Derivatives and Hedging Activities

9 Months Ended

Sep. 30, 2018

Derivative Instruments and Hedging Activities Disclosure [Abstract]

4. Derivatives and Hedging Activities

Credco uses derivative financial instruments to manage exposures to various market risks. These instruments derive their value from an underlying variable or multiple variables, including interest rates and foreign exchange rates, and are carried at fair value on the Consolidated Balance Sheets. These instruments enable end users to increase, reduce or alter exposure to various market risks and, for that reason, are an integral component of Credco’s market risk management. Credco does not transact in derivatives for trading purposes.

In relation to Credco’s credit risk, under the terms of the derivative agreements it has with its various counterparties, Credco is not required to either immediately settle any outstanding liability balances or post collateral upon the occurrence of a specified credit risk-related event. Based on Credco’s assessment of the credit risk of its derivative counterparties as of September 30, 2018 and December 31, 2017, no credit risk adjustment to the derivative portfolio was required.

The following table summarizes the total fair value, excluding interest accruals, of derivative assets and liabilities as of September 30, 2018 and December 31, 2017:

		Other Assets				Other Liabilities
		Fair Value				Fair Value
(Millions)		2018		2017		2018		2017
Derivatives designated as hedging instruments:
	Fair value hedges - Interest rate contracts^(a)	$	―	$	―	$	―	$	―
	Net investment hedges - Foreign exchange contracts		90		54		26		38
Total derivatives designated as hedging instruments			90		54		26		38
Derivatives not designated as hedging instruments:
	Foreign exchange contracts		15		9		62		57
Total derivatives, gross			105		63		88		95
Less: Cash collateral netting^(b)			―		―		―		―
Derivative asset and derivative liability netting^(c)			(25)		(26)		(25)		(26)
Total derivatives, net		$	80	$	37	$	63	$	69

For centrally cleared derivatives, variation margin payments are legally characterized as settlement payments as opposed to collateral. Accordingly, assets and liabilities are disclosed for centrally cleared derivatives, each net of variation margin.
Credco posted $67 million and $115 million as of September 30, 2018 and December 31, 2017, respectively, as initial margin on its centrally cleared interest rate swaps; such amounts are recorded within Other assets on Credco’s Consolidated Balance Sheets and are not netted against the derivative balances.
Represents the amount of netting of derivative assets and derivative liabilities executed with the same counterparty under an enforceable master netting arrangement.

A majority of Credco’s derivative assets and liabilities as of September 30, 2018 and December 31, 2017 are subject to master netting agreements with its derivative counterparties. Credco has no derivative amounts subject to enforceable master netting arrangements that are not offset on the Consolidated Balance Sheets.

Fair Value Hedges

Credco is exposed to interest rate risk associated with its fixed-rate long-term debt obligations. At the time of issuance, certain fixed-rate debt obligations are designated in fair value hedging relationships using interest rate swaps to economically convert the fixed interest rate to a floating interest rate. Credco has $14.5 billion and $16.2 billion of its fixed-rate debt obligations designated in fair value hedging relationships as of September 30, 2018 and December 31, 2017, respectively.

The following table represents the gains and losses associated with fair value hedges of Credco’s fixed-rate long-term debt:

		Gains (losses)
		Three Months Ended				Nine Months Ended
		September 30,				September 30,
(Millions)		2018		2017		2018		2017
		Interest Expense^(a)		Other Expenses		Interest Expense^(a)		Other Expenses
Fixed-rate long-term debt	$	(4)	$	(11)	$	123	$	(40)
Derivatives designated as hedging instruments		2		20		(113)		11
Total	$	(2)	$	9	$	10	$	(29)

Credco adopted new accounting guidance providing targeted improvements to the accounting for hedging activities effective January 1, 2018. In compliance with the standard, amounts previously recorded in Other expenses have been prospectively recorded in Interest expense. Refer to Note 1 for additional information.

The carrying values of the hedged liabilities, recorded within Long-term debt on the Consolidated Balance Sheets, were $14.2 billion and $16.0 billion as of September 30, 2018 and December 31, 2017, respectively, including offsetting amounts of $278 million and $155 million for the respective periods, related to the cumulative amount of fair value hedging adjustments.

Credco recognized a net increase of $ 23 million and a net reduction of $ 8 million in Interest expense on Long-term debt for the three months ended September 30, 2018 and 2017, respectively, and a net increase of $ 46 million and a net reduction of $47 million for the nine months ended September 30, 2018 and 2017, respectively, primarily related to the net settlements (interest accruals) on Credco’s interest rate derivatives designated as fair value hedges.

Net Investment Hedges

The gain or loss on net investment hedges, net of taxes, recorded in AOCI as part of the cumulative translation adjustment, were losses of $3 million and $95 million for the three months ended September 30, 2018 and 2017, respectively and a gain of $59 million and a loss of $263 million for the nine months ended September 30, 2018 and 2017, respectively. No amounts associated with net investment hedges were reclassified from AOCI into income for the three and nine months ended September 30, 2018 and 2017.

Derivatives Not Designated as Hedges

The changes in the fair value of derivatives that are not designated as hedges are intended to offset the related foreign exchange gains or losses of the underlying foreign currency exposures. The changes in the fair value of the derivatives and the related underlying foreign currency exposures resulted in net gains of $ 10 million and $8 million for the three months ended September 30, 2018 and 2017, respectively, and net gains of $ 40 million and $19 million for the nine months ended September 30, 2018 and 2017, respectively, and are recognized in Other expenses.