Derivatives and Hedging Activities

3 Months Ended

Mar. 31, 2016

Derivatives and Hedging Activities [Abstract]

Derivatives and Hedging Activities

Note 8 – Derivatives and Hedging Activities

Risk Management Objective of Using Derivatives

United is exposed to certain risks arising from both its business operations and economic conditions. United principally manages its exposures to a wide variety of business and operational risks through management of its core business activities. United manages interest rate risk primarily by managing the amount, sources, and duration of its investment securities portfolio and wholesale funding and through the use of derivative financial instruments. Specifically, United enters into derivative financial instruments to manage exposures that arise from business activities that result in the receipt or payment of future known and uncertain cash amounts, the value of which are determined by interest rates. Derivative financial instruments are used to manage differences in the amount, timing, and duration of known or expected cash receipts and its known or expected cash payments principally related to loans, investment securities, wholesale borrowings and deposits.

In conjunction with the FASB’s fair value measurement guidance, United made an accounting policy election to measure the credit risk of its derivative financial instruments that are subject to master netting agreements on a gross basis.

The table below presents the fair value of United’s derivative financial instruments as of the dates indicated as well as their classification on the consolidated balance sheet (in thousands).

Derivatives designated as hedging instruments under ASC 815
		Fair Value
Interest Rate Products	Balance Sheet Location	March 31, 2016		December 31, 2015
Fair value hedge of brokered CD’s	Derivative assets	$	86	$	-
Fair value hedge of corporate bonds	Derivative assets		-		31
		$	86	$	31
Fair value hedge of brokered CD’s	Derivative liabilities	$	61	$	2,169
Fair value hedge of corporate bonds	Derivative liabilities		1,584		-
		$	1,645	$	2,169
Derivatives not designated as hedging instruments under ASC 815
		Fair Value
Interest Rate Products	Balance Sheet Location	March 31, 2016		December 31, 2015
Customer swap positions	Derivative assets	$	12,895	$	6,185
Dealer offsets to customer swap positions	Derivative assets		-		31
Mortgage banking - loan commitment	Derivative assets		188		188
Mortgage banking - forward sales commitment	Derivative assets		2		1
Bifurcated embedded derivatives	Derivative assets		3,727		9,230
Offsetting positions for de-designated cash flow hedges	Derivative assets		6,590		4,416
		$	23,402	$	20,051
Customer swap positions	Derivative liabilities	$	-	$	31
Dealer offsets to customer swap positions	Derivative liabilities		12,966		6,339
Mortgage banking - forward sales commitment	Derivative liabilities		22		22
Dealer offsets to bifurcated embedded derivatives	Derivative liabilities		10,151		15,794
De-designated cash flow hedges	Derivative liabilities		6,590		4,470
		$	29,729	$	26,656

Derivative contracts that are not accounted for as hedging instruments under ASC 815, Derivatives and Hedging, and are described as “customer derivatives,” are between United and certain commercial loan customers with offsetting positions to dealers under a back-to-back swap program. United also has three interest rate swap contracts that are not designated as hedging instruments but are economic hedges of market linked brokered certificates of deposit. The market linked brokered certificates of deposit contain embedded derivatives that are bifurcated from the host instruments and marked to market through earnings. The marks on the market linked swaps and the bifurcated embedded derivatives tend to move in opposite directions with changes in 90-day LIBOR and therefore provide an effective economic hedge.

In addition, United originates certain residential mortgage loans with the intention of selling these loans. Between the time United enters into an interest-rate lock commitment to originate a residential mortgage loan that is to be held for sale and the time the loan is funded and eventually sold, the Company is subject to the risk of variability in market prices. United also enters into forward sale agreements to mitigate risk and to protect the expected gain on the eventual loan sale. Most of this activity is on a matched basis, with a loan sale commitment hedging a specific loan. The commitments to originate residential mortgage loans and forward loan sales commitments are freestanding derivative instruments. The underlying loans are accounted for under the lower of cost or fair value method and are not reflected in the table above. Fair value adjustments on these derivative instruments are recorded within mortgage loan and other related fee income in the consolidated statement of income.

Cash Flow Hedges of Interest Rate Risk

At March 31, 2016 and December 31, 2015 United did not have any active cash flow hedges. Changes in United’s balance sheet composition and interest rate risk position made cash flow hedges no longer necessary as protection against rising interest rates and as a result, United de-designated its former cash flow hedges. The loss remaining in other comprehensive income on the de-designated swaps is being amortized into earnings over the original term of the swaps as the forecasted transactions that the swaps were originally designated to hedge are still expected to occur. United expects that $1.80 million will be reclassified as an increase to interest expense over the next twelve months related to these cash flow hedges.

The table below presents the effect of United’s cash flow hedges on the consolidated statement of income for the periods indicated (in thousands). 

	Amount of Gain (Loss) Recognized in Other Comprehensive Income on Derivative (Effective Portion)					Gain (Loss) Reclassified from Accumulated Other Comprehensive Income into Income (Effective Portion)							Gain (Loss) Recognized in Income on Derivative (Ineffective Portion)
	2016		2015			Location	2016			2015			Location	2016		2015
Three Months Ended March 31,
Interest rate swaps	$	-	$	(471	)	Interest expense	$	(500	)	$	(425	)	Interest expense	$	-	$	(7	)

Fair Value Hedges of Interest Rate Risk

United is exposed to changes in the fair value of certain of its fixed-rate obligations due to changes in interest rates. United uses interest rate swaps to manage its exposure to changes in fair value on these instruments attributable to changes in interest rates. Interest rate swaps designated as fair value hedges of brokered deposits involve the receipt of fixed-rate amounts from a counterparty in exchange for United making variable rate payments over the life of the agreements without the exchange of the underlying notional amount. Interest rate swaps designated as fair value hedges of fixed-rate investments involve the receipt of variable-rate payments from a counterparty in exchange for United making fixed-rate payments over the life of the instrument without the exchange of the underlying notional amount. At March 31, 2016, United had nine interest rate swaps with an aggregate notional amount of $103 million that were designated as fair value hedges of interest rate risk and were pay-variable / receive-fixed swaps hedging the changes in the fair value of fixed-rate brokered time deposits resulting from changes in interest rates. Also at March 31, 2016, United had one interest rate swap with a notional of $30 million that was designated as a pay-fixed / receive variable fair value hedge of changes in the fair value of a fixed-rate corporate bond. At December 31, 2015, United had 13 interest rate swaps with an aggregate notional amount of $156 million that were designated as fair value hedges of interest rate risk. These contracts were pay-variable / receive-fixed swaps hedging changes in the fair value of fixed-rate brokered time deposits resulting from changes in interest rates. Also at December 31, 2015, United had one interest rate swap with a notional of $30 million that was designated as a pay-fixed / receive variable fair value hedge of changes in the fair value of a fixed-rate corporate bond.

For derivatives designated and that qualify as fair value hedges, the gain or loss on the derivative as well as the offsetting loss or gain on the hedged item attributable to the hedged risk are recognized in earnings. United includes the gain or loss on the hedged items in the same income statement line item as the offsetting loss or gain on the related derivatives. During the three months ended March 31, 2016 and 2015, United recognized net gains of $638,000 and net losses of $37,000, respectively, related to ineffectiveness in the fair value hedging relationships. United also recognized net reductions of interest expense of $790,000 and $1.14 million, respectively, for the three months ended March 31, 2016 and 2015 related to United’s fair value hedges of brokered time deposits, which includes net settlements on the derivatives. United recognized reductions of interest revenue on securities during the three months ended March 31, 2016 and 2015 of $129,000 and $74,000, respectively, related to United’s fair value hedges of corporate bonds.

The table below presents the effect of United’s derivatives in fair value hedging relationships on the consolidated statement of operations for the periods indicated (in thousands).

	Location of Gain	Amount of Gain (Loss)						Amount of Gain (Loss)
	(Loss) Recognized	Recognized in Income						Recognized in Income
	in Income on	on Derivative						on Hedged Item
	Derivative	2016			2015			2016			2015
Three Months Ended March 31,
Fair value hedges of brokered CD’s	Interest expense	$	2,551		$	2,370		$	(1,800	)	$	(2,405	)
Fair value hedges of corporate bonds	Interest revenue		(1,614	)		(345	)		1,501			343
		$	937		$	2,025		$	(299	)	$	(2,062	)

In certain cases, the estate of deceased brokered certificate of deposit holders may put the certificate of deposit back to the issuing bank at par upon the death of the holder. When these estate puts occur, a gain or loss is recognized for the difference between the fair value and the par amount of the deposits put back. The change in the fair value of brokered time deposits that are being hedged in fair value hedging relationships reported in the table above includes gains and losses from estate puts and such gains and losses are included in the amount of reported ineffectiveness gains or losses.

Credit-Risk-Related Contingent Features

United manages its credit exposure on derivatives transactions by entering into a bilateral credit support agreement with each counterparty. The credit support agreements require collateralization of exposures beyond specified minimum threshold amounts. The details of these agreements, including the minimum thresholds, vary by counterparty. As of March 31, 2016, collateral totaling $29.0 million was pledged toward derivatives in a liability position.

United’s agreements with each of its derivative counterparties contain a provision where if either party defaults on any of its indebtedness, then it could also be declared in default on its derivative obligations. The agreements with derivatives counterparties also include provisions that if not met, could result in United being declared in default. United has agreements with certain of its derivative counterparties that contain a provision where if United fails to maintain its status as a well-capitalized institution or is subject to a prompt corrective action directive, the counterparty could terminate the derivative positions and United would be required to settle its obligations under the agreements.