Note 16 – Derivative instruments

The Company is exposed to changing interest rates and market conditions, which affect cash flows associated with borrowings. The Company uses derivative instruments to manage interest rate risk and conditions in the commercial mortgage market and, as such, views them as economic hedges. Interest rate swaps are used to mitigate the exposure to changes in interest rates and involve the receipt of variable-rate interest amounts from a counterparty in exchange for making payments based on a fixed interest rate over the life of the swap contract. CDS are executed in order to mitigate the risk of deterioration in the current credit health of the commercial mortgage market. IRLCs are entered into with customers who have applied for residential mortgage loans and meet certain underwriting criteria. These commitments expose GMFS to market risk if interest rates change, and if the loan is not economically hedged or committed to an investor.

For derivative instruments that the Company has not elected hedge accounting, the fair value adjustments on such instruments are recorded in earnings. The fair value adjustments for interest rate swaps and CDS, along with the related interest income, interest expense and gains (losses) on termination of such instruments, are reported as a net realized gain on financial instruments on the unaudited interim consolidated statements of income. The fair value adjustments for IRLCs, along with the related interest income, interest expense and gains (losses) on termination of such instruments, are reported in residential mortgage banking activities on the unaudited interim consolidated statements of income.

As described in Note 3, for qualifying cash flow hedges, the entire change in the fair value of the derivative is recorded in other comprehensive income (loss) ("OCI") and recognized in the consolidated statements of income when the hedged cash flows affect earnings. Derivative amounts affecting earnings are recognized consistent with the classification of the hedged item, primarily interest expense. The ineffective portions of the cash flow hedges are immediately recognized in earnings.

The following tables summarize the Company’s use of derivatives and their effect on the unaudited interim consolidated financial statements. Notional amounts included in the table are the average notional amounts on the unaudited interim consolidated balance sheet dates. We believe these are the most relevant measure of volume or derivative activity as they best represent the Company’s exposure to underlying instruments.

The following table summarize our derivatives, by type, as of September 30, 2019 and December 31, 2018:


		As of September 30, 2019						As of December 31, 2018
				Asset		Liability				Asset		Liability
		Notional		Derivatives		Derivatives		Notional		Derivatives		Derivatives
(In Thousands)	Primary Underlying Risk	Amount		Fair Value		Fair Value		Amount		Fair Value		Fair Value
Credit Default Swaps	Credit Risk	$	15,000	$	—	$	(57)	$	15,000	$	295	$	—
Interest Rate Swaps - not designated as hedges	Interest rate risk		372,426		—		(4,232)		411,811		—		(2,349)
Interest Rate Swaps - designated as hedges	Interest rate risk		252,850		—		(7,617)		134,325		—		(1,276)
Interest rate lock commitments	Interest rate risk		297,112		4,181		—		144,799		1,775		—
Total		$	937,388	$	4,181	$	(11,906)	$	705,935	$	2,070	$	(3,625)

The following tables summarize the gains and losses on the Company’s derivatives:


	Three Months Ended September 30, 2019				Nine Months Ended September 30, 2019
	Net Realized		Unrealized		Net Realized		Unrealized
(In Thousands)	Gain (Loss)		Gain (Loss)		Gain (Loss)		Gain (Loss)
Credit default swaps (1)	$	—	$	2	$	—	$	(352)
Interest rate swaps (1)(2)		132		(4,268)		(4,068)		(8,817)
Residential mortgage banking activities interest rate swaps (3)		—		1,392		—		593
Interest rate lock commitments (3)		—		510		—		2,405
Total	$	132	$	(2,364)	$	(4,068)	$	(6,171)
(1) Gains (losses) are recorded in net unrealized gain (loss) on financial instruments or net realized gain (loss) on financial instruments in the consolidated statements of income. (2) For qualifying hedges of interest rate risk, the effective portion relating to the unrealized gain (loss) on derivatives are recorded in accumulated other comprehensive income (loss). (3) Gains (losses) are recorded in residential mortgage banking activities in the consolidated statements of income.


	Three Months Ended September 30, 2018				Nine Months Ended September 30, 2018
	Net Realized		Unrealized		Net Realized		Unrealized
(In Thousands)	Gain (Loss)		Gain (Loss)		Gain (Loss)		Gain (Loss)
Credit default swaps (1)	$	—	$	(121)	$	(703)	$	788
Interest rate swaps (1)		(212)		1,919		4,094		801
Residential mortgage banking activities interest rate swaps (2)		—		1,597		—		885
Interest rate lock commitments (2)		—		(1,412)		—		(407)
Total	$	(212)	$	1,983	$	3,391	$	2,067
(1) Gains (losses) are recorded in net unrealized gain (loss) on financial instruments or net realized gain (loss) on financial instruments in the consolidated statements of income. (2) Gains (losses) are recorded in gains on residential mortgage banking activities, net of variable loan expenses, in the consolidated statements of income.

The following tables summarize the gains and losses on the Company’s derivatives which have qualified for hedge accounting:


(In Thousands)	Derivatives - effective portion reclassified from AOCI to income		Hedge ineffectiveness recorded directly in income (2)		Total income statement impact		Derivatives- effective portion recorded in OCI (3)		Total change in OCI for period (3)
Hedge type
Interest rate - forecasted transactions (1)	$	169	$	—	$	169	$	(2,783)	$	(2,614)
Total - Three months ended September 30, 2019	$	169	$	—	$	169	$	(2,783)	$	(2,614)
Hedge type
Interest rate - forecasted transactions (1)	$	—	$	—	$	—	$	—	$	—
Total - Three months ended September 30, 2018	$	—	$	—	$	—	$	—	$	—
Hedge type
Interest rate - forecasted transactions (1)	$	269	$	—	$	269	$	(9,880)	$	(9,611)
Total - Nine Months Ended September 30, 2019	$	269	$	—	$	269	$	(9,880)	$	(9,611)
Hedge type
Interest rate - forecasted transactions (1)	$	—	$	—	$	—	$	—	$	—
Total - Nine Months Ended September 30, 2018	$	—	$	—	$	—	$	—	$	—
(1) Consists of benchmark interest rate hedges of LIBOR-indexed floating-rate liabilities.
(2) Hedge ineffectiveness is the amount by which the cumulative gain or loss on the designated derivative instrument exceeds the present value of the cumulative expected change in cash flows on the hedged item attributable to the hedged risk.
(3) Represents after tax amounts recorded in OCI.