Derivative Financial Instruments and Hedging

12 Months Ended

Dec. 31, 2015

Derivative Instruments and Hedging Activities Disclosure [Abstract]

Derivative Financial Instruments and Hedging

Derivative Financial Instruments and Hedging

The Company utilizes derivative financial instruments as part of its overall investment activities. Investments in derivative contracts are subject to additional risk that can result in a loss of all or part of an investment. The Company’s derivative activities are primarily classified by underlying credit risk, and interest rate risk. In addition, the Company is also subject to additional counterparty risk should its counterparties fail to meet the contract terms. The derivative financial instruments are located within trading assets at fair value within Other assets and trading liabilities within Other liabilities and accrued expenses on the Consolidated Balance Sheets.

Derivatives, at fair value

Credit Derivatives

Credit derivatives are generally defined as over‑the‑counter contracts between a buyer and seller of protection against the risk of default on a set of obligations issued by a specified reference entity.

Credit Default Swap Indices (CDX) are credit derivatives that reference multiple names through underlying baskets or portfolios of single name credit default swaps. The Company enters into these contracts as both a buyer of protection and seller of protection to manage the credit risk exposure of its investment portfolio. The Company is required to deposit cash collateral for these positions equal to an initial 2.25% of the notional amount of the sold protection side, subject to increase based on additional maintenance margin as a result of decreases in value. As of December 31, 2015, the total margin was $6,750.

Foreign Currency Forward Contracts

Foreign currency forward contracts are used as a foreign currency hedge where the Company has an obligation to either make or take a foreign currency payment at a in the future date. If the date of the foreign currency payment and the last trading date of the foreign currency forwards contract are matched, the Company has in effect “locked in” the exchange rate payment amount. The Company, through its subsidiary Siena, has entered into a foreign exchange forward contract to protect its position on its foreign loans receivable.

Interest Rate Lock Commitments

The Company enters into interest rate lock commitments (IRLCs) in connection with its mortgage banking activities to fund residential mortgage loans with certain terms at specified times in the future. IRLCs that relate to the origination of mortgage loans that will be classified as held-for-sale are considered derivative instruments under applicable accounting guidance. As such, these IRLCs are recorded at fair value with changes in fair value typically resulting in recognition of a gain when the Company enters into IRLCs. In estimating the fair value of an IRLC, the Company assigns a probability that the loan commitment will be exercised and the loan will be funded. The fair value of the commitments is derived from the fair value of related mortgage loans, net of estimated costs to complete. Outstanding IRLCs expose the Company to the risk that the price of the loans underlying the commitments might decline from inception of the rate lock to funding of the loan. To manage this risk, the Company utilizes forward delivery contracts and TBA mortgage backed securities to economically hedge the risk of potential changes in the value of the loans that would result from the commitments.

Forward Delivery Contracts

The Company enters into forward delivery contracts with investors to manage the interest rate risk associated with IRLCs and loans held for sale.

TBA Mortgage Backed Securities

The Company enters into to be announced (TBA) mortgage backed securities which facilitate hedging and funding by allowing the Company to prearrange prices for mortgages that are in the process of originating. The Company utilizes these hedging instruments for Agency (Fannie Mae and Freddie Mac) and FHA/VA (Ginnie Mae) eligible IRLCs and typically commit them to investors at prices higher than otherwise available.

Interest Rate Swaps

The Company is exposed to interest rate risk when there is an unfavorable change in the value of investments as a result of adverse movements in the market interest rates. The Company enters into interest rate swaps (IRS) to protect against such adverse movements in interest rates. The Company is required to post collateral for the benefit of the counterparty. This is included in other assets in the Consolidated Balance Sheet.

The Company is party to six interest rate swaps in order to economically hedge interest rate risk associated with its real estate portfolio. All of these swaps have the same counterparty.

The following table summarizes the gross notional and fair value amounts of derivatives (on a gross basis) categorized by underlying risk:

	Notional Values		Asset Derivatives		Liability Derivatives
For the year ended December 31, 2015
Credit risk:
Credit derivatives	$	598,141	$	41,232	$	27,655
Foreign currency risk:
Foreign currency forward contracts	683		—		5
Interest rate risk:
Interest rate lock commitments	156,309		3,384		—
Forward delivery contracts	52,054		11		8
TBA mortgage backed securities	136,750		179		150
Interest rate swaps	78,988		—		2,310
Sub-total	424,101		3,574		2,468
Total	$	1,022,925	$	44,806	$	30,128
For the year ended December 31, 2014
Credit risk:
Credit derivatives	$	601,959	$	52,612	$	40,147
Foreign currency risk:
Foreign currency forward contracts	—		—		—
Interest rate risk:
Interest rate lock commitments	87,399		865		—
TBA mortgage backed securities	9,000		—		72
Interest rate swaps	78,988		—		2,913
Sub-total	175,387		865		2,985
Total	$	777,346	$	53,477	$	43,132

The Company nets the credit derivative assets and liabilities as these credit derivatives are subject to legally enforceable netting arrangements with the same party. The following table presents derivative instruments that are subject to offset by a master netting agreement:

	As of
	December 31, 2015			December 31, 2014
Derivatives subject to netting arrangements:
Credit default swap indices sold protection	$	41,126		$	52,513
Credit default swap indices bought protection	(27,655		)	(40,147		)
Gross assets recognized	13,471			12,366
Collateral payable	(1,632		)	(1,632		)
Net assets recognized	$	11,839		$	10,734

Derivatives designated as cash flow hedging instruments

Fortegra has an IRS with a counterparty, pursuant to which Fortegra swapped the floating rate portion of its outstanding preferred trust securities to a fixed rate. This IRS is designated as a cash flow hedge and expires in June 2017. As of the December 4, 2014 acquisition date, the IRS was considered a new hedging relationship, and has been redesignated as a hedge.

As of December 31, 2015, the notional amount of this cash flow hedge was $35,000, with a fair value of $(1,283). Based on analysis under the long-haul method, the IRS hasan unrealized gain net of tax of $111, and a variable rate of interest of 0.51% and a fixed rate of 3.47%.

For the year ended December 31, 2015, the pretax loss recognized in AOCI on the derivative-effective portion was $54, with a pretax loss reclassified from AOCI into income-effective portion of $274. The amount estimated to be reclassified to earnings from AOCI during the next 12 months is $24. These net losses reclassified into earnings are primarily expected to increase net interest expense related to the respective hedged item.