoted prices that are observable for the asset or liability (e.g., interest rates and yield curves that are observable at commonly quoted intervals and implied volatilities, and (iv) market-corroborated inputs.

•
Level 3 Inputs. Unobservable inputs for the asset or liability.

The Bank reviews its fair value hierarchy classifications on a quarterly basis. Changes in the observability of the valuation inputs may result in a reclassification of certain assets or liabilities. These reclassifications are reported as transfers in/out as of the beginning of the quarter in which the changes occur. There were no such transfers during the nine months ended September 30, 2018 and 2017.


39
Table of Contents

The following table summarizes the carrying value, fair value, and fair value hierarchy of the Bank’s financial instruments at September 30, 2018 (dollars in millions). The Bank records trading securities, AFS securities, derivative assets, derivative liabilities, certain advances, and certain other assets at fair value on a recurring basis, and on occasion certain mortgage loans held for portfolio on a non-recurring basis. The Bank records all other financial assets and liabilities at amortized cost. The fair values do not represent an estimate of the overall market value of the Bank as a going concern, which would take into account future business opportunities and the net profitability of assets and liabilities.
 
 
 
 
Fair Value
Financial Instruments
 
Carrying Value
 
Level 1
 
Level 2
 
Level 3
 
Netting Adjustments and Cash Collateral1
 
Total
Assets
 
 
 
 
 
 
 
 
 
 
 

Cash and due from banks
 
$
155

 
$
155

 
$
—

 
$
—

 
$
—

 
$
155

Interest-bearing deposits
 
1

 
—

 
1

 
—

 
—

 
1

Securities purchased under agreements to resell
 
5,100

 
—

 
5,100

 
—

 
—

 
5,100

Federal funds sold
 
6,390

 
—

 
6,390

 
—

 
—

 
6,390

Trading securities
 
903

 
—

 
903

 
—

 
—

 
903

Available-for-sale securities
 
19,630

 
—

 
19,630

 
—

 
—

 
19,630

Held-to-maturity securities
 
3,115

 
—

 
3,120

 
11

 
—

 
3,131

Advances
 
100,787

 
—

 
100,814

 
—

 
—

 
100,814

Mortgage loans held for portfolio, net
 
7,549

 
—

 
7,371

 
60

 
—

 
7,431

Accrued interest receivable
 
286

 
—

 
286

 
—

 
—

 
286

Derivative assets, net
 
70

 
—

 
175

 
—

 
(105
)
 
70

Other assets
 
30

 
30

 
—

 
—

 
—

 
30

Liabilities
 
 
 
 
 
 
 
 
 
 
 
 
Deposits
 
(835
)
 
—

 
(835
)
 
—

 
—

 
(835
)
Consolidated obligations
 
 
 
 
 
 
 
 
 
 
 
 
Discount notes
 
(42,101
)
 
—

 
(42,091
)
 
—

 
—

 
(42,091
)
Bonds
 
(92,998
)
 
—

 
(92,952
)
 
—

 
—

 
(92,952
)
Total consolidated obligations
 
(135,099
)
 
—

 
(135,043
)
 
—

 
—

 
(135,043
)
Mandatorily redeemable capital stock
 
(277
)
 
(277
)
 
—

 
—

 
—

 
(277
)
Accrued interest payable
 
(243
)
 
—

 
(243
)
 
—

 
—

 
(243
)
Derivative liabilities, net
 
(4
)
 
—

 
(111
)
 
—

 
107

 
(4
)

1
Amounts represent the application of the netting requirements that allow the Bank to net settle positive and negative positions and also cash collateral and the related accrued interest held or placed with the same clearing agent and/or counterparty.

40
Table of Contents

The following table summarizes the carrying value, fair value, and fair value hierarchy of the Bank’s financial instruments at December 31, 2017 (dollars in millions):
 
 
 
 
Fair Value
Financial Instruments
 
Carrying Value
 
Level 1
 
Level 2
 
Level 3
 
Netting Adjustments and Cash Collateral1
 
Total
Assets
 
 
 
 
 
 
 
 
 
 
 
 
Cash and due from banks
 
$
503

 
$
503

 
$
—

 
$
—

 
$
—

 
$
503

Interest-bearing deposits
 
1

 
—

 
1

 
—

 
—

 
1

Securities purchased under agreements to resell
 
4,600

 
—

 
4,600

 
—

 
—

 
4,600

Federal funds sold
 
4,250

 
—

 
4,250

 
—

 
—

 
4,250

Trading securities
 
1,177

 
—

 
1,177

 
—

 
—

 
1,177

Available-for-sale securities
 
20,796

 
—

 
20,796

 
—

 
—

 
20,796

Held-to-maturity securities
 
3,628

 
—

 
3,674

 
12

 
—

 
3,686

Advances
 
102,613

 
—

 
102,708

 
—

 
—

 
102,708

Mortgage loans held for portfolio, net
 
7,096

 
—

 
7,124

 
64

 
—

 
7,188

Accrued interest receivable
 
223

 
—

 
223

 
—

 
—

 
223

Derivative assets, net
 
100

 
—

 
97

 
—

 
3

 
100

Other assets
 
28

 
28

 
—

 
—

 
—

 
28

Liabilities
 
 
 
 
 
 
 
 
 
 
 
 
Deposits
 
(1,107
)
 
—

 
(1,107
)
 
—

 
—

 
(1,107
)
Borrowings from other FHLBanks
 
(600
)
 
—

 
(600
)
 
—

 
—

 
(600
)
Consolidated obligations
 
 
 
 
 
 
 
 
 
 
 
 
Discount notes
 
(36,682
)
 
—

 
(36,674
)
 
—

 
—

 
(36,674
)
Bonds
 
(98,893
)
 
—

 
(99,150
)
 
—

 
—

 
(99,150
)
Total consolidated obligations
 
(135,575
)
 
—

 
(135,824
)
 
—

 
—

 
(135,824
)
Mandatorily redeemable capital stock
 
(385
)
 
(385
)
 
—

 
—

 
—

 
(385
)
Accrued interest payable
 
(210
)
 
—

 
(210
)
 
—

 
—

 
(210
)
Derivative liabilities, net
 
(6
)
 
—

 
(188
)
 
—

 
182

 
(6
)

1
Amounts represent the application of the netting requirements that allow the Bank to net settle positive and negative positions and also cash collateral and the related accrued interest held or placed with the same clearing agent and/or counterparty. To conform with current presentation $313 million in variation margin has been allocated to the individual derivative instruments as of December 31, 2017. Previously, this amount was included with netting adjustments and cash collateral.

SUMMARY OF VALUATION TECHNIQUES AND PRIMARY INPUTS
 
The valuation techniques and primary inputs used to develop the measurement of fair value for assets and liabilities that are measured at fair value on a recurring or non-recurring basis in the Statements of Condition are outlined below.

Trading and AFS Investment Securities. The Bank’s valuation technique incorporates prices from multiple designated third-party pricing vendors, when available. The pricing vendors generally use various proprietary models to price investment securities. The inputs to those models are derived from various sources including, but not limited to, benchmark securities and yields, reported trades, dealer estimates, issuer spreads, bids, offers, and other market-related data. Since many investment securities do not trade on a daily basis, the pricing vendors use available information, as applicable, such as benchmark curves, benchmarking of like securities, sector groupings, and matrix pricing to determine the prices for individual securities. Each pricing vendor has an established process in place to challenge investment valuations, which facilitates resolution of questionable prices identified by the Bank. Annually, the Bank conducts reviews of its pricing vendors to confirm and further augment its understanding of the vendors’ pricing processes, methodologies, and control procedures for investment securities.


41
Table of Contents

The Bank’s valuation technique for estimating the fair values of its investment securities first requires the establishment of a median price for each security. All prices that are within a specified tolerance threshold of the median price are included in the cluster of prices that are averaged to compute a default price. All prices that are outside the threshold (outliers) are subject to further analysis (including, but not limited to, comparison to prices provided by an additional third-party valuation service, prices for similar securities, and/or non-binding dealer estimates) to determine if an outlier is a better estimate of fair value. If an outlier (or some other price identified in the analysis) is determined to be a better estimate of fair value, then the outlier (or the other price as appropriate) is used as the final price rather than the default price. Alternatively, if the analysis confirms that an outlier (or outliers) is (are) in fact not representative of fair value and the default price is the best estimate, then the default price is used as the final price. In all cases, the final price is used to determine the fair value of the security. In limited instances, when no prices are available from one of the designated pricing services, the Bank obtains prices from dealers.

As of September 30, 2018 and December 31, 2017, multiple prices were received for the majority of the Bank’s trading and AFS investment securities. Based on the Bank’s review of the pricing methods and controls employed by the third-party pricing vendors and the relative lack of dispersion among the vendor prices, the Bank believes its final prices are representative of the prices that would have been received if the assets had been sold at the measurement date (i.e., exit prices) and further, that the fair value measurements are classified appropriately in the fair value hierarchy.

Advances Recorded under the Fair Value Option. The fair value of advances recorded under the fair value option is determined by calculating the present value of the expected future cash flows and includes accrued interest receivable. The discount rates used in these calculations are equivalent to the replacement advance rates for advances with similar terms. In accordance with Finance Agency regulations, advances generally require a prepayment fee sufficient to make the Bank financially indifferent to a borrower’s decision to prepay the advances. Therefore, the fair value of advances assumes no prepayment risk.

The Bank uses the following inputs for measuring the fair value of advances:

•
Consolidated Obligation Curve (CO Curve). The Office of Finance constructs a curve, referred to as the CO Curve, using the U.S. Treasury Curve as a base curve which is then adjusted by adding indicative spreads obtained from market-observable sources. These market indications are generally derived from pricing indications from dealers, historical pricing relationships, recent GSE trades, and secondary market activity. The Bank utilizes the CO Curve as its input to fair value for advances because it represents the Bank’s cost of funds and is used to price advances.

•
Volatility assumption. Market-based expectations of future interest rate volatility implied from current market prices for similar options.

•
Spread assumption. Represents a spread adjustment to the CO Curve.

Impaired Mortgage Loans Held for Portfolio. The fair value of impaired mortgage loans held for portfolio is estimated by obtaining property values from an external pricing vendor. This vendor utilizes multiple pricing models that generally factor in market observable inputs, including actual sales transactions and home price indices. The Bank applies an adjustment to these values to capture certain limitations in the estimation process and takes into consideration estimated selling costs and expected PMI proceeds. In limited instances, the Bank may estimate the fair value of an impaired mortgage loan by calculating the present value of expected future cash flows discounted at the loan’s effective interest rate.  

Derivative Assets and Liabilities. The fair value of derivatives is generally estimated using standard valuation techniques such as discounted cash flow analyses and comparisons to similar instruments, and includes variation margin payments for daily settled contracts. In limited instances, fair value estimates for interest-rate related derivatives may be obtained using an external pricing model that utilizes observable market data. The Bank is subject to credit risk in derivatives transactions due to the potential nonperformance of its derivatives counterparties. The use of cleared derivatives is intended to mitigate credit risk exposure because a central counterparty is substituted for individual counterparties and collateral/payments is posted daily, through a clearing agent, for changes in the fair value of cleared derivatives. To mitigate credit risk on uncleared derivatives, the Bank enters into master netting agreements with its counterparties as well as collateral agreements that provide for the delivery of collateral at specified levels tied to those counterparties’ credit ratings. The Bank has evaluated the potential for the fair value of its derivatives to be affected by counterparty credit risk and its own credit risk and has determined that no adjustments were significant to the overall fair value measurements.


42
Table of Contents

The fair values of the Bank’s derivative assets and derivative liabilities include accrued interest receivable/payable and cash collateral remitted to/received from counterparties. The estimated fair values of the accrued interest receivable/payable and cash collateral approximate their carrying values due to their short-term nature. The fair values of derivatives are netted by clearing agent and/or counterparty if the netting requirements are met. If these netted amounts are positive, they are classified as an asset and, if negative, they are classified as a liability.

The Bank’s discounted cash flow model utilizes market-observable inputs (inputs that are actively quoted and can be validated to external sources). The Bank uses the following inputs for measuring the fair value of interest-related derivatives:

•
Discount rate assumption. The Bank utilizes the Overnight-Index Swap (OIS) curve. 

•
Forward interest rate assumption. The Bank utilizes the London Interbank Offered Rate (LIBOR) swap curve.

•
Volatility assumption. Market-based expectations of future interest rate volatility implied from current market prices for similar options.

For forward settlement agreements (TBAs), the Bank utilizes TBA securities prices that are determined by coupon class and expected term until settlement. For mortgage delivery commitments, the Bank utilizes TBA securities prices adjusted for factors such as credit risk and servicing spreads.
 
Other Assets. These represent grantor trust assets, which are carried at estimated fair value based on quoted market prices as of the last business day of the reporting period.
 
Subjectivity of Estimates. Estimates of the fair value of financial assets and liabilities using the methods previously described are highly subjective and require judgments regarding significant matters, such as the amount and timing of future cash flows, prepayment speed assumptions, expected interest rate volatility, possible distributions of future interest rates used to value options, and the selection of discount rates that appropriately reflect market and credit risks. The use of different assumptions could have a material effect on the fair value estimates.


43
Table of Contents

FAIR VALUE ON A RECURRING BASIS

The following table summarizes, for each hierarchy level, the Bank’s assets and liabilities that are measured at fair value in the Statements of Condition at September 30, 2018 (dollars in millions):
Recurring Fair Value Measurements
 
Level 1
 
Level 2
 
Level 3
 
Netting Adjustments and Cash Collateral1
 
Total
Assets
 
 
 
 
 
 
 
 
 
 
Trading securities
 
 
 
 
 
 
 
 
 
 
U.S. obligations
 
$
—

 
$
157

 
$
—

 
$
—

 
$
157

GSE and Tennessee Valley Authority obligations
 
—

 
56

 
—

 
—

 
56

Other non-MBS
 
—

 
262

 
—

 
—

 
262

GSE multifamily MBS
 
—

 
428

 
—

 
—

 
428

Total trading securities
 
—

 
903

 
—

 
—

 
903

Available-for-sale securities
 
 
 
 
 
 
 
 
 
 
U.S. obligations
 
—

 
2,683

 
—

 
—

 
2,683

GSE and Tennessee Valley Authority obligations
 
—

 
1,023

 
—

 
—

 
1,023

State or local housing agency obligations
 
—

 
844

 
—

 
—

 
844

Other non-MBS
 
—

 
269

 
—

 
—

 
269

U.S. obligations single-family MBS
 
—

 
4,319

 
—

 
—

 
4,319

GSE single-family MBS
 
—

 
834

 
—

 
—

 
834

GSE multifamily MBS
 
—

 
9,658

 
—

 
—

 
9,658

Total available-for-sale securities
 
—

 
19,630

 
—

 
—

 
19,630

Advances2
 
—

 
15

 
—

 
—

 
15

Derivative assets, net
 
 
 
 
 
 
 
 
 
 
Interest-rate related
 
—

 
175

 
—

 
(105
)
 
70

Other assets
 
30

 
—

 
—

 
—

 
30

Total recurring assets at fair value
 
$
30

 
$
20,723

 
$
—

 
$
(105
)
 
$
20,648

Liabilities
 
 
 
 
 
 
 
 
 
 
Derivative liabilities, net
 
 
 
 
 
 
 
 
 
 
Interest-rate related
 
—

 
(111
)
 
—

 
107

 
(4
)
Total recurring liabilities at fair value
 
$
—

 
$
(111
)
 
$
—

 
$
107

 
$
(4
)

1
Amounts represent the application of the netting requirements that allow the Bank to net settle positive and negative positions and also cash collateral and the related accrued interest held or placed with the same clearing agent and/or counterparty.

2
Represents financial instruments recorded under the fair value option.


44
Table of Contents

The following table summarizes, for each hierarchy level, the Bank’s assets and liabilities that are measured at fair value in the Statements of Condition at December 31, 2017 (dollars in millions):
Recurring Fair Value Measurements
 
Level 1
 
Level 2
 
Level 3
 
Netting Adjustments and Cash Collateral1
 
Total
Assets
 
 
 
 
 
 
 
 
 
 
Trading securities
 
 
 
 
 
 
 
 
 
 
U.S. obligations
 
$
—

 
$
197

 
$
—

 
$
—

 
$
197

GSE and Tennessee Valley Authority obligations
 
—

 
260

 
—

 
—

 
260

Other non-MBS
 
—

 
272

 
—

 
—

 
272

GSE multifamily MBS
 
—

 
448

 
—

 
—

 
448

Total trading securities
 
—

 
1,177

 
—

 
—

 
1,177

Available-for-sale securities
 
 
 
 
 
 
 
 
 
 
U.S. obligations
 
—

 
3,099

 
—

 
—

 
3,099

GSE and Tennessee Valley Authority obligations
 
—

 
1,236

 
—

 
—

 
1,236

State or local housing agency obligations
 
—

 
934

 
—

 
—

 
934

Other non-MBS
 
—

 
278

 
—

 
—

 
278

U.S. obligations single-family MBS
 
—

 
3,726

 
—

 
—

 
3,726

GSE single-family MBS
 
—

 
988

 
—

 
—

 
988

GSE multifamily MBS
 
—

 
10,535

 
—

 
—

 
10,535

Total available-for-sale securities
 
—

 
20,796

 
—

 
—

 
20,796

Derivative assets, net
 
 
 
 
 
 
 
 
 
 
Interest-rate related
 
—

 
97

 
—

 
3

 
100

Other assets
 
28

 
—

 
—

 
—

 
28

Total recurring assets at fair value
 
$
28

 
$
22,070

 
$
—

 
$
3

 
$
22,101

Liabilities
 
 
 
 
 
 
 
 
 
 
Derivative liabilities, net
 
 
 
 
 
 
 
 
 
 
Interest-rate related
 
—

 
(188
)
 
—

 
182

 
(6
)
Total recurring liabilities at fair value
 
$
—

 
$
(188
)
 
$
—

 
$
182

 
$
(6
)

1
Amounts represent the application of the netting requirements that allow the Bank to net settle positive and negative positions and also cash collateral and the related accrued interest held or placed with the same clearing agent and/or counterparty. To conform with current presentation, $313 million in variation margin has been allocated to the individual derivative instruments as of December 31, 2017. Previously, this amount was included with netting adjustments and cash collateral.

FAIR VALUE ON A NON-RECURRING BASIS

The Bank measures certain impaired mortgage loans held for portfolio at level 3 fair value on a non-recurring basis. These assets are subject to fair value adjustments in certain circumstances. At September 30, 2018 and December 31, 2017, impaired mortgage loans held for portfolio recorded at fair value as a result of a non-recurring change in fair value were $2 million and $7 million. These fair values were as of the date the fair value adjustment was recorded during the nine months ended September 30, 2018 and year-ended December 31, 2017.

FAIR VALUE OPTION

The fair value option provides an irrevocable option to elect fair value as an alternative measurement for selected financial assets, financial liabilities, unrecognized firm commitments, and written loan commitments not previously carried at fair value. It require entities to display the fair value of those assets and liabilities for which it has chosen to use fair value on the face of the Statements of Condition. Fair value is used for both the initial and subsequent measurement of the designated assets, liabilities, and commitments, with the changes in fair value recognized in income.

The Bank elects the fair value option for certain financial instruments when a hedge relationship does not qualify for hedge accounting. These fair value elections are made primarily in an effort to mitigate the potential income statement volatility that can arise when an economic derivative is adjusted for changes in fair value but the related hedged item is not.

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For financial instruments recorded under the fair value option, the related contractual interest income and interest expense are recorded as part of net interest income in the Statements of Income. The remaining changes are recorded as “Net gains (losses) on financial instruments held at fair value” in the Statements of Income.

For the three and nine months ended September 30, 2018 and 2017, net gains on financial instruments held at fair value were less than $1 million. At September 30, 2018 and December 31, 2017, the Bank determined no credit risk adjustments for nonperformance were necessary to the instruments recorded under the fair value option.

At December 31, 2017, advances recorded under the fair value option were less than $1 million. The following table summarizes the difference between the unpaid principal balance and fair value of outstanding instruments for which the fair value option was elected at September 30, 2018 (dollars in million):

 
September 30, 2018
 
Unpaid Principal Balance
 
Fair Value
 
Fair Value Over (Under) Unpaid Principal
Advances1
$
15

 
$
15

 
$
—


1    At September 30, 2018 none of the advances were 90 days or more past due or had been placed on non-accrual status.

Note 14 — Commitments and Contingencies

Joint and Several Liability. The FHLBanks have joint and several liability for all consolidated obligations issued. Accordingly, if an FHLBank were unable to repay any consolidated obligation for which it is the primary obligor, each of the other FHLBanks could be called upon by the Finance Agency to repay all or part of such obligations. No FHLBank has ever been asked or required to repay the principal or interest on any consolidated obligation on behalf of another FHLBank. At September 30, 2018 and December 31, 2017, the total par value of outstanding consolidated obligations issued on behalf of other FHLBanks for which the Bank is jointly and severally liable was approximately $883.4 billion and $898.3 billion.

The following table summarizes additional off-balance sheet commitments for the Bank (dollars in millions):
 
September 30, 2018
 
December 31, 2017
 
Expire
within one year
 
Expire
after one year
 
Total
 
Total
Standby letters of credit1
$
8,485

 
$
166

 
$
8,651

 
$
8,594

Standby bond purchase agreements
236

 
446

 
682

 
755

Commitments to purchase mortgage loans
178

 
—

 
178

 
72

Commitments to issue bonds
93

 
—

 
93

 
—

Commitments to issue discount notes
100

 
—

 
100

 
—

Commitments to fund advances
1,000

 
46

 
1,046

 
1,138



1
Excludes commitments to issue standby letters of credit of $1 million and $7 million at September 30, 2018 and December 31, 2017.

Standby Letters of Credit. The Bank issues standby letters of credit on behalf of its members to support certain obligations of the members to third-party beneficiaries. These standby letters of credit are subject to the same collateralization and borrowing limits that are applicable to advances. Standby letters of credit may be offered to assist members in facilitating residential housing finance, community lending, and asset-liability management, and to provide liquidity. In particular, members often use standby letters of credit as collateral for deposits from federal and state government agencies. Standby letters of credit are executed with members for a fee. If the Bank is required to make payment for a beneficiary’s draw, the member either reimburses the Bank for the amount drawn or, subject to the Bank’s discretion, the amount drawn may be converted into a collateralized advance to the member. The original terms of standby letters of credit range from less than one month to 13 years, currently no later than 2025. The carrying value of guarantees related to standby letters of credit are recorded in “Other liabilities” in the Statements of Condition and amounted to $2 million and $3 million at September 30, 2018 and December 31, 2017.


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The Bank monitors the creditworthiness of its standby letters of credit based on an evaluation of its borrowers. The Bank has established parameters for the measurement, review, classification, and monitoring of credit risk related to these standby letters of credit. Based on management’s credit analyses and collateral requirements, the Bank does not deem it necessary to have any provision for credit losses on these standby letters of credit. All standby letters of credit are subject to the same collateralization and borrowing limits that apply to advances and are fully collateralized at the time of issuance.

Standby Bond Purchase Agreements. The Bank has entered into standby bond purchase agreements with state housing associates within its district whereby, for a fee, it agrees to serve as a standby liquidity provider if required, to purchase and hold the housing associate’s bonds until the designated marketing agent can find a suitable investor or the housing associate repurchases the bonds according to a schedule established by the agreement. Each standby bond purchase agreement includes the provisions under which the Bank would be required to purchase the bonds. At September 30, 2018, the Bank had standby bond purchase agreements with seven housing associates. The standby bond purchase commitments entered into by the Bank have original expiration periods of up to seven years, currently no later than 2024. During both the nine months ended September 30, 2018 and 2017, the Bank was not required to purchase any bonds under these agreements.

Commitments to Purchase Mortgage Loans. The Bank enters into commitments that unconditionally obligate it to purchase mortgage loans from its members. Commitments are generally for periods not to exceed 45 days. These commitments are considered derivatives and their estimated fair value at September 30, 2018 and December 31, 2017 is reported in “Note 10 — Derivatives and Hedging Activities” as mortgage delivery commitments.

Commitments to Issue Bonds. At September 30, 2018, the Bank had commitments to issue $93 million of consolidated obligation bonds. At December 31, 2017, the Bank had no commitments to issue consolidated obligation bonds.

Commitments to Issue Discount Notes. At September 30, 2018, the Bank had commitments to issue $100 million of consolidated obligation discount notes. At December 31, 2017, the Bank had no commitments to issue consolidated obligation discount notes.

Commitments to Fund Advances. The Bank enters into commitments that legally bind it to fund additional advances up to 24 months in the future. At September 30, 2018 and December 31, 2017, the Bank had commitments to fund advances of $1.0 billion and $1.1 billion.

Other Commitments. For each MPF master commitment, the Bank’s potential loss exposure prior to the PFI’s credit enhancement obligation is estimated and tracked in a memorandum account called the FLA. For absorbing certain losses in excess of the FLA, PFIs are paid a credit enhancement fee, a portion of which may be performance-based. To the extent the Bank experiences losses under the FLA, it may be able to recapture performance-based credit enhancement fees paid to the PFI to offset these losses. The FLA balance for all MPF master commitments with a PFI credit enhancement obligation was $111 million and $104 million at September 30, 2018 and December 31, 2017.
Legal Proceedings. As a result of the merger with the Federal Home Loan Bank of Seattle (Merger), the Bank has been involved in a number of legal proceedings initiated by the Seattle Bank against various entities relating to its purchases and subsequent impairment of certain private-label MBS. Of the 11 cases initially filed, one has been dismissed, two have been settled in part and dismissed in part, and eight have been settled. The Bank appealed the one complete dismissal and two partial dismissals covering the claims related to five certificates across three different cases. The appellate court affirmed the dismissal of the claims related to four certificates in December 2017 and affirmed the dismissal of the remaining certificate in May 2018. In January 2018, the Bank filed petitions for discretionary review of the appellate court’s rulings in December related to four of the certificates with the Washington Supreme Court. On May 3, 2018, the Court granted those petitions. The aggregate consideration paid for these four certificates is $567 million. Oral arguments were heard on October 9, 2018 and the Bank is currently awaiting the Court’s decision. In June 2018, the Bank filed a petition for discretionary review of the appellate court’s ruling in May on the fifth certificate. The aggregate consideration paid for that one certificate is $200 million. The Washington Supreme Court has not yet acted on that petition. Other than the private-label MBS litigation, the Bank does not believe any legal proceedings to which it is a party could have a material impact on its financial condition, results of operations, or cash flows.
Litigation settlement gains are considered realized and recorded when the Bank receives cash or assets that are readily convertible to known amounts of cash or claims to cash. In addition, litigation settlement gains are considered realizable and recorded when the Bank enters into a signed agreement that is not subject to appeal, where the counterparty has the ability to pay, and the amount to be received can be reasonably estimated. Prior to being realized or realizable, the Bank considers potential litigation settlement gains to be gain contingencies, and therefore they are not recorded in the Statements of Income.

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The Bank records legal expenses related to litigation settlements as incurred in other expenses in the Statements of Income with the exception of certain legal expenses related to litigation settlement awards that are contingent based fees for the attorneys representing the Bank. The Bank incurs and recognizes these contingent based legal fees only when litigation settlement awards are realized, at which time these fees are netted against the gains recognized on the litigation settlement.  During the three months ended September 30, 2018 and 2017, and during the nine months ended September 30, 2018, the Bank did not recognize net gains on private-label MBS litigation settlements. During the nine months ended September 30, 2017, the Bank recognized $21 million in net gains on litigation settlements through other income (loss), due to the settlement of one of the Bank’s private-label MBS claims.

Note 15 — Activities with Stockholders

The Bank is a cooperative. This means the Bank is owned by its customers, whom the Bank calls members. As a condition of membership in the Bank, all members must purchase and maintain membership capital stock based on a percentage of their total assets, subject to a minimum and maximum amount, as of the preceding December 31st. Each member is also required to purchase and maintain activity-based capital stock to support certain business activities with the Bank.

TRANSACTIONS WITH DIRECTORS’ FINANCIAL INSTITUTIONS

In the normal course of business, the Bank extends credit to its members whose directors and officers serve as Bank directors (Directors’ Financial Institutions). Finance Agency regulations require that transactions with Directors’ Financial Institutions be made on the same terms and conditions as those with any other member.

The following table summarizes the Bank’s outstanding transactions with Directors’ Financial Institutions (dollars in millions):
 
 
September 30, 2018
 
December 31, 2017
 
 
Amount
 
% of Total
 
Amount
 
% of Total
Advances
 
$
4,132

 
4
 
$
6,036

 
6
Mortgage loans
 
95

 
1
 
68

 
1
Deposits
 
9

 
1
 
39

 
4
Capital stock
 
216

 
4
 
297

 
5


BUSINESS CONCENTRATIONS

The Bank considers itself to have business concentrations with stockholders owning 10 percent or more of its total capital stock outstanding (including mandatorily redeemable capital stock). At September 30, 2018, the Bank had the following business concentrations with stockholders (dollars in millions):
 
 
Capital Stock
 
 
 
Mortgage
 
Interest
Stockholder
 
Amount
 
% of Total1
 
Advances
 
Loans4
 
Income2
Wells Fargo Bank, N.A.
 
$
1,845

 
34
 
$
45,850

 
$
26

 
$
839

Superior Guaranty Insurance Company3
 
18

 
—
 
—

 
439

 
—

Total
 
$
1,863

 
34
 
$
45,850

 
$
465

 
$
839


1
Pursuant to applicable Finance Agency regulations, the Bank’s voting structure limits the voting rights of these stockholders and other members holding a significant amount of the Bank’s capital stock.

2
Represents interest income earned on advances during the nine months ended September 30, 2018. Interest income on mortgage loans is excluded from this table as this interest relates to the borrower, not to the stockholder.

3
Superior Guaranty Insurance Company is an affiliate of Wells Fargo Bank, N.A.

4
PFI rights and obligations associated with MPP mortgage loans of $27 million were transferred from Wells Fargo Trust Company, N.A. (formerly Wells Fargo Bank Northwest N.A.) to Wells Fargo Bank, N.A. during the nine months ended September 30, 2018.

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At December 31, 2017, the Bank had the following business concentrations with stockholders (dollars in millions):
 
 
Capital Stock
 
 
 
Mortgage
 
Interest
Stockholder
 
Amount
 
% of Total1
 
Advances
 
Loans
 
Income2
Wells Fargo Bank, N.A.
 
$
1,843

 
34
 
$
45,825

 
$
—

 
$
834

Superior Guaranty Insurance Company3
 
22

 
—
 
—

 
520

 
—

Wells Fargo Bank Northwest N.A.3
 
1

 
—
 
—

 
30

 
—

Total
 
$
1,866

 
34
 
$
45,825

 
$
550

 
$
834


1
Pursuant to applicable Finance Agency regulations, the Bank’s voting structure limits the voting rights of these stockholders and other members holding a significant amount of the Bank’s capital stock.
 
2
Represents interest income earned on advances during the year ended December 31, 2017. Interest income on mortgage loans is excluded from this table as this interest relates to the borrower, not to the stockholder.

3
Superior Guaranty Insurance Company and Wells Fargo Bank Northwest, N.A. were affiliates of Wells Fargo Bank, N.A at December 31, 2017.


Note 16 — Activities with Other FHLBanks

Overnight Funds. The Bank may lend or borrow unsecured overnight funds to or from other FHLBanks. All such transactions are at current market rates. The following table summarizes loan activity to other FHLBanks during the nine months ended September 30, 2018 and 2017 (dollars in millions):
Other FHLBank
 
Beginning
Balance
 
Loans
 
Principal
Repayment
 
Ending
Balance
2018
 
 
 
 
 
 
 
 
Boston
 
$
—

 
$
800

 
$
(800
)
 
$
—

San Francisco
 
—

 
300

 
(300
)
 
—

Dallas
 
—

 
500

 
(500
)
 
—

 
 
$
—

 
$
1,600

 
$
(1,600
)
 
$
—

2017
 
 
 
 
 
 
 
 
San Francisco
 
$
200

 
$
—

 
$
(200
)
 
$
—


    
During the nine months ended September 30, 2017, the Bank did not borrow funds from other FHLBanks. The following table summarizes borrowing activity from other FHLBanks during the nine months ended September 30, 2018 (dollars in millions):
Other FHLBank
 
Beginning
Balance
 
Borrowing
 
Principal Payment
 
Ending
Balance
2018
 
 
 
 
 
 
 
 
Atlanta
 
$
200

 
$
—

 
$
(200
)
 
$
—

Boston
 
400

 
—

 
(400
)
 
—

 
 
$
600

 
$
—

 
$
(600
)
 
$
—



At September 30, 2018 and 2017, none of the previous transactions were outstanding on the Bank’s Statements of Condition. The interest income and expense related to this activity were immaterial.

Advance Transfers. The Bank may purchase or sell advances from/to other FHLBanks. These transfers are accounted for in the same manner as an advances origination with a member bank. During the nine months ended September 30, 2017, a member of the Federal Home Loan Bank of Chicago (Chicago Bank) re-designated its charter, and concurrently transferred its Federal Home Loan Bank membership from the Chicago Bank to the Des Moines Bank. In conjunction with this transfer and at request of the member, the Bank purchased $37 million of par value advances outstanding to this member from the Chicago Bank and recognized related premiums of $1 million. There were no advance transfers during the nine months ended September 30, 2018.

Note 17 — Subsequent Events

Subsequent events have been evaluated from October 1, 2018, through the time of the Form 10-Q filing with the Securities and Exchange Commission. No material subsequent events requiring disclosure were identified.


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ITEM 2. MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS

Our Management’s Discussion and Analysis (MD&A) of Financial Condition and Results of Operations should be read in conjunction with our financial statements and condensed notes at the beginning of this Form 10-Q and in conjunction with our MD&A and Annual Report on Form 10-K for the fiscal year ended December 31, 2017, filed with the Securities and Exchange Commission (SEC) on March 12, 2018 (2017 Form 10-K). Our MD&A is designed to provide information that will help the reader develop a better understanding of our financial statements, key financial statement changes from quarter to quarter, and the primary factors driving those changes. Our MD&A is organized as follows:
CONTENTS
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 

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FORWARD-LOOKING INFORMATION

Statements contained in this report, including statements describing the objectives, projections, estimates, or future predictions in our operations, may be forward-looking statements. These statements may be identified by the use of forward-looking terminology, such as believes, projects, expects, anticipates, estimates, intends, strategy, plan, could, should, may, and will or their negatives or other variations on these terms. By their nature, forward-looking statements involve risk or uncertainty, and actual results could differ materially from those expressed or implied or could affect the extent to which a particular objective, projection, estimate, or prediction is realized. As a result, you are cautioned not to place undue reliance on such statements. These risks and uncertainties include, but are not limited to, the following:
 
•
political or economic events, including legislative, regulatory, monetary, judicial, or other developments that affect us, our members, our counterparties, and/or our investors in the consolidated obligations of the 11 Federal Home Loan Banks (FHLBanks);

•
the ability to meet capital and other regulatory requirements;

•
disruptions in the credit and debt markets and the effect on future funding costs, sources, and availability;

•
the ability to develop and support internal controls, information systems, and other operating technologies that effectively manage the risks we face, including but not limited to, cyber-attacks and other business interruptions;

•
risks related to the other FHLBanks that could trigger our joint and several liability for debt issued by the other FHLBanks;

•
general economic and market conditions that could impact the volume of business we do with our members, including, but not limited to, the timing and volatility of market activity, inflation/deflation, employment rates, housing prices, the condition of the mortgage and housing markets on our mortgage-related assets, including the level of mortgage prepayments, and the condition of the capital markets on our consolidated obligations;

•
ineffective use of hedging strategies or the availability of derivative instruments in the types and quantities needed for risk management purposes from acceptable counterparties;

•
changes in the relative attractiveness of consolidated obligations due to actual or perceived changes in the FHLBanks’ credit ratings as well as the U.S. Government’s long-term credit rating;

•
competitive forces, including without limitation, other sources of funding available to our borrowers that could impact the demand for our advances, other entities purchasing mortgage loans in the secondary mortgage market, and other entities borrowing funds in the capital markets;

•
the volatility of credit quality, market prices, interest rates, and other indices that could affect the value of collateral held by us as security for borrower and counterparty obligations;

•
reliance on a relatively small number of member institutions for a large portion of our advance business;

•
the ability to attract and retain key personnel;

•
significant business interruptions resulting from third party failure;

•
the volatility of reported results due to changes in the fair value of certain assets, liabilities, and derivative instruments;

•
member consolidations and failures;

•
increases in delinquency or loss estimates on mortgage loans; and

•
changes to and replacement of the London Interbank Offered Rate (LIBOR) benchmark interest rate.




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For additional information regarding these and other risks and uncertainties that could cause our actual results to differ materially from the expectations reflected in our forward-looking statements, see “Item 1A. Risk Factors” in this quarterly report and in our 2017 Form 10-K. You are cautioned not to place undue reliance on any forward-looking statements made by us or on our behalf. Forward-looking statements apply only as of the date they are made, and we undertake no obligation to update or revise any forward-looking statement.

EXECUTIVE OVERVIEW

Our Bank is a member-owned cooperative serving shareholder members in our district. Our mission is to provide funding and liquidity for our members and housing associates so that they can meet the housing, economic development, and business needs of the communities they serve. We strive to achieve our mission within an operating principle that balances the trade-off between attractively priced products, reasonable returns on capital stock, and maintaining an adequate level of retained earnings to preserve par value of member-owned capital stock. Our members include commercial banks, savings institutions, credit unions, insurance companies, and community development financial institutions (CDFIs).

Financial Results
For the three and nine months ended September 30, 2018, we reported net income of $113 million and $360 million compared to $132 million and $402 million for the same periods in 2017. The decline in our net income for the three and nine months ended September 30, 2018, calculated in accordance with accounting principles generally accepted in the United States of America (GAAP), was driven by lower net interest income. In addition, net income during the nine months ended September 30, 2017 was impacted by net gains on litigation settlements of $21 million as a result of settlements with certain defendants in our private-label mortgage-backed securities (private-label MBS) litigation.

Net interest income totaled $156 million and $480 million for the three and nine months ended September 30, 2018 compared to $174 million and $497 million for the same periods last year. Our net interest margin was 0.42 percent and 0.43 percent during the three and nine months ended September 30, 2018 compared to 0.40 percent and 0.38 percent for the same periods in 2017. The decline in net interest income was primarily due to lower average advance volumes offset in part by higher net interest margin. The increase in net interest margin was attributable to the higher interest rate environment offset in part by lower asset and liability spreads due to increased costs on our interest-bearing liabilities.

We recorded net gains of $7 million and $23 million in other income (loss) for the three and nine months ended September 30, 2018 compared to net gains of $4 million and $45 million for the same periods last year. During the nine months ended September 30, 2017, other income (loss) was primarily impacted by net gains on litigation settlements of $21 million as a result of settlements with certain defendants in our private-label MBS litigation. We did not record any net gains on private-label MBS litigation settlements during the three or nine months ended September 30, 2018 or the three months ended September 30, 2017. Other factors impacting other income (loss) included net gains (losses) on derivatives and hedging activities and net gains (losses) on trading securities, as described below.

During the three and nine months ended September 30, 2018, we recorded net gains of $9 million and $43 million on our derivatives and hedging activities through other income (loss) compared to net losses of $2 million and net gains of $1 million during the same periods last year. The fair value changes were primarily driven by changes in interest rates. These changes impacted our fair value hedge relationships and fair value changes on interest rate swaps used to economically hedge our investment securities portfolio.

During the three and nine months ended September 30, 2018, we recorded net losses on trading securities of $9 million and $33 million compared to net gains of $1 million and $10 million for the same periods in 2017. These changes in fair value were primarily due to the impact of changes in interest rates and credit spreads on our fixed rate trading securities.

Other expense totaled $36 million and $101 million for the three and nine months ended September 30, 2018 compared to $30 million and $93 million for the same periods in 2017. Other expense was driven primarily by compensation and benefits for the three and nine months ended September 30, 2018.
    
Our total assets decreased to $144.1 billion at September 30, 2018, from $145.1 billion at December 31, 2017, driven by a decrease in advances. Advances at September 30, 2018 decreased by $1.8 billion from advances at December 31, 2017 due primarily to a decrease in borrowings by a captive insurance company member and a large depository institution member, partially offset by an increase in borrowings from other financial institution types.


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Our total liabilities decreased to $136.8 billion at September 30, 2018, from $138.1 billion at December 31, 2017, driven in part by a decrease in the amount of consolidated obligations needed to fund our assets.

Total capital increased to $7.3 billion at September 30, 2018 from $7.0 billion at December 31, 2017, primarily due to an increase in retained earnings due to net income, partially offset by dividends paid. In addition, capital stock increased resulting from an increase in activity-based stock due to member activity. Our regulatory capital ratio increased to 5.18 percent at September 30, 2018, from 5.03 percent at December 31, 2017 and was above the required regulatory limit at each period end. Regulatory capital includes all capital stock, mandatorily redeemable capital stock, and retained earnings.

Refer to “Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations — Statements of Condition” for additional discussion on our financial condition.

Adjusted Earnings

As part of evaluating financial performance, we adjust GAAP net interest income and GAAP net income before assessments for the impact of (i) market adjustments relating to derivative and hedging activities and instruments held at fair value, (ii) realized gains (losses) on investment securities, and (iii) other non-routine and unpredictable items, including net asset prepayment fee income, mandatorily redeemable capital stock interest expense, and net gains on litigation settlements. The resulting non-GAAP measure, referred to as our adjusted earnings, reflects both adjusted net interest income and adjusted net income.
Because our business model is primarily one of holding assets and liabilities to maturity, management believes that the adjusted earnings measure is helpful in understanding our operating results and provides a meaningful period-to-period comparison of our long-term economic value in contrast to GAAP results, which can be impacted by fair value changes driven by market volatility on financial instruments recorded at fair value or transactions that are considered to be unpredictable or not routine. As a result, management uses the adjusted earnings measure to assess performance under our incentive compensation plans and to ensure management remains focused on our long-term value and performance. Non-GAAP financial measures have inherent limitations, are not required to be uniformly applied, and are not audited. While these non-GAAP measures can be used to assist in understanding the components of our earnings, they should not be considered a substitute for results reported under GAAP.

The adjusted net income methodology is calculated on a post Affordable Housing Program (AHP) assessment basis. Management believes AHP assessments are a fundamental component of our business and believes this assessment should be included in our adjusted net income calculation. In addition, this treatment aligns the adjusted net income results to our strategic business plan which is calculated on a post AHP assessment basis.

As indicated in the tables that follow, our adjusted net interest income and adjusted net income decreased during the three and nine months ended September 30, 2018 when compared to the same periods in 2017. The decline was driven by lower adjusted net interest income due primarily to lower average advance volumes offset in part by higher net interest margin as previously noted.

The following table summarizes the reconciliation between GAAP and adjusted net interest income (dollars in millions):
 
For the Three Months Ended
 
For the Nine Months Ended
 
September 30,
 
September 30,
 
2018
 
2017
 
2018
 
2017
GAAP net interest income
$
156

 
$
174

 
$
480

 
$
497

Exclude:
 
 
 
 
 
 
 
Prepayment fees on advances, net1
1

 
—

 
7

 
1

Prepayment fees on investments, net2
1

 
—

 
9

 
—

Mandatorily redeemable capital stock interest expense
(6
)
 
(4
)
 
(15
)
 
(13
)
Total adjustments
(4
)
 
(4
)
 
1

 
(12
)
Include items reclassified from other income (loss):
 
 
 
 
 
 
 
Net interest expense on economic hedges
(1
)
 
(3
)
 
(4
)
 
(10
)
Adjusted net interest income
$
159

 
$
175


$
475

 
$
499

Adjusted net interest margin
0.42
%
 
0.41
%
 
0.43
%
 
0.38
%

1
Prepayment fees on advances, net includes basis adjustment amortization.

2
Prepayment fees on investments, net includes basis adjustment amortization and premium and/or discount amortization.

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The following table summarizes the reconciliation between GAAP net income before assessments and adjusted net income (dollars in millions):
 
For the Three Months Ended
 
For the Nine Months Ended
 
September 30,
 
September 30,
 
2018
 
2017
 
2018
 
2017
GAAP net income before assessments
$
127

 
$
147

 
$
402

 
$
448

Exclude:
 
 
 
 
 
 
 
Prepayment fees on advances, net1
1

 
—

 
7

 
1

Prepayment fees on investments, net2
1

 
—

 
9

 
—

Mandatorily redeemable capital stock interest expense
(6
)
 
(4
)
 
(15
)
 
(13
)
Net gains (losses) on trading securities
(9
)
 
1

 
(33
)
 
10

Net gains (losses) on derivatives and hedging activities
9

 
(2
)
 
43

 
1

Gains on litigation settlements, net
—

 
—

 
—

 
21

Include:
 
 
 
 
 
 
 
Net interest expense on economic hedges
(1
)
 
(3
)
 
(4
)
 
(10
)
Adjusted net income before assessments
130

 
149

 
387

 
418

Adjusted AHP assessments3
14

 
15

 
39

 
42

Adjusted net income
$
116

 
$
134

 
$
348

 
$
376


1
Prepayment fees on advances, net includes basis adjustment amortization and premium and/or discount amortization.

2
Prepayment fees on investments, net includes basis adjustment amortization and premium and/or discount amortization.

3
Adjusted AHP assessments for this non-GAAP measure are calculated as 10 percent of adjusted net income before assessments. For additional discussion on AHP assessments, refer to “Item 8. Financial Statements and Supplementary Data — Note 14 — Affordable Housing Program” in our 2017 10-K.

For additional discussion on items impacting our GAAP earnings, refer to “Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations — Results of Operations.”

CONDITIONS IN THE FINANCIAL MARKETS

Economy and Financial Markets

Economic and market data received since the Federal Open Market Committee (FOMC or Committee) meeting in August of 2018 indicates that the labor market has continued to strengthen and that economic activity has been rising at a strong rate. Job gains have been strong, on average, in recent months, and the unemployment rate has stayed low. Household spending and business fixed investment have grown strongly. On a 12-month basis, overall inflation and measures excluding food and energy prices remain near the FOMC’s target of two percent. Indicators of longer-term inflation expectations are little changed since the last FOMC meeting.

In its September 26, 2018 statement, the FOMC stated it continues to seek to foster maximum employment and price stability. The Committee expects that further gradual increases in the target range for the Federal funds rate will be consistent with the sustained expansion of economic activity, strong labor market conditions, and inflation near the Committee’s symmetric two percent objective over the medium term. The Committee stated that near-term risks to the economic outlook appear roughly balanced.

Mortgage Markets

The housing market showed some leveling off in sales and prices during the third quarter of 2018, as limited wage increases have started to impact demand. Inventories remain limited, and demand remains relatively strong.

Mortgage rates increased slightly during the third quarter, and were higher than rates observed in the prior year. The increase in rates has resulted in the housing market becoming increasingly driven by purchase activity versus refinance activity. The increase in mortgage rates has had a limited impact on demand for home purchases during the third quarter as inventories remain limited. However, as prices increase and rates rise further, along with the seasonality of sales, the pace of purchases may slow.


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Table of Contents

Interest Rates

The following table shows information on key market interest rates1:
 
Third Quarter 2018
3-Month Average
 
Third Quarter 2017
3-Month Average
 
Third Quarter 2018
9-Month Average
 
Third Quarter 2017
9-Month Average
 
September 30, 2018
Ending Rate
 
December 31, 2017
Ending Rate
Federal funds
1.92
%
 
1.16
%
 
1.70
%
 
0.94
%
 
2.18
%
 
1.33
%
Three-month LIBOR
2.34

 
1.32

 
2.21

 
1.20

 
2.40

 
1.69

2-year U.S. Treasury
2.66

 
1.36

 
2.43

 
1.29

 
2.82

 
1.89

10-year U.S. Treasury
2.92

 
2.24

 
2.87

 
2.31

 
3.06

 
2.41

30-year residential mortgage note
4.56

 
3.89

 
4.46

 
4.02

 
4.72

 
3.99


1
Source is Bloomberg.

In its September 2018 meeting, the FOMC decided to raise the Federal Reserve’s key target interest rate, the Federal funds rate, to a range of 2.00 to 2.25 percent compared to a range of 1.00 to 1.25 percent for the same period in 2017. In determining the timing and size of future adjustments to the target range for the Federal funds rate, the FOMC stated that it will assess realized and expected economic conditions relative to its maximum employment and a two percent inflation rate. The assessment will take into account a wide range of information, including measures of labor market conditions, indicators of inflation pressures, inflation expectations, and financial and international developments.

The 10-year U.S. Treasury yields and mortgage rates were higher on average in the third quarter of 2018 when compared to the same period in prior year. Interest rates increased as the FOMC raised their target rate during 2018, and economic data remained strong.

Funding Spreads

The following table reflects our funding spreads to LIBOR (basis points)1:
 
Third Quarter 2018
3-Month
Average
 
Third Quarter 2017
3-Month
Average
 
Third Quarter 2018
9-Month
Average
 
Third Quarter 2017
9-Month
Average
 
September 30, 2018
Ending Spread
 
December 31, 2017
Ending Spread
3-month
(25.5
)
 
(24.6
)
 
(34.5
)
 
(30.6
)
 
(18.6
)
 
(28.9
)
2-year
(12.2
)
 
(15.5
)
 
(14.7
)
 
(16.9
)
 
(11.1
)
 
(10.9
)
5-year
(1.5
)
 
0.6

 
(1.5
)
 
2.2

 
(0.2
)
 
4.1

10-year
29.5

 
39.1

 
29.5

 
46.1

 
30.5

 
37.9


1
Source is the Office of Finance.

As a result of our credit quality and GSE status, we generally have ready access to funding at relatively competitive interest rates. During the third quarter of 2018, our funding spreads were mixed relative to LIBOR. Short-term spreads deteriorated when compared to spreads at December 31, 2017 as LIBOR has increased more slowly than our funding spreads year-to-date, while long-term spreads improved when compared to December 31, 2017 as longer-term swap spreads have widened year-to-date. During the first nine months of 2018, we utilized fixed term and floating rate, callable, and step-up consolidated obligation bonds in addition to consolidated obligation discount notes to capture attractive funding, match the repricing structures on floating rate assets, and meet liquidity requirements.

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SELECTED FINANCIAL DATA

The following tables present selected financial data for the periods indicated (dollars in millions):
Statements of Condition
September 30,
2018
 
June 30,
2018
 
March 31,
2018
 
December 31,
2017
 
September 30,
2017
Cash and due from banks
$
155

 
$
201

 
$
194

 
$
503

 
$
218

Investments1
35,139

 
33,019

 
33,370

 
34,452

 
39,341

Advances
100,787

 
109,963

 
108,253

 
102,613

 
117,514

Mortgage loans held for portfolio, net2
7,549

 
7,310

 
7,112

 
7,096

 
7,031

Total assets
144,095

 
150,981

 
149,347

 
145,099

 
164,545

Consolidated obligations
 
 
 
 
 
 
 
 
 
Discount notes
42,101

 
43,122

 
33,930

 
36,682

 
52,976

Bonds
92,998

 
98,468

 
106,204

 
98,893

 
102,294

Total consolidated obligations3
135,099

 
141,590

 
140,134

 
135,575

 
155,270

Mandatorily redeemable capital stock
277

 
373

 
356

 
385

 
422

Total liabilities
136,790

 
143,442

 
141,912

 
138,078

 
157,047

Capital stock — Class B putable
5,163

 
5,420

 
5,372

 
5,068

 
5,624

Retained earnings
2,019

 
1,977

 
1,904

 
1,839

 
1,774

Accumulated other comprehensive income (loss)
123

 
142

 
159

 
114

 
100

Total capital
7,305

 
7,539

 
7,435

 
7,021

 
7,498

Regulatory capital ratio4
5.18

 
5.15

 
5.11

 
5.03

 
4.75

 
For the Three Months Ended
Statements of Income
September 30,
2018
 
June 30,
2018
 
March 31,
2018
 
December 31,
2017
 
September 30,
2017
Net interest income
$
156

 
$
167

 
$
157

 
$
153

 
$
174

Provision (reversal) for credit losses on mortgage loans
—

 
—

 
—

 
(1
)
 
1

Other income (loss)5
7

 
8

 
8

 
7

 
4

Other expense6
36

 
32

 
33

 
31

 
30

AHP assessments
14

 
14

 
14

 
14

 
15

Net income
113

 
129

 
118

 
116

 
132

Selected Financial Ratios7
 
 
 
 
 
 
 
 
 
Net interest spread8
0.31
%
 
0.34
%
 
0.35
%
 
0.33
%
 
0.35
%
Net interest margin9
0.42

 
0.44

 
0.42

 
0.40

 
0.40

Return on average equity
6.16

 
6.83

 
6.56

 
6.43

 
6.96

Return on average capital stock
8.69

 
9.46

 
9.05

 
8.77

 
9.19

Return on average assets
0.31

 
0.34

 
0.32

 
0.30

 
0.31

Average equity to average assets
4.98

 
4.98

 
4.85

 
4.69

 
4.42

Dividend payout ratio10
62.85

 
43.25

 
44.86

 
43.80

 
32.26


1
Investments include interest-bearing deposits, securities purchased under agreements to resell, Federal funds sold, trading securities, available-for-sale (AFS) securities, and held-to-maturity (HTM) securities.

2
Includes an allowance for credit losses of $1 million at September 30, 2018 and June 30, 2018 and $2 million at March 31, 2018, December 31, 2017, and September 30, 2017.

3
The total par value of outstanding consolidated obligations of the 11 FHLBanks was $1,019.1 billion, $1,059.9 billion, $1,019.2 billion, $1,034.2 billion, and $1,028.7 billion at September 30, 2018, June 30, 2018, March 31, 2018, December 31, 2017, and September 30, 2017, respectively.

4
Represents period-end regulatory capital expressed as a percentage of period-end total assets. Regulatory capital includes Class B capital stock (including mandatorily redeemable capital stock), and retained earnings.

5
Other income (loss) includes, among other things, net gains (losses) on investment securities and net gains (losses) on derivatives and hedging activities.

6
Other expense includes, among other things, compensation and benefits, professional fees, contractual services, and gains and losses on real estate owned (REO).

7
Amounts used to calculate selected financial ratios are based on numbers in actuals. Accordingly, recalculations using numbers in millions may not produce the same results.

8
Represents yield on total interest-earning assets minus cost of total interest-bearing liabilities.

9
Represents net interest income expressed as a percentage of average interest-earning assets.

10
Represents dividends declared and paid in the stated period expressed as a percentage of net income in the stated period. Amount excludes cash dividends paid on mandatorily redeemable capital stock. For financial reporting purposes, these dividends were recorded as interest expense in our Statements of Income.

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RESULTS OF OPERATIONS

Net Income

The following table presents comparative highlights of our net income for the three and nine months ended September 30, 2018 and 2017 (dollars in millions). See further discussion of these items in the sections that follow.
 
For the Three Months Ended
 
For the Nine Months Ended
 
September 30,
 
September 30,
 
2018
 
2017
 
$ Change
 
% Change
 
2018
 
2017
 
$ Change
 
% Change
Net interest income
$
156

 
$
174

 
$
(18
)
 
(10
)%
 
$
480

 
$
497

 
$
(17
)
 
(3
)%
Provision (reversal) for credit losses on mortgage loans
—

 
1

 
(1
)
 
(100
)
 
—

 
1

 
(1
)
 
(100
)
Other income (loss)
7

 
4

 
3

 
75

 
23

 
45

 
(22
)
 
(49
)
Other expense
36

 
30

 
6

 
20

 
101

 
93

 
8

 
9

AHP assessments
14

 
15

 
(1
)
 
(7
)
 
42

 
46

 
(4
)
 
(9
)
Net income
$
113

 
$
132

 
$
(19
)
 
(14
)%
 
$
360

 
$
402

 
$
(42
)
 
(10
)%

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Table of Contents

Net Interest Income

Our net interest income is impacted by changes in average interest-earning asset and interest-bearing liability balances, and the related yields and costs. The following table presents average balances and rates of major asset and liability categories (dollars in millions):    
 
For the Three Months Ended September 30,
 
2018
 
2017
 
Average
Balance1
 
Yield/Cost
 
Interest
Income/
Expense
 
Average
Balance1
 
Yield/Cost
 
Interest
Income/
Expense
Interest-earning assets
 
 
 
 
 
 
 
 
 
 
 
Interest-bearing deposits
$
117

 
0.97
%
 
$
—

 
$
269

 
0.93
%
 
$
—

Securities purchased under agreements to resell
4,153

 
1.96

 
21

 
5,028

 
1.07

 
14

Federal funds sold
7,069

 
1.95

 
34

 
8,845

 
1.17

 
26

Mortgage-backed securities2,3
17,400

 
2.62

 
115

 
19,731

 
1.79

 
89

    Other investments2,3,4
6,167

 
2.99

 
46

 
8,268

 
1.98

 
41

Advances3
103,599

 
2.42

 
633

 
120,223

 
1.49

 
451

Mortgage loans5
7,431

 
3.39

 
64

 
6,995

 
3.33

 
59

Total interest-earning assets
145,936

 
2.48

 
913

 
169,359

 
1.59

 
680

Non-interest-earning assets
1,198

 
—

 
—

 
1,165

 
—

 
—

Total assets
$
147,134

 
2.46
%
 
$
913

 
$
170,524

 
1.58
%
 
$
680

Interest-bearing liabilities
 
 
 
 
 
 
 
 
 
 
 
Deposits
$
942

 
1.59
%
 
$
4

 
$
878

 
0.72
%
 
$
1

Consolidated obligations
 
 
 
 
 
 
 

 
 

 
 

Discount notes
41,855

 
2.01

 
212

 
62,267

 
1.04

 
163

Bonds3
95,413

 
2.23

 
535

 
98,255

 
1.37

 
338

Other interest-bearing liabilities6
355

 
6.62

 
6

 
450

 
3.38

 
4

Total interest-bearing liabilities
138,565

 
2.17

 
757

 
161,850

 
1.24

 
506

Non-interest-bearing liabilities
1,248

 
—

 
—

 
1,143

 
—

 
—

Total liabilities
139,813

 
2.15

 
757

 
162,993

 
1.23

 
506

Capital
7,321

 
—

 
—

 
7,531

 
—

 
—

Total liabilities and capital
$
147,134

 
2.04
%
 
$
757

 
$
170,524

 
1.18
%
 
$
506

Net interest income and spread7
 
 
0.31
%
 
$
156

 
 
 
0.35
%
 
$
174

Net interest margin8
 
 
0.42
%
 
 
 
 
 
0.40
%
 
 
Average interest-earning assets to interest-bearing liabilities
 
 
105.32
%
 
 
 
 
 
104.64
%
 
 

1
Average balances are calculated on a daily weighted average basis and do not reflect the effect of derivative master netting arrangements with counterparties and/or clearing agents.

2
The average balance of AFS securities is reflected at amortized cost; therefore the resulting yields do not give effect to changes in fair value.

3
Average balances reflect the impact of fair value hedging adjustments and/or fair value option adjustments.

4
Other investments primarily include U.S. obligations, government-sponsored enterprise (GSE) obligations and Tennessee Valley Authority obligations, state or local housing agency obligations, taxable municipal bonds, and Private Export Funding Corporation (PEFCO) bonds.

5
Non-accrual loans are included in the average balance used to determine the average yield.

6
Other interest-bearing liabilities consists primarily of mandatorily redeemable capital stock.

7
Represents yield on total interest-earning assets minus yield on total interest-bearing liabilities.

8
Represents net interest income expressed as a percentage of average interest-earning assets.









    

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Table of Contents

The following table presents average balances and rates of major asset and liability categories (dollars in millions):
 
For the Nine Months Ended September 30,
 
2018
 
2017
 
Average
Balance1
 
Yield/Cost
 
Interest
Income/
Expense
 
Average
Balance1
 
Yield/Cost
 
Interest
Income/
Expense
Interest-earning assets
 
 
 
 
 
 
 
 
 
 
 
Interest-bearing deposits
$
133

 
0.95
%
 
$
1

 
$
258

 
0.74
%
 
$
1

Securities purchased under agreements to resell
3,807

 
1.72

 
49

 
4,864

 
0.82

 
30

Federal funds sold
6,171

 
1.73

 
79

 
7,295

 
0.97

 
53

Mortgage-backed securities2,3
17,481

 
2.43

 
317

 
20,300

 
1.60

 
243

    Other investments2,3,4
6,447

 
2.79

 
135

 
8,846

 
1.79

 
118

Advances3
107,349

 
2.19

 
1,761

 
123,094

 
1.27

 
1,165

Mortgage loans5
7,245

 
3.41

 
185

 
6,930

 
3.40

 
176

     Loans to other FHLBanks
6

 
1.60

 
—

 
1

 
0.55

 
—

Total interest-earning assets
148,639

 
2.27

 
2,527

 
171,588

 
1.39

 
1,786

Non-interest-earning assets
1,197

 
—

 
—

 
1,117

 
—

 
—

Total assets
$
149,836

 
2.26
%
 
$
2,527

 
$
172,705

 
1.38
%
 
$
1,786

Interest-bearing liabilities
 
 
 
 
 
 
 
 
 
 
 
Deposits
$
940

 
1.34
%
 
$
9

 
$
914

 
0.49
%
 
$
3

Consolidated obligations
 
 
 
 
 
 
 

 
 

 
 

Discount notes
38,585

 
1.75

 
506

 
68,151

 
0.78

 
396

Bonds3
101,385

 
2.00

 
1,517

 
94,504

 
1.24

 
877

Other interest-bearing liabilities6
366

 
5.42

 
15

 
494

 
3.39

 
13

Total interest-bearing liabilities
141,276

 
1.94

 
2,047

 
164,063

 
1.05

 
1,289

Non-interest-bearing liabilities
1,168

 
—

 
—

 
1,171

 
—

 
—

Total liabilities
142,444

 
1.92

 
2,047

 
165,234

 
1.04

 
1,289

Capital
7,392

 
—

 
—

 
7,471

 
—

 
—

Total liabilities and capital
$
149,836

 
1.83
%
 
$
2,047

 
$
172,705

 
1.00
%
 
$
1,289

Net interest income and spread7
 
 
0.33
%
 
$
480

 
 
 
0.34
%
 
$
497

Net interest margin8
 
 
0.43
%
 
 
 
 
 
0.38
%
 
 
Average interest-earning assets to interest-bearing liabilities
 
 
105.21
%
 
 
 
 
 
104.59
%
 
 

1
Average balances are calculated on a daily weighted average basis and do not reflect the effect of derivative master netting arrangements with counterparties and/or clearing agents.

2
The average balance of AFS securities is reflected at amortized cost; therefore the resulting yields do not give effect to changes in fair value.

3
Average balances reflect the impact of fair value hedging adjustments and/or fair value option adjustments.

4
Other investments primarily include U.S. obligations, GSE obligations and Tennessee Valley Authority obligations, state or local housing agency obligations, taxable municipal bonds, and PEFCO bonds.

5
Non-accrual loans are included in the average balance used to determine the average yield.

6
Other interest-bearing liabilities consists primarily of mandatorily redeemable capital stock.

7
Represents yield on total interest-earning assets minus yield on total interest-bearing liabilities.

8
Represents net interest income expressed as a percentage of average interest-earning assets.


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Table of Contents

The following table presents changes in interest income and interest expense. Changes in interest income and interest expense that are not identifiable as either volume-related or rate-related, but rather equally attributable to both volume and rate changes, are allocated to the volume and rate categories based on the proportion of the absolute value of the volume and rate changes (dollars in millions).
 
Three Months Ended
 
Nine Months Ended
 
September 30, 2018 vs. September 30, 2017
 
September 30, 2018 vs. September 30, 2017
 
Total Increase
(Decrease) Due to
 
Total Increase
(Decrease)
 
Total Increase
(Decrease) Due to
 
Total Increase
(Decrease)
 
Volume
 
Rate
 
 
Volume
 
Rate
 
Interest income
 
 
 
 
 
 
 
 
 
 
 
Interest-bearing deposits
$
—

 
$
—

 
$
—

 
$
(1
)
 
$
1

 
$
—

Securities purchased under agreements to resell
(3
)
 
10

 
7

 
(8
)
 
27

 
19

Federal funds sold
(6
)
 
14

 
8

 
(9
)
 
35

 
26

Mortgage-backed securities
(11
)
 
37

 
26

 
(37
)
 
111

 
74

Other investments
(13
)
 
18

 
5

 
(37
)
 
54

 
17

Advances
(69
)
 
251

 
182

 
(165
)
 
761

 
596

Mortgage loans
4

 
1

 
5

 
8

 
1

 
9

Total interest income
(98
)
 
331

 
233

 
(249
)
 
990

 
741

Interest expense
 
 
 
 
 
 
 
 
 
 
 
Deposits
—

 
3

 
3

 
—

 
6

 
6

Consolidated obligations
 
 
 
 
 
 
 
 
 
 
 
Discount notes
(66
)
 
115

 
49

 
(227
)
 
337

 
110

Bonds
(10
)
 
207

 
197

 
68

 
572

 
640

Other interest-bearing liabilities
(1
)
 
3

 
2

 
(4
)
 
6

 
2

Total interest expense
(77
)
 
328

 
251

 
(163
)
 
921

 
758

Net interest income
$
(21
)
 
$
3

 
$
(18
)
 
$
(86
)
 
$
69

 
$
(17
)
    
NET INTEREST SPREAD

Net interest spread equals the yield on total interest-earning assets minus the cost of total interest-bearing liabilities. For the three and nine months ended September 30, 2018, our net interest spread was 0.31 percent and 0.33 percent compared to 0.35 percent and 0.34 percent during the same periods in 2017. Our net interest spread during the three and nine months ended September 30, 2018 was primarily impacted by a higher cost on total interest-bearing liabilities, partially offset by a higher yield on total interest-earning assets. The primary components of our interest income and interest expense are discussed below.

Advances

Interest income on advances increased during the three and nine months ended September 30, 2018 when compared to the same periods in 2017 due to the higher interest rate environment, partially offset by lower average advance balances.

Investments

Interest income on investments increased during the three and nine months ended September 30, 2018 when compared to the same periods in 2017 due primarily to the higher interest rate environment, partially offset by lower average investment balances.

Mortgage Loans

Interest income on mortgage loans increased during the three and nine months ended September 30, 2018 when compared to the same periods in 2017 due primarily to higher average mortgage loan balances.


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Table of Contents

Bonds

Interest expense on bonds increased during the three and nine months ended September 30, 2018 when compared to the same periods in 2017 due primarily to the higher interest rate environment.

Discount Notes

Interest expense on discount notes increased during the three and nine months ended September 30, 2018 when compared to the same periods in 2017 primarily due to the higher interest rate environment, partially offset by a decrease in average discount note balances. While period end discount note balances increased from December 31, 2017, average discount note balances decreased, as our funding strategy during the nine months ended September 30, 2017 utilized discount notes to a greater extent to fund our assets. At the end of 2017, we reduced our reliance on discount notes and issued more short term bonds to manage the difference between our asset and liability maturities and better match the change in our advance product mix.

For additional information on how we manage the difference between our asset and liability maturities, refer to “Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations — Liquidity and Capital Resources — Liquidity — Sources of Liquidity.”

Other Income (Loss)

The following table summarizes the components of other income (loss) (dollars in millions):
 
For the Three Months Ended
 
For the Nine Months Ended
 
September 30,
 
September 30,
 
2018
 
2017
 
2018
 
2017
Net gains (losses) on trading securities
$
(9
)
 
$
1

 
$
(33
)
 
$
10

Net gains (losses) on derivatives and hedging activities
9

 
(2
)
 
43

 
1

Gains on litigation settlements, net
—

 
—

 
—

 
21

Other, net
7

 
5

 
13

 
13

Total other income (loss)
$
7

 
$
4

 
$
23

 
$
45

    
Other income (loss) can be volatile from period to period depending on the type of activity recorded. We recorded net gains of $7 million and $23 million during the three and nine months ended September 30, 2018 compared to net gains of $4 million and $45 million during the same periods in 2017. Other income (loss) was impacted by net gains on litigation settlements of $21 million during the nine months ended September 30, 2017 as a result of settlements with certain defendants in our private-label MBS litigation. We did not record any litigation settlements during the three or nine months ended September 30, 2018 or the three months ended September 30, 2017. Other factors impacting other income (loss) included net gains (losses) on derivatives and hedging activities and net gains (losses) on trading securities as described below.

During the three and nine months ended September 30, 2018, we recorded net gains of $9 million and $43 million on our derivatives and hedging activities through other income (loss) compared to net losses of $2 million and net gains of $1 million during the same periods in 2017. The fair value changes were primarily driven by changes in interest rates. These changes impacted our fair value hedge relationships and fair value changes on interest rate swaps used to economically hedge our investment securities portfolio. Accounting rules require all derivatives to be recorded at fair value and therefore we may be subject to income statement volatility. Refer to “Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations — Results of Operations — Hedging Activities” for additional discussion on our derivatives and hedging activities, including the net impact of economic hedge relationships.

During the three and nine months ended September 30, 2018, we recorded net losses on trading securities of $9 million and $33 million compared to net gains of $1 million and $10 million during the same periods in 2017. These changes in fair value were primarily due to the impact of interest rates and credit spreads on our fixed rate trading securities. Trading securities are recorded at fair value with changes in fair value reflected through other income (loss).



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Table of Contents

Hedging Activities

We use derivatives to manage interest rate risk. Accounting rules affect the timing and recognition of income and expense on derivatives and therefore we may be subject to income statement volatility.

If a hedging activity qualifies for hedge accounting treatment (fair value hedge), we include the periodic cash flow components of the derivative related to interest income or expense in the relevant income statement caption consistent with the hedged asset or liability. We also record the amortization of fair value hedging adjustments from terminated hedges and the amortization of the financing element of our off market derivatives in interest income or expense or other income (loss). Changes in the fair value of both the derivative and the hedged item are recorded as a component of other income (loss) in “Net gains (losses) on derivatives and hedging activities.”

If a hedging activity does not qualify for hedge accounting treatment (economic hedge), we record the derivative’s components of interest income and expense, together with the effect of changes in fair value as a component of other income (loss) in “Net gains (losses) on derivatives and hedging activities”; however, there is no fair value adjustment for the corresponding asset or liability being hedged unless changes in the fair value of the asset or liability are normally marked to fair value through earnings (i.e., trading securities and fair value option instruments).

The following table categorizes the net effect of hedging activities on net income by product (dollars in millions):
 
 
For the Three Months Ended September 30, 2018
Net Effect of
Hedging Activities
 
Advances
 
Investments
 
Mortgage
Loans
 
Bonds
 
Other
 
Total
Net interest income:
 
 
 
 
 
 
 
 
 
 
 
 
Net amortization/accretion1
 
$
2

 
$
4

 
$
—

 
$
(2
)
 
$
—

 
$
4

Net interest settlements
 
16

 
(4
)
 
—

 
(57
)
 
—

 
(45
)
Total impact to net interest income
 
18

 
—

 
—

 
(59
)
 
—

 
(41
)
Other income (loss):
 
 
 
 
 
 
 
 
 
 
 
 
Net gains (losses) on derivatives and hedging activities:
 
 
 
 
 
 
 
 
 
 
 
 
Net gains (losses) on fair value hedges
 
—

 
1

 
—

 
(1
)
 
—

 
—

Net gains (losses) on economic hedges
 
—

 
7

 
—

 
—

 
—

 
7

Price alignment amount on derivatives2
 
—

 
—

 
—

 
—

 
2

 
2

Total net gains (losses) on derivatives and hedging activities
 
—

 
8

 
—

 
(1
)
 
2

 
9

Net gains (losses) on trading securities3
 
—

 
(9
)
 
—

 
—

 
—

 
(9
)
Total impact to other income (loss)
 
—

 
(1
)
 
—

 
(1
)
 
2

 
—

Total net effect of hedging activities4
 
$
18

 
$
(1
)
 
$
—

 
$
(60
)
 
$
2

 
$
(41
)

1
Represents the amortization/accretion of fair value hedging adjustments on closed hedge relationships and the amortization of the financing element of off-market derivatives.

2
Includes the price alignment amount on derivatives for which variation margin is characterized as a daily settled contract.

3
Represents the net gains (losses) on those trading securities in which we have entered into a corresponding economic derivative to hedge the risk of changes in fair value. As a result, this line item may not agree to the Statements of Income.

4
The hedging activity tables do not include the interest component on the related hedged items or the gross prepayment fee income on terminated advance or investment hedge relationships.


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The following table categorizes the net effect of hedging activities on net income by product (dollars in millions):
 
 
For the Three Months Ended September 30, 2017
Net Effect of
Hedging Activities
 
Advances
 
Investments
 
Bonds
 
Other
 
Total
Net interest income:
 
 
 
 
 
 
 
 
 
 
Net amortization/accretion1
 
$
3

 
$
2

 
$
(3
)
 
$
—

 
$
2

Net interest settlements
 
(19
)
 
(23
)
 
(4
)
 
—

 
(46
)
Total impact to net interest income
 
(16
)
 
(21
)
 
(7
)
 
—

 
(44
)
Other income (loss):
 
 
 
 
 
 
 
 
 
 
Net gains (losses) on derivatives and hedging activities:
 
 
 
 
 
 
 
 
 
 
Net gains (losses) on fair value hedges
 
1

 
(4
)
 
2

 
—

 
(1
)
Net gains (losses) on economic hedges
 
—

 
(2
)
 
—

 
—

 
(2
)
Price alignment amount on derivatives2
 
—

 
—

 
—

 
1

 
1

Total net gains (losses) on derivatives and hedging activities
 
1

 
(6
)
 
2

 
1

 
(2
)
Net gains (losses) on trading securities3
 
—

 
2

 
—

 
—

 
2

Total impact to other income (loss)
 
1

 
(4
)
 
2

 
1

 
—

Total net effect of hedging activities4
 
$
(15
)
 
$
(25
)
 
$
(5
)
 
$
1

 
$
(44
)

1
Represents the amortization/accretion of fair value hedging adjustments on closed hedge relationships and the amortization of the financing element of off-market derivatives.

2
Includes the price alignment amount on derivatives for which variation margin is characterized as a daily settled contract.

3
Represents the net gains (losses) on those trading securities in which we have entered into a corresponding economic derivative to hedge the risk of changes in fair value. As a result, this line item may not agree to the Statements of Income.

4
The hedging activity tables do not include the interest component on the related hedged items or the gross prepayment fee income on terminated advance or investment hedge relationships.


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The following tables categorize the net effect of hedging activities on net income by product (dollars in millions):
 
 
For the Nine Months Ended September 30, 2018
Net Effect of
Hedging Activities
 
Advances
 
Investments
 
Mortgage
Loans
 
Bonds
 
Other
 
Total
Net interest income:
 
 
 
 
 
 
 
 
 
 
 
 
Net amortization/accretion1
 
$
9

 
$
10

 
$
(1
)
 
$
(7
)
 
$
—

 
$
11

Net interest settlements
 
28

 
(27
)
 
—

 
(147
)
 
—

 
(146
)
Total impact to net interest income
 
37

 
(17
)
 
(1
)
 
(154
)
 
—

 
(135
)
Other income (loss):
 
 
 
 
 
 
 
 
 
 
 
 
Net gains (losses) on derivatives and hedging activities:
 
 
 
 
 
 
 
 
 
 
 
 
Gains (losses) on fair value hedges
 
2

 
5

 
—

 
—

 
—

 
7

Gains (losses) on economic hedges
 
—

 
32

 
1

 
—

 
—

 
33

Price alignment amount on derivatives2
 
—

 
—

 
—

 
—

 
3

 
3

Total net gains (losses) on derivatives and hedging activities
 
2

 
37

 
1

 
—

 
3

 
43

Net gains (losses) on trading securities3
 
—

 
(33
)
 
—

 
—

 
—

 
(33
)
Total impact to other income (loss)
 
2

 
4

 
1

 
—

 
3

 
10

Total net effect of hedging activities4
 
$
39

 
$
(13
)
 
$
—

 
$
(154
)
 
$
3

 
$
(125
)

 
 
For the Nine Months Ended September 30, 2017
Net Effect of
Hedging Activities
 
Advances
 
Investments
 
Mortgage
Loans
 
Bonds
 
Other
 
Total
Net interest income:
 
 
 
 
 
 
 
 
 
 
 
 
Net amortization/accretion1
 
$
13

 
$
5

 
$
(1
)
 
$
(5
)
 
$
—

 
$
12

Net interest settlements
 
(75
)
 
(79
)
 
—

 
27

 
—

 
(127
)
Total impact to net interest income
 
(62
)
 
(74
)
 
(1
)
 
22

 
—

 
(115
)
Other income (loss):
 
 
 
 
 
 
 
 
 
 
 
 
Net gains (losses) on derivatives and hedging activities:
 
 
 
 
 
 
 
 
 
 
 
 
Gains (losses) on fair value hedges
 
3

 
10

 
—

 
(4
)
 
—

 
9

Gains (losses) on economic hedges
 
—

 
(10
)
 
—

 
—

 
—

 
(10
)
Price alignment amount on derivatives2
 
—

 
—

 
—

 
—

 
2

 
2

Total net gains (losses) on derivatives and hedging activities
 
3

 
—

 
—

 
(4
)
 
2

 
1

Net gains (losses) on trading securities3
 
—

 
12

 
—

 
—

 
—

 
12

Total impact to other income (loss)
 
3

 
12

 
—

 
(4
)
 
2

 
13

Total net effect of hedging activities4
 
$
(59
)
 
$
(62
)
 
$
(1
)
 
$
18

 
$
2

 
$
(102
)

1
Represents the amortization/accretion of fair value hedging adjustments on closed hedge relationships and the amortization of the financing element of off-market derivatives.

2
Includes the price alignment amount on derivatives for which variation margin is characterized as a daily settled contract.

3
Represents the net gains (losses) on those trading securities in which we have entered into a corresponding economic derivative to hedge the risk of changes in fair value. As a result, this line item may not agree to the Statements of Income.

4
The hedging activity tables do not include the interest component on the related hedged items or the gross prepayment fee income on terminated advance or investment hedge relationships.

NET AMORTIZATION/ACCRETION

Amortization/accretion varies from period to period depending on our hedge relationship termination activities and the maturity, call, or prepayment of assets or liabilities previously in hedge relationships. In addition, amortization is impacted by the financing element of our off market derivatives.


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NET INTEREST SETTLEMENTS

Net interest settlements represent the interest component on derivatives that qualify for fair value hedge accounting. These amounts vary from period to period depending on our hedging activities and interest rates and are partially offset by the interest component on the related hedged item within net interest income. The hedging activity tables do not include the impact of the interest component on the related hedged item.

NET GAINS (LOSSES) ON FAIR VALUE HEDGES

Gains (losses) on fair value hedges are driven by hedge ineffectiveness. Hedge ineffectiveness occurs when changes in the fair value of the derivative and the related hedged item do not perfectly offset each other. The factors that affect hedge ineffectiveness include changes in the benchmark interest rate, volatility, and the divergence in the valuation curves used to value our assets, liabilities, and derivatives.

NET GAINS (LOSSES) ON ECONOMIC HEDGES

We utilize economic derivatives to manage certain risks in our Statements of Condition. Gains and losses on economic derivatives are driven primarily by changes in interest rates and volatility and include interest settlements. Interest settlements represent the interest component on economic derivatives. These amounts vary from period to period depending on our hedging activities and interest rates. The following discussion highlights key items impacting gains and losses on economic investment derivatives.

Investments
 
We utilize interest rate swaps to economically hedge a portion of our trading securities against changes in fair value. Gains and losses on these economic derivatives are due primarily to changes in interest rates. Gains and losses on our trading securities are also due primarily to changes in interest rates and credit spreads.

The following table summarizes gains and losses on these economic derivatives as well as the related trading securities (dollars in millions):
 
For the Three Months Ended
 
For the Nine Months Ended
 
September 30,
 
September 30,
 
2018
 
2017
 
2018
 
2017
Gains (losses) on interest rate swaps economically hedging our investments
$
8

 
$
1

 
$
36

 
$
—

Interest settlements
(1
)
 
(3
)
 
(4
)
 
(10
)
Net gains (losses) on investment derivatives
7

 
(2
)
 
32

 
(10
)
Net gains (losses) on related trading securities
(9
)
 
2

 
(33
)
 
12

Net gains (losses) on economic investment hedge relationships
$
(2
)
 
$
—

 
$
(1
)
 
$
2



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Other Expense
The following table shows the components of other expense (dollars in millions):
 
For the Three Months Ended September 30,
 
For the Nine Months Ended September 30,
 
2018
 
2017
 
2018
 
2017
Compensation and benefits
$
15

 
$
12

 
$
46

 
$
39

Contractual services
3

 
2

 
9

 
8

Professional fees
6

 
5

 
13

 
15

Other operating expenses
6

 
6

 
17

 
16

Total operating expenses
30

 
25

 
85

 
78

Federal Housing Finance Agency
2

 
3

 
7

 
8

Office of Finance
2

 
1

 
5

 
5

Other, net
2

 
1

 
4

 
2

Total other expense
$
36

 
$
30

 
$
101

 
$
93


Other expense increased for the three and nine months ended September 30, 2018 compared to the same periods last year. The increase in other expense was driven primarily by an increase in compensation and benefits.


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STATEMENTS OF CONDITION

Financial Highlights

Our total assets decreased to $144.1 billion at September 30, 2018 from $145.1 billion at December 31, 2017. Our total liabilities decreased to $136.8 billion at September 30, 2018 from $138.1 billion at December 31, 2017. Total capital increased to $7.3 billion at September 30, 2018 from $7.0 billion at December 31, 2017. See further discussion of changes in our financial condition in the appropriate sections that follow.

Cash and Due from Banks

At September 30, 2018, our total cash balance was $155 million compared to $503 million at December 31, 2017. Our cash balance is influenced by our liquidity needs, member advance activity, market conditions, and the availability of attractive investment opportunities.

Advances

The following table summarizes our advances by type of institution (dollars in millions):
 
September 30,
2018
 
December 31,
2017
Commercial banks
$
69,684

 
$
68,299

Savings institutions
1,423

 
2,323

Credit unions
5,145

 
4,043

Non-captive insurance companies
19,091

 
19,831

Captive insurance companies
4,765

 
7,634

Community development financial institutions
6

 
3

Total member advances
100,114

 
102,133

Housing associates
107

 
23

Non-member borrowers
811

 
522

Total par value
$
101,032

 
$
102,678


Our total advance par value decreased $1.6 billion or two percent at September 30, 2018 when compared to December 31, 2017. The decrease in total par value was primarily due to a decrease in borrowings by a captive insurance company member and a large depository institution member, partially offset by an increase in borrowings by other institution types.

As a result of the final rule on membership issued by the Federal Housing Finance Agency (Finance Agency) effective February 19, 2016, the eligibility requirements for FHLBank members were changed rendering captive insurance company members ineligible for FHLBank membership. In accordance with the final rule, captive insurance company members that were admitted as members after September 12, 2014 (the date the Finance Agency proposed this rule) had their memberships terminated on February 17, 2017. Captive insurance company members that were admitted as members prior to September 12, 2014 will also have their memberships terminated no later than February 19, 2021. The magnitude of the impact of the final rule at that date will depend, in part, on our size and profitability at the time of membership termination or maturity of the related advances. As of September 30, 2018, we had six captive insurance company members with total advances outstanding of $4.8 billion, which represented five percent of our total advances outstanding. One captive insurance company member was included in our five largest member borrowers at September 30, 2018 within this “Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations — Statements of Condition — Advances.”


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Table of Contents

The following table summarizes our advances by product type (dollars in millions):
 
September 30, 2018
 
December 31, 2017
 
Amount
 
% of Total
 
Amount
 
% of Total
Variable rate
$
62,779

 
62
 
$
65,711

 
64
Fixed rate
36,529

 
36
 
35,308

 
34
Amortizing
1,724

 
2
 
1,659

 
2
Total par value
101,032

 
100
 
102,678

 
100
Premiums
41

 
 
 
53

 
 
Discounts
(9
)
 
 
 
(12
)
 
 
Fair value hedging adjustments
(277
)
 
 
 
(106
)
 
 
Total advances
$
100,787

 
 
 
$
102,613

 
 

Fair value hedging adjustments changed $171 million at September 30, 2018 when compared to December 31, 2017 due to the impact of interest rates on our cumulative fair value adjustments on advances in hedge relationships.

At September 30, 2018 and December 31, 2017, 35 percent and 26 percent of our advances were variable rate callable advances. Callable advances may be prepaid by borrowers on pertinent dates (call dates) and therefore provide borrowers a source of long-term financing with prepayment flexibility. Interest rates on our variable rate callable advances reset at each call date to be consistent with either the underlying LIBOR index or our current offering rate of our underlying cost of funds. In addition, we retain the flexibility to adjust the spread relative to our cost of funds on one of our variable rate advance products, which represents 25 percent of our advance portfolio, on each reset date. We generally fund our variable rate callable advances with either discount notes, LIBOR indexed debt, or debt swapped to a LIBOR index. For additional discussion on our funding strategies, refer to “Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations — Liquidity and Capital Resources — Liquidity — Sources of Liquidity.”

At September 30, 2018 and December 31, 2017, advances outstanding to our five largest member borrowers totaled $58.9 billion and $60.4 billion, representing 58 and 59 percent of our total advances outstanding. The following table summarizes advances outstanding to our five largest member borrowers at September 30, 2018 (dollars in millions):
 
Amount
 
% of Total
Wells Fargo Bank, N.A.
$
45,850

 
45
Truman Insurance Company1
3,588

 
4
Principal Life Insurance Company
3,500

 
3
Transamerica Life Insurance Company2
3,085

 
3
Zions Bancorporation, National Association
2,900

 
3
Total par value
$
58,923

 
58

1
Represents a captive insurance company whose membership will terminate within five years of the Finance Agency’s final rule on membership that became effective February 19, 2016.    

2
Excludes $1.4 billion of advances with Transamerica Premier Life Insurance Company, an affiliate of Transamerica Life Insurance Company.

We manage our credit exposure to advances through an approach that provides for an established credit limit for each borrower, ongoing reviews of each borrower’s financial condition, and detailed collateral and lending policies to limit risk of loss while balancing borrowers’ needs for a reliable source of funding. In addition, we lend to our borrowers in accordance with the Federal Home Loan Bank Act of 1932 (FHLBank Act), Finance Agency regulations, and other applicable laws and regulations.

The FHLBank Act requires that we obtain sufficient collateral on advances to protect against losses. We have never experienced a credit loss on an advance to a member or eligible housing associate. Based upon our collateral and lending policies, the collateral held as security, and the repayment history on advances, management has determined that there were no probable credit losses on our advances as of September 30, 2018 and December 31, 2017. Accordingly, we have not recorded any allowance for credit losses on our advances. See additional discussion regarding our collateral requirements in “Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations — Risk Management — Credit Risk — Advances.”


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Table of Contents

Mortgage Loans

The following tables summarize information on our mortgage loans held for portfolio (dollars in millions):
 
September 30, 2018
 
December 31, 2017
Fixed rate conventional loans
$
6,942

 
$
6,472

Fixed rate government-insured loans
509

 
529

Total unpaid principal balance
7,451

 
7,001

Premiums
102

 
98

Discounts
(5
)
 
(6
)
Basis adjustments from mortgage loan commitments
2

 
5

Total mortgage loans held for portfolio
7,550

 
7,098

Allowance for credit losses
(1
)
 
(2
)
Total mortgage loans held for portfolio, net
$
7,549

 
$
7,096


Our total mortgage loans increased $0.5 billion or six percent at September 30, 2018 when compared to December 31, 2017 due to loan purchases exceeding principal paydowns. For additional discussion on our mortgage loan credit risk, refer to “Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations — Risk Management — Credit Risk — Mortgage Assets.”


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Investments

The following table summarizes the carrying value of our investments (dollars in millions):
 
September 30, 2018
 
December 31, 2017
 
Amount
 
% of Total
 
Amount
 
% of Total
Short-term investments1
 
 
 
 
 
 
 
Interest-bearing deposits
$
1

 
—
 
$
1

 
—
Securities purchased under agreements to resell
5,100

 
15
 
4,600

 
13
Federal funds sold
6,390

 
18
 
4,250

 
12
Total short-term investments
11,491

 
33
 
8,851

 
25
Long-term investments2
 
 
 
 
 
 
 
Mortgage-backed securities
 
 
 
 
 
 
 
GSE single-family
3,143

 
9
 
3,740

 
11
GSE multifamily
10,086

 
29
 
10,983

 
32
U.S. obligations single-family3
4,329

 
12
 
3,741

 
11
U.S. obligations commercial3
1

 
—
 
2

 
—
Private-label residential
11

 
—
 
12

 
—
Total mortgage-backed securities
17,570

 
50
 
18,478

 
54
Non-mortgage-backed securities
 
 
 
 
 
 
 
U.S. obligations3
2,840

 
8
 
3,296

 
10
GSE and Tennessee Valley Authority obligations
1,469

 
4
 
1,889

 
5
State or local housing agency obligations
1,238

 
3
 
1,388

 
4
Other
531

 
2
 
550

 
2
Total non-mortgage-backed securities
6,078

 
17
 
7,123

 
21
Total long-term investments
23,648

 
67
 
25,601

 
75
Total investments
$
35,139

 
100
 
$
34,452

 
100

1
Short-term investments have original maturities equal to or less than one year.

2
Long-term investments have original maturities of greater than one year.

3
Represents investment securities backed by the full faith and credit of the U.S. Government.

Our investments increased $0.7 billion or two percent at September 30, 2018 when compared to December 31, 2017 due primarily to an increase in money market investments needed to manage our liquidity position during the quarter, partially offset by maturities and paydowns of agency securities. At September 30, 2018, we had MBS purchases with a total par value of $118 million that had traded but not yet settled. These investments have been recorded as “available-for-sale” in our Statements of Condition with a corresponding liability recorded in “other liabilities”.

The Finance Agency limits our investments in MBS by requiring that the total book value of our MBS not exceed three times regulatory capital at the time of purchase. Our ratio of MBS to regulatory capital was 2.35 and 2.52 at September 30, 2018 and December 31, 2017.

We evaluate AFS and HTM securities in an unrealized loss position for other-than-temporary-impairment (OTTI) on at least a quarterly basis. As part of our OTTI evaluation, we consider our intent to sell each debt security and whether it is more likely than not that we will be required to sell the security before its anticipated recovery. If either of these conditions is met, we will recognize an OTTI charge to earnings equal to the entire difference between the security’s amortized cost basis and its fair value at the reporting date. For securities in an unrealized loss position that meet neither of these conditions, we perform analyses to determine if any of these securities are other-than-temporarily impaired. At September 30, 2018 and December 31, 2017 we did not consider any of these securities to be other-than-temporarily-impaired. Refer to “Item 1. Financial Statements — Note 6 — Other-Than-Temporary Impairment” for additional information on our OTTI analysis performed at September 30, 2018.

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Consolidated Obligations

Consolidated obligations, which include bonds and discount notes, are the primary source of funds to support our advances, mortgage loans, and investments. At September 30, 2018 and December 31, 2017, the carrying value of consolidated obligations for which we are primarily liable totaled $135.1 billion and $135.6 billion.

DISCOUNT NOTES

The following table summarizes our discount notes, all of which are due within one year (dollars in millions):
 
September 30,
2018
 
December 31,
2017
Par value
$
42,257

 
$
36,740

Discounts and concession fees1
(156
)
 
(58
)
Total
$
42,101

 
$
36,682


1
Concessions represent fees paid to dealers in connection with the issuance of certain consolidated obligation discount notes.
    
Our discount notes increased $5.4 billion or 15 percent at September 30, 2018 when compared to December 31, 2017. As a result of changes in our advance product mix and a change in our funding strategy in 2018, we increased our utilization of shorter-term discount notes.

BONDS

The following table summarizes information on our bonds (dollars in millions):
 
September 30,
2018
 
December 31,
2017
Total par value
$
93,451

 
$
99,184

Premiums
158

 
193

Discounts and concession fees1
(49
)
 
(60
)
Fair value hedging adjustments
(562
)
 
(424
)
Total bonds
$
92,998

 
$
98,893


1
Concessions represent fees paid to dealers in connection with the issuance of certain consolidated obligation bonds.

Our bonds decreased $5.9 billion or 6 percent at September 30, 2018 when compared to December 31, 2017. The decrease was primarily due to our increased use of discount notes in place of bonds in response to changes in our advance product mix and changes to our funding strategy. Fair value hedging adjustments changed $138 million at September 30, 2018 when compared to December 31, 2017 due to the impact of interest rates on our cumulative fair value adjustments on bonds in hedge relationships.
 
For additional information on our bonds, refer to “Item 7. Management’s Discussion and Analysis of Financial Condition
and Results of Operations — Liquidity and Capital Resources — Liquidity — Sources of Liquidity.”


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Mandatorily Redeemable Capital Stock

We reclassify capital stock subject to redemption from equity to a liability (mandatorily redeemable capital stock) at the time shares meet the definition of a mandatorily redeemable financial instrument. This occurs after a member provides written notice of redemption, gives notice of intention to withdraw from membership, becomes ineligible for continuing membership, or attains non-member status by merger or consolidation, charter termination, or other involuntary termination from membership.

Our total mandatorily redeemable capital stock balance decreased $108 million at September 30, 2018 when compared to December 31, 2017 due in part to the repurchase of $93 million in capital stock outstanding to a captive insurance company member during the third quarter. At September 30, 2018 and December 31, 2017, our mandatorily redeemable capital stock totaled $277 million and $385 million.

Capital

The following table summarizes information on our capital (dollars in millions):
 
September 30,
2018
 
December 31,
2017
Capital stock
$
5,163

 
$
5,068

Retained earnings
2,019

 
1,839

Accumulated other comprehensive income (loss)
123

 
114

Total capital
$
7,305

 
$
7,021


Our capital increased at September 30, 2018 when compared to December 31, 2017. The increase was primarily due to an increase in retained earnings due to net income, partially offset by dividends paid. In addition, capital stock increased resulting from an increase in activity-based stock due to member activity. Refer to “Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations — Liquidity and Capital Resources — Capital — Capital Stock” for additional information on our capital stock.

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Derivatives

We use derivatives to manage interest rate risk. The notional amount of derivatives serves as a factor in determining periodic interest payments and cash flows received and paid. However, the notional amount of derivatives represents neither the actual amounts exchanged nor our overall exposure to credit and market risk.

The following table categorizes the notional amount of our derivatives by type (dollars in millions):
 
September 30,
2018
 
December 31,
2017
Interest rate swaps
 
 
 
Noncallable
$
45,418

 
$
51,502

Callable by counterparty
1,560

 
1,853

Callable by the Bank
181

 
172

Total interest rate swaps
47,159

 
53,527

Forward settlement agreements (TBAs)
169

 
66

Mortgage delivery commitments
178

 
72

Total notional amount
$
47,506

 
$
53,665

    
The notional amount of our derivative contracts declined at September 30, 2018 when compared to December 31, 2017. During the third quarter of 2018, we further reduced our use of swapped consolidated obligation bonds in response to market conditions, and increased our utilization of discount notes and LIBOR indexed debt to capture attractive funding, match repricing structures on advances, and provide additional liquidity. For additional discussion regarding our use of derivatives, see “Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations — Risk Management — Credit Risk — Derivatives.”


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LIQUIDITY AND CAPITAL RESOURCES

Our liquidity and capital positions are actively managed in an effort to preserve stable, reliable, and cost-effective sources of funds to meet current and projected future operating financial commitments, as well as regulatory, liquidity, and capital requirements.

Liquidity

SOURCES OF LIQUIDITY

We utilize several sources of liquidity to carry out our business activities. These include, but are not limited to, proceeds from the issuance of consolidated obligations, payments collected on advances and mortgage loans, proceeds from investment securities, member deposits, the issuance of capital stock, and current period earnings.

Our primary source of liquidity is proceeds from the issuance of consolidated obligations (bonds and discount notes) in the capital markets. During the nine months ended September 30, 2018, proceeds from the issuance of bonds and discount notes were $31.2 billion and $130.2 billion compared to $53.2 billion and $162.9 billion for the same period in 2017. We continued to issue term fixed and floating rate, callable, and step-up rate consolidated obligation bonds as well as shorter-term discount notes to capture attractive funding, match repricing structures on advances, and provide additional liquidity.

We maintained continual access to funding and issued debt to meet the needs of our members, which generally favored the issuance of shorter-term debt. Access to debt markets has been reliable because investors, driven by increased liquidity preferences, including the effects of money market fund reform and our government affiliation, have sought the FHLBanks’ debt as an asset of choice, which has led to advantageous funding opportunities. However, due to the short-term maturity of the debt, we may be exposed to additional risks associated with refinancing and our ability to access the capital markets.

We are focused on maintaining an adequate liquidity balance and a funding balance between our financial assets and financial liabilities and work collectively with the other FHLBanks to manage the system-wide liquidity and funding needs. We monitor our debt refinancing risk and liquidity position primarily by tracking the maturities of financial assets and financial liabilities. In managing and monitoring the amounts of assets that require refunding, we consider contractual maturities of our financial assets, as well as certain assumptions regarding expected cash flows (i.e. estimated prepayments). External factors, including member borrowing needs, supply and demand in the debt markets, and other factors may affect liquidity balances and the funding balances between financial assets and financial liabilities. Refer to “Item 1. Financial Statements” for additional information regarding the contractual maturities of certain of our financial assets and liabilities.

Our ability to raise funds in the capital markets as well as our cost of borrowing may be affected by our credit ratings. As of October 31, 2018, our consolidated obligations were rated AA+/A-1+ by Standard and Poor’s and Aaa/P-1 by Moody’s and both ratings had a stable outlook. For further discussion of how credit rating changes and our ability to access the capital markets may impact us in the future, refer to “Item 1A. Risk Factors” in our 2017 Form 10-K.

Although we are primarily liable for the portion of consolidated obligations that are issued on our behalf, we are also jointly and severally liable with the other FHLBanks for the payment of principal and interest on all consolidated obligations issued by the FHLBank System. At September 30, 2018 and December 31, 2017, the total par value of outstanding consolidated obligations for which we are primarily liable was $135.7 billion and $135.9 billion. At September 30, 2018 and December 31, 2017, the total par value of outstanding consolidated obligations issued on behalf of other FHLBanks for which we are jointly and severally liable was approximately $883.4 billion and $898.3 billion.

The Office of Finance and FHLBanks have contingency plans in place that prioritize the allocation of proceeds from the issuance of consolidated obligations during periods of financial distress if consolidated obligations cannot be issued in sufficient amounts to satisfy all FHLBank demand. In the event of significant market disruptions or local disasters, our President or his designee is authorized to establish interim borrowing relationships with other FHLBanks. To provide further access to funding, the FHLBank Act also authorizes the U.S. Treasury to directly purchase new issue consolidated obligations of the GSEs, including FHLBanks, up to an aggregate principal amount of $4.0 billion. As of October 31, 2018, no purchases had been made by the U.S. Treasury under this authorization.


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USES OF LIQUIDITY

We use our available liquidity, including proceeds from the issuance of consolidated obligations, primarily to repay consolidated obligations, fund advances, and purchase investments. During the nine months ended September 30, 2018, repayments of consolidated obligations totaled $161.8 billion compared to $231.7 billion for the same period in 2017. A portion of these payments were due to the call of certain bonds in an effort to better match our projected asset cash flows. During the nine months ended September 30, 2017, we called bonds with a total par value of $110 million. We did not call any bonds during the nine months ended September 30, 2018.

During the nine months ended September 30, 2018, advance disbursements totaled $226.5 billion compared to $197.2 billion for the same period in 2017. Advance disbursements will vary from period to period depending on member needs. During the nine months ended September 30, 2018, investment purchases (excluding overnight investments) totaled $75.8 billion compared to $76.6 billion for the same period in 2017. Investment purchases during each period were primarily driven by the purchase of money market investments, including secured resale agreements in an effort to manage our liquidity position.

We also use liquidity to purchase mortgage loans, redeem member deposits, pledge collateral to derivative counterparties, redeem or repurchase capital stock, pay expenses, and pay dividends.

LIQUIDITY REQUIREMENTS
Finance Agency regulations mandate three liquidity requirements. First, we are required to maintain contingent liquidity sufficient to meet our liquidity needs, which shall, at a minimum, cover five calendar days of inability to access the consolidated obligation debt markets. Second, we are required to have available at all times an amount greater than or equal to members’ current deposits invested in advances with maturities not to exceed five years, deposits in banks or trust companies, and obligations of the U.S. Treasury. Third, we are required to maintain, in the aggregate, unpledged qualifying assets in an amount at least equal to the amount of our participation in total consolidated obligations outstanding. At September 30, 2018 and December 31, 2017, we were in compliance with all three of the Finance Agency liquidity requirements.
In addition to the liquidity measures previously discussed, the Finance Agency has provided us with guidance to maintain sufficient liquidity in an amount at least equal to our anticipated cash outflows under two different scenarios. One scenario (roll-off scenario) assumes that we cannot access the capital markets to issue debt for a period of 10 to 20 days with initial guidance set at 15 days, and that during that time members do not renew any maturing, prepaid, and called advances. The second scenario (renew scenario) assumes that we cannot access the capital markets to issue debt for a period of three to seven days with initial guidance set at five days, and that during that time we will automatically renew maturing and called advances for all members except very large, highly-rated members. This guidance is designed to protect against temporary disruptions in the debt markets that could lead to a reduction in market liquidity and thus the inability for us to provide advances to our members. At September 30, 2018 and December 31, 2017, we were in compliance with this liquidity guidance.
Capital

CAPITAL REQUIREMENTS

We are subject to three regulatory capital requirements. First, the FHLBank Act requires that we maintain at all times permanent capital greater than or equal to the sum of our credit, market, and operations risk capital requirements, all calculated in accordance with Finance Agency regulations. Only permanent capital, defined as Class B capital stock, (including mandatorily redeemable capital stock), and retained earnings can satisfy this risk-based capital requirement. Second, the FHLBank Act requires a minimum four percent capital-to-asset ratio, which is defined as total regulatory capital divided by total assets. Total regulatory capital includes Class B capital stock (including mandatorily redeemable capital stock) and retained earnings. It does not include AOCI. Third, the FHLBank Act imposes a five percent minimum leverage ratio, which is defined as the sum of permanent capital weighted 1.5 times and nonpermanent capital weighted 1.0 times, divided by total assets. At September 30, 2018 and December 31, 2017, we did not hold any nonpermanent capital. At September 30, 2018 and December 31, 2017, we were in compliance with all three of the Finance Agency’s regulatory capital requirements. Refer to “Item 1. Financial Statements — Note 12 — Capital” for additional information.


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CAPITAL STOCK
Our capital stock has a par value of $100 per share, and all shares are issued, redeemed, and repurchased only at the stated par value. We generally issue a single class of capital stock (Class B stock) and have two subclasses of Class B capital stock: membership and activity-based. Each member must purchase and hold membership capital stock in an amount equal to 0.12 percent of its total assets as of the preceding December 31st, subject to a cap of $10.0 million and a floor of $10,000. Each member is also required to purchase activity-based capital stock equal to 4.00 percent of its advances and mortgage loans outstanding. All Class B capital issued is subject to a five year notice of redemption period.

We reclassify capital stock subject to redemption from equity to a liability (mandatorily redeemable capital stock) when a member provides written notice of redemption, gives notice of intention to withdraw from membership, becomes ineligible for continuing membership, or attains non-member status by merger or consolidation, charter termination, or other involuntary termination from membership.

The capital stock requirements established in our Capital Plan are designed so that we remain adequately capitalized as member activity changes. Our Board of Directors may make adjustments to the capital stock requirements within ranges established in our Capital Plan.

Capital stock owned by members in excess of their investment requirement is deemed excess capital stock. Under our Capital Plan, we, at our discretion and upon 15 days’ written notice, may repurchase excess membership capital stock. We, at our discretion, may also repurchase excess activity-based capital stock to the extent that (i) the excess capital stock balance exceeds an operational threshold set forth in the Capital Plan, which is currently set at zero, or (ii) a member submits a notice to redeem all or a portion of the excess activity-based capital stock. At September 30, 2018 and December 31, 2017, our excess capital stock outstanding was less than $1 million.
        
The following table summarizes our regulatory capital stock by type of member (dollars in millions):
 
September 30,
2018
 
December 31,
2017
Commercial banks
$
3,585

 
$
3,508

Savings institutions
115

 
145

Credit unions
463

 
393

Non-captive insurance companies
776

 
681

Captive insurance companies
223

 
341

Community development financial institutions
1

 
—

Total GAAP capital stock
5,163

 
5,068

Mandatorily redeemable capital stock
277

 
385

Total regulatory capital stock
$
5,440

 
$
5,453


The increase in regulatory capital stock held at September 30, 2018 when compared to December 31, 2017 was due to an increase in GAAP activity-based capital stock resulting from an increase in member activity.

Retained Earnings
Our Enterprise Risk Management Policy (ERMP) includes a target level of retained earnings based on the amount we believe necessary to protect the redemption value of capital stock, facilitate safe and sound operations, maintain regulatory capital ratios, and support our ability to pay a relatively stable dividend. We monitor our achievement of this target and may utilize tools such as restructuring our balance sheet, generating additional income, reducing our risk exposures, increasing capital stock requirements, or reducing our dividends to achieve our targeted level of retained earnings. At September 30, 2018, we exceeded our retained earnings target.
We entered into a Joint Capital Enhancement Agreement (JCE Agreement) with all of the other FHLBanks in February 2011. The JCE Agreement, as amended, is intended to enhance the capital position of each FHLBank over time. Under the JCE Agreement, we allocate 20 percent of our quarterly net income to a restricted retained earnings account until the balance of that account equals at least one percent of our average balance of outstanding consolidated obligations for the previous quarter. The restricted retained earnings are not available to pay dividends and are presented separately in our Statements of Condition. At September 30, 2018 and December 31, 2017, our restricted retained earnings balance totaled $407 million and $335 million. One percent of our average balance of outstanding consolidated obligations for the three months ended June 30, 2018 was $1.4 billion.

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Dividends

Our current dividend philosophy is to pay a membership capital stock dividend similar to a reference rate of interest, such as average three-month LIBOR over time, and an activity-based capital stock dividend, when possible, at a level above the membership capital stock dividend. Our dividend rates seek to strike a balance between providing reasonable returns to members while preserving our financial position, flexibility, and ability to serve as a long-term liquidity provider. Our actual dividend is determined quarterly by our Board of Directors, based on policies, regulatory requirements, actual performance, and other considerations.

Our Board of Directors approved a 100 basis point increase in our dividend rates for the second quarter dividend payment paid in the third quarter of 2018. The increase represented a reflection of our earnings and financial position.

The following table summarizes dividend-related information (dollars in millions):
 
For the Three Months Ended
 
For the Nine Months Ended
 
September 30,
 
September 30,
 
2018
 
2017
 
2018
 
2017
Aggregate cash dividends paid1
$
71

 
$
42

 
$
180

 
$
130

Effective combined annualized dividend rate paid on capital stock
5.28
%
 
3.06
%
 
4.53
%
 
3.07
%
Annualized dividend rate paid on membership capital stock
3.25
%
 
1.00
%
 
2.50
%
 
0.92
%
Annualized dividend rate paid on activity-based capital stock
5.75
%
 
3.50
%
 
5.00
%
 
3.50
%
Average three-month LIBOR
2.34
%
 
1.32
%
 
2.21
%
 
1.20
%

1
Includes aggregate cash dividends paid during the period. Amount excludes cash dividends paid on mandatorily redeemable capital stock. For financial reporting purposes, these dividends were recorded as interest expense in our Statements of Income.

2
Effective combined annualized dividend rate is paid on total capital stock, including mandatorily redeemable capital stock.

CRITICAL ACCOUNTING POLICIES AND ESTIMATES

For a discussion of our critical accounting policies and estimates, refer to our 2017 Form 10-K. There have been no material changes to our critical accounting policies and estimates during the nine months ended September 30, 2018.



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LEGISLATIVE AND REGULATORY DEVELOPMENTS

Advisory Bulletin (“AB”) 2018-07 Federal Home Loan Bank Liquidity Guidance (“Liquidity Guidance AB”)
On August 23, 2018, the Finance Agency issued a final AB on FHLBank liquidity that communicates the Finance Agency’s expectations with respect to the maintenance of sufficient liquidity to enable us to provide advances and letters of credit for members for a specified time without access to the capital markets or other unsecured funding sources. The Liquidity Guidance AB rescinds 2009 liquidity guidance previously issued by the Finance Agency. Contemporaneously with the issuance of the Liquidity Guidance AB, the Finance Agency issued a supervisory letter that identifies initial thresholds for measures of liquidity.
The Liquidity Guidance AB provides guidance on the level of on-balance sheet liquid assets related to base case liquidity. As part of the base case liquidity measure, the guidance also includes a separate provision covering off-balance sheet commitments from standby letters of credit (“SLOCs”). In addition, the Liquidity Guidance AB provides guidance related to asset/liability maturity funding gap limits.
With respect to base case liquidity, the Finance Agency revised previous guidance that required us to assume a 5-day period without access to capital markets due to a change in certain assumptions underlying that guidance. Under the Liquidity Guidance AB, we would be required to hold positive cash flow assuming no access to capital markets for an increased period of between ten to thirty calendar days, with a specific measurement period set forth in the supervisory letter. The Liquidity Guidance AB also sets forth the initial cash flow assumptions and formula to calculate base case liquidity. With respect to SLOCs, the guidance states that we should maintain a liquidity reserve of between one percent and 20 percent of our outstanding SLOC commitments, as specified in the supervisory letter.
With respect to funding gaps and possible asset and liability mismatches, the Liquidity Guidance AB provides guidance on maintaining appropriate funding gaps for three-month (-10 to -20 percent) and one-year (-25 to -35 percent) maturity horizons, with specific initial percentages within these ranges identified in the supervisory letter. The Liquidity Guidance AB provides for these limits to reduce the liquidity risks associated with a mismatch in asset and liability maturities, including an undue reliance on short term debt funding, which may increase debt rollover risk.
The Liquidity Guidance AB also addressed liquidity stress testing, contingency funding plans and an adjustment to our core mission achievement calculation. Portions of the Liquidity Guidance AB will be implemented beginning December 31, 2018, with further implementation on March 31, 2019, and full implementation on December 31, 2019. While we are still analyzing the impact of the Liquidity Guidance AB, it may require us to hold an additional amount of liquid assets to meet the new guidance, which could reduce our ability to invest in higher-yielding assets. Further, our cost of funding may increase if we were required to achieve the appropriate funding gap with longer term funding. We are currently assessing the AB but do not expect the changes will have a material effect on our results of operations.
Proposed Amendment to Rule Regarding Golden Parachute and Indemnification Payments
On August 28, 2018, the Finance Agency proposed amending its rule on golden parachute payments (“Golden Parachute Rule”) to better align the Golden Parachute Rule with areas of the Finance Agency’s supervisory concern and reduce administrative and compliance burdens. The Golden Parachute Rule sets forth the standards that the Finance Agency would take into consideration when limiting or prohibiting golden parachute and indemnification payments by an FHLBank or the Office of Finance to an entity-affiliated party when such entity is in troubled condition, in conservatorship or receivership, or insolvent. The proposed amendments would:
•
Focus these standards on payments to and agreements with executive officers, broad-based plans, such as severance plans, covering large numbers of employees and payments made to non-executive-officer employees who may have engaged in certain types of wrongdoings;
•
Revise and clarify definitions, exemptions and procedures to implement the Finance Agency’s supervisory approach; and
•Align procedures and outcomes of review with requirements of the Finance Agency’s rule on executive compensation.

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Comments on the proposed rule were due by October 12, 2018. The FHLBanks and the Office of Finance provided a joint comment letter requesting clarification of certain provisions of the proposed amendment. We are currently assessing the effect of the proposed rule but do not anticipate that, if adopted, it would materially impact our financial condition or results of operations.
Final Rule on Indemnification Payments
On October 4, 2018, the Finance Agency published a final rule establishing standards for identifying when an indemnification payment by an FHLBank or the Office of Finance to an officer, director, employee, or other affiliated party in connection with an administrative proceeding or civil action instituted by the Finance Agency is prohibited or permissible. The rule generally prohibits these payments except in the following circumstances:
•
premiums for any commercial insurance or fidelity bonds for directors and officers, to the extent that the insurance or fidelity bond covers expenses and restitution, but not a judgment in favor of the Finance Agency or a civil money penalty imposed by the Finance Agency;
•
expenses of defending an action, subject to an agreement to repay those expenses in certain instances; and
•
amounts due under an indemnification agreement entered into with a named affiliated party on or prior to September 20, 2016 (the date the rule was proposed).
The rule also outlines the process the board of directors must undergo prior to making a permitted payment. The rule became effective November 5, 2018. We are evaluating this AB, but currently do not expect the rule will materially impact our financial condition.


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RISK MANAGEMENT
    
We have risk management policies, established by our Board of Directors, that monitor and control our exposure to market, liquidity, credit, operational, model, information security, compliance, and strategic risk, as well as capital adequacy. Our primary objective is to manage our assets and liabilities in ways that protect the par redemption value of our capital stock. We periodically evaluate our risk management policies in order to respond to changes in our financial position and general market conditions.

Market Risk

We define market risk as the risk that changes in market prices may adversely affect our financial condition and performance. Interest rate risk is the principal type of market risk to which we are exposed as our cash flows, and therefore earnings and equity value, can change significantly as interest rates change. Our general approach toward managing interest rate risk is to acquire and maintain a portfolio of assets, liabilities, and derivatives, which, taken together, limit our expected exposure to interest rate risk. Management regularly reviews our sensitivity to interest rate changes by monitoring our market risk measures in parallel and non-parallel interest rate changes and spread and volatility movements.

Our key risk measures are Market Value of Capital Stock (MVCS) Sensitivity and Projected Income Sensitivity.

MARKET VALUE OF CAPITAL STOCK SENSITIVITY
  
We define MVCS as an estimate of the market value of assets minus the market value of liabilities (excluding mandatorily redeemable capital stock) divided by the total shares of capital stock (including mandatorily redeemable capital stock) outstanding. It represents an estimation of the “liquidation value” of one share of our capital stock if all assets and liabilities were liquidated at current market prices. MVCS does not represent our long-term value, as it takes into account short-term market price fluctuations. These fluctuations are often unrelated to the long-term value of the cash flows from our assets and liabilities.

The MVCS calculation uses market prices which are computed using interest rates, spreads, and volatilities, and assumes a run-off balance sheet. The timing and variability of balance sheet cash flows are calculated by an internal model. To ensure the accuracy of the MVCS calculation, we reconcile the computed market prices of complex instruments, such as derivatives and mortgage assets, to market observed prices or dealers’ quotes.

Interest rate risk stress tests of MVCS involve instantaneous parallel and non-parallel changes in interest rates. The resulting percentage change in MVCS from the base case value is an indication of longer-term repricing risk and option risk embedded in the balance sheet.

To protect the MVCS from large interest rate swings, we manage the interest rate risk of our balance sheet by using hedging transactions, such as issuing consolidated obligation bonds, including floating rate, simple bullet, callable, or other structured features and entering into or canceling interest rate swaps, caps, floors, and swaptions.

We monitor and manage to the MVCS policy limits in an effort to ensure the stability of the Bank’s value. Our policy limits are based on declines from the base case in parallel and non-parallel interest rate change scenarios. Any policy limit breach requires a prompt action to address the measure outside of the policy limit and the breach must be reported to the Enterprise Risk Committee of the Bank and the Risk Committee of the Board of Directors. We were in compliance with the MVCS policy limits at September 30, 2018 and December 31, 2017.

Our down 200 basis point policy limit is suspended when the 10-year swap rate is below 2.50 percent and remains so for five consecutive days. At September 30, 2018, the 10-year swap rate was 3.12 percent and the associated policy limit was in effect. At December 31, 2017, the 10-year swap rate was 2.40 percent and had been below 2.50 for five consecutive days, and therefore the associated policy limit was suspended.

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The following tables show our policy limits and base case and change from base case MVCS in dollars per share and percent change respectively, based on outstanding shares of capital stock, including shares classified as mandatorily redeemable, assuming instantaneous parallel changes in interest rates at September 30, 2018 and December 31, 2017:
 
Market Value of Capital Stock Assuming Parallel Changes (dollars per share)
 
Down 200
 
Down 100
 
Down 50
 
Base Case
 
Up 50
 
Up 100
 
Up 200
September 30, 2018
$
137.7

 
$
139.5

 
$
139.5

 
$
139.1

 
$
138.5

 
$
137.6

 
$
135.6

December 31, 2017
$
133.7

 
$
136.0

 
$
136.4

 
$
135.8

 
$
134.7

 
$
133.2

 
$
129.9

 
% Change from Base Case
 
Down 200
 
Down 100
 
Down 50
 
Base Case
 
Up 50
 
Up 100
 
Up 200
September 30, 2018
(1.0
)%
 
0.3
%
 
0.3
%
 
—
%
 
(0.5
)%
 
(1.1
)%
 
(2.6
)%
December 31, 2017
(1.5
)%
 
0.2
%
 
0.4
%
 
—
%
 
(0.8
)%
 
(1.9
)%
 
(4.4
)%
 
Policy Limits (declines from base case)
 
Down 200
 
Down 100
 
Down 50
 
Base Case
 
Up 50
 
Up 100
 
Up 200
September 30, 2018
(9.0
)%
 
(5.0
)%
 
(2.2
)%
 
—
%
 
(2.2
)%
 
(5.0
)%
 
(9.0
)%
December 31, 2017
(12.0
)%
 
(5.0
)%
 
(2.2
)%
 
—
%
 
(2.2
)%
 
(5.0
)%
 
(12.0
)%

The following tables show our policy limits and base case and change from base case MVCS in dollars per share and percent change respectively, based on outstanding shares of capital stock, including shares classified as mandatorily redeemable, assuming instantaneous non-parallel changes in interest rates at September 30, 2018 and December 31, 2017:
 
Market Value of Capital Stock Assuming Non-Parallel Changes (dollars per share)
 
Down 200
 
Down 100
 
Down 50
 
Base Case
 
Up 50
 
Up 100
 
Up 200
September 30, 2018
$
138.6

 
$
139.4

 
$
139.4

 
$
139.1

 
$
138.5

 
$
137.5

 
$
135.0

December 31, 2017
$
133.9

 
$
135.3

 
$
135.8

 
$
135.8

 
$
135.2

 
$
134.2

 
$
131.5

 
% Change from Base Case
 
Down 200
 
Down 100
 
Down 50
 
Base Case
 
Up 50
 
Up 100
 
Up 200
September 30, 2018
(0.4
)%
 
0.2
 %
 
0.2
%
 
—
%
 
(0.5
)%
 
(1.2
)%
 
(3.0
)%
December 31, 2017
(1.4
)%
 
(0.3
)%
 
—
%
 
—
%
 
(0.4
)%
 
(1.2
)%
 
(3.2
)%
 
Policy Limits (declines from base case)
 
Down 200
 
Down 100
 
Down 50
 
Base Case
 
Up 50
 
Up 100
 
Up 200
September 30, 2018
(9.0
)%
 
(5.0
)%
 
(2.2
)%
 
—
%
 
(2.2
)%
 
(5.0
)%
 
(9.0
)%
December 31, 2017
(13.0
)%
 
(5.5
)%
 
(2.5
)%
 
—
%
 
(2.5
)%
 
(5.5
)%
 
(13.0
)%

Our base case MVCS was 139.1 at September 30, 2018 when compared to 135.8 at December 31, 2017. The change was primarily attributable to the following factors:

•
Increase in retained earnings: We recorded net income of $360 million during the nine months ended September 30, 2018, which was primarily driven by net interest income of $480 million. Dividend payments for the nine months ended September 30, 2018 totaled $180 million. The earnings in excess of dividends paid had a positive impact on the market value of our assets, thereby increasing MVCS.

•
Increased Shares of Capital Stock and Mandatorily Redeemable Capital Stock: Our capital stock balance, including mandatorily redeemable capital stock, decreased at September 30, 2018 when compared to December 31, 2017 due in part to the repurchase of mandatorily redeemable capital stock outstanding to a captive insurance company member during the third quarter. As we redeemed this mandatorily redeemable capital stock at par, which is below our current MVCS value, our MVCS was positively impacted.



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PROJECTED INCOME SENSITIVITY

We monitor the Bank’s projected 24-month income sensitivity through our review of the projected return on capital stock measure. Projected return on capital stock is computed as an annualized ratio of projected net income over a 24 month period to average projected capital stock over the same period.

We monitor and manage projected 24-month income sensitivity in an effort to limit the short-term earnings volatility of the Bank. The projected 24-month income sensitivity is based on the forward interest rates, business, and risk management assumptions.
Our primary income sensitivity policy limits specify a floor on our projected return on capital stock of no less than 50 percent of average projected 3-month LIBOR over 24 months for the up and down 100 and 200 basis point parallel interest rate change scenarios as well as for the up and down 100 basis point non-parallel interest rate changes for each shock scenario. Any policy limit breach requires a prompt action to address the measure outside of the policy limit. The breach must be reported to the Enterprise Risk Committee of the Bank and the Risk Committee of the Board of Directors. We were in compliance with the projected 24-month income sensitivity policy limits at both September 30, 2018 and December 31, 2017. For more information on our Projected Income Sensitivity, refer to “Item 7. Management’s Discussion and Analysis of Financial Condition and Results of Operations — Risk Management — Market Risk — Projected Income Sensitivity” in our 2017 10-K.
CAPITAL ADEQUACY

An adequate capital position is necessary for providing safe and sound operations of the Bank. Our key capital adequacy measures are MVCS and regulatory capital in order to maintain capital levels in accordance with Finance Agency regulations. In addition, we monitor retained earnings. For a discussion of our key capital adequacy measure, MVCS, refer to “Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations — Risk Management — Market Risk — Market Value of Capital Stock Sensitivity.”

RETAINED EARNINGS TARGET LEVEL AND REGULATORY CAPITAL REQUIREMENTS

Our ERMP includes a target level of retained earnings based on the amount we believe necessary to protect the redemption value of capital stock, facilitate safe and sound operations, maintain regulatory capital ratios, and support our ability to pay a relatively stable dividend. We are also subject to three regulatory capital requirements. For additional information on our compliance with these requirements, refer to “Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations — Liquidity and Capital Resources.”

Liquidity Risk

We define liquidity risk as the risk that we will be unable to meet our obligations as they come due or meet the credit needs of our members and housing associates in a timely and cost efficient manner. To manage this risk, we maintain liquidity in accordance with Finance Agency regulations. For additional information on our compliance with these requirements, refer to “Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations — Liquidity and Capital Resources — Liquidity — Liquidity Requirements.”

Credit Risk

We define credit risk as the potential that our borrowers or counterparties will fail to meet their obligations in accordance with agreed upon terms. Our primary credit risks arise from our ongoing lending, investing, and hedging activities. Our overall objective in managing credit risk is to operate a sound credit granting process and to maintain appropriate credit administration, measurement, and monitoring practices.

ADVANCES

We manage our credit exposure to advances through an approach that provides for an established credit limit for each borrower, ongoing reviews of each borrower’s financial condition, and detailed collateral and lending policies to limit risk of loss while balancing borrowers’ needs for a reliable source of funding. In addition, we lend to our borrowers in accordance with the FHLBank Act, Finance Agency regulations, and other applicable laws.


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We are required by regulation to obtain sufficient collateral to fully secure our advances and other credit products. Eligible collateral includes (i) fully disbursed whole first mortgages on improved residential real property or securities representing a whole interest in such mortgages, (ii) loans and securities issued, insured, or guaranteed by the U.S. Government or any agency thereof, including MBS issued or guaranteed by Fannie Mae, Freddie Mac, or Ginnie Mae and Federal Family Education Loan Program guaranteed student loans, (iii) cash deposited with us, and (iv) other real estate-related collateral acceptable to us, such as second lien mortgages, home equity lines of credit, municipal securities, and commercial real estate mortgages, provided such collateral has a readily ascertainable value and we can perfect a security interest in such property. Community Financial Institutions (CFIs) may also pledge collateral consisting of secured small business, small agri-business, or small farm loans. As additional security, the FHLBank Act provides that we have a lien on each borrower’s capital stock investment; however, capital stock cannot be pledged as collateral to secure credit exposures.

Borrowers may pledge collateral to us by executing a blanket pledge agreement, specifically assigning collateral, or placing physical possession of collateral with us or our custodians. We perfect our security interest in all pledged collateral by filing Uniform Commercial Code financing statements or taking possession or control of the collateral. Under the FHLBank Act, any security interest granted to us by our members, or any affiliates of our members, has priority over the claims and rights of any other party (including any receiver, conservator, trustee, or similar party having rights of a lien creditor), unless those claims and rights would be entitled to priority under otherwise applicable law and are held by actual purchasers or by parties that have perfected security interests.

Under a blanket pledge agreement, we are granted a security interest in all financial assets of the borrower to fully secure the borrower’s obligation. Other than securities and cash deposits, we do not initially take delivery of collateral pledged by blanket pledge agreement borrowers. In the event of deterioration in the financial condition of a blanket pledge agreement borrower, we have the ability to require delivery of pledged collateral sufficient to secure the borrower’s obligation. With respect to non-blanket pledge agreement borrowers that are federally insured, we generally require collateral to be specifically assigned. With respect to non-blanket pledge agreement borrowers that are not federally insured (typically insurance companies, CDFIs, and housing associates), we generally take control of collateral through the delivery of cash, securities, or loans to us or our custodians.

Although management has policies and procedures in place to manage credit risk, we may be exposed to this risk if our outstanding advance value exceeds the liquidation value of our collateral. We mitigate this risk by applying collateral discounts or haircuts to the unpaid principal balance or market value, if available, of the collateral to determine the advance equivalent value of the collateral securing each borrower’s obligation. The amount of these discounts will vary based on the type of collateral and security agreement. We determine these discounts or haircuts using data based upon historical price changes, discounted cash flow analyses, and loan level modeling.
 
At September 30, 2018 and December 31, 2017, borrowers pledged $329.3 billion and $319.0 billion of collateral (net of applicable discounts) to support activity with us, including advances. At September 30, 2018 and December 31, 2017, all of our advances met the requirement to be collateralized at a minimum of 100 percent, net of applicable discounts. Borrowers pledge collateral in excess of their collateral requirement mainly to demonstrate available liquidity and to borrow additional amounts in the future.


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The following table shows our total exposure, including advances, as well as the collateralization percentage of outstanding exposure by borrower type (dollars in millions):
 
September 30, 2018
 
December 31, 2017
 
Sum of Total Exposure
 
% Collateralized
 
Sum of Total Exposure
 
% Collateralized
Commercial banks
$
77,814

 
323
%
 
$
76,589

 
313
%
Savings institutions

1,513

 
391

 
2,412

 
328

Credit unions
5,759

 
328

 
4,423

 
344

Non-captive insurance companies
19,131

 
146

 
19,907

 
136

Captive insurance companies
4,765

 
102

 
7,634

 
101

Community development financial institutions
6

 
181

 
3

 
214

Housing associates
108

 
180

 
23

 
289

Non-member borrowers
811

 
112

 
523

 
117

Total borrowers
$
109,907

 
282
%
 
$
111,514

 
268
%

Based upon our collateral and lending policies, the collateral held as security, and the repayment history on credit products, management has determined that there were no probable credit losses on our credit products as of September 30, 2018 and December 31, 2017. Accordingly, we have not recorded any allowance for credit losses on our credit products.

MORTGAGE LOANS

We are exposed to credit risk through our participation in the Mortgage Partnership Finance (MPF) program and the Mortgage Purchase Program (MPP). Mortgage loan credit risk is the risk that we will not receive timely payments of principal and interest due from mortgage borrowers because of borrower defaults. Credit risk on mortgage loans is affected by a number of factors, including loan type, borrower’s credit history, and other factors such as home price fluctuations, unemployment levels, and other economic factors in the local market or nationwide.

Through our participation in the MPF program, which represents 96 percent of our mortgage loans held for portfolio, we invest in conventional and government-insured residential mortgage loans that are acquired through or purchased from a participating financial institution (PFI). In addition, MPF Xtra, MPF Direct, and MPF Government MBS are off-balance sheet loan products that are passed through to a third-party investor and are not maintained in our Statements of Condition.

Under the MPP, we acquired single-family mortgage loans that were purchased directly from MPP PFIs. Similar to the MPF program, MPP PFIs generally originated, serviced, and credit enhanced the mortgage loans sold to us. The MPP program represents four percent of our mortgage loans held for portfolio. We currently do not purchase mortgage loans under this program. All loans in this portfolio were originated prior to 2006.

The following table presents the unpaid principal balance of our mortgage loan portfolio by product type (dollars in millions):
Product Type
 
September 30,
2018
 
December 31,
2017
Conventional
 
$
6,942

 
$
6,472

Government
 
509

 
529

Total mortgage loan unpaid principal balance
 
$
7,451

 
$
7,001


We manage the credit risk on mortgage loans acquired in the MPF program and MPP by (i) adhering to our underwriting standards, (ii) using agreements to establish credit risk sharing responsibilities with our PFIs, (iii) monitoring the performance of the mortgage loan portfolio and creditworthiness of PFIs, and (iv) establishing an allowance for credit losses to reflect management’s estimate of probable credit losses inherent in the portfolio.

Government-Insured Mortgage Loans. For our government-insured mortgage loans, our loss protection consists of the loan guarantee, the ability of the loan servicer to repurchase any government-insured loan once it reaches 90 days delinquent, and the contractual obligation of the loan servicer to liquidate a government-insured loan in full upon sale of the REO property if not repurchased previously. Therefore, we have not recorded any allowance for credit losses on government-insured mortgage loans.
                                                                                                                                            

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Conventional Mortgage Loans. For our conventional mortgage loans, we have several layers of legal loss protection that are defined in agreements among us and our PFIs. These loss layers may vary depending on the product alternatives selected and credit profile of the loans. Loss layers may consist of (i) homeowner equity, (ii) primary mortgage insurance (PMI), (iii) a first loss account (FLA), if applicable, and (iv) a credit enhancement obligation of the PFI, if applicable. For a detailed discussion of these loss layers, refer to “Item 1. Financial Statements — Note 9 — Allowance for Credit Losses.”

Allowance for Credit Losses. We utilize an allowance for credit losses to reserve for estimated losses in our conventional MPF and MPP mortgage loan portfolios at the balance sheet date. The measurement of our MPF and MPP allowance for credit losses is determined by (i) reviewing similar conventional mortgage loans for impairment on a collective basis, (ii) reviewing conventional mortgage loans for impairment on an individual basis, and (iii) estimating additional credit losses in the conventional mortgage loan portfolio. The allowance for credit losses on our conventional mortgage loans was $1 million and $2 million at September 30, 2018 and December 31, 2017.

Refer to “Item 1. Financial Statements — Note 9 — Allowance for Credit Losses” for additional information on our allowance for credit losses.

Non-Accrual Loans and Delinquencies. We place a conventional mortgage loan on non-accrual status if it is determined that either the collection of interest or principal is doubtful or interest or principal is 90 days or more past due. We do not place a government-insured mortgage loan on non-accrual status due to the U.S. Government guarantee of the loan and contractual obligation of the loan servicer to repurchase the loan when certain criteria are met. Refer to “Item 1. Financial Statements — Note 9 — Allowance for Credit Losses” for a summary of our non-accrual loans and mortgage loan delinquencies.

INVESTMENTS

We maintain an investment portfolio primarily to provide investment income and liquidity. Our primary credit risk on investments is the counterparties’ ability to meet repayment terms. We mitigate this credit risk by purchasing investment quality securities. We define investment quality as a security with adequate financial backings so that full and timely payment of principal and interest on such security is expected and there is minimal risk that the timely payment of principal and interest would not occur because of adverse changes in economic and financial conditions during the projected life of the security. We consider a variety of credit quality factors when analyzing potential investments, including collateral performance, marketability, asset class or sector considerations, local and regional economic conditions, nationally recognized statistical rating organization (NRSRO) credit ratings, and/or the financial health of the underlying issuer.

Finance Agency regulations limit the type of investments we may purchase. We are prohibited from investing in financial instruments issued by non-U.S. entities other than those issued by U.S. branches and agency offices of foreign commercial banks, unless otherwise approved by the Finance Agency. Our unsecured credit exposures to U.S. branches and agency offices of foreign commercial banks include the risk that, as a result of political or economic conditions in a country, the counterparty may be unable to meet their contractual repayment obligations. Our unsecured credit exposures to domestic counterparties and U.S. subsidiaries of foreign commercial banks include the risk that these counterparties have extended credit to foreign counterparties. At September 30, 2018, we were in compliance with the above regulation and did not own any financial instruments issued by non-U.S. entities, other than those issued by U.S. branches and agency offices of foreign commercial banks, and those approved by the Finance Agency.

Finance Agency regulations also include limits on the amount of unsecured credit we may extend to a counterparty or to a group of affiliated counterparties. This limit is based on a percentage of eligible regulatory capital and the counterparty’s overall credit rating. Under these regulations, the level of eligible regulatory capital is determined as the lesser of our total regulatory capital or the eligible amount of regulatory capital of the counterparty. The eligible amount of regulatory capital is then multiplied by a stated percentage. The percentage that we may offer for term extensions of unsecured credit ranges from three to 15 percent based on the counterparty’s credit rating. Our total overnight unsecured exposure to a counterparty may not exceed twice the regulatory limit for term exposures, or a total of six to 30 percent of the eligible amount of regulatory capital, based on the counterparty’s credit rating. At September 30, 2018, we were in compliance with the regulatory limits established for unsecured credit.


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Our short-term portfolio may include, but is not limited to, interest-bearing deposits, Federal funds sold, securities purchased under agreements to resell, certificates of deposit, commercial paper, and U.S. Treasury bill obligations. Our long-term portfolio may include, but is not limited to, U.S. obligations, GSE and Tennessee Valley Authority obligations, state or local housing agency obligations, taxable municipal bonds, and MBS. We face credit risk from unsecured exposures primarily within our short-term portfolio. We consider investments issued or guaranteed by the U.S. Government, an agency or instrumentality of the U.S. Government, or the FDIC to be of the highest credit quality and therefore those exposures are not monitored with other unsecured investments.

We generally limit unsecured credit exposure to the following overnight investment types:

•
Federal funds sold. Unsecured loans of reserve balances at the Federal Reserve Banks between financial institutions.

•
Commercial paper. Unsecured debt issued by corporations, typically for the financing of accounts receivable, inventories, and meeting short-term liabilities.

At September 30, 2018, our unsecured investment exposure consisted of overnight Federal funds sold. The following table presents our unsecured investment exposure by counterparty credit rating and domicile at September 30, 2018 (excluding accrued interest receivable) (dollars in millions):
 
 
Credit Rating1,2
Domicile of Counterparty
 
AA
 
A
 
BBB
 
Total
Domestic
 
$
—

 
$
1,700

 
$
410

 
$
2,110

U.S. branches and agency offices of foreign commercial banks
 
 
 
 
 
 
 

Australia
 
700

 
—

 
—

 
700

Austria
 
—

 
250

 
—

 
250

Canada
 
—

 
700

 
—

 
700

France
 
—

 
300

 
—

 
300

Germany
 
—

 
700

 
—

 
700

Netherlands
 
—

 
480

 
—

 
480

Norway
 
—

 
600

 
—

 
600

Sweden
 
200

 
—

 
—

 
200

United Kingdom
 
—

 
350

 
—

 
350

Total U.S. branches and agency offices of foreign commercial banks
 
900

 
3,380

 
—

 
4,280

Total unsecured investment exposure
 
$
900

 
$
5,080

 
$
410

 
$
6,390


1
Represents either the lowest credit rating available for each investment based on an NRSRO, or the guarantor credit rating, if applicable. In instances where an NRSRO rating or guarantor rating is not available for the investment, the issuer rating is applied.

2
Table excludes investments issued or guaranteed by the U.S. Government, an agency or instrumentality of the U.S. Government, or the FDIC.


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Investment Ratings

The following table summarizes the carrying value of our investments by credit rating (dollars in millions):
 
September 30, 2018
 
Credit Rating1
 
AAA
 
AA
 
A
 
BBB
 
BB or Lower
 
Unrated
 
Total
Interest-bearing deposits
$
—

 
$
1

 
$
—

 
$
—

 
$
—

 
$
—

 
$
1

Securities purchased under agreements to resell
250

 
—

 
250

 
3,500

 
—

 
1,100

 
5,100

Federal funds sold
—

 
900

 
5,080

 
410

 
—

 
—

 
6,390

Investment securities:
 
 
 
 
 
 
 
 
 
 


 
 
Mortgage-backed securities
 
 
 
 
 
 
 
 
 
 


 
 
GSE single-family
—

 
3,143

 
—

 
—

 
—

 
—

 
3,143

GSE multifamily
—

 
10,086

 
—

 
—

 
—

 
—

 
10,086

U.S. obligations single-family2
—

 
4,329

 
—

 
—

 
—

 
—

 
4,329

U.S. obligations commercial2
—

 
1

 
—

 
—

 
—

 
—

 
1

Private-label residential
—

 
4

 
—

 
6

 
1

 
—

 
11

Total mortgage-backed securities
—

 
17,563

 
—

 
6

 
1

 
—

 
17,570

Non-mortgage-backed securities
 
 
 
 
 
 
 
 
 
 
 
 
 
U.S. obligations2
—

 
2,840

 
—

 
—

 
—

 
—

 
2,840

GSE and Tennessee Valley Authority obligations
—

 
1,469

 
—

 
—

 
—

 
—

 
1,469

State or local housing agency obligations
999

 
239

 
—

 
—

 
—

 
—

 
1,238

Other
433

 
98

 
—

 
—

 
—

 
—

 
531

Total non-mortgage-backed securities
1,432

 
4,646

 
—

 
—

 
—

 
—

 
6,078

Total investments3
$
1,682

 
$
23,110

 
$
5,330

 
$
3,916

 
$
1

 
$
1,100

 
$
35,139


1
Represents either the lowest credit rating available for each investment based on an NRSRO, or the guarantor credit rating, if applicable. In instances where an NRSRO rating or guarantor rating is not available for the investment, the issuer rating is applied.

2
Represents investment securities backed by the full faith and credit of the U.S. Government.

3
At September 30, 2018, 18 percent of our total investments were unsecured.

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The following table summarizes the carrying value of our investments by credit rating (dollars in millions):
 
December 31, 2017
 
Credit Rating1
 
AAA
 
AA
 
A
 
BBB
 
BB
 
Total
Interest-bearing deposits
$
—

 
$
1

 
$
—

 
$
—

 
$
—

 
$
1

Securities purchased under agreements to resell
1,600

 
—

 
500

 
2,500

 
—

 
4,600

Federal funds sold
—

 
600

 
2,530

 
1,120

 
—

 
4,250

Investment securities:
 
 
 
 
 
 
 
 
 
 
 
Mortgage-backed securities
 
 
 
 
 
 
 
 
 
 
 
GSE single-family
—

 
3,740

 
—

 
—

 
—

 
3,740

GSE multifamily
—

 
10,983

 
—

 
—

 
—

 
10,983

U.S. obligations single-family2
—

 
3,741

 
—

 
—

 
—

 
3,741

U.S. obligations commercial2
—

 
2

 
—

 
—

 
—

 
2

Private-label residential
—

 
4

 
—

 
7

 
1

 
12

Total mortgage-backed securities
—

 
18,470

 
—

 
7

 
1

 
18,478

Non-mortgage-backed securities
 
 
 
 
 
 
 
 
 
 
 
U.S. obligations2
—

 
3,296

 
—

 
—

 
—

 
3,296

GSE and Tennessee Valley Authority obligations
—

 
1,889

 
—

 
—

 
—

 
1,889

State or local housing agency obligations
1,122

 
266

 
—

 
—

 
—

 
1,388

Other
451

 
99

 
—

 
—

 
—

 
550

Total non-mortgage-backed securities
1,573

 
5,550

 
—

 
—

 
—

 
7,123

Total investments3
$
3,173

 
$
24,621

 
$
3,030

 
$
3,627

 
$
1

 
$
34,452


1
Represents either the lowest credit rating available for each investment based on an NRSRO, or the guarantor credit rating, if applicable. In instances where an NRSRO rating or guarantor rating is not available for the investment, the issuer rating is applied. For securities purchased under agreements to resell, when neither the guarantor nor the issuer rating is available, the rating of the underlying collateral is applied.

2
Represents investment securities backed by the full faith and credit of the U.S. Government.

3
At December 31, 2017, 12 percent of our total investments were unsecured.

Our total investments increased $0.7 billion or two percent at September 30, 2018 when compared to December 31, 2017 due primarily to an increase in money market investments needed to manage our liquidity position during the quarter, partially offset by maturities and paydowns of agency securities.

At September 30, 2018 and December 31, 2017, we did not consider any of our investments to be other-than-temporarily impaired. For more information on our evaluation of OTTI, refer to “Item 1. Financial Statements — Note 6 — Other-Than-Temporary Impairment.”

Mortgage-Backed Securities

We limit our investments in MBS to those guaranteed by the U.S. Government or issued by a GSE. Further, our ERMP prohibits new purchases of private-label MBS. We perform ongoing analysis on these investments to determine potential credit issues. At September 30, 2018 and December 31, 2017, we owned $17.6 billion and $18.5 billion of MBS, of which approximately 99.9 percent were guaranteed by the U.S. Government or issued by GSEs and 0.1 percent were private-label MBS at each period end.

We are exposed to mortgage asset credit risk through our investments in MBS. Mortgage asset credit risk is the risk that we will not receive timely payments of principal and interest due from mortgage borrowers because of borrower defaults. Credit risk on mortgage assets is affected by a number of factors, including the strength and ability to guarantee the payments from the agency that created the structure, underlying loan performance, and other economic factors in the local market or nationwide.

DERIVATIVES

We execute most of our derivative transactions with large banks and major broker-dealers. Over-the-counter derivative transactions may be either executed directly with a counterparty (uncleared derivatives) or cleared through a Futures Commission Merchant (i.e., clearing agent), with a Derivative Clearing Organization (cleared derivatives).


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We are subject to credit risk due to the risk of nonperformance by counterparties to our derivative agreements. The amount of credit risk on derivatives depends on the extent to which netting procedures and collateral requirements are used and are effective in mitigating the risk. We manage credit risk through credit analyses, collateral requirements, and adherence to the requirements set forth in our policies and Finance Agency regulations.

Uncleared Derivatives. Due to risk of nonperformance by the counterparties to our derivative agreements, we generally require collateral on uncleared derivative agreements. The amount of net unsecured credit exposure that is permissible with respect to each counterparty depends on the credit rating of that counterparty or a contractually established threshold level. A counterparty generally must deliver collateral to us if the total market value of our exposure to that counterparty rises above a specific trigger point. As a result of these risk mitigation initiatives, we do not anticipate any credit losses on our uncleared derivative agreements.

Cleared Derivatives. For cleared derivatives, the Derivative Clearing Organization (Clearinghouse) is our counterparty. We are subject to risk of nonperformance by the Clearinghouse and clearing agent. The requirement that we post initial and variation margin through the clearing agent, to the Clearinghouse, exposes us to institutional credit risk in the event that the clearing agent or the Clearinghouse fails to meet its obligations. However, the use of cleared derivatives is intended to mitigate credit risk exposure because a central counterparty is substituted for individual counterparties and collateral/payments is posted daily, through a clearing agent, for changes in the fair value of cleared derivatives. We do not anticipate any credit losses on our cleared derivatives.

The contractual or notional amount of derivatives reflects our involvement in the various classes of financial instruments. Our maximum credit risk is the estimated cost of replacing derivatives if there is a default, minus the value of any related collateral. In determining maximum credit risk, we consider accrued interest receivables and payables as well as our ability to net settle positive and negative positions with the same counterparty and/or clearing agent when netting requirements are met.

The following table shows our derivative counterparty credit exposure (dollars in millions):
 
 
September 30, 2018
Credit Rating1
 
Notional Amount
 
Net Derivatives
Fair Value Before Collateral
 
Cash Collateral Pledged
To (From) Counterparty
 
Net Credit Exposure
 to Counterparties
Non-member counterparties:
 
 
 
 
 
 
 
 
Asset positions with credit exposure
 
 
 
 
 
 
 
 
Uncleared derivatives
 
 
 
 
 
 
 
 
A
 
$
169

 
$
1

 
$
—

 
$
1

Liability positions with credit exposure
 
 
 
 
 
 
 
 
Uncleared derivatives
 
 
 
 
 
 
 
 
A2
 
78

 
—

 
—

 
—

Cleared derivatives3
 
39,377

 
(6
)
 
75

 
69

Total derivative positions with credit exposure to non-member counterparties
 
39,624

 
(5
)
 
75

 
70

Member institutions2,4
 
131

 
—

 
—

 
—

Total
 
39,755

 
$
(5
)
 
$
75

 
$
70

Derivative positions without credit exposure
 
7,751

 
 
 
 
 
 
Total notional
 
$
47,506

 
 
 
 
 
 

1
Represents either the lowest credit rating available for each counterparty based on an NRSRO, or the guarantor credit rating, if applicable.

2
Net credit exposure is less than $1 million.

3
Represents derivative transactions cleared with CME Clearing, our clearinghouse, who is not rated. CME Clearing's parent, CME Group Inc. was rated Aa3 by Moody's and AA- by Standard and Poor's at September 30, 2018.

4
Represents mortgage delivery commitments with our member institutions.

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The following table shows our derivative counterparty credit exposure (dollars in millions):
 
 
December 31, 2017
Credit Rating2
 
Notional Amount
 
Net Derivatives
Fair Value Before Collateral1
 
Cash Collateral Pledged
To (From) Counterparty1
 
Net Credit Exposure
to Counterparties
Non-member counterparties:
 
 
 
 
 
 
 
 
Asset positions with credit exposure
 
 
 
 
 
 
 
 
Uncleared derivatives
 
 
 
 
 
 
 
 
   A3
 
$
5

 
$
—

 
$
—

 
$
—

Liability positions with credit exposure
 
 
 
 
 
 
 


Uncleared derivatives
 
 
 
 
 
 
 
 
   A3
 
144

 
(2
)
 
2

 
—

BBB
 
194

 
(17
)
 
18

 
1

Cleared derivatives4
 
43,899

 
(9
)
 
108

 
99

Total derivative positions with credit exposure to non-member counterparties
 
44,242

 
(28
)
 
128

 
100

Member institutions3,5
 
18

 
—

 
—

 
—

Total
 
44,260

 
$
(28
)
 
$
128

 
$
100

Derivative positions without credit exposure
 
9,405

 
 
 
 
 


Total notional
 
$
53,665

 


 


 



1
To conform with current presentation, $313 million in variation margin has been allocated to the individual derivative instruments as of December 31, 2017 and included in net derivatives fair value before collateral. Previously, this amount was included in cash collateral pledged to (from) counterparty.

2
Represents either the lowest credit rating available for each counterparty based on an NRSRO, or the guarantor credit rating, if applicable.

3
Net credit exposure is less than $1 million.

4
Represents derivative transactions cleared with CME Clearing, our clearinghouse, who is not rated. CME Clearing’s parent, CME Group Inc. was rated Aa3 by Moody’s and AA- by Standard and Poor’s at December 31, 2017.

5
Represents mortgage delivery commitments with our member institutions.

Operational Risk

We define operational risk as the risk arising from inadequate or failed processes, people, and/or systems, including those emanating from external sources. All of our activities and processes generate operational risk, including legal risk. Operational risk is inherent in all of our business activities, processes, and systems. Management has established policies and procedures to reduce the likelihood of operational risk and designed our annual risk assessment process to provide ongoing identification, measurement, and monitoring of operational risk. Due to the manual nature of many of our processes, our operational risk exposure had been designated as elevated. To mitigate this risk, we focused on training, process improvements, control enhancements, system upgrades, and added staff to lead and support critical business functions. As a result, our operational risk exposure has improved.

As a result of the storm drain pipe break and water damage to our then headquarters on June 22, 2017, we leased additional space for our temporary headquarters during the third quarter of 2017. We remained at this location until we moved to our new headquarters located at 909 Locust St., Des Moines, Iowa, which was in October 2018. As a result of the storm drain pipe and transitioning employees to a temporary headquarters location, our operational risk profile was elevated through the third quarter of 2018. No known material disruptions in member services or material impacts to our financial condition and results of operations have been experienced due to these events, and we have operated successfully at our temporary location for one year. For additional information on our temporary relocation, see “Part II - Item 8. Financial Statements and Supplementary Data - Note 1 - Summary of Significant Accounting Policies” in our 2017 Form 10-K.

Model Risk

We define model risk as the risk of adverse consequences from decisions based on incorrect and misused model outputs. Throughout the course of our day-to-day activities, we utilize external and internal pricing and financial models as important inputs into business and risk management decision-making processes.


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Information Security Risk

We define information security risk as the risk arising from unauthorized access, use, disclosure, disruption, modification, or destruction of information or information systems. Importantly, this definition includes the security of both digital and non-digital information as well as associated information systems and processes.

Information security risk includes the risk that cyber incidents could result in a failure or interruption of our business operations. We have not experienced any such disruption with a material adverse impact. However, we do rely heavily on internal and third-party information systems and other technology to conduct and manage our business and any disruptions to those items could have a material adverse impact on our financial condition and results of operations. We mitigate cybersecurity risk utilizing the concept of defense in depth, where multiple layers of security controls are implemented. Administrative, physical, and logical controls are in place for identifying, monitoring, and controlling system access, sensitive data, and system changes. In addition, we employ thorough security testing and training that includes regular third party facilitated penetration testing, as well as mandatory staff training on cyber risks. Given the importance of cybersecurity and ever-increasing sophistication of potential cyber-attacks, including the Spectre and Meltdown vulnerabilities discovered this past year that are inherent in almost all equipment in use today, we expect to continue to strengthen our cyber-defenses.

Compliance Risk

We define compliance risk as the risk of violations of laws, rules, regulations, regulatory and supervisory guidance, and internal policies and procedures. Our Legal and Compliance departments are responsible for coordinating with our various business units in connection with its identification, evaluation, and mitigation of our compliance risks.

Strategic Risk

We define strategic risk as the risk arising from adverse business decisions, poor implementation of business decisions, or a lack of responsiveness to changes in the industry and operating environment. We consider member concentration, legislative, and reputational risks to be components of strategic risk. From time to time, proposals are made, or legislative and regulatory changes are considered, which could affect our cost of doing business or other aspects of our business. We mitigate strategic risk through strategic business planning and monitoring of our external and internal environment. For additional information on some of the more important risks we face, refer to “Item 1A. Risk Factors” in our 2017 Form 10-K.

    


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ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK

See “Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations — Risk Management — Market Risk” and the sections referenced therein for quantitative and qualitative disclosures about market risk.

ITEM 4. CONTROLS AND PROCEDURES

Evaluation of Disclosure Controls and Procedures
Management is responsible for establishing and maintaining disclosure controls and procedures designed to ensure that information required to be disclosed in reports we file or submit under the Securities Exchange Act of 1934, as amended (the Exchange Act) is (i) recorded, processed, summarized, and reported within the time periods specified in SEC rules and forms; and (ii) accumulated and communicated to our management, including our President and chief executive officer (CEO), and chief financial officer (CFO), as appropriate, to allow timely decisions regarding required disclosure.
Management, with the participation of our President and CEO, and CFO, has evaluated the effectiveness of the design and operation of our disclosure controls and procedures (as defined in Rules 13a-15(e) and 15d-15(e) under the Exchange Act) as of the end of the quarterly period covered by this report. Based on that evaluation, our President and CEO, and CFO have concluded that our disclosure controls and procedures were effective as of September 30, 2018.
Changes in Internal Control over Financial Reporting
During the quarter ended September 30, 2018, there were no changes in our internal control over financial reporting that have materially affected, or are reasonably likely to materially affect, our internal control over financial reporting.

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PART II - OTHER INFORMATION

ITEM 1. LEGAL PROCEEDINGS
    
As a result of the Merger, the Bank has been involved in certain legal proceedings initiated by the Seattle Bank against various entities relating to its purchases and subsequent impairments of certain private-label MBS, as described below. The private-label MBS litigation is described below. After consultation with legal counsel, other than the private-label MBS litigation, we do not believe any legal proceedings to which we are a party could have a material impact on our financial condition, results of operations, or cash flows.

Private-Label MBS Litigation

As the Seattle Bank previously reported, in December of 2009, it filed 11 complaints in the Superior Court of Washington for King County relating to private-label MBS that it purchased from various dealers and financial institutions in an aggregate original principal amount of approximately $4 billion. The Seattle Bank’s complaints under Washington State law requested rescission of its purchases of the securities and repurchases of the securities by the defendants for the original purchase prices plus eight percent per annum (plus related costs), minus distributions on the securities received by the Seattle Bank. The Seattle Bank asserted that the defendants made untrue statements and omitted important information in connection with their sales of the securities to the Seattle Bank.

Of the 11 cases initially filed, one has been dismissed, two have been settled in part and dismissed in part, and eight have been settled. We appealed the one complete dismissal and two partial dismissals covering the claims related to five certificates across three different cases. The appellate court affirmed the dismissal of the claims related to four certificates in December 2017 and affirmed the dismissal of the remaining certificate in May 2018. In January 2018, we filed petitions for discretionary review of the appellate court’s rulings in December related to four of the certificates with the Washington Supreme Court. On May 3, 2018, the Court granted those petitions. The aggregate consideration paid for these four certificates is $567 million. Oral arguments were heard on October 9, 2018 and we are currently awaiting the Court’s decision. In June 2018, we filed a petition for discretionary review of the appellate court’s ruling in May on the fifth certificate. The aggregate consideration paid for that one certificate is $200 million. The Washington Supreme Court has not yet acted on that petition.

Litigation Settlement Gains

Litigation settlement gains are considered realized and recorded when we receive cash or assets that are readily convertible to known amounts of cash or claims to cash. In addition, litigation settlement gains are considered realizable and recorded when we enter into a signed agreement that is not subject to appeal, where the counterparty has the ability to pay, and the amount to be received can be reasonably estimated. Prior to being realized or realizable, we consider potential litigation settlement gains to be gain contingencies, and therefore they are not recorded in the Statements of Income.
We record legal expenses related to litigation settlements as incurred in other expenses in the Statements of Income with the exception of certain legal expenses related to litigation settlement awards that are contingent based fees for the attorneys representing the Bank. We incur and recognize these contingent based legal fees only when litigation settlement awards are realized, at which time these fees are netted against the gains recognized on the litigation settlement. 
During the three and nine months ended September 30, 2018 and the three months ended September 30, 2017, we did not record any net gains on private-label MBS litigation settlements. During the nine months ended September 30, 2017, we settled a private-label MBS claim and recognized $21 million in net gains on private-label MBS litigation settlements.



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ITEM 1A. RISK FACTORS

For a discussion of our risk factors, refer to our 2017 Form 10-K. There have been no material changes to our risk factors during the nine months ended September 30, 2018, except as follows:

POSSIBLE REPLACEMENT OF THE LIBOR BENCHMARK INTEREST RATE COULD ADVERSELY AFFECT OUR BUSINESS, FINANCIAL CONDITION, AND RESULTS OF OPERATIONS

In July 2017, the United Kingdom’s Financial Conduct Authority (FCA), a regulator of financial services firms and financial markets in the U.K., stated that they will plan for a phase out of regulatory oversight of LIBOR interest rates indices. The FCA has indicated they will support the LIBOR indices through 2021, to allow for an orderly transition to an alternative reference rate. The Alternative Reference Rates Committee has proposed the Secured Overnight Financing Rate (SOFR) as its recommended alternative to LIBOR, and the Federal Reserve Bank of New York began publishing SOFR rates in April 2018. SOFR is intended to be a broad measure of the cost of borrowing cash overnight collateralized by Treasury securities. During the third quarter of 2018, certain market participants began moving more aggressively towards the utilization of SOFR as a possible LIBOR replacement through the issuance of debt securities indexed to SOFR. As noted throughout this report, many of our assets and liabilities, including derivative assets and derivative liabilities, and related collateral are indexed to LIBOR. A portion of these assets and liabilities and related collateral have maturity dates that extend beyond 2021.

We are evaluating the potential impact of the eventual replacement of the LIBOR benchmark interest rate, including the possibility of SOFR as the dominant replacement. The market transition away from LIBOR and towards SOFR is expected to be gradual and complicated, including the development of term and credit adjustments to accommodate differences between LIBOR and SOFR. Introduction of an alternative rate also may introduce additional basis risk for market participants as an alternative index is utilized along with LIBOR. There can be no guarantee that SOFR will become widely used and that alternatives may or may not be developed with additional complications. We are not able to predict whether LIBOR will cease to be available after 2021, whether SOFR will become a widely accepted benchmark in place of LIBOR, or what the impact of such a possible transition to SOFR may be on our business, financial condition, and results of operations.

ITEM 2. UNREGISTERED SALES OF EQUITY SECURITIES AND USE OF PROCEEDS
 
Not applicable.

ITEM 3. DEFAULTS UPON SENIOR SECURITIES

None.

ITEM 4. MINE SAFETY DISCLOSURES

Not applicable.

ITEM 5. OTHER INFORMATION

There were no material changes to the disclosure related to the Rule 2-01 (c)(1)(ii)(A) of SEC Regulation S-X (the Loan Rule) included in our 2017 10-K. Refer to “Part II. Item 9B - Other Information” in our 2017 Form 10-K for additional information.

As disclosed in our First Quarter 2017 10-Q, on April 20, 2017, we acquired a building and certain adjacent lots with surface parking in downtown Des Moines to be used as our new headquarters. On October 9, 2018, we moved to our new headquarters, located at 909 Locust Street. We currently occupy approximately 94,000 square feet of the approximately 226,000 finished square feet of office space in the new building and are in the process of leasing the remaining space.

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ITEM 6. EXHIBITS
3.1
3.2
4.1
31.1
31.2
32.1
32.2
101.INS
XBRL Instance Document - The instance document does not appear in the interactive data file because its XBRL tags are embedded within the inline XBRL document.
101.SCH
XBRL Taxonomy Extension Schema Document
101.CAL
XBRL Taxonomy Extension Calculation Linkbase Document
101.LAB
SBRL Taxonomy Extension Label Linkbase Document
101.PRE
XBRL Taxonomy Extension Presentation Linkbase Document
101.DEF
XBRL Taxonomy Extension Definition Linkbase Document

1
Incorporated by reference to our Form 8-K filed with the SEC on June 1, 2015 (Commission File No. 000-51999).

2
Incorporated by reference to our Form 8-K filed with the SEC on February 17, 2016 (Commission File No. 000-51999).









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SIGNATURES

Pursuant to the requirements of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned, thereunto duly authorized.

FEDERAL HOME LOAN BANK OF DES MOINES
 
 
(Registrant)
 
 
 
 
 
 
 
Date:
 
November 8, 2018
 
 
 
 
 
 
 
 
 
 
 
 
By:
 
/s/ Michael L. Wilson
 
 
 
 
Michael L. Wilson
President and Chief Executive Officer
 
 
 
 
 
 
 
By:
 
/s/ Donna S. Stone
 
 
 
 
Donna S. Stone
Senior Vice President and Chief Accounting Officer
(Principal Accounting Officer)
 
 
 


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