Derivative Financial Instruments

6 Months Ended

Jun. 30, 2023

Derivative Instruments and Hedging Activities Disclosure [Abstract]

Note 17 – Derivative Financial Instruments

Derivatives Designated as Hedging Instruments

During the third quarter of 2022, Trustmark initiated a cash flow hedging program. Trustmark's objectives in initiating this hedging program were to add stability to interest income and to manage its exposure to interest rate movements. Interest rate swaps designated as cash flow hedges involve the receipt of fixed-rate amounts from a counterparty in exchange for Trustmark making variable-rate payments over the life of the agreements without exchange of the underlying notional amount. Interest rate floor spreads designated as cash flow hedges involve the receipt of variable-rate amounts if interest rates fall below the purchased floor strike rate on the contract and payments of variable-rate amounts if interest rates fall below the sold floor strike rate on the contract. Trustmark uses such derivatives to hedge the variable cash flows associated with existing and anticipated variable-rate loan assets. At June 30, 2023, the aggregate notional value of Trustmark's interest rate swaps and floor spreads designated as cash flow hedges totaled $975.0 million compared to $825.0 million at December 31, 2022.

Trustmark records any gains or losses on these cash flow hedges in accumulated other comprehensive income (loss). Gains and losses on derivatives representing hedge components excluded from the assessment of effectiveness are recognized over the life of the hedge on a systematic and rational basis, as documented at hedge inception in accordance with Trustmark’s accounting policy election. The earnings recognition of excluded components totaled $13 thousand and $22 thousand of amortization expense for the three and six months ended June 30, 2023, respectively, and are included in interest and fees on LHFS and LHFI. As interest payments are received on Trustmark's variable-rate assets, amounts reported in accumulated other comprehensive income (loss) are reclassified into interest and fees on LHFS and LHFI in the accompanying consolidated statements of income during the same period. During the next twelve months, Trustmark estimates that $17.7 million will be reclassified as a reduction to interest and fees on LHFS and LHFI. This amount could differ due to changes in interest rates, hedge de-designations or the addition of other hedges.

Derivatives not Designated as Hedging Instruments

Trustmark utilizes a portfolio of exchange-traded derivative instruments, such as Treasury note futures contracts and option contracts, to achieve a fair value return that economically hedges changes in the fair value of the MSR attributable to interest rates. These transactions are considered freestanding derivatives that do not otherwise qualify for hedge accounting. The total notional amount of these derivative instruments was $277.5 million at June 30, 2023 compared to $277.0 million at December 31, 2022. Changes in the fair value of these exchange-traded derivative instruments are recorded as noninterest income in mortgage banking, net and are offset by changes in the fair value of the MSR. The impact of this strategy resulted in a net negative ineffectiveness of $1.3 million and $632 thousand for the three months ended June 30, 2023 and 2022, respectively. For the six months ended June 30, 2023 and 2022, the impact was a net negative ineffectiveness of $3.1 million and a net positive ineffectiveness of $374 thousand, respectively.

As part of Trustmark’s risk management strategy in the mortgage banking area, derivative instruments such as forward sales contracts are utilized. Trustmark’s obligations under forward sales contracts consist of commitments to deliver mortgage loans, originated and/or purchased, in the secondary market at a future date. Changes in the fair value of these derivative instruments are recorded as noninterest income in mortgage banking, net and are offset by changes in the fair value of LHFS. Trustmark’s off-balance sheet obligations under these derivative instruments totaled $172.5 million at June 30, 2023, with a positive valuation adjustment of $1.0 million, compared to $97.0 million, with a positive valuation adjustment of $168 thousand, at December 31, 2022.

Trustmark also utilizes derivative instruments such as interest rate lock commitments in its mortgage banking area. Interest rate lock commitments are residential mortgage loan commitments with customers, which guarantee a specified interest rate for a specified time period. Changes in the fair value of these derivative instruments are recorded as noninterest income in mortgage banking, net and are offset by the changes in the fair value of forward sales contracts. Trustmark’s off-balance sheet obligations under these derivative instruments totaled $122.7 million at June 30, 2023, with a positive valuation adjustment of $471 thousand, compared to $68.4 million, with a positive valuation adjustment of $157 thousand, at December 31, 2022.

Trustmark offers certain derivatives products directly to qualified commercial lending clients seeking to manage their interest rate risk. Trustmark economically hedges interest rate swap transactions executed with commercial lending clients by entering into offsetting interest rate swap transactions with institutional derivatives market participants. Derivatives transactions executed as part of this program are not designated as qualifying hedging relationships and are, therefore, carried at fair value with the change in fair value recorded as noninterest income in bank card and other fees. Because these derivatives have mirror-image contractual terms, in addition to collateral provisions which mitigate the impact of non-performance risk, the changes in fair value are expected to substantially offset. The Chicago Mercantile Exchange rules legally characterize variation margin collateral payments made or received for centrally cleared interest rate swaps as settlements rather than collateral. As a result, centrally cleared interest rate swaps included in other assets and other liabilities are presented on a net basis in the accompanying consolidated balance sheets. At June 30, 2023, Trustmark had interest rate swaps with an aggregate notional amount of $1.420 billion related to this program, compared to $1.391 billion at December 31, 2022.

Credit-risk-related Contingent Features

Trustmark has agreements with its financial institution counterparties that contain provisions where if Trustmark defaults on any of its indebtedness, including default where repayment of the indebtedness has not been accelerated by the lender, then Trustmark could also be declared in default on its derivatives obligations.

At both June 30, 2023 and December 31, 2022, there was no termination value of interest rate swaps in a liability position, which includes accrued interest but excludes any adjustment for nonperformance risk, related to these agreements. At June 30, 2023 and December 31, 2022, Trustmark had posted collateral of $1.2 million and $740 thousand, respectively, against its obligations because of negotiated thresholds and minimum transfer amounts under these agreements. If Trustmark had breached any of these triggering provisions at June 30, 2023, it could have been required to settle its obligations under the agreements at the termination value.

Credit risk participation agreements arise when Trustmark contracts with other financial institutions, as a guarantor or beneficiary, to share credit risk associated with certain interest rate swaps. These agreements provide for reimbursement of losses resulting from a third-party default on the underlying swap. At June 30, 2023 and December 31, 2022, Trustmark had entered into five risk participation agreements as a beneficiary with aggregate notional amounts of $49.5 million and $50.2 million, respectively. At June 30, 2023, Trustmark had entered into thirty-one risk participation agreements as a guarantor with an aggregate notional amount of $246.3 million compared to twenty-nine risk participation agreements as a guarantor with an aggregate notional amount of $235.8 million at December 31, 2022. The aggregate fair values of these risk participation agreements were immaterial at both June 30, 2023 and December 31, 2022.

Tabular Disclosures

The following tables disclose the fair value of derivative instruments in Trustmark’s consolidated balance sheets at June 30, 2023 and December 31, 2022 as well as the effect of these derivative instruments on Trustmark’s results of operations for the periods presented ($ in thousands):


	June 30, 2023			December 31, 2022
Derivatives in hedging relationships:
Interest rate contracts:
Interest rate swaps included in other assets (1)	$	446		$	—
Interest rate floors included in other assets		348			—
Interest rate swaps included in other liabilities (1)		189			761

Derivatives not designated as hedging instruments:
Interest rate contracts:
Exchange traded purchased options included in other assets	$	14		$	38
OTC written options (rate locks) included in other assets		471			157
Futures contracts included in other assets		—			16
Interest rate swaps included in other assets (1)		9,768			8,654
Credit risk participation agreements included in other assets		4			6
Futures contracts included in other liabilities		2,586			268
Forward contracts included in other liabilities		(1,027	)		(168	)
Exchange traded written options included in other liabilities		422			206
Interest rate swaps included in other liabilities (1)		45,231			44,304
Credit risk participation agreements included in other liabilities		18			8

(1)

In accordance with GAAP, the variation margin collateral payments made or received for interest rate swaps that are centrally cleared are legally characterized as settled. As a result, the centrally cleared interest rate swaps included in other assets and other liabilities are presented on a net basis in the accompanying consolidated balance sheets.


	Three Months Ended June 30,						Six Months Ended June 30,
	2023			2022			2023			2022
Derivatives in hedging relationships:
Amount of gain (loss) reclassified from accumulated other comprehensive income (loss) and recognized in interest and fees on LHFS & LHFI	$	(3,997	)	$	—		$	(6,928	)	$	—

Derivatives not designated as hedging instruments:
Amount of gain (loss) recognized in mortgage banking, net	$	(6,347	)	$	(13,258	)	$	(3,892	)	$	(30,776	)
Amount of gain (loss) recognized in bank card and other fees		200			(87	)		190			322

The following table discloses the amount included in other comprehensive income (loss), net of tax, for derivative instruments

designated as cash flow hedges for the periods presented ($ in thousands):


	Three Months Ended June 30,					Six Months Ended June 30,
	2023			2022		2023			2022
Derivatives in cash flow hedging relationship
Amount of gain (loss) recognized in other comprehensive income (loss), net of tax	$	(14,625	)	$	—	$	(9,923	)	$	—

Trustmark’s interest rate swap derivative instruments are subject to master netting agreements, and therefore, eligible for offsetting in the consolidated balance sheets. Trustmark has elected to not offset any derivative instruments in its consolidated balance sheets. Information about financial instruments that are eligible for offset in the consolidated balance sheets as of June 30, 2023 and December 31, 2022 is presented in the following tables ($ in thousands):


Offsetting of Derivative Assets
As of June 30, 2023
							Gross Amounts Not Offset in the Statement of Financial Position
	Gross Amounts of Recognized Assets		Gross Amounts Offset in the Statement of Financial Position		Net Amounts of Assets presented in the Statement of Financial Position		Financial Instruments			Cash Collateral Received			Net Amount
Derivatives	$	10,562	$	—	$	10,562	$	(1,189	)	$	(1,230	)	$	8,143


Offsetting of Derivative Liabilities
As of June 30, 2023
							Gross Amounts Not Offset in the Statement of Financial Position
	Gross Amounts of Recognized Liabilities		Gross Amounts Offset in the Statement of Financial Position		Net Amounts of Liabilities presented in the Statement of Financial Position		Financial Instruments			Cash Collateral Posted			Net Amount
Derivatives	$	45,420	$	—	$	45,420	$	(1,189	)	$	(1,230	)	$	43,001


Offsetting of Derivative Assets
As of December 31, 2022
							Gross Amounts Not Offset in the Statement of Financial Position
	Gross Amounts of Recognized Assets		Gross Amounts Offset in the Statement of Financial Position		Net Amounts of Assets presented in the Statement of Financial Position		Financial Instruments		Cash Collateral Received			Net Amount
Derivatives	$	9,415	$	—	$	9,415	$	—	$	(2,230	)	$	7,185


Offsetting of Derivative Liabilities
As of December 31, 2022
							Gross Amounts Not Offset in the Statement of Financial Position
	Gross Amounts of Recognized Liabilities		Gross Amounts Offset in the Statement of Financial Position		Net Amounts of Liabilities presented in the Statement of Financial Position		Financial Instruments		Cash Collateral Posted			Net Amount
Derivatives	$	44,304	$	—	$	44,304	$	—	$	(740	)	$	43,564