Derivative Financial Instruments

6 Months Ended

Jun. 30, 2022

Derivative Financial Instruments

Derivative Financial Instruments

Note 17 — Derivative Financial Instruments

We use certain derivative instruments to meet the needs of customers as well as to manage the interest rate risk associated with certain transactions. The following table summarizes the derivative financial instruments used by the Company:

				June 30, 2022						December 31, 2021
	Balance Sheet	Notional		Estimated Fair Value				Notional		Estimated Fair Value
(Dollars in thousands)	Location	Amount		Gain		Loss		Amount		Gain		Loss
Fair value hedge of interest rate risk:
Pay fixed rate swap with counterparty	Other Liabilities	$	17,940	$	—	$	60	$	15,716	$	—	$	1,355
Not designated hedges of interest rate risk:
Customer related interest rate contracts:
Matched interest rate swaps with borrowers	Other Assets and Other Liabilities		10,673,938		30,587		665,970		10,404,605		408,776		69,998
Matched interest rate swaps with counterparty	Other Assets and Other Liabilities		10,649,009		635,943		533		10,402,394		—		338,784
Not designated hedges of interest rate risk - mortgage banking activities:
Contracts used to hedge mortgage servicing rights	Other Assets and Other Liabilities		50,000		—		299		205,000		1,228		—
Contracts used to hedge mortgage pipeline	Other Assets		149,500		1,854		—		324,000		4,738		—
Total derivatives		$	21,540,387	$	668,384	$	666,862	$	21,351,715	$	414,742	$	410,137

Cash Flow Hedge of Interest Rate Risk

The Company is exposed to interest rate risk in the course of its business operations and manages a portion of this risk through the use of derivative financial instruments, in the form of interest rate swaps. We account for interest rate swaps that are classified as cash flow hedges in accordance with FASB ASC 815, Derivatives and Hedging, which requires that all derivatives be recognized as assets or liabilities on the balance sheet at fair value. We had no cash flow hedges as of June 30, 2022 and December 31, 2021. For more information regarding the fair value of our derivative financial instruments, see Note 15 — Fair Value to these financial statements.

For derivatives designated as hedging exposure to variable cash flows of a forecasted transaction (cash flow hedge), the derivative’s entire gain or loss is initially reported as a component of other comprehensive income and subsequently reclassified into earnings when the forecasted transaction affects earnings or when the hedge is terminated. For derivatives that are not designated as hedging instruments, changes in the fair value of the derivatives are recognized in earnings immediately.

For designated hedging relationships, we have a third party perform retrospective and prospective effectiveness testing on a quarterly basis using quantitative methods to determine if the hedge is still highly effective. Hedge accounting ceases on transactions that are no longer deemed highly effective, or for which the derivative has been terminated or de-designated.

Balance Sheet Fair Value Hedge

As of June 30, 2022 and December 31, 2021, the Company maintained loan swaps, with an aggregate notional amount of $17.9 million and $15.7 million, respectively, accounted for as fair value hedges in accordance with ASC 815, Derivatives and Hedging. This derivative protects us from interest rate risk caused by changes in the LIBOR curve in relation to a certain designated fixed rate loan. The derivative converts the fixed rate loan to a floating rate. Settlement occurs in any given period where there is a difference in the stated fixed rate and variable rate and the difference is recorded in net interest income. The fair value of this hedge is recorded in either other assets or in other liabilities depending on the position of the hedge with the offset recorded in loans. There was a gain recorded on these derivatives for the three and six months ended June 30, 2022 of $68,000 and $110,000, respectively. There was no gain or loss recorded on these derivatives for 2021.

Non-designated Hedges of Interest Rate Risk

Customer Swap

We maintain interest rate swap contracts with customers that are classified as non-designated hedges and are not speculative in nature. These agreements are designed to convert customer’s variable rate loans with the Company to

fixed rate. These interest rate swaps are executed with loan customers to facilitate a respective risk management strategy and allow the customer to pay a fixed rate of interest to the Company. These interest rate swaps are simultaneously hedged by executing offsetting interest rate swaps with unrelated market counterparties to minimize the net risk exposure to the Company resulting from the transactions and allow the Company to receive a variable rate of interest. The interest rate swaps pay and receive interest based on a floating rate based on one month LIBOR plus credit spread, with payments being calculated on the notional amount. The Company is in the process of implementing a plan to transition these interest rate swap contracts to a reference rate other than LIBOR. For discussion related to reference rate reform, please refer to Issued But Not Yet Adopted Accounting Standards within Note 2—Summary of Significant Accounting Policies. The interest rate swaps are settled monthly with varying maturities.

As the interest rate swaps associated with this program do not meet the strict hedge accounting requirements, changes in the fair value of both the customer swaps and the offsetting swaps are recognized directly in earnings. As of June 30, 2022 and December 31, 2021, the interest rate swaps had an aggregate notional amount of approximately $21.3 billion and $20.8 billion, respectively. At June 30, 2022, the fair value of the interest rate swap derivatives are recorded in other assets at $666.6 million and in other liabilities at $666.5 million for a net asset position of $33,000. At December 31, 2021, the fair value of the interest rate swap derivatives was recorded in other assets at $408.8 million and other liabilities at $408.8 million for a net liability position of $5,000. Changes in the fair market value of these interest rate swaps is recorded through earnings. As of June 30, 2022, we provided $61.2 million of cash collateral on the counterparty which is included in cash and cash equivalents on the balance sheet as deposits in other financial institutions (restricted cash). We also provided $129.0 million in investment securities at market value as collateral on the counterparty, which is included in investment securities – available for sale. Counterparties provided $506.2 million of cash collateral to the Company to secure swap asset positions which is included in interest-bearing deposits (Liability) on the balance sheet.

Foreign Exchange

We also enter into foreign exchange contracts with customers to accommodate their need to convert certain foreign currencies into U.S. Dollars. To offset the foreign exchange risk, the Company has entered into substantially identical agreements with an unrelated market counterparty to hedge these foreign exchange contracts. At June 30, 2022 and December 31, 2021, there were no outstanding contracts or agreements related to foreign currency. If there were foreign currency contracts outstanding at June 30, 2022, the fair value of these contracts would be included in other assets and other liabilities in the accompanying balance sheet. All changes in fair value are recorded as other noninterest income. There was no gain or loss recorded related to the foreign exchange derivative for the three and six months ended June 30, 2022 and 2021.

Mortgage Banking

We also have derivatives contracts that are not classified as accounting hedges to mitigate risks related to the Company’s mortgage banking activities. These instruments may include financial forwards, futures contracts, and options written and purchased, which are used to hedge MSRs; while forward sales commitments are typically used to hedge the mortgage pipeline. Such instruments derive their cash flows, and therefore their values, by reference to an underlying instrument, index or referenced interest rate. The Company does not elect hedge accounting treatment for any of these derivative instruments and as a result, changes in fair value of the instruments (both gains and losses) are recorded in the Company’s consolidated statements of income in mortgage banking income.

Mortgage Servicing Rights

Derivatives contracts related to MSRs are used to help offset changes in fair value and are written in amounts referred to as notional amounts. Notional amounts provide a basis for calculating payments between counterparties but do not represent amounts to be exchanged between the parties and are not a measure of financial risk. On June 30, 2022, we had derivative financial instruments outstanding with notional amounts totaling $50.0 million related to MSRs, compared to $205.0 million on December 31, 2021. The estimated net fair value of the open contracts related to the MSRs was recorded as a loss of $299,000 at June 30, 2022, compared to a gain of $1.2 million at December 31, 2021.

Mortgage Pipeline

The following table presents our notional value of forward sale commitments and the fair value of those

obligations along with the fair value of the mortgage pipeline related to the held for sale portfolio:

(Dollars in thousands)	June 30, 2022		December 31, 2021
Mortgage loan pipeline	$	128,216	$	264,000
Expected closures		112,258		233,265
Fair value of mortgage loan pipeline commitments		2,105		4,759
Forward sales commitments		149,500		324,000
Fair value of forward commitments		(251)		(21)