13. Fair Value

The Financial Accounting Standards Board (“FASB”) defines fair value as the exchange price that would be received to sell an asset or paid to transfer a liability in the principal or most advantageous market for the asset or liability in an orderly transaction between market participants on the measurement date. The FASB’s guidance also establishes a fair value hierarchy that prioritizes the inputs to these valuation techniques used to measure fair value, giving preference to quoted prices in active markets for identical assets or liabilities (“level 1”) and the lowest priority to unobservable inputs such as a reporting entity’s own data (“level 3”). Level 2 inputs include quoted prices for similar assets or liabilities in active markets, quoted prices for identical assets or liabilities in markets that are not active, observable inputs other than quoted prices, such as interest rates and yield curves, and inputs that are derived principally from or corroborated by observable market data by correlation or other means.

Fair Value of Assets and Liabilities Measured on a Recurring Basis

The following tables present for each of the fair value hierarchy levels the Company’s assets and liabilities that are measured at fair value on a recurring basis in the consolidated balance sheets.



	September 30, 2017
(in thousands)	Level 1		Level 2		Level 3		Total
Assets
Available for sale debt securities:
U.S. Treasury and government agency securities	$	—	$	73,442	$	—	$	73,442
Municipal obligations		—		242,678		—		242,678
Corporate debt securities		—		3,500		—		3,500
Residential mortgage-backed securities		—		1,793,426		—		1,793,426
Commercial mortgage-backed securities		—		568,353		—		568,353
Collateralized mortgage obligations		—		173,879		—		173,879
Total available for sale securities		—		2,855,278		—		2,855,278
Derivative assets (1)		—		17,199		—		17,199
Total recurring fair value measurements - assets	$	—	$	2,872,477	$	—	$	2,872,477
Liabilities
Derivative liabilities (1)	$	—	$	12,691	$	—	$	12,691
Total recurring fair value measurements - liabilities	$	—	$	12,691	$	—	$	12,691

(1)

For further disaggregation of derivative assets and liabilities, see Note 6 - Derivatives.



	December 31, 2016
(in thousands)	Level 1		Level 2		Level 3		Total
Assets
Available for sale debt securities:
U.S. Treasury and government agency securities	$	—	$	54,828	$	—	$	54,828
Municipal obligations		—		242,155		—		242,155
Corporate debt securities		—		3,500		—		3,500
Residential mortgage-backed securities		—		1,611,355		—		1,611,355
Commercial mortgage-backed securities		—		402,591		—		402,591
Collateralized mortgage obligations		—		202,479		—		202,479
Total available for sale securities		—		2,516,908		—		2,516,908
Derivative assets (1)		—		20,315		—		20,315
Total recurring fair value measurements - assets	$	—	$	2,537,223	$	—	$	2,537,223
Liabilities
Derivative liabilities (1)	$	—	$	27,432	$	—	$	27,432
Total recurring fair value measurements - liabilities	$	—	$	27,432	$	—	$	27,432

(1)

For further disaggregation of derivative assets and liabilities, see Note 6 - Derivatives.

Securities classified as level 2 include obligations of U.S. Government agencies and U.S. Government-sponsored agencies, residential mortgage-backed securities and collateralized mortgage obligations that are issued or guaranteed by U.S. government agencies, and state and municipal bonds. The level 2 fair value measurements for investment securities are obtained quarterly from a third-party pricing service that uses industry-standard pricing models. Substantially all of the model inputs are observable in the marketplace or can be supported by observable data.

The Company invests only in securities of investment grade quality with a targeted duration, for the overall portfolio, generally between two and five years. Company policies generally limit investments to U.S. agency securities and municipal securities determined to be investment grade according to an internally generated score which generally includes a rating of not less than “Baa” or its equivalent by a nationally recognized statistical rating agency.

The fair value of derivative financial instruments, which are predominantly customer interest rate swaps, is obtained from a third-party pricing service that uses an industry-standard discounted cash flow model that relies on inputs, LIBOR swap curves and Overnight Index swap rate curves, observable in the marketplace. To comply with the accounting guidance, credit valuation adjustments are incorporated in the fair values to appropriately reflect nonperformance risk for both the Company and the counterparties. Although the Company has determined that the majority of the inputs used to value the derivative instruments fall within level 2 of the fair value hierarchy, the credit value adjustments utilize level 3 inputs, such as estimates of current credit spreads. The Company has determined that the impact of the credit valuation adjustments is not significant to the overall valuation of these derivatives. As a result, the Company has classified its derivative valuations in their entirety in level 2 of the fair value hierarchy. The Company’s policy is to measure counterparty credit risk quarterly for all derivative instruments, including those subject to master netting arrangements consistent with how market participants would price the net risk exposure at the measurement date.

The Company also has certain derivative instruments associated with the Bank’s mortgage banking activities. These derivative instruments include interest rate lock commitments on prospective residential mortgage loans and forward commitments to sell these loans to investors on a best efforts delivery basis. The fair value of these derivative instruments is measured using observable market prices for similar instruments and is classified as a level 2 measurement.

The Company’s policy is to recognize transfers between valuation hierarchy levels as of the end of a reporting period. There were no transfers between levels during the periods shown.

Fair Value of Assets Measured on a Nonrecurring Basis

Certain assets and liabilities are measured at fair value on a nonrecurring basis. Collateral-dependent impaired loans are level 2 assets measured at the fair value of the underlying collateral based on independent third-party appraisals that take into consideration market-based information such as recent sales activity for similar assets in the property’s market.

Other real estate owned, including both foreclosed property and surplus banking property, are level 3 assets that are adjusted to fair value, less estimated selling costs, upon transfer to other real estate owned. Subsequently, other real estate owned is carried at the lower of carrying value or fair value less estimated selling costs. Fair values are determined by sales agreement or third-party appraisals as discounted for estimated selling costs, information from comparable sales, and marketability of the property.

The fair value information presented below is not as of the period-end, rather it was as of the date the fair value adjustment was recorded during the twelve months for each of the dates presented below, and excludes nonrecurring fair value measurements of assets no longer on the balance sheet.

The following tables present the Company’s financial assets that are measured at fair value on a nonrecurring basis for each of the fair value hierarchy levels.



	September 30, 2017
(in thousands)	Level 1		Level 2		Level 3		Total
Collateral-dependent impaired loans	$	—	$	129,230	$	—	$	129,230
Other real estate owned		—		—		6,810		6,810
Total nonrecurring fair value measurements	$	—	$	129,230	$	6,810	$	136,040



	December 31, 2016
(in thousands)	Level 1		Level 2		Level 3		Total
Collateral-dependent impaired loans	$	—	$	169,888	$	—	$	169,888
Other real estate owned		—		—		13,968		13,968
Total nonrecurring fair value measurements	$	—	$	169,888	$	13,968	$	183,856

Accounting guidance from the FASB requires the disclosure of estimated fair value information about certain on- and off-balance sheet financial instruments, including those financial instruments that are not measured and reported at fair value on a recurring basis. The significant methods and assumptions used by the Company to estimate the fair value of financial instruments are discussed below.

Cash, Short‑Term Investments and Federal Funds Sold – For these short‑term instruments, the carrying amount is a reasonable estimate of fair value.

Securities – The fair value measurement for securities available for sale was discussed earlier in the note. The same measurement techniques were applied to the valuation of securities held to maturity.

Loans, Net – The fair value measurement for certain impaired loans was discussed earlier in the note. For the remaining portfolio, fair values were generally determined by discounting scheduled cash flows using discount rates determined with reference to current market rates at which loans with similar terms would be made to borrowers of similar credit quality.

Loans Held for Sale – These loans are recorded at fair value and carried at the lower of cost or market. The carrying amount is considered a reasonable estimate of fair value.

Deposits – The accounting guidance requires that the fair value of deposits with no stated maturity, such as noninterest-bearing demand deposits, interest-bearing checking and savings accounts, be assigned fair values equal to amounts payable upon demand (“carrying amounts”). The fair value of fixed maturity certificates of deposit is estimated using the rates currently offered for deposits of similar remaining maturities.

Securities Sold under Agreements to Repurchase, Federal Funds Purchased, and FHLB Borrowings – For these short-term liabilities, the carrying amount is a reasonable estimate of fair value.

Long-Term Debt – The fair value is estimated by discounting the future contractual cash flows using current market rates at which debt with similar terms could be obtained.

Derivative Financial Instruments – The fair value measurement for derivative financial instruments was discussed earlier in the note.

The following tables present the estimated fair values of the Company’s financial instruments by fair value hierarchy levels and the corresponding carrying amount at September 30, 2017 and December 31, 2016.



	September 30, 2017
							Total Fair		Carrying
(in thousands)	Level 1		Level 2		Level 3		Value		Amount
Financial assets:
Cash, interest-bearing bank deposits, and federal funds sold	$	445,500	$	—	$	—	$	445,500	$	445,500
Available for sale securities		—		2,855,278		—		2,855,278		2,855,278
Held to maturity securities		—		2,768,148		—		2,768,148		2,769,274
Loans, net		—		129,230		18,300,747		18,429,977		18,563,163
Loans held for sale		—		23,236		—		23,236		23,236
Derivative financial instruments		—		17,199		—		17,199		17,199
Financial liabilities:
Deposits	$	—	$	—	$	21,523,649	$	21,523,649	$	21,533,859
Federal funds purchased		1,150		—		—		1,150		1,150
Securities sold under agreements to repurchase		512,001		—		—		512,001		512,001
FHLB short-term borrowings		1,224,000		—		—		1,224,000		1,224,000
Long-term debt		—		330,909		—		330,909		331,179
Derivative financial instruments		—		12,691		—		12,691		12,691



	December 31, 2016
							Total Fair		Carrying
(in thousands)	Level 1		Level 2		Level 3		Value		Amount
Financial assets:
Cash, interest-bearing bank deposits, and federal funds sold	$	450,866	$	—	$	—	$	450,866	$	450,866
Available for sale securities		—		2,516,908		—		2,516,908		2,516,908
Held to maturity securities		—		2,470,117		—		2,470,117		2,500,220
Loans, net		—		169,888		16,326,961		16,496,849		16,522,733
Loans held for sale		—		34,064		—		34,064		34,064
Derivative financial instruments		—		20,315		—		20,315		20,315
Financial liabilities:
Deposits	$	—	$	—	$	19,430,939	$	19,430,939	$	19,424,266
Federal funds purchased		2,275		—		—		2,275		2,275
Securities sold under agreements to repurchase		358,131		—		—		358,131		358,131
FHLB short-term borrowings		865,000		—		—		865,000		865,000
Long-term debt		—		435,747		—		435,747		436,280
Derivative financial instruments		—		27,432		—		27,432		27,432