INTEREST RATE SWAPS

9 Months Ended

Sep. 30, 2017

INTEREST RATE SWAPS

INTEREST RATE SWAPS

12.INTEREST RATE SWAPS

Interest rate swap derivatives are reported at fair value in other assets or other liabilities. The accounting for changes in the fair value of a derivative depends on whether it has been designated and qualifies as part of a cash flow hedging relationship. For a derivative designated as a cash flow hedge, the effective portion of the derivative’s unrealized gain or loss is recorded as a component of other comprehensive income (“OCI”). For derivatives not designated as hedges, the gain or loss is recognized in current period earnings.

Interest Rate Swaps Used as Cash Flow Hedges

The Bank entered into two interest rate swap agreements (“swaps”) during 2013 as part of its interest rate risk management strategy. The Bank designated the swaps as cash flow hedges intended to reduce the variability in cash flows attributable to either FHLB advances tied to the 3-month LIBOR or the overall changes in cash flows on certain money market deposit accounts tied to 1-month LIBOR.  The counterparty for both swaps met the Bank’s credit standards and the Bank believes that the credit risk inherent in the swap contracts is not significant.

The swaps were determined to be fully effective during all periods presented; therefore, no amount of ineffectiveness was included in net income. The aggregate fair value of the swaps is recorded in other liabilities with changes in fair value recorded in OCI. The amount included in AOCI would be reclassified to current earnings should the hedge no longer be considered effective. The Bank expects the hedges to remain fully effective during the remaining term of the swaps.

The following table reflects information about swaps designated as cash flow hedges as of September 30, 2017 and December 31, 2016:

								September 30, 2017				December 31, 2016
										Unrealized				Unrealized
		Notional	Pay		Receive			Assets /		Gain (Loss)		Assets /		Gain (Loss)
(dollars in thousands)		Amount	Rate		Rate	Term		(Liabilities)		AOCI		(Liabilities)		in AOCI
Interest rate swap on money market deposits	$	10,000	2.17	%	1M LIBOR	12/2013 - 12/2020	$	(126)	$	(82)	$	(186)	$	(121)
Interest rate swap on FHLB advance		10,000	2.33	%	3M LIBOR	12/2013 - 12/2020		(159)		(103)		(207)		(135)
	$	20,000					$	(285)	$	(185)	$	(393)	$	(256)

The following table reflects the total interest expense recorded on these swap transactions in the consolidated statements of income for the three and nine months ended September 30, 2017 and 2016:

	Three Months Ended				Nine Months Ended
	September 30,				September 30,
(in thousands)	2017		2016		2017		2016
Interest rate swap on money market deposits	$	27	$	42	$	87	$	128
Interest rate swap on FHLB advance		24		41		88		128
Total interest expense on swap transactions	$	51	$	83	$	175	$	256

The following table presents the net gains (losses) recorded in OCI and the consolidated statements of income relating to the swaps designated as cash flow hedges for the three and nine months ended September 30, 2017 and 2016:

\	Three Months Ended				Nine Months Ended
	September 30,				September 30,
(in thousands)	2017		2016		2017		2016
Gains (losses) recognized in OCI on derivative (effective portion)	$	9	$	127	$	(67)	$	(663)
Losses reclassified from OCI on derivative (effective portion)		(51)		(83)		(175)		(256)
Gains (losses) recognized in income on derivative (ineffective portion)		—		—		—		—

The estimated net amount of existing losses reported in AOCI at September 30, 2017 expected to be reclassified into earnings within the next 12 months is $156,000.  

Non-hedge Interest Rate Swaps

The Bank enters into interest rate swaps to facilitate client transactions and meet their financing needs. Upon entering into these instruments to meet client needs, the Bank enters into offsetting positions in order to minimize the Bank’s interest rate risk. These swaps are derivatives, but are not designated as hedging instruments, and therefore changes in fair value are reported in current year earnings.

Interest rate swap contracts involve the risk of dealing with counterparties and their ability to meet contractual terms. When the fair value of a derivative instrument contract is positive, this generally indicates that the counter party or client owes the Bank, and results in credit risk to the Bank. When the fair value of a derivative instrument contract is negative, the Bank owes the client or counterparty, and therefore, has no credit risk.

A summary of the Bank’s interest rate swaps related to clients as of September 30, 2017 and December 31, 2016 is included in the following table:

		September 30, 2017				December 31, 2016
		Notional				Notional
(in thousands)	Bank Position	Amount		Fair Value		Amount		Fair Value
Interest rate swaps with Bank clients	Pay variable/receive fixed	$	53,536	$	477	$	31,553	$	156
Offsetting interest rate swaps with institutional swap dealer	Pay fixed/receive variable		53,536		(477)		31,553		(55)
Total		$	107,072	$	—	$	63,106	$	101

The Bank is required to pledge securities as collateral when the Bank is in a net loss position exceeding $250,000 for all swaps with dealer counterparties. The fair value of cash or investment securities pledged as collateral by the Bank to cover such net loss positions totaled $1.5 million and $1.8 million at September 30, 2017 and December 31, 2016.