Fair Value Measurements

Fair value is the price that would be received to sell an asset or paid to transfer a liability in an orderly transaction between market participants at the measurement date. Fair value is best determined using quoted market prices. However, in many instances, quoted market prices are not available. In such instances, fair values are determined using appropriate valuation techniques. Various assumptions and observable inputs must be relied upon in applying these techniques. Accordingly, categorization within the valuation hierarchy is based upon the lowest level of input that is significant to the fair value measurement. As such, the fair value estimates may not be realized in an immediate transfer of the respective asset or liability.

Fair value estimates are made at a specific point in time, based on relevant market information and information about the financial instrument. These estimates do not reflect any premium or discount that could result from offering for sale at one time the entire holdings or any part of a particular financial instrument. Fair value estimates are based on judgments regarding future expected loss experience, current economic conditions, risk characteristics of various financial instruments, and other factors. These factors are subjective in nature and involve uncertainties and matters of significant judgment and therefore, cannot be determined with precision. Changes in assumptions could significantly affect the estimates.

Fair Value Hierarchy

The three levels within the fair value hierarchy are as follows:


•	Level 1: Valuation is based upon unadjusted quoted prices in active markets for identical assets or liabilities that the reporting entity has the ability to access at the measurement date.

•

Level 2: Fair value is calculated using significant inputs other than quoted market prices that are directly or indirectly observable for the asset or liability. The valuation may rely on quoted prices for similar assets or liabilities in active markets, quoted prices for identical or similar assets or liabilities in inactive markets, inputs other than quoted prices that are observable for the asset or liability (such as interest rates, volatilities, prepayment speeds, credit ratings, etc.), or inputs that are derived principally or corroborated by market data, by correlation, or other means.


•	Level 3: Inputs for determining the fair value of the respective assets or liabilities are not observable. Level 3 valuations are reliant upon pricing models and techniques that require significant management judgment or estimation.

Assets and Liabilities Measured at Fair Value on a Recurring Basis

Available-for-Sale Investment Securities. When quoted prices are available in an active market, the Company classifies securities within Level 1 of the valuation hierarchy. Equity securities in financial services and U.S. Treasury Bills are classified within Level 1 of the fair value hierarchy.

When quoted market prices are not available, the Company engages an independent pricing service that utilizes matrix pricing to calculate fair value. Such fair value measurements consider observable data such as dealer quotes, market spreads, cash flows, yield curves, live trading levels, trade execution data, market consensus prepayments speeds, credit information, and respective terms and conditions for debt instruments. Management maintains procedures to monitor the pricing service's assumptions and establishes processes to challenge the pricing service's valuations that appear unusual or out of tolerance with expected results. Available-for-Sale investment securities which include Agency CMO, Agency MBS, Agency CMBS, CMBS, CLO, single-issuer trust preferred securities, and corporate debt securities, are classified within Level 2 of the fair value hierarchy.

Derivative Instruments. Foreign exchange contracts are valued based on unadjusted quoted prices in active markets and classified within Level 1 of the fair value hierarchy. Derivative instruments are valued using third-party valuation software, which considers the present value of cash flows discounted using observable forward rate assumptions. The resulting fair values are validated against valuations performed by independent third parties and are classified within Level 2 of the fair value hierarchy. In determining if any fair value adjustment related to credit risk is required, Webster evaluates the credit risk of its counterparties by considering factors such as the likelihood of default by the counterparties, its net exposures, the remaining contractual life, as well as the amount of collateral securing the position. Webster reviews its counterparty exposure on a regular basis, and, when necessary, appropriate business actions are taken to adjust the exposure. When determining fair value, Webster applies the portfolio exception with respect to measuring counterparty credit risk for all of its derivative transactions subject to a master netting arrangement. The change in value of derivative assets and liabilities attributable to credit risk was not significant during the reported periods.

Mortgage Banking Derivatives. Forward sales of mortgage loans and mortgage-backed securities are utilized by the Company in its efforts to manage risk of loss associated with its mortgage loan commitments and mortgage loans held for sale. Prior to closing and funding certain single-family residential mortgage loans, an interest rate lock commitment is generally extended to the borrower. During the period from commitment date to closing date, the Company is subject to the risk that market rates of interest may change. If market rates rise, investors generally will pay less to purchase such loans resulting in a reduction in the gain on sale of the loans or, possibly, a loss. In an effort to mitigate such risk, forward delivery sales commitments are established, under which the Company agrees to deliver whole mortgage loans to various investors or issue mortgage-backed securities. The fair value of mortgage banking derivatives is determined based on current market prices for similar assets in the secondary market and, therefore, classified within Level 2 of the fair value hierarchy.

Investments Held in Rabbi Trust. Investments held in the Rabbi Trust primarily include mutual funds that invest in equity and fixed income securities. Shares of mutual funds are valued based on net asset value, which represents quoted market prices for the underlying shares held in the mutual funds. Therefore, investments held in the Rabbi Trust are classified within Level 1 of the fair value hierarchy. Webster has elected to measure the investments held in the Rabbi Trust at fair value. The Company consolidates the invested assets of the trust in other assets within the accompanying Consolidated Balance Sheets. Earnings in the Rabbi Trust, including appreciation or depreciation, are reflected as other non-interest income within the accompanying Consolidated Statements of Income. The cost basis of the investments held in the Rabbi Trust is $3.3 million as of December 31, 2016.

Alternative Investments. The Company generally records alternative investments at cost, subject to impairment testing. The alternative investments that are carried at cost are considered to be measured at fair value on a non-recurring basis when there is impairment. There are certain funds in which the ownership percentage is greater than 3% and are, therefore, recorded at fair value on a recurring basis based upon the net asset value of the respective fund. Alternative investments are non-public entities that cannot be redeemed since the Company’s investment is distributed as the underlying investments are liquidated. As such, these investments are classified within Level 3 of the fair value hierarchy. The Company has $7.7 million in unfunded commitments remaining for its alternative investments as of December 31, 2016. See the Investment Securities Portfolio section of Item 7. Management's Discussion and Analysis of Financial Condition and Results of Operations for additional discussion of the Company's alternative investments.

Originated Loans Held For Sale. Residential mortgage loans typically are classified as held for sale upon origination based on management's intent to sell such loans. The Company generally records residential mortgage loans held for sale under the fair value option of ASC Topic 825 "Financial Instruments." The fair value of residential mortgage loans held for sale is based on quoted market prices of similar loans sold in conjunction with securitization transactions. Accordingly, such loans are classified within Level 2 of the fair value hierarchy.

Summaries of the fair values of assets and liabilities measured at fair value on a recurring basis are as follows:



	At December 31, 2016
(In thousands)	Level 1		Level 2		Level 3		Total
Financial assets held at fair value:
U.S. Treasury Bills	$	734	$	—	$	—	$	734
Agency CMO	—		419,706		—		419,706
Agency MBS	—		954,349		—		954,349
Agency CMBS	—		573,272		—		573,272
CMBS	—		477,365		—		477,365
CLO	—		427,390		—		427,390
Single issuer trust preferred securities	—		28,633		—		28,633
Corporate debt securities	—		109,642		—		109,642
Equities - financial services	—		—		—		—
Total available-for-sale investment securities	734		2,990,357		—		2,991,091
Gross derivative instruments, before netting ⁽¹⁾	250		77,387		—		77,637
Investments held in Rabbi Trust	5,119		—		—		5,119
Alternative investments	—		—		5,502		5,502
Originated loans held for sale ⁽²⁾	—		60,260		—		60,260
Contingent consideration	—		—		—		—
Total financial assets held at fair value	$	6,103	$	3,128,004	$	5,502	$	3,139,609
Financial liabilities held at fair value:
Gross derivative instruments, before netting ⁽¹⁾	$	120	$	45,069	$	—	$	45,189
Contingent liability	—		—		—		—
Total financial liabilities held at fair value	$	120	$	45,069	$	—	$	45,189



	At December 31, 2015
(In thousands)	Level 1		Level 2		Level 3		Total
Financial assets held at fair value:
U.S. Treasury Bills	$	924	$	—	$	—	$	924
Agency CMO	—		548,754		—		548,754
Agency MBS	—		1,065,109		—		1,065,109
Agency CMBS	—		215,350		—		215,350
CMBS	—		579,266		—		579,266
CLO	—		429,159		—		429,159
Single issuer trust preferred securities	—		37,170		—		37,170
Corporate debt securities	—		106,321		—		106,321
Equities - financial services	2,578		—		—		2,578
Total available-for-sale investment securities	3,502		2,981,129		—		2,984,631
Gross derivative instruments, before netting ⁽¹⁾	183		64,038		—		64,221
Investments held in Rabbi Trust	5,372		—		—		5,372
Alternative investments	—		—		3,471		3,471
Originated loans held for sale	—		—		—		—
Contingent Consideration	—		—		5,331		5,331
Total financial assets held at fair value	$	9,057	$	3,045,167	$	8,802	$	3,063,026
Financial liabilities held at fair value:
Gross derivative instruments, before netting ⁽¹⁾	$	66	$	42,486	$	—	$	42,552
Contingent liability	—		—		6,000		6,000
Total financial liabilities held at fair value	$	66	$	42,486	$	6,000	$	48,552


(1)	For information relating to the impact of netting derivative assets and derivative liabilities as well as the impact from offsetting cash collateral paid to the same derivative counterparties see Note 15: Derivative Financial Instruments.


(2)	Loans held for sale accounted for under the fair value option of ASC Topic 825 "Financial Instruments" at December 31, 2016. The Company made this policy election on loans originated for sale. See Note 1: Summary of Significant Accounting Policies.

The following table presents the changes in Level 3 assets and liabilities that are measured at fair value on a recurring basis:



	Financial Assets
(In thousands)	Alternative Investments		Contingent Consideration			Total			Contingent Liability
Balance at January 1, 2016	$	3,471	$	5,331		$	8,802		$	6,000
Gain included in net income	349		2,690			3,039			—
Purchases/capital funding	1,682		—			1,682			—
Receipts	—		(8,021		)	(8,021		)	—
Payments	—		—			—			(6,000		)
Balance at December 31, 2016	$	5,502	$	—		$	5,502		$	—

Contingent Consideration. As part of the health savings accounts acquisition, the contingent consideration arrangement entitled the Company to receive a rebate of the purchase price relating to the premium paid, for account attrition during the eighteen-month period beginning on the acquisition date of January 13, 2015. In periods subsequent to the initial valuation the fair value was adjusted for measurable attrition milestones. The contingent consideration was classified within Level 3 of the fair value hierarchy as the valuation is based on a contractual obligation that is reliant upon calculation inputs, and as such could be subject to miscalculation. On November 30, 2016, the funds were received to settle the contingent consideration arrangement.

Contingent Liability. As part of the health savings accounts acquisition, the contingent liability arrangement provided for the Company to assume a pre-existing liability as part of the transaction. The fair value of the contingency represented the estimated price to transfer the liability between market participants at the measurement date under current market conditions. The contingent liability was classified within Level 3 of the fair value hierarchy as its valuation was based upon unobservable inputs. On August 18, 2016, the funds were paid to settle the contingent liability arrangement.

Assets Measured at Fair Value on a Non-Recurring Basis

Certain assets are measured at fair value on a non-recurring basis; that is, the assets are not measured at fair value on an ongoing basis but are subject to fair value adjustments in certain circumstances, for example, when there is evidence of impairment. The following is a description of valuation methodologies used for assets measured on a non-recurring basis.

Transferred Loans Held For Sale. Certain loans are transferred to loans held for sale once a decision has been made to sell such loans. These loans are accounted for at the lower of cost or market and are considered to be recognized at fair value when they are recorded at below cost. This activity is primarily commercial loans with observable inputs and are classified within Level 2. On the occasion should these loans include adjustments for changes in loan characteristics using unobservable inputs, the loans would be classified within Level 3.

Collateral Dependent Impaired Loans and Leases. Impaired loans and leases for which repayment is expected to be provided solely by the value of the underlying collateral are considered collateral dependent and are valued based on the estimated fair value of such collateral using customized discounting criteria. As such, collateral dependent impaired loans and leases are classified as Level 3 of the fair value hierarchy.

Other Real Estate Owned and Repossessed Assets. The total book value of OREO and repossessed assets was $3.9 million at December 31, 2016. OREO and repossessed assets are accounted for at the lower of cost or market and are considered to be recognized at fair value when they are recorded at below cost. The fair value of OREO is based on independent appraisals or internal valuation methods, less estimated selling costs. The valuation may consider available pricing guides, auction results, and price opinions. Certain assets require assumptions about factors that are not observable in an active market in the determination of fair value, as such, OREO and repossessed assets are classified within Level 3 of the fair value hierarchy.

Mortgage Servicing Assets. Mortgage servicing assets are accounted for at cost, subject to impairment testing. When the carrying cost exceeds fair value, a valuation allowance is established to reduce the carrying cost to fair value with any change included as a component of other non-interest income in the accompanying Consolidated Statements of Income. Fair value is calculated as the present value of estimated future net servicing income and relies on market based assumptions for loan prepayment speeds, servicing costs, discount rates, and other economic factors; as such, the primary risk inherent in valuing mortgage servicing assets is the impact of fluctuating interest rates on the servicing revenue stream. Mortgage servicing assets are classified within Level 3 of the fair value hierarchy.

The following table presents the changes in fair value for mortgage servicing assets:



	Years ended December 31,
(In thousands)	2016			2015
Beginning balance	$	33,568		$	28,690
Originations of servicing assets	11,312			8,027
Changes in fair value:
Due to payoffs/paydowns	(2,447		)	(2,741		)
Due to market changes	9,642			(408		)
Ending balance	$	52,075		$	33,568

The table below presents the valuation methodology and unobservable inputs for Level 3 assets measured at fair value on a non-recurring basis as of December 31, 2016:



(Dollars in thousands)
Asset	Fair Value		Valuation Methodology	Unobservable Inputs	Range of Inputs
Collateral dependent impaired loans and leases	$	7,374	Real Estate Appraisals	Discount for appraisal type	0%	-	15	%
				Discount for costs to sell	8%
OREO	$	166	Real Estate Appraisals	Discount for appraisal type	0%
				Discount for costs to sell	8%
Mortgage servicing assets	$	52,075	Discounted cash flow	Constant prepayment rate	2.8%	-	27.7	%
				Discount rates	1.9%	-	3.6	%

Fair Value of Financial Instruments

The Company is required to disclose the estimated fair value of financial instruments, both assets and liabilities, for which it is practicable to estimate fair value. The following is a description of valuation methodologies used for those assets and liabilities.

Cash, Due from Banks, and Interest-bearing Deposits. The carrying amount of cash, due from banks, and interest-bearing deposits is used to approximate fair value, given the short time frame to maturity and, as such, these assets do not present unanticipated credit concerns. Cash, due from banks, and interest-bearing deposits are classified within Level 1 of the fair value hierarchy.

Held-to-Maturity Investment Securities. When quoted market prices are not available, the Company employs an independent pricing service that utilizes matrix pricing to calculate fair value. Such fair value measurements consider observable data such as dealer quotes, market spreads, cash flows, yield curves, live trading levels, trade execution data, market consensus prepayments speeds, credit information, and respective terms and conditions for debt instruments. Management maintains procedures to monitor the pricing service's assumptions and establishes processes to challenge the pricing service's valuations that appear unusual or unexpected. Held-to-Maturity investment securities, which include Agency CMO, Agency MBS, Agency CMBS, CMBS, municipal bonds and notes, and private label MBS securities, are classified within Level 2 of the fair value hierarchy.

Loans and Leases, net. The estimated fair value of loans and leases held for investment is calculated using a discounted cash flow method, using future prepayments and market interest rates inclusive of an illiquidity premium for comparable loans and leases. The associated cash flows are adjusted for credit and other potential losses. Fair value for impaired loans and leases is estimated using the net present value of the expected cash flows. Loans and leases are classified within Level 3 of the fair value hierarchy.

Deposit Liabilities. The fair value of demand deposits, savings accounts, and certain money market deposits is the amount payable on demand at the reporting date. The fair value of fixed-maturity certificates of deposit is estimated using the rates currently offered for deposits of similar remaining maturities. Deposit liabilities are classified within Level 2 of the fair value hierarchy.

Securities Sold Under Agreements to Repurchase and Other Borrowings. The carrying value is an estimate of fair value for those securities sold under agreements to repurchase and other borrowings that mature within 90 days. The fair values of all other borrowings are estimated using discounted cash flow analysis based on current market rates adjusted, as appropriate, for associated credit risks. Securities sold under agreements to repurchase and other borrowings are classified within Level 2 of the fair value hierarchy.

Federal Home Loan Bank Advances and Long-Term Debt. The fair value of FHLB advances and long-term debt is estimated using a discounted cash flow technique. Discount rates are matched with the time period of the expected cash flow and are adjusted, as appropriate, to reflect credit risk. FHLB advances and long-term debt are classified within Level 2 of the fair value hierarchy.

The estimated fair values of selected financial instruments and servicing assets are as follows:



	At December 31,
	2016				2015
(In thousands)	Carrying Amount		Fair Value		Carrying Amount		Fair Value
Financial Assets:
Level 2
Held-to-maturity investment securities	$	4,160,658	$	4,125,125	$	3,923,052	$	3,961,534
Loans held for sale ⁽¹⁾	7,317		7,444		37,091		37,457
Level 3
Loans and leases, net	16,832,268		16,678,106		15,496,745		15,453,892
Mortgage servicing assets	24,466		52,075		20,698		33,568
Alternative investments	11,034		13,189		12,900		14,294
Financial Liabilities:
Level 2
Deposit liabilities, other than time deposits	$	17,279,049	$	17,279,049	$	15,866,624	$	15,866,624
Time deposits	2,024,808		2,024,395		2,086,154		2,095,357
Securities sold under agreements to repurchase and other borrowings	949,526		955,660		1,151,400		1,163,974
FHLB advances ⁽²⁾	2,842,908		2,825,101		2,664,139		2,647,872
Long-term debt ⁽²⁾	225,514		225,514		225,260		218,143

(1)

Loans held for sale that are accounted for at the lower of cost or market. At December 31, 2016, the amounts include transferred residential and commercial loans not originated for sale, and at December 31, 2015, the amounts include transferred commercial loans not originated for sale and residential loans originated for sale prior to the adoption of the fair value option of ASC Topic 825 "Financial Instruments."


(2)	The following adjustments to the carrying amount are not included for determination of fair value, see Note 10: Borrowings:

•FHLB advances - unamortized premiums on advances

•Long-term debt - unamortized discount and debt issuance cost on senior fixed-rate notes