10-Q 1 a20163q10-q.htm 10-Q Document
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, 2016
OR
o TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
For the transition period from              to             
Commission File No. 000-51401
logo10.jpg
Federal Home Loan Bank of Chicago
(Exact name of registrant as specified in its charter)

 
Federally chartered corporation
 
36-6001019
 
 
(State or other jurisdiction of
incorporation or organization)
 
(I.R.S. Employer
Identification No.)
 
 
200 East Randolph Drive
Chicago, IL
 
60601
 
 
(Address of principal executive offices)
 
(Zip Code)
 

Registrant's telephone number, including area code: (312) 565-5700
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. Yes x No o

Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T (§232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files). Yes x No o

Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, or a smaller reporting company. See the definitions of “large accelerated filer,” “accelerated filer” and “smaller reporting company” in Rule 12b-2 of the Exchange Act. (Check one)
 
Large accelerated filer   o
 
Accelerated filer  o
 
Non-accelerated filer   x  (Do not check if a smaller reporting company)
 
Smaller reporting company   o

Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act).  Yes o No x


As of September 30, 2016, including mandatorily redeemable capital stock, registrant had 19,376,924 total outstanding shares of Class B Capital Stock.

1

rlogoa10.jpg

TABLE OF CONTENTS


 
Item 1.
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Item 2.
Item 3.
Item 4.
 
 
 
 
Item 1.
Item 1A.
Item 2.
Item 3.
Item 4.
Item 5.
Item 6.
 
 
 


2


PART I - FINANCIAL INFORMATION
Item 1.    Financial Statements.
Statements of Condition (unaudited)
(Dollars in millions, except capital stock par value)
 
September 30, 2016
 
December 31, 2015
Assets
 
 
 
Cash and due from banks
$
31

 
$
499

Interest bearing deposits
650

 
650

Federal Funds sold
3,807

 
1,702

Securities purchased under agreements to resell
1,000

 
1,375

Investment securities -
 
 
 
Trading, $90 and $62 pledged
1,047

 
1,160

Available-for-sale
15,561

 
17,470

Held-to-maturity, $5,308 and $6,513 fair value
4,788

 
5,967

Investment securities
21,396

 
24,597

Advances, $703 and $511 carried at fair value
43,117

 
36,778

MPF Loans held in portfolio, net of allowance for credit losses of $(3) and $(3)
4,720

 
4,828

Derivative assets
21

 
2

Other assets, $58 and $54 carried at fair value
241

 
240

Assets
$
74,983

 
$
70,671

 
 
 
 
Liabilities
 
 
 
Deposits -
 
 
 
Noninterest bearing
$
59

 
$
41

Interest bearing, $15 and $12 from other FHLBs
453

 
497

Deposits
512

 
538

Consolidated obligations, net -
 
 
 
Discount notes, $12,537 and $9,006 carried at fair value
39,144

 
41,564

Bonds, $7,058 and $952 carried at fair value
30,139

 
22,582

Consolidated obligations, net
69,283

 
64,146

Derivative liabilities
48

 
55

Affordable Housing Program assessment payable
90

 
89

Mandatorily redeemable capital stock
302

 
8

Other liabilities
233

 
239

Subordinated notes

 
944

Liabilities
70,468

 
66,019

Commitments and contingencies - see notes to the financial statements


 


Capital
 
 
 
Class B1 activity stock - putable $100 par value - 11 million and 13 million shares issued and outstanding
1,063

 
1,313

Class B2 membership stock - putable $100 par value - 6 million and 6 million shares issued and outstanding
573

 
637

Capital stock
1,636

 
1,950

Retained earnings - unrestricted
2,577

 
2,407

Retained earnings - restricted
374

 
323

Retained earnings
2,951

 
2,730

Accumulated other comprehensive income (loss) (AOCI)
(72
)
 
(28
)
Capital
4,515

 
4,652

Liabilities and capital
$
74,983

 
$
70,671


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

3


Statements of Income (unaudited)
(Dollars in millions)

 
 
Three months ended September 30,
 
Nine months ended September 30,
 
 
2016
 
2015
 
2016
 
2015
Interest income
 
$
309

 
$
304

 
$
944

 
$
934

Interest expense
 
196

 
182

 
600

 
561

Net interest income
 
113

 
122

 
344

 
373

Provision for (reversal of) credit losses
 

 
1

 

 
5

Net interest income after provision for (reversal of) credit losses
 
113

 
121

 
344

 
368

 
 
 
 
 
 
 
 
 
Noninterest gain (loss) on -
 
 
 
 
 
 
 
 
Trading securities
 

 
(1
)
 

 
(2
)
Derivatives and hedging activities
 
7

 
(15
)
 
(7
)
 
(17
)
Instruments held under fair value option
 

 
1

 
6

 
4

Litigation settlement awards
 

 
2

 
38

 
13

Other gain (loss), net
 
7

 
7

 
24

 
15

Noninterest gain (loss)
 
14

 
(6
)
 
61

 
13

 
 
 
 
 
 
 
 
 
Noninterest expense -
 
 
 
 
 
 
 
 
Compensation and benefits
 
26

 
20

 
71

 
57

Operating expenses
 
15

 
13

 
44

 
38

Other
 
1

 
2

 
13

 
6

Noninterest expense
 
42

 
35

 
128

 
101

 
 
 
 
 
 
 
 
 
Income before assessments
 
85

 
80

 
277

 
280

 
 
 
 
 
 
 
 
 
Affordable Housing Program assessment
 
9

 
8

 
28

 
28

 
 
 
 
 
 
 
 
 
Net income
 
$
76

 
$
72

 
$
249

 
$
252



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



4


Statements of Comprehensive Income (unaudited)
(Dollars in millions)

 
 
Three months ended September 30,
 
Nine months ended September 30,
 
 
2016
 
2015
 
2016
 
2015
Net income
 
$
76

 
$
72

 
$
249

 
$
252

 
 

 
 
 
 
 
 
Other comprehensive income (loss) -
 

 
 
 
 
 
 
Net unrealized gain (loss) available-for-sale securities
 
(13
)
 
(79
)
 
(113
)
 
(214
)
Non-credit OTTI held-to-maturity securities
 
9

 
11

 
30

 
37

Net unrealized gain (loss) cash flow hedges
 
83

 
(31
)
 
38

 
8

Post-retirement plans
 

 
1

 
1

 
(7
)
Other comprehensive income (loss)
 
79

 
(98
)
 
(44
)
 
(176
)
 
 

 
 
 

 
 
Comprehensive income
 
$
155

 
$
(26
)
 
$
205

 
$
76



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



5


Statements of Capital (unaudited)
(Dollars and shares in millions)

 
Capital Stock - Putable - B1 Activity
 
Capital Stock - Putable - B2 Membership
 
Capital Stock
 
Retained Earnings
 
 
 
Total Capital
 
Shares
 
Value
 
Shares
 
Value
 
Shares
 
Value
 
Unrestricted
 
Restricted
 
Total
 
AOCI
 
December 31, 2015
13

 
$
1,313

 
6

 
$
637

 
19

 
$
1,950

 
$
2,407

 
$
323

 
$
2,730

 
$
(28
)
 
$
4,652

Comprehensive income
 
 
 
 
 
 
 
 
 
 
 
 
198

 
51

 
249

 
(44
)
 
205

Proceeds from issuance of capital stock
10

 
952

 

 
12

 
10

 
964

 
 
 
 
 
 
 
 
 
964

Repurchases of capital stock
(6
)
 
(586
)
 
(3
)
 
(392
)
 
(9
)
 
(978
)
 
 
 
 
 
 
 
 
 
(978
)
Capital stock reclassified to mandatorily redeemable capital stock (other liabilities)
(3
)
 
(295
)
 

 
(5
)
 
(3
)
 
(300
)
 
 
 
 
 
 
 
 
 
(300
)
Transfers between classes of capital stock
(3
)
 
(321
)
 
3

 
321

 
 
 
 
 
 
 
 
 
 
 
 
 
 
Cash dividends - class B1
 
 
 
 
 
 
 
 
 
 
 
 
(25
)
 


 
(25
)
 
 
 
(25
)
Class B1 annualized rate
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
2.73
%
Cash dividends - class B2
 
 
 
 
 
 
 
 
 
 
 
 
(3
)
 
 
 
(3
)
 
 
 
(3
)
Class B2 annualized rate
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
0.60
%
Total change in period
(2
)
 
(250
)
 

 
(64
)
 
(2
)
 
(314
)
 
170

 
51

 
221

 
(44
)
 
(137
)
September 30, 2016
11

 
$
1,063

 
6

 
$
573

 
17

 
$
1,636

 
$
2,577

 
$
374

 
$
2,951

 
$
(72
)
 
$
4,515

 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
December 31, 2014
8

 
$
827

 
11

 
$
1,075

 
19

 
$
1,902

 
$
2,152

 
$
254

 
$
2,406

 
$
217

 
$
4,525

Comprehensive income
 
 
 
 
 
 
 
 
 
 
 
 
202

 
50

 
252

 
(176
)
 
76

Proceeds from issuance of capital stock
3

 
228

 

 
15

 
3

 
243

 
 
 
 
 
 
 
 
 
243

Repurchases of capital stock

 
(29
)
 
(3
)
 
(223
)
 
(3
)
 
(252
)
 
 
 
 
 
 
 
 
 
(252
)
Capital stock reclassified to mandatorily redeemable capital stock (other liabilities)

 

 

 
(1
)
 

 
(1
)
 
 
 
 
 
 
 
 
 
(1
)
Transfers between classes of capital stock
(1
)
 
(60
)
 
1

 
60

 
 
 
 
 
 
 
 
 
 
 
 
 


Cash dividends - class B1
 
 
 
 
 
 
 
 
 
 
 
 
(14
)
 
 
 
(14
)
 
 
 
(14
)
Class B1 annualized rate
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
2.25
%
Cash dividends - class B2
 
 
 
 
 
 
 
 
 
 
 
 
(4
)
 
 
 
(4
)
 
 
 
(4
)
Class B2 annualized rate
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
0.50
%
Total change in period
2

 
139

 
(2
)
 
(149
)
 

 
(10
)
 
184

 
50

 
234

 
(176
)
 
48

September 30, 2015
10


$
966


9


$
926


19


$
1,892


$
2,336


$
304


$
2,640


$
41


$
4,573


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

6


Condensed Statements of Cash Flows (unaudited)
(Dollars in millions)

 
Nine months ended September 30,
 
2016
 
2015
 
Operating
Net cash provided by (used in) operating activities
 
$
184

 
$
375

 
Investing
Net change Federal Funds sold
 
(2,105
)
 
805

 
 
Net change securities purchased under agreements to resell
 
375

 

 
 
Trading securities -
 
 
 
 
 
 
Sales
 
2,158

 

 
 
Proceeds from maturities and paydowns
 
108

 
109

 
 
Purchases
 
(2,156
)
 
(101
)
 
 
Available-for-sale securities -
 
 
 
 
 
 
Proceeds from maturities and paydowns
 
1,777

 
1,452

 
 
Purchases
 
(2
)
 
(12
)
 
 
Held-to-maturity securities -
 
 
 
 
 
 
Short-term held-to-maturity securities, net
 
543

a 
675

a 
 
Proceeds from maturities and paydowns
 
740

 
793

 
 
Purchases
 
(30
)
 
(16
)
 
 
Advances -
 
 
 
 
 
 
Principal collected
 
548,381

 
251,066

 
 
Issued
 
(554,570
)
 
(253,574
)
 
 
MPF Loans held in portfolio -
 
 
 
 
 
 
Principal collected
 
867

 
1,085

 
 
Purchases
 
(759
)
 
(117
)
 
 
Other investing activities
 
27

 
39

 
 
Net cash provided by (used in) investing activities
 
(4,646
)
 
2,204

 
Financing
Net change deposits
 
(26
)
 
(156
)
 
 
Discount notes -
 
 
 
 
 
 
Net proceeds from issuance
 
438,057

 
210,023

 
 
Payments for maturing and retiring
 
(440,500
)
 
(203,798
)
 
 
Consolidated obligation bonds -
 
 
 
 
 
 
Net proceeds from issuance
 
24,439

 
8,503

 
 
Payments for maturing and retiring
 
(16,943
)
 
(16,777
)
 
 
Net proceeds (payments) on derivative contracts with financing element
 
(38
)
 
(47
)
 
 
Net proceeds (payments) on bond transfers with other FHLBs
 

 
(35
)
 
 
Payments for retiring of subordinated debt
 
(944
)
 

 
 
Capital stock -
 
 
 
 
 
 
Proceeds from issuance of capital stock
 
964

 
243

 
 
Repurchase of capital stock
 
(978
)
 
(252
)
 
 
Cash dividends paid
 
(28
)
 
(18
)
 
 
Other financing activities
 
(9
)
 
(1
)
 
 
Net cash provided by (used in) financing activities
 
3,994

 
(2,315
)
 
 
Net increase (decrease) in cash and due from banks
 
(468
)
 
264

 
 
Cash and due from banks at beginning of period
 
499

 
342

 
 
Cash and due from banks at end of period
 
$
31

 
$
606

 
Noncash
Capital stock reclassified to mandatorily redeemable capital stock (other liabilities)
 
$
300

 
$
1

 
a 
Short-term held-to-maturity securities, net, consists of investment securities with a maturity of less than 90 days when purchased.

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

7

logoa11.jpg
Notes to Financial Statements - (Unaudited)
(Dollars in tables in millions except per share amounts unless otherwise indicated)


Note 1 – Background and Basis of Presentation

The Federal Home Loan Bank of Chicago is a federally chartered corporation and one of 11 Federal Home Loan Banks (the FHLBs) that, with the Office of Finance, comprise the Federal Home Loan Bank System (the System).  The FHLBs are government-sponsored enterprises (GSE) of the United States of America and were organized under the Federal Home Loan Bank Act of 1932, as amended (FHLB Act), in order to improve the availability of funds to support home ownership.  We are supervised and regulated by the Federal Housing Finance Agency (FHFA), an independent federal agency in the executive branch of the United States (U.S.) government.

Each FHLB is a member-owned cooperative with members from a specifically defined geographic district. Our defined geographic district is Illinois and Wisconsin. All federally-insured depository institutions, insurance companies engaged in residential housing finance, credit unions and community development financial institutions located in our district are eligible to apply for membership with us. All our members are required to purchase our capital stock as a condition of membership. Our capital stock is not publicly traded, and is issued, repurchased or redeemed at par value, $100 per share, subject to certain statutory and regulatory limits. As a cooperative, we do business with our members, and former members (under limited circumstances). Specifically, we provide credit principally in the form of secured loans called advances. We also provide liquidity for home mortgage loans to members approved as Participating Financial Institutions (PFIs) through the Mortgage Partnership Finance® (MPF®) Program.

Our accounting and financial reporting policies conform to generally accepted accounting principles in the United States of America (GAAP). Amounts in prior periods may be reclassified to conform to the current presentation and if material are disclosed in the following notes.

In the opinion of management, all normal recurring adjustments have been included for a fair statement of this interim financial information. These unaudited financial statements and the following footnotes should be read in conjunction with the audited financial statements and footnotes for the year ended December 31, 2015, included in our Annual Report on Form 10-K (2015 Form 10-K) starting on page F-1, as filed with the Securities and Exchange Commission (SEC).

Unless otherwise specified, references to we, us, our, and the Bank are to the Federal Home Loan Bank of Chicago.

“Mortgage Partnership Finance”, “MPF”, “MPF Xtra”, and "Community First" are registered trademarks of the Federal Home Loan Bank of Chicago.

Refer to the Glossary of Terms starting on page 63 for the definitions of certain terms used herein.

Use of Estimates

The preparation of financial statements in accordance with GAAP requires us to make assumptions and estimates that may affect the reported amounts of assets and liabilities, the disclosure of contingent assets and liabilities, and the reported amounts of income and expense. The most significant of these assumptions and estimates applies to fair value measurements and allowance for credit losses. Actual results could differ from these assumptions and estimates.

Consolidation of Variable Interest Entities

We would consolidate a variable interest entity if we determine that we are its primary beneficiary, which occurs when both conditions shown below are met.

We have the power to direct the activities of a variable interest entity that most significantly impact the entity’s economic performance.

We have the obligation to absorb losses of the entity that could potentially be significant to the variable interest entity or the right to receive benefits from the entity that could potentially be significant to the variable interest entity.

We did not consolidate any of our investments in variable interest entities since we are not the primary beneficiary. We classify variable interest entities as investment securities in our statements of condition. Such investment securities include, but are not limited to, senior interests in private-label mortgage backed securities (MBS) and Federal Family Education Loan Program asset backed securities (FFELP ABS). Our maximum loss exposure for these investment securities is limited to their carrying amounts. We have no liabilities related to these investments in variable interest entities. We have not provided financial or other support (explicitly or implicitly) to these investment securities that we were not previously contractually required to provide, nor do we intend to provide such support in the future.

8

logoa11.jpg
Notes to Financial Statements - (Unaudited)
(Dollars in tables in millions except per share amounts unless otherwise indicated)


Gross versus Net Presentation of Financial Instruments

We present derivative assets and liabilities on a net basis in our statements of condition on the basis that our right to net amounts due to our clearing agents and/or our counterparties is enforceable at law upon early termination. We include accrued interest receivable/payable and cash collateral, including initial and variation margin, in the carrying amount of a derivative. Derivatives are netted by contract (e.g., master netting agreement), to discharge all or a portion of the amounts that would be owed to our counterparty by applying them against the amounts that our counterparty owes to us. Additionally, we clear certain derivatives transactions with clearinghouses classified as a Derivatives Clearing Organization (DCO), through Futures Commission Merchants (FCM). If these netted amounts are positive, they are classified as a derivative asset and if negative, they are classified as a derivative liability.

The net exposure for these financial instruments can change on a daily basis; therefore, there may be a delay between the time this exposure change is identified and additional collateral is requested, and the time when this collateral is received or pledged. Likewise, there may be a delay for excess collateral to be returned. For derivative instruments that meet the netting requirements, any excess cash collateral received or pledged is recognized as a derivative liability or asset.

Refer to Note 9 - Derivatives and Hedging Activities for further details.

Our policy is to report securities purchased under agreements to resell and securities sold under agreements to repurchase, if any, and securities borrowing transactions, if any, on a gross basis.


Note 2 – Summary of Significant Accounting Policies

Our Summary of Significant Accounting Policies through December 31, 2015, can be found in Note 2 – Summary of Significant Accounting Policies to the financial statements in our 2015 Form 10-K. We adopted the following policies in 2016:

Simplifying the Presentation of Debt Issuance Cost (i.e., Concession Fees)

In April of 2015, the FASB issued new guidance requiring any concession fee to be presented as a direct deduction from the debt it relates to rather than separately presented as a deferred cost in Other Assets. We retrospectively adopted the new guidance January 1, 2016 by reclassifying deferred concession fees from Other Assets to its related debt, which at the time of adoption included our Consolidated obligation discount notes, Consolidated obligation bonds and Subordinated notes. This reclassification did not have a material effect on our financial condition, results of operations, cash flows, or percentage net interest yield on our consolidated obligations at the time of adoption.

Effect of Derivative Contract Novations on Existing Hedge Accounting Relationships

In March of 2016, the FASB issued new guidance clarifying that a change in counterparty (novation) to a derivative instrument that has been designated as the hedging instrument in an existing hedging relationship would not, in and of itself, be considered a termination of the derivative instrument or be considered a change in the critical term of the hedging relationship. We early adopted this new guidance on a prospective basis effective January 1, 2016. The new guidance had no effect on our financial condition, results of operations, or cash flows at the time of adoption.

Note 3 – Recently Issued but Not Yet Adopted Accounting Standards

Classification of Certain Cash Receipts and Cash Payments in the Statement of Cash Flows

In August of 2016, the FASB issued statement of cash flows classification guidance governing certain cash receipts and cash payments. The new guidance becomes effective January 1, 2018, with earlier adoption permitted. The new guidance must be applied retrospectively to each period our statements of cash flows are presented at the time of adoption. Key provisions relevant to us are outlined below. Our existing practice is consistent with the provisions of the guidance outlined below pertaining to debt prepayment or extinguishment costs and the classification of accreted interest expense. We are in the process of reviewing the expected effect of the remaining provisions of the guidance on our financial condition, results of operations, and cash flows.

Cash payments for debt prepayment or extinguishment costs are classified as cash outflows for financing activities.


9

logoa11.jpg
Notes to Financial Statements - (Unaudited)
(Dollars in tables in millions except per share amounts unless otherwise indicated)

At settlement, the portion of the cash payment attributable to accreted interest expense is classified as cash outflows for operating activities, and the portion of the cash payment attributable to the principal would be classified as cash outflows for financing activities. The cash paid attributable to accreted interest expense also needs to be included in the supplemental disclosure of the amount of interest expense paid.

A transferor’s beneficial interest obtained in a securitization of financial assets is disclosed as a noncash activity.

Additional guidance is provided to clarify when an entity should separate cash receipts and cash payments and classify them into more than one class of cash flows and when an entity should classify the aggregate of those cash receipts and payments into one class of cash flows on the basis of predominance.

Measurement of Credit Losses on Financial Instruments

In June of 2016, the FASB amended existing GAAP guidance applicable to measuring credit losses on financial instruments. The amendments are expected to result in recognizing credit losses in the financial statements on a timelier basis by utilizing forward looking information. Key provisions of the amendments relevant to us are outlined below.
 
Replaces the “incurred loss” impairment methodology applied under current GAAP with an “expected credit losses” methodology.

The expected credit losses methodology requires us to estimate all credit losses on financial instruments carried on an amortized cost basis and off-balance-sheet credit exposures over their contractual term. On balance sheet financial instruments include, but are not limited to, advances, MPF Loans held in portfolio, and Held-to-maturity (HTM) securities. Off-balance-sheet credit exposure refers to unfunded credit exposures, such as standby letters of credit.

The measurement of expected credit losses is based on relevant information about past events, including historical experience, current conditions, and reasonable and supportable forecasts that affect the collectability of the financial instrument’s reported amount.

Aligns the income statement recognition of credit losses for securities with the reporting period in which changes in collectability occur by recording credit losses (and subsequent reversals) through an allowance rather than a write-down as currently required under GAAP.

Requires recognition of a credit loss on available-for-sale (AFS) securities into the income statement if the present value of cash flows expected to be collected on the security is less than its amortized cost basis. Additionally, the allowance on AFS debt securities will be limited to the amount by which fair value is less than the amortized cost.

Expands upon the current credit quality disclosures by requiring further disaggregation of financial instruments by their year of origination. This disclosure is expected to help financial statement users better understand credit quality trends of asset portfolios.

The amendments become effective January 1, 2020, with early adoption permitted effective January 1, 2019. We plan to implement the expected credit loss methodology through a cumulative-effect adjustment to our beginning retained earnings as of the first reporting period in which the new guidance becomes effective for us. The cumulative effect adjustment will equal the amount required to adjust our existing allowance for credit losses for our on balance-sheet financial instruments and other liabilities for our off-balance sheet financial instruments to the amounts determined under the expected credit losses methodology. A prospective transition approach is required for debt securities for which an other-than-temporary impairment had been recognized before our effective date. This means write-downs recognized prior to our effective date on securities may not be reversed at the time of our adoption. Instead, improvements in expected cash flows that exist at the time we adopt will continue to be accreted into income over the remaining life of the security. Additionally, recoveries of amounts previously written off prior to the date of adoption will be recorded in earnings when received. We are in the process of reviewing the expected effect of this guidance on our financial condition, results of operations, and cash flows.

Contingent Put and Call Options in Debt Instruments

In March of 2016, the FASB issued new guidance clarifying the requirements for assessing whether a contingent call (put) option embedded in a debt instrument is clearly and closely related to that debt instrument, which is referred to as the "host contract". Specifically, entities no longer will be required to assess whether the event triggering the acceleration of an embedded contingent call (put) option within a debt instrument is clearly and closely related to its host contract. We plan to adopt the new guidance using the modified retrospective approach on January 1, 2017. The new guidance is not expected to have a material effect on our financial condition, results of operations, or cash flows at the time of adoption.

10

logoa11.jpg
Notes to Financial Statements - (Unaudited)
(Dollars in tables in millions except per share amounts unless otherwise indicated)


Leases

In February of 2016, the FASB issued new guidance pertaining to lease accounting. Key lessee accounting provisions relevant to us are outlined below. Our existing practice is to record our operating leases off-balance sheet.

Recognize operating leases and right-to-use assets in our statements of condition; however, we would be permitted to elect off-balance sheet recognition of such leases having a term of 12 months or less.

Recognize a single lease cost over the lease term on a straight-line basis.

Classify all cash payments within operating activities in our statement of cash flows.

The new guidance becomes effective January 1, 2019. A modified retrospective transition approach is required to be applied to leases existing at, or entered into after, the beginning of the earliest comparative period presented in the financial statements. We do not expect the new guidance to have a significant effect on our financial condition, results of operations, and cash flows since our existing off-balance sheet operating leases are not material.

Recognition and Measurement of Financial Assets and Financial Liabilities

In January of 2016, the FASB issued new guidance governing recognition and measurement of financial assets and financial liabilities. The key provisions applicable to us include, but are not limited to, the following:

The ability to elect the fair value option will continue to be permitted.

Requires recognizing the portion of the total change in fair value of a liability resulting from a change in the instrument-specific credit risk in other comprehensive income when we elect to carry that liability at fair value under the fair value option.

Requires separate presentation of financial assets and financial liabilities by measurement category, such as amortized cost, and form, such as securities or loans, on our statements of condition or the accompanying notes to the financial statements.


The new guidance becomes effective January 1, 2018. We are in the process of reviewing its expected effect on our financial condition, results of operations, and cash flows.

Revenue from Contracts with Customers

In May of 2014, the FASB issued new guidance governing revenue recognition from contracts with customers. In August of 2015, the FASB deferred the effective date of this new guidance until January 1, 2018. Subsequently, the FASB has issued several pronouncements that provide additional guidance and clarifications to the revenue recognition guidance issued in May of 2014. The new revenue recognition guidance is not expected to have a material effect on our financial condition, results of operations, or cash flows at the time of adoption because the majority of our financial instruments and other contractual rights are within the scope of other GAAP guidance; and accordingly, are excluded from the scope of this new revenue recognition guidance.


11

logoa11.jpg
Notes to Financial Statements - (Unaudited)
(Dollars in tables in millions except per share amounts unless otherwise indicated)

Note 4 – Interest Income and Interest Expense
The following table presents interest income and interest expense for the periods indicated:
 
Three months ended September 30,
 
Nine months ended September 30,
 
2016
 
2015
 
2016
 
2015
Interest income -
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Trading
$
2

 
$

 
$
7

 
$
2

Available-for-sale
116

 
132

 
367

 
396

Held-to-maturity
56

 
63

 
171

 
201

Investment securities
174

 
195

 
545

 
599

 

 
 
 
 
 
 
Advance interest income
73

 
44

 
203

 
125

Advance prepayment fees
1

 
1

 
8

 
7

Advances
74

 
45

 
211

 
132

 


 
 
 
 
 
 
MPF Loans held in portfolio
53

 
62

 
165

 
197

Other interest bearing assets
8

 
2

 
23

 
6

 
 
 
 
 
 
 
 
Interest income
309

 
304

 
944

 
934

 

 
 
 
 
 
 
Interest expense -

 
 
 
 
 
 
 

 
 
 
 
 
 
Discount notes
95

 
72

 
272

 
216

Bonds
99

 
96

 
299

 
304

Consolidated obligations
194

 
168

 
571

 
520

 

 
 
 
 
 
 
Subordinated notes

 
14

 
24

 
41

Other interest bearing liabilities
2

 

 
5

 

 
 
 
 
 
 
 
 
Interest expense
196

 
182

 
600

 
561

 

 
 
 
 
 
 
Net interest income
113

 
122

 
344

 
373

 
 
 
 
 
 
 
 
Provision for (reversal of) credit losses

 
1

 

 
5

 
 
 
 
 
 
 
 
Net interest income after provision for (reversal of) credit losses
$
113

 
$
121

 
$
344

 
$
368


12

logoa11.jpg
Notes to Financial Statements - (Unaudited)
(Dollars in tables in millions except per share amounts unless otherwise indicated)

Note 5 – Investment Securities

We classify securities as either trading, held-to-maturity (HTM), or available-for-sale (AFS). Our security disclosures within these classifications are disaggregated by major security types as shown below. Our major security types are based on the nature and risks of the security.

U.S. Government & other government related may consist of the sovereign debt of the United States; debt issued by government sponsored enterprises (GSE); and non-mortgage-backed securities of the Small Business Administration and Tennessee Valley Authority.
Federal Family Education Loan Program - asset backed securities (FFELP ABS).
GSE residential mortgage-backed securities (MBS) issued by Fannie Mae and Freddie Mac.
Government-guaranteed MBS.
Private-label residential MBS.
State or local housing agency obligations.


Pledged Collateral

We disclose the amount of investment securities pledged as collateral pertaining to our derivatives activity on our statements of condition. Also see Note 9 - Derivatives and Hedging Activities for further details.

Trading Securities

The following table presents the fair value of our trading securities. We did not hold a material amount of securities we issued through our MPF Government MBS product as of the dates presented. We had no material unrealized gains or losses on trading securities.

As of
 
September 30, 2016
 
December 31, 2015
U.S. Government & other government related
 
$
1,003

 
$
1,108

Residential MBS:
 
 
 
 
GSE
 
42

 
50

Government-guaranteed
 
2

 
2

Residential MBS
 
44

 
52

Trading securities
 
$
1,047

 
$
1,160



13

logoa11.jpg
Notes to Financial Statements - (Unaudited)
(Dollars in tables in millions except per share amounts unless otherwise indicated)

Amortized Cost Basis and Fair Value – Available-for-Sale Securities (AFS)

 
Amortized Cost Basis
 
Gross Unrealized Gains in AOCI
 
Gross Unrealized (Losses) in AOCI
 
Carrying Amount and Fair Value
As of September 30, 2016
 
 
 
 
 
 
 
U.S. Government & other government related
$
350

 
$
20

 
$
(3
)
 
$
367

State or local housing agency
19

 
1

 

 
20

FFELP ABS
4,561

 
158

 
(25
)
 
4,694

 
 
 
 
 
 
 
 
Residential MBS:
 
 
 
 
 
 
 
GSE
8,578

 
353

 
(9
)
 
8,922

Government-guaranteed
1,457

 
43

 

 
1,500

Private-label
51

 
7

 

 
58

Residential MBS
10,086

 
403

 
(9
)
 
10,480

Available-for-sale securities
$
15,016

 
$
582

 
$
(37
)
 
$
15,561

 
 
 
 
 
 
 
 
As of December 31, 2015
 
 
 
 
 
 
 
U.S. Government & other government related
$
405

 
$
21

 
$
(4
)
 
$
422

State or local housing agency
18

 

 

 
18

FFELP ABS
5,090

 
233

 
(24
)
 
5,299

 
 
 
 
 
 
 

Residential MBS:
 
 
 
 
 
 

GSE
9,427

 
383

 
(12
)
 
9,798

Government-guaranteed
1,811

 
57

 

 
1,868

Private-label
61

 
4

 

 
65

Residential MBS
11,299


444


(12
)

11,731

Available-for-sale securities
$
16,812


$
698


$
(40
)

$
17,470





14

logoa11.jpg
Notes to Financial Statements - (Unaudited)
(Dollars in tables in millions except per share amounts unless otherwise indicated)

Amortized Cost Basis, Carrying Amount, and Fair Value - Held-to-Maturity Securities (HTM)

 
Amortized Cost Basis
 
Non-credit OTTI Recognized in AOCI (Loss)
 
Carrying Amount
 
Gross Unrecognized Holding Gains
 
Gross Unrecognized Holding (Losses)
 
Fair Value
As of September 30, 2016
 
 
 
 
 
 
 
 
 
 
 
U.S. Government & other government related
$
1,271

 
$

 
$
1,271

 
$
74

 
$

 
$
1,345

State or local housing agency
13

 

 
13

 

 

 
13

 
 
 
 
 
 
 
 
 
 
 
 
Residential MBS:
 
 
 
 
 
 
 
 
 
 
 
GSE
1,928

 

 
1,928

 
133

 

 
2,061

Government-guaranteed
834

 

 
834

 
13

 

 
847

Private-label
929

 
(187
)
 
742

 
301

 
(1
)
 
1,042

Residential MBS
3,691

 
(187
)
 
3,504

 
447

 
(1
)
 
3,950

Held-to-maturity securities
$
4,975

 
$
(187
)
 
$
4,788

 
$
521

 
$
(1
)
 
$
5,308

 
 
 
 
 
 
 
 
 
 
 
 
As of December 31, 2015
 
 
 
 
 
 
 
 
 
 
 
U.S. Government & other government related
$
1,932

 
$

 
$
1,932

 
$
64

 
$
(1
)
 
$
1,995

State or local housing agency
16

 

 
16

 

 

 
16

 
 
 
 
 

 
 
 
 
 

Residential MBS:
 
 
 
 

 
 
 
 
 

GSE
2,163

 

 
2,163

 
134

 

 
2,297

Government-guaranteed
969

 

 
969

 
16

 

 
985

Private-label
1,104

 
(217
)
 
887

 
334

 
(1
)
 
1,220

Residential MBS
4,236


(217
)

4,019


484


(1
)

4,502

Held-to-maturity securities
$
6,184


$
(217
)

$
5,967


$
548


$
(2
)

$
6,513




15

logoa11.jpg
Notes to Financial Statements - (Unaudited)
(Dollars in tables in millions except per share amounts unless otherwise indicated)

Aging of Unrealized Temporary Losses

The following tables present unrealized temporary losses on our AFS and HTM portfolio for periods less than 12 months and for 12 months or more. We recognized no OTTI charges on these unrealized loss positions because we expect to recover the entire amortized cost basis, we do not intend to sell these securities, and we believe it is more likely than not that we will not be required to sell them prior to recovering their amortized cost basis. In the tables below, in cases where the gross unrealized losses for an investment category are less than $1 million, the losses are not reported.

Available-for-Sale Securities

 
Less than 12 Months
 
12 Months or More
 
Total
 
Fair Value
 
Gross Unrealized (Losses)
 
Fair Value
 
Gross Unrealized (Losses)
 
Fair Value
 
Gross Unrealized (Losses)
As of September 30, 2016
 
 
 
 
 
 
 
 
 
 
 
U.S. Government & other government related
$

 
$

 
$
86

 
$
(3
)
 
$
86

 
$
(3
)
State or local housing agency
1

 

 

 

 
1

 

FFELP ABS

 

 
774

 
(25
)
 
774

 
(25
)
 
 
 
 
 

 
 
 
 
 
 
Residential MBS:
 
 
 
 

 
 
 
 
 
 
GSE
658

 

 
1,217

 
(9
)
 
1,875

 
(9
)
Government-guaranteed
24

 

 

 

 
24

 

Private-label

 

 
1

 

 
1

 

Residential MBS
682

 

 
1,218

 
(9
)
 
1,900

 
(9
)
Available-for-sale securities
$
683


$


$
2,078


$
(37
)

$
2,761


$
(37
)
 
 
 
 
 
 
 
 
 
 
 
 
As of December 31, 2015
 
 
 
 
 
 
 
 
 
 
 
U.S. Government & other government related
$
30

 
$
(1
)
 
$
45

 
$
(3
)
 
$
75


$
(4
)
State or local housing agency
4

 

 

 

 
4



FFELP ABS
64

 
(1
)
 
787

 
(23
)
 
851


(24
)
 
 
 
 
 
 
 
 
 



Residential MBS:
 
 
 
 
 
 
 
 



GSE
1,081

 
(3
)
 
1,006

 
(9
)
 
2,087


(12
)
Government-guaranteed
90

 

 

 

 
90



Private-label

 

 
8

 

 
8



Residential MBS
1,171


(3
)

1,014


(9
)

2,185


(12
)
Available-for-sale securities
$
1,269


$
(5
)

$
1,846


$
(35
)

$
3,115


$
(40
)


16

logoa11.jpg
Notes to Financial Statements - (Unaudited)
(Dollars in tables in millions except per share amounts unless otherwise indicated)

Held-to-Maturity Securities

 
Less than 12 Months
 
12 Months or More
 
Total
 
Fair Value
 
Gross Unrealized (Losses)
 
Fair Value
 
Gross Unrealized (Losses)
 
Fair Value
 
Gross Unrealized (Losses)
As of September 30, 2016
 
 
 
 
 
 
 
 
 
 
 
U.S. Government & other government related
$

 
$

 
$
16

 
$

 
$
16

 
$

State or local housing agency
9

 

 
1

 

 
10

 

 
 
 
 
 
 
 
 
 
 
 
 
Residential MBS:
 
 
 
 
 
 
 
 
 
 
 
GSE
4

 

 

 

 
4

 

Private-label

 

 
1,000

 
(188
)
 
1,000

 
(188
)
Residential MBS
4

 

 
1,000

 
(188
)
 
1,004

 
(188
)
Held-to-maturity securities
$
13


$


$
1,017


$
(188
)

$
1,030


$
(188
)
 
 
 
 
 
 
 
 
 
 
 
 
As of December 31, 2015
 
 
 
 
 
 
 
 
 
 
 
U.S. Government & other government related
$
606

 
$

 
$
16

 
$
(1
)
 
$
622


$
(1
)
State or local housing agency
1

 

 
10

 

 
11



 
 
 
 
 
 
 
 
 





Residential MBS:
 
 
 
 
 
 
 
 





GSE
4

 

 

 

 
4



Private-label

 

 
1,167

 
(218
)
 
1,167


(218
)
Residential MBS
4




1,167


(218
)

1,171


(218
)
Held-to-maturity securities
$
611


$


$
1,193


$
(219
)

$
1,804


$
(219
)


Contractual Maturity Terms

The following table primarily presents the amortized cost basis and fair value of U.S. Government & other government related AFS and HTM securities by contractual maturity. ABS and MBS securities are excluded since their expected maturities may differ from their contractual maturities if borrowers of the underlying loans elect to prepay their loans.

 
 
Available-for-Sale
 
Held-to-Maturity
As of September 30, 2016
 
Amortized Cost Basis
 
Carrying Amount and Fair Value
 
Carrying Amount
 
Fair Value
Year of Maturity -
 
 
 
 
 
 
 
 
Due in one year or less
 
$
17

 
$
17

 
$
176

 
$
177

Due after one year through five years
 
44

 
46

 
285

 
298

Due after five years through ten years
 
30

 
32

 
86

 
88

Due after ten years
 
278

 
292

 
737

 
795

ABS and MBS without a single maturity date
 
14,647

 
15,174

 
3,504

 
3,950

Total securities
 
$
15,016

 
$
15,561

 
$
4,788

 
$
5,308


17

logoa11.jpg
Notes to Financial Statements - (Unaudited)
(Dollars in tables in millions except per share amounts unless otherwise indicated)

Other-Than-Temporary Impairment Analysis


We had no OTTI for the periods presented based on the significant inputs, key modeling assumptions, and methodologies outlined below.

We assess an HTM or AFS private-label MBS security for OTTI whenever its fair value is less than its amortized cost basis as of the reporting date. Specifically, we determine OTTI, if any, by performing a cash flow analysis for substantially all of these private-label MBS securities utilizing two independent third party models, which are described further below. Our analysis generates cash flow projections utilizing significant inputs, key modeling assumptions, and methodologies provided by the FHLB System OTTI Committee, which was established to achieve consistent OTTI analyses for private-label MBS among FHLBs. We are still responsible, however, for making our own OTTI determination, which involves determining the reasonableness of these significant inputs, assumptions, and methodologies, as well as performing the required present value calculations using appropriate historical cost bases and yields.  We then utilize these cash flow projections to determine if OTTI exists on our private-label MBS.

First model. This model considers borrower characteristics and the particular attributes of the loans underlying the securities, in conjunction with assumptions about future changes in home prices and interest rates, prepayment rates, default rates, and loss severities. A significant input to the first model is the forecast of future housing price changes for the relevant states and core based statistical areas (CBSAs), which are based upon an assessment of the individual housing markets. Outputs from this first model are then used as inputs by the second model as follows.

Second model. This model uses the month-by-month projections of future loan performance derived from the first model and allocates the projected loan level cash flows and losses to the various security classes in the securitization structure in accordance with its prescribed cash flow and loss allocation rules.

As of September 30, 2016, we had a short-term housing price forecast over all markets with projected changes ranging from -1.0% to +10.0% over the twelve month period beginning July 1, 2016. For the vast majority of markets, the short-term forecast has changes ranging from +3.0% to +6.0%

The following table presents the changes in the cumulative amount of previously recorded OTTI credit losses (recognized into earnings) on investment securities for the reporting periods indicated.

 
 
Three months ended September 30,
 
Nine months ended September 30,
 
 
2016
 
2015
 
2016
 
2015
Beginning Balance
 
$
542

 
$
591

 
$
568

 
$
620

Reductions:
 

 
 
 
 
 
 
Increases in expected future cash flows recorded as accretion into interest income
 
(11
)
 
(12
)
 
(37
)
 
(41
)
Ending Balance
 
$
531

 
$
579

 
$
531

 
$
579



Ongoing Litigation

On October 15, 2010, we instituted litigation relating to 64 private-label MBS bonds we purchased in an aggregate original principal amount of $4.29 billion. In April 2016, we received a payment of $37.5 million (partially offset by $5.0 million of related legal fees and other expenses) resulting from a settlement with some of the defendants. As of September 30, 2016, the remaining litigation covers four private-label MBS bonds in the aggregate original principal amount of $77.5 million.

18

logoa11.jpg
Notes to Financial Statements - (Unaudited)
(Dollars in tables in millions except per share amounts unless otherwise indicated)

Note 6 – Advances

We offer a wide range of fixed- and variable-rate advance products with different maturities, interest rates, payment characteristics and optionality.

The following table presents our advances by terms of maturity. Actual maturities may differ from contractual maturities because some borrowers have the right to call or prepay advances with or without penalties.

As of September 30, 2016
 
Weighted Average Contractual Interest Rate
 
Amount  
Due in one year or less
 
0.60
%
 
$
12,719

One to two years
 
0.77
%
 
8,966

Two to three years
 
0.56
%
a 
7,283

Three to four years
 
0.58
%
a 
8,120

Four to five years
 
1.34
%
 
1,536

More than five years
 
1.67