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EXCEL - IDEA: XBRL DOCUMENT - Federal Home Loan Bank of Seattle | Financial_Report.xls |
EX-31.2 - EXHIBIT 31.2 - Federal Home Loan Bank of Seattle | ex31-2331201510q.htm |
EX-31.1 - EXHIBIT 31.1 - Federal Home Loan Bank of Seattle | ex31-1331201510q.htm |
EX-32.1 - EXHIBIT 32.1 - Federal Home Loan Bank of Seattle | ex32-1331201510q.htm |
EX-32.2 - EXHIBIT 32.2 - Federal Home Loan Bank of Seattle | ex32-2331201510q.htm |
UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-Q
x | QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 |
For the quarterly period ended March 31, 2015
OR
o | TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 |
Commission File No.: 000-51406
FEDERAL HOME LOAN BANK OF SEATTLE
(Exact name of registrant as specified in its charter)
Federally chartered corporation | 91-0852005 | |
(State or other jurisdiction of incorporation or organization) | (I.R.S. Employer Identification No.) |
1001 Fourth Avenue, Suite 2600, Seattle, WA | 98154 | |
(Address of principal executive offices) | (Zip Code) |
Registrant's telephone number, including area code: (206) 340-2300
Indicate by check mark whether the registrant: (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes x No o
Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files). Yes x No o
Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, or a smaller reporting company. See the definitions of “large accelerated filer,” “accelerated filer” and “smaller reporting company” in Rule 12b-2 of the Exchange Act.
Large accelerated filer o | Accelerated filer o | |
Non-accelerated filer x (Do not check if smaller reporting company) | Smaller reporting company o |
Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act.) Yes o No x
Registrant's stock is not publicly traded and is only issued to members of the registrant. Such stock is issued and redeemed at par value, $100 per share, subject to certain regulatory and statutory limits. As of April 30, 2015, the Federal Home Loan Bank of Seattle had outstanding 749,274 shares of its Class A capital stock and 21,541,453 shares of its Class B capital stock.
FEDERAL HOME LOAN BANK OF SEATTLE
FORM 10-Q FOR THE QUARTERLY PERIOD ENDED
March 31, 2015
Page | ||
2
PART I.
ITEM 1. FINANCIAL STATEMENTS
FEDERAL HOME LOAN BANK OF SEATTLE
STATEMENTS OF CONDITION (Unaudited)
As of | As of | |||||||
March 31, 2015 | December 31, 2014 | |||||||
(in thousands, except par value) | ||||||||
Assets | ||||||||
Cash and due from banks | $ | 144 | $ | 126 | ||||
Deposits with other Federal Home Loan Banks (FHLBanks) | 248 | 140 | ||||||
Securities purchased under agreements to resell | 5,250,000 | 3,000,000 | ||||||
Federal funds sold | 2,940,800 | 4,058,800 | ||||||
Investment securities: | ||||||||
Available-for-sale (AFS) securities (Notes 4 and 5) | 15,929,939 | 7,877,334 | ||||||
Held-to-maturity (HTM) securities (fair values of $0 and $9,167,713) | — | 9,110,269 | ||||||
Total investment securities | 15,929,939 | 16,987,603 | ||||||
Advances (Note 6) | 8,406,368 | 10,313,691 | ||||||
Mortgage loans held for portfolio, net (includes $717 and $1,404 of allowance for credit losses) (Notes 7 and 8) | 618,475 | 647,179 | ||||||
Accrued interest receivable | 42,970 | 49,558 | ||||||
Premises, software, and equipment, net | 11,235 | 12,591 | ||||||
Derivative assets, net (Note 9) | 49,545 | 46,254 | ||||||
Other assets | 11,723 | 13,255 | ||||||
Total Assets | $ | 33,261,447 | $ | 35,129,197 | ||||
Liabilities | ||||||||
Deposits | $ | 377,743 | $ | 410,773 | ||||
Consolidated obligations (Note 10): | ||||||||
Discount notes (includes $0 and $499,930 at fair value under fair value option) | 14,232,389 | 14,940,178 | ||||||
Bonds (includes $499,913 and $1,499,971 at fair value under fair value option) | 14,948,504 | 16,850,429 | ||||||
Total consolidated obligations | 29,180,893 | 31,790,607 | ||||||
Mandatorily redeemable capital stock (MRCS) (Note 11) | 1,362,688 | 1,454,473 | ||||||
Accrued interest payable | 51,299 | 51,382 | ||||||
Affordable Housing Program (AHP) payable | 21,069 | 22,479 | ||||||
Derivative liabilities, net (Note 9) | 70,791 | 76,712 | ||||||
Other liabilities | 920,282 | 116,761 | ||||||
Total liabilities | 31,984,765 | 33,923,187 | ||||||
Commitments and contingencies (Note 14) | ||||||||
Capital (Note 11) | ||||||||
Capital stock: | ||||||||
Class B capital stock putable ($100 par value) - issued and outstanding shares: 8,244 and 8,249 | 824,435 | 824,887 | ||||||
Class A capital stock putable ($100 par value) - issued and outstanding shares: 314 and 332 | 31,421 | 33,196 | ||||||
Total capital stock | 855,856 | 858,083 | ||||||
Retained earnings: | ||||||||
Unrestricted | 291,592 | 283,451 | ||||||
Restricted | 65,013 | 62,924 | ||||||
Total retained earnings | 356,605 | 346,375 | ||||||
Accumulated other comprehensive income (AOCI) | 64,221 | 1,552 | ||||||
Total capital | 1,276,682 | 1,206,010 | ||||||
Total Liabilities and Capital | $ | 33,261,447 | $ | 35,129,197 |
The accompanying notes are an integral part of these financial statements.
3
FEDERAL HOME LOAN BANK OF SEATTLE
STATEMENTS OF INCOME (Unaudited)
For the Three Months Ended March 31, | ||||||||
2015 | 2014 | |||||||
(in thousands) | ||||||||
Interest Income | ||||||||
Advances | $ | 16,489 | $ | 16,251 | ||||
Prepayment fees on advances, net | 558 | 21 | ||||||
Interest-bearing deposits | 37 | 7 | ||||||
Securities purchased under agreements to resell | 582 | 228 | ||||||
Federal funds sold | 2,187 | 1,674 | ||||||
AFS securities | 21,852 | 17,035 | ||||||
HTM securities | 16,531 | 22,883 | ||||||
Mortgage loans held for portfolio | 8,361 | 10,264 | ||||||
Total interest income | 66,597 | 68,363 | ||||||
Interest Expense | ||||||||
Consolidated obligations - discount notes | 3,471 | 2,347 | ||||||
Consolidated obligations - bonds | 24,964 | 33,839 | ||||||
Deposits | 29 | 30 | ||||||
Mandatorily redeemable capital stock | 383 | 441 | ||||||
Total interest expense | 28,847 | 36,657 | ||||||
Net Interest Income | 37,750 | 31,706 | ||||||
Less: Provision (benefit) for credit losses | (208 | ) | 236 | |||||
Net Interest Income after Provision (Benefit) for Credit Losses | 37,958 | 31,470 | ||||||
Other Income (Loss) | ||||||||
Net amount of other-than-temporary impairment (OTTI) loss reclassified from AOCI (Note 5) | (51,529 | ) | (3 | ) | ||||
Net loss on financial instruments under fair value option (Note 12) | (12 | ) | (90 | ) | ||||
Net realized gain on sale of AFS securities | 52,321 | — | ||||||
Net gain (loss) on derivatives and hedging activities (Note 9) | 1,630 | (1,434 | ) | |||||
Net realized (loss) gain on early extinguishment of consolidated obligations | (264 | ) | 63 | |||||
Other, net | 280 | 799 | ||||||
Total other income (loss) | 2,426 | (665 | ) | |||||
Other Expense | ||||||||
Operating: | ||||||||
Compensation and benefits | 10,858 | 9,304 | ||||||
Other operating | 16,562 | 8,171 | ||||||
Federal Housing Finance Agency (FHFA) | 683 | 779 | ||||||
Office of Finance | 548 | 595 | ||||||
Other, net | 85 | 39 | ||||||
Total other expense | 28,736 | 18,888 | ||||||
Income before Assessments | 11,648 | 11,917 | ||||||
AHP assessments | 1,203 | 1,236 | ||||||
Net Income | $ | 10,445 | $ | 10,681 |
The accompanying notes are an integral part of these financial statements.
4
FEDERAL HOME LOAN BANK OF SEATTLE
STATEMENTS OF COMPREHENSIVE INCOME (Unaudited)
For the Three Months Ended March 31, | ||||||||
2015 | 2014 | |||||||
(in thousands) | ||||||||
Net income | $ | 10,445 | $ | 10,681 | ||||
Other comprehensive income: | ||||||||
Net unrealized gain on AFS securities: | ||||||||
Unrealized gain | 62,061 | 14,980 | ||||||
Reclassification of realized net gain on sale included in net income | (286 | ) | — | |||||
Total net unrealized gain on AFS securities | 61,775 | 14,980 | ||||||
Unrealized gain (loss) on OTTI AFS securities: | ||||||||
Non-credit portion of OTTI losses transferred from HTM securities | (10,912 | ) | — | |||||
Net change in fair value of OTTI securities | 818 | 30,870 | ||||||
Reclassification of net OTTI loss included in net income | 51,529 | 3 | ||||||
Reclassification of realized net gain on sale included in net income | (52,035 | ) | — | |||||
Total unrealized (loss) gain on OTTI AFS securities | (10,600 | ) | 30,873 | |||||
Net non-credit portion of OTTI gain on HTM securities: | ||||||||
Accretion of non-credit portion | 547 | 740 | ||||||
Transfer of non-credit portion from HTM securities to AFS securities | 10,912 | — | ||||||
Total net non-credit portion of OTTI gain on HTM securities | 11,459 | 740 | ||||||
Pension benefits | 35 | 5 | ||||||
Total other comprehensive income | 62,669 | 46,598 | ||||||
Comprehensive income | $ | 73,114 | $ | 57,279 |
The accompanying notes are an integral part of these financial statements.
5
FEDERAL HOME LOAN BANK OF SEATTLE
STATEMENTS OF CAPITAL (Unaudited)
For the Three Months Ended March 31, 2015 and 2014 | Class A Capital Stock * | Class B Capital Stock * | Total Capital Stock * | Retained Earnings | AOCI | Total Capital | |||||||||||||||||||||||||||||||||||
Shares | Par Value | Shares | Par Value | Shares | Par Value | Unrestricted (Note 11) | Restricted (Note 11) | Total | |||||||||||||||||||||||||||||||||
(amounts and shares in thousands) | |||||||||||||||||||||||||||||||||||||||||
Balance, December 31, 2013 | 452 | $ | 45,241 | 8,777 | $ | 877,736 | 9,229 | $ | 922,977 | $ | 236,204 | $ | 50,886 | $ | 287,090 | $ | (71,768 | ) | $ | 1,138,299 | |||||||||||||||||||||
Proceeds from issuance of capital stock | — | — | 41 | 4,050 | 41 | 4,050 | — | — | — | — | 4,050 | ||||||||||||||||||||||||||||||
Repurchases of capital stock | (21 | ) | (2,127 | ) | (32 | ) | (3,182 | ) | (53 | ) | (5,309 | ) | — | — | — | — | (5,309 | ) | |||||||||||||||||||||||
Net shares reclassified to MRCS | (16 | ) | (1,574 | ) | (69 | ) | (6,883 | ) | (85 | ) | (8,457 | ) | — | — | — | — | (8,457 | ) | |||||||||||||||||||||||
Cash dividends | — | — | — | — | — | — | (231 | ) | — | (231 | ) | — | (231 | ) | |||||||||||||||||||||||||||
Comprehensive income | — | — | — | — | — | — | 8,545 | 2,136 | 10,681 | 46,598 | 57,279 | ||||||||||||||||||||||||||||||
Balance, March 31, 2014 | 415 | $ | 41,540 | 8,717 | $ | 871,721 | 9,132 | $ | 913,261 | $ | 244,518 | $ | 53,022 | $ | 297,540 | $ | (25,170 | ) | $ | 1,185,631 | |||||||||||||||||||||
Balance, December 31, 2014 | 332 | $ | 33,196 | 8,249 | $ | 824,887 | 8,581 | $ | 858,083 | $ | 283,451 | $ | 62,924 | $ | 346,375 | $ | 1,552 | $ | 1,206,010 | ||||||||||||||||||||||
Proceeds from issuance of capital stock | — | — | 121 | 12,178 | 121 | 12,178 | — | — | — | — | 12,178 | ||||||||||||||||||||||||||||||
Repurchases of capital stock | (16 | ) | (1,599 | ) | (103 | ) | (10,302 | ) | (119 | ) | (11,901 | ) | — | — | — | — | (11,901 | ) | |||||||||||||||||||||||
Net shares reclassified to MRCS | (2 | ) | (176 | ) | (23 | ) | (2,328 | ) | (25 | ) | (2,504 | ) | — | — | — | — | (2,504 | ) | |||||||||||||||||||||||
Cash dividends | — | — | — | — | — | — | (215 | ) | — | (215 | ) | — | (215 | ) | |||||||||||||||||||||||||||
Comprehensive income | — | — | — | — | — | — | 8,356 | 2,089 | 10,445 | 62,669 | 73,114 | ||||||||||||||||||||||||||||||
Balance, March 31, 2015 | 314 | $ | 31,421 | 8,244 | $ | 824,435 | 8,558 | $ | 855,856 | $ | 291,592 | $ | 65,013 | $ | 356,605 | $ | 64,221 | $ | 1,276,682 |
* Putable
The accompanying notes are an integral part of these financial statements.
6
FEDERAL HOME LOAN BANK OF SEATTLE
STATEMENTS OF CASH FLOWS (Unaudited)
For the Three Months Ended March 31, | ||||||||
2015 | 2014 | |||||||
(in thousands) | ||||||||
Operating Activities | ||||||||
Net income | $ | 10,445 | $ | 10,681 | ||||
Adjustments to reconcile net income to net cash provided by operating activities: | ||||||||
Depreciation and amortization | (5,608 | ) | (5,640 | ) | ||||
Net OTTI loss | 51,529 | 3 | ||||||
Net realized gain on sale of AFS securities | (52,321 | ) | — | |||||
Net change in fair value adjustments on financial instruments under fair value option | 12 | 90 | ||||||
Net change in derivatives and hedging activities | (9,374 | ) | (7,219 | ) | ||||
Net realized loss (gain) on early extinguishment of consolidated obligations | 264 | (63 | ) | |||||
Net realized gain on disposal of premises and equipment | — | (4 | ) | |||||
Provision (benefit) for credit losses | (208 | ) | 236 | |||||
Other adjustments | (178 | ) | (82 | ) | ||||
Net change in: | ||||||||
Accrued interest receivable | 6,654 | 5,688 | ||||||
Other assets | 1,424 | 2,699 | ||||||
Accrued interest payable | (83 | ) | 228 | |||||
Other liabilities | 4,960 | (4,468 | ) | |||||
Total adjustments | (2,929 | ) | (8,532 | ) | ||||
Net cash provided by operating activities | 7,516 | 2,149 | ||||||
Investing Activities | ||||||||
Net change in: | ||||||||
Interest-bearing deposits | (37,289 | ) | 9,991 | |||||
Deposits with other FHLBanks | (108 | ) | (72 | ) | ||||
Securities purchased under agreements to resell | (2,250,000 | ) | (1,500,000 | ) | ||||
Federal funds sold | 1,118,000 | (589,900 | ) | |||||
Premises, software and equipment | 185 | (548 | ) | |||||
AFS securities: | ||||||||
Proceeds from short-term | 239,000 | — | ||||||
Proceeds from long-term | 1,831,232 | 678,144 | ||||||
Purchases of long-term | (367,930 | ) | (336,890 | ) | ||||
HTM securities: | ||||||||
Net decrease (increase) in short-term | 117,000 | (912,051 | ) | |||||
Proceeds from long-term | 262,646 | 263,213 | ||||||
Purchases of long-term | (109,687 | ) | (21,511 | ) | ||||
Advances: | ||||||||
Principal collected | 7,980,972 | 8,736,310 | ||||||
Made | (6,057,713 | ) | (7,662,959 | ) | ||||
Mortgage loans: | ||||||||
Principal collected | 28,862 | 35,878 | ||||||
Net cash provided by (used in) investing activities | 2,755,170 | (1,300,395 | ) |
7
FEDERAL HOME LOAN BANK OF SEATTLE
STATEMENTS OF CASH FLOWS (Unaudited) (CONTINUED)
For the Three Months Ended March 31, | ||||||||
2015 | 2014 | |||||||
(in thousands) | ||||||||
Financing Activities | ||||||||
Net change in: | ||||||||
Deposits | $ | (33,030 | ) | $ | 21,717 | |||
Net payments on derivative contracts with financing elements | (6,991 | ) | (8,190 | ) | ||||
Net proceeds from issuance of consolidated obligations: | ||||||||
Discount notes | 152,302,524 | 141,404,112 | ||||||
Bonds | 2,168,943 | 2,398,209 | ||||||
Payments for maturing and retiring consolidated obligations: | ||||||||
Discount notes | (153,011,187 | ) | (140,838,585 | ) | ||||
Bonds | (4,088,700 | ) | (3,042,398 | ) | ||||
Proceeds from issuance of capital stock | 12,178 | 4,050 | ||||||
Payments for repurchase of MRCS | (94,289 | ) | (94,190 | ) | ||||
Payments for repurchase of capital stock | (11,901 | ) | (5,309 | ) | ||||
Cash dividends paid | (215 | ) | (231 | ) | ||||
Net cash used in financing activities | (2,762,668 | ) | (160,815 | ) | ||||
Net change in cash and due from banks | 18 | (1,459,061 | ) | |||||
Cash and due from banks at beginning of the period | 126 | 1,459,261 | ||||||
Cash and due from banks at end of the period | $ | 144 | $ | 200 | ||||
Supplemental Disclosures | ||||||||
Interest paid | $ | 28,930 | $ | 36,429 | ||||
AHP payments, net | $ | 2,613 | $ | 955 | ||||
Transfers of mortgage loans to real estate owned (REO) | $ | 351 | $ | 463 | ||||
Reclassifications of HTM securities to AFS securities | $ | 9,024,822 | $ | — |
The accompanying notes are an integral part of these financial statements.
8
FEDERAL HOME LOAN BANK OF SEATTLE
CONDENSED NOTES TO FINANCIAL STATEMENTS
Background Information
These financial statements present the financial position and results of operations of the Federal Home Loan Bank of Seattle (Seattle Bank). The Seattle Bank, a federally chartered corporation and government-sponsored enterprise (GSE), is one of 12 district FHLBanks created by Congress under the authority of the Federal Home Loan Bank Act of 1932, as amended. The FHLBanks serve the public by enhancing the availability of credit for residential mortgages and targeted community development.
Note 1—The Merger
On September 25, 2014, the Federal Home Loan Bank of Des Moines (Des Moines Bank) and the Seattle Bank (together, the Banks) entered into an Agreement and Plan of Merger (Merger Agreement), pursuant to which the Seattle Bank will be merged (Merger) with and into the Des Moines Bank (the post-Merger bank being the Continuing Bank). The Merger Agreement provides that the Seattle Bank members will receive one share of Continuing Bank Class A stock for each share of Seattle Bank Class A stock they own immediately prior to the Merger and one share of Continuing Bank Class B stock for each share of Seattle Bank Class B stock they own immediately prior to the Merger. Pursuant to the Merger, no shares of Seattle Bank capital stock will remain outstanding and all of the Seattle Bank shares will automatically be cancelled.
On December 19, 2014, the FHFA approved the merger application submitted by the Banks in accordance with the Merger Agreement, subject to satisfaction of closing conditions set forth in the FHFA approval letter, including the ratification of the Merger Agreement by members of each bank. On February 27, 2015, the Banks announced that the Merger Agreement had been appropriately ratified by members of each bank. Subject to satisfaction of the remaining closing conditions contained in the Merger Agreement, including FHFA acceptance of the Continuing Bank's organization certificate, the Banks expect the Merger to become effective on May 31, 2015. If the Merger is completed, Seattle Bank members will immediately become members of the Continuing Bank with the rights, preferences, and obligations of a Continuing Bank member.
As part of the preparation for combining our balance sheet with that of the Des Moines Bank, during the first quarter of 2015, we, in consultation with the Des Moines Bank, disposed of our private-label mortgage-backed securities (PLMBS). In connection with such dispositions, we reinvested funds in other highly-rated investments, including agency mortgage-backed securities (MBS). See Note 4 and Note 5 for further information regarding the impact of the above transactions to our financial condition and results of operations.
Note 2—Basis of Presentation and Use of Estimates
Basis of Presentation
These unaudited financial statements and condensed notes should be read in conjunction with the audited financial statements and related notes for the years ended December 31, 2014, 2013, and 2012 included in the 2014 annual report on Form 10-K (2014 10-K) of the Seattle Bank. These unaudited financial statements and condensed notes have been prepared in conformity with accounting principles generally accepted in the United States of America (GAAP) for interim financial information and Article 10 of the Securities and Exchange Commission's (SEC) Regulation S-X. Accordingly, they do not include all of the information and disclosures required by GAAP for complete financial statements. In the opinion of management, all adjustments (consisting of only normal recurring accruals) necessary for the fair statement of the financial condition, operating results, and cash flows for the interim periods have been included. Our financial condition as of March 31, 2015 and the operating results for the three months ended March 31, 2015 are not necessarily indicative of the condition or results that may be expected as of or for the year ending December 31, 2015.
We have evaluated subsequent events for potential recognition or disclosure through the filing date of this report on Form 10-Q.
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Use of Estimates
The preparation of financial statements in accordance with GAAP requires management to make subjective assumptions and estimates that may affect the reported amounts of assets and liabilities, the disclosure of contingent assets and liabilities, and the reported amounts of income and expense.
Note 3—Recently Issued or Adopted Accounting Guidance
Simplifying the Presentation of Debt Issuance Costs
On April 7, 2015, the Financial Accounting Standards Board (FASB) issued guidance to simplify the presentation of debt issuance costs. This guidance requires a reclassification on the statement of condition of debt issuance costs related to a recognized debt liability from other assets to a direct deduction from the carrying amount of that debt liability, consistent with debt discounts. This guidance becomes effective for the interim and annual periods beginning after December 15, 2015, and early adoption is permitted for the financial statements that have not been previously issued. The period-specific effects as a result of applying this guidance are required to be adjusted retrospectively to each individual period presented on the statement of condition. We are in the process of evaluating this guidance and its effect on the our financial condition, results of operations, and cash flows.
Amendments to the Consolidation Analysis
On February 18, 2015, the FASB issued an amendment intended to enhance consolidation guidance for legal entities such as limited partnerships, limited liability corporations, and securitization structures (e.g., collateralized debt obligations, collateralized loan obligations, and MBS transactions). The new guidance primarily focuses on the following:
• | Placing more emphasis on risk of loss when determining a controlling financial interest. A reporting organization may no longer have to consolidate a legal entity in certain circumstances based solely on its fee arrangement, when certain criteria are met. |
• | Reducing the frequency of the application of related-party guidance when determining a controlling financial interest in a variable interest entity (VIE). |
• | Changing consolidation conclusions for entities in several industries that typically make use of limited partnerships or VIEs. |
This guidance becomes effective for the interim and annual reporting periods beginning after December 15, 2015, and early adoption is permitted, including adoption in an interim period. We are in the process of evaluating this guidance, but its effect on our financial condition, results of operations, and cash flows is not expected to be material.
Classification of Certain Government-Guaranteed Mortgage Loans upon Foreclosure
On August 8, 2014, the FASB issued amended guidance relating to the classification and measurement of certain government-guaranteed mortgage loans upon foreclosure. The amendments in this guidance require that a mortgage loan be derecognized and that a separate other receivable be recognized upon foreclosure if certain conditions are met. This guidance became effective for the interim and annual periods beginning on January 1, 2015, and was adopted prospectively. However, the adoption of this guidance did not have a material effect on our financial condition, results of operations, or cash flows.
Transfers and Servicing—Repurchase-to-Maturity Transactions, Repurchase Financings, and Disclosure
On June 12, 2014, the FASB issued amended guidance for repurchase-to-maturity transactions and repurchase financing arrangements and requires enhanced disclosures about repurchase agreements and similar transactions. The new standard eliminates sale accounting treatment for repurchase-to-maturity transactions, which now must be accounted for as secured borrowings consistent with the accounting for other repurchase agreements. In addition, the guidance requires separate accounting for a transfer of a financial asset executed contemporaneously with a repurchase agreement with the same counterparty (a repurchase financing), which will also result in secured borrowing accounting for the repurchase agreement. This guidance also requires a transferor to disclose additional information about certain transactions, including those in which it retains substantially all of the exposure to the economic returns of the underlying transferred asset over the transaction’s term. This guidance became effective for the interim and annual periods beginning on January 1, 2015, and was adopted prospectively
10
by the Seattle Bank. However, the adoption of this guidance did not have a material effect on our financial condition, results of operations, or cash flows.
Reclassification of Residential Real Estate Collateralized Consumer Mortgage Loans upon Foreclosure
On January 17, 2014, the FASB issued guidance clarifying when consumer mortgage loans collateralized by real estate should be reclassified to REO. Specifically, such collateralized mortgage loans should be reclassified to REO when either: (1) the creditor obtains legal title to the residential real estate upon completion of a foreclosure; or (2) the borrower conveys all interest in the residential real estate to the creditor to satisfy that loan through completion of a deed in lieu of foreclosure or through a similar legal agreement. This guidance became effective for interim and annual periods beginning on January 1, 2015, and was adopted prospectively by the Seattle Bank. However, the adoption of this guidance did not have a material effect on our financial condition, results of operations, or cash flows.
Framework for Adversely Classifying Certain Assets
On April 9, 2012, the FHFA issued an advisory bulletin (AB), AB 2012-02, that establishes a standard and uniform methodology for classifying loans, REO, and certain other assets (excluding investment securities), and prescribes the timing of asset charge-offs based on these classifications. This guidance is generally consistent with the Uniform Retail Credit Classification and Account Management Policy issued by the federal banking regulators in June 2000. The adverse classification requirements were implemented on January 1, 2014, and, in accordance with AB 2013-02 issued on May 13, 2013, the charge-off requirements of AB 2012-02 were implemented January 1, 2015 by the Seattle Bank. However, the adoption of these requirements did not have a material effect on our financial condition, results of operations, or cash flows. See Note 8 for more information on the financial statement impact of our adoption of the charge-off provisions of AB 2012-02.
Note 4—AFS Securities
Major Security Types
In connection with the Merger, during March 2015, we formalized the decision to dispose of our PLMBS. As a result, we determined that we no longer had both the ability and the intent to hold all of our securities classified as HTM to maturity, and we reclassified our HTM securities to AFS securities at fair value on the date of reclassification. See Note 5 for further information regarding the fair value of securities on the date of reclassification. The following tables summarize our AFS securities as of March 31, 2015 and December 31, 2014.
As of March 31, 2015 | ||||||||||||||||||||
Amortized Cost Basis (1) | OTTI Charges Recognized in AOCI | Gross Unrealized Gains | Gross Unrealized Losses | Fair Value | ||||||||||||||||
(in thousands) | ||||||||||||||||||||
Non-MBS: | ||||||||||||||||||||
Other U.S. agency obligations (2) | $ | 4,304,683 | $ | — | $ | 6,027 | $ | (11,396 | ) | $ | 4,299,314 | |||||||||
GSE obligations (3) | 2,297,779 | — | 14,676 | (6,742 | ) | 2,305,713 | ||||||||||||||
State or local housing agency obligations (4) | 2,002,315 | — | 3,968 | (2,138 | ) | 2,004,145 | ||||||||||||||
Total non-MBS | 8,604,777 | — | 24,671 | (20,276 | ) | 8,609,172 | ||||||||||||||
MBS: | ||||||||||||||||||||
Other U.S. agency single-family MBS (2) | 72,055 | — | 179 | — | 72,234 | |||||||||||||||
GSE single-family MBS (3) | 4,625,846 | — | 62,535 | (864 | ) | 4,687,517 | ||||||||||||||
GSE multifamily MBS (3) | 2,561,660 | — | 1,153 | (1,797 | ) | 2,561,016 | ||||||||||||||
Total MBS | 7,259,561 | — | 63,867 | (2,661 | ) | 7,320,767 | ||||||||||||||
Total | $ | 15,864,338 | $ | — | $ | 88,538 | $ | (22,937 | ) | $ | 15,929,939 |
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As of December 31, 2014 | ||||||||||||||||||||
Amortized Cost Basis (1) | OTTI Charges Recognized in AOCI | Gross Unrealized Gains | Gross Unrealized Losses | Fair Value | ||||||||||||||||
(in thousands) | ||||||||||||||||||||
Non-MBS: | ||||||||||||||||||||
Other U.S. agency obligations (2) | $ | 4,359,947 | $ | — | $ | 4,066 | $ | (10,693 | ) | $ | 4,353,320 | |||||||||
GSE obligations (3) | 2,271,101 | — | 11,946 | (1,493 | ) | 2,281,554 | ||||||||||||||
Total non-MBS | 6,631,048 | — | 16,012 | (12,186 | ) | 6,634,874 | ||||||||||||||
MBS: | ||||||||||||||||||||
Residential PLMBS (5) | 1,231,860 | (35,109 | ) | 45,709 | — | 1,242,460 | ||||||||||||||
Total | $ | 7,862,908 | $ | (35,109 | ) | $ | 61,721 | $ | (12,186 | ) | $ | 7,877,334 |
(1) | Includes unpaid principal balance, accretable discounts and unamortized premiums, fair value hedge accounting adjustments, and OTTI charges recognized in earnings. |
(2) | Consists of obligations or securities issued by one or more of the following: Government National Mortgage Association, U.S. Agency for International Development, Small Business Administration, Private Export Funding Corporation, and Export-Import Bank of the U.S. |
(3) | Consists of obligations or securities issued by one or more of the following: Federal Farm Credit Bank, Federal Home Loan Mortgage Corporation, Federal National Mortgage Association (Fannie Mae), and Tennessee Valley Authority. |
(4) | Includes $140.0 million of unsecured housing obligations. |
(5) | Amounts reported in "Gross Unrealized Gains" for Residential PLMBS represent net unrealized gains in fair value of previously other-than-temporarily impaired AFS securities above the amount of impairment losses recorded and are included in "Unrealized Gain (Loss) on OTTI AFS Securities" in Note 11. |
Unrealized Losses on AFS Securities
The following tables summarize our AFS securities in an unrealized loss position as of March 31, 2015 and December 31, 2014, aggregated by major security type and length of time that individual securities have been in a continuous unrealized loss position.
As of March 31, 2015 | ||||||||||||||||||||||||
Less than 12 months | 12 months or more | Total | ||||||||||||||||||||||
Fair Value | Unrealized Losses | Fair Value | Unrealized Losses | Fair Value | Unrealized Losses | |||||||||||||||||||
(in thousands) | ||||||||||||||||||||||||
Non-MBS: | ||||||||||||||||||||||||
Other U.S. agency obligations | $ | 1,596,314 | $ | (7,961 | ) | $ | 1,293,894 | $ | (3,435 | ) | $ | 2,890,208 | $ | (11,396 | ) | |||||||||
GSE obligations | 458,724 | (6,742 | ) | — | — | 458,724 | (6,742 | ) | ||||||||||||||||
State or local housing agency obligations | 165,243 | (177 | ) | 250,329 | (1,961 | ) | 415,572 | (2,138 | ) | |||||||||||||||
Total non-MBS | 2,220,281 | (14,880 | ) | 1,544,223 | (5,396 | ) | 3,764,504 | (20,276 | ) | |||||||||||||||
MBS: | ||||||||||||||||||||||||
GSE single-family MBS | 153,880 | (117 | ) | 383,960 | (747 | ) | 537,840 | (864 | ) | |||||||||||||||
GSE multifamily MBS | 1,158,608 | (1,705 | ) | 17,418 | (92 | ) | 1,176,026 | (1,797 | ) | |||||||||||||||
Total MBS | 1,312,488 | (1,822 | ) | 401,378 | (839 | ) | 1,713,866 | (2,661 | ) | |||||||||||||||
Total | $ | 3,532,769 | $ | (16,702 | ) | $ | 1,945,601 | $ | (6,235 | ) | $ | 5,478,370 | $ | (22,937 | ) |
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As of December 31, 2014 | ||||||||||||||||||||||||
Less than 12 months | 12 months or more | Total | ||||||||||||||||||||||
Fair Value | Unrealized Losses | Fair Value | Unrealized Losses | Fair Value | Unrealized Losses | |||||||||||||||||||
(in thousands) | ||||||||||||||||||||||||
Non-MBS: | ||||||||||||||||||||||||
Other U.S. agency obligations | $ | 2,140,887 | $ | (9,700 | ) | $ | 739,667 | $ | (993 | ) | $ | 2,880,554 | $ | (10,693 | ) | |||||||||
GSE obligations | 555,755 | (1,493 | ) | — | — | 555,755 | (1,493 | ) | ||||||||||||||||
Total non-MBS | 2,696,642 | (11,193 | ) | 739,667 | (993 | ) | 3,436,309 | (12,186 | ) | |||||||||||||||
MBS: | ||||||||||||||||||||||||
Residential PLMBS * | 103,454 | (1,277 | ) | 444,356 | (33,832 | ) | 547,810 | (35,109 | ) | |||||||||||||||
Total | $ | 2,800,096 | $ | (12,470 | ) | $ | 1,184,023 | $ | (34,825 | ) | $ | 3,984,119 | $ | (47,295 | ) |
* Includes investments for which a portion of OTTI has been recognized in AOCI.
Redemption Terms
The amortized cost basis and fair value, as applicable, of non-MBS AFS securities by remaining contractual maturity as of March 31, 2015 and December 31, 2014 are shown below. Expected maturities of some securities may differ from contractual maturities because borrowers may have the right to call or prepay obligations with or without call or prepayment fees. MBS are not presented by contractual maturity because their expected maturities will likely differ from contractual maturities due to call or prepayment rights.
As of March 31, 2015 | As of December 31, 2014 | |||||||||||||||
Amortized Cost Basis | Fair Value | Amortized Cost Basis | Fair Value | |||||||||||||
(in thousands) | ||||||||||||||||
Non-MBS: | ||||||||||||||||
Due in one year or less | $ | 194,165 | $ | 194,194 | $ | 170,136 | $ | 170,176 | ||||||||
Due after one year through five years | 1,363,621 | 1,366,611 | 1,142,883 | 1,142,558 | ||||||||||||
Due after five years through 10 years | 3,691,742 | 3,696,491 | 3,164,162 | 3,169,375 | ||||||||||||
Due after 10 years | 3,355,249 | 3,351,876 | 2,153,867 | 2,152,765 | ||||||||||||
Total non-MBS | 8,604,777 | 8,609,172 | 6,631,048 | 6,634,874 | ||||||||||||
Total MBS | 7,259,561 | 7,320,767 | 1,231,860 | 1,242,460 | ||||||||||||
Total | $ | 15,864,338 | $ | 15,929,939 | $ | 7,862,908 | $ | 7,877,334 |
Interest-Rate Payment Terms
The following table summarizes the amortized cost of our AFS securities by interest-rate payment terms as of March 31, 2015 and December 31, 2014.
As of | As of | |||||||
March 31, 2015 | December 31, 2014 | |||||||
(in thousands) | ||||||||
Non-MBS: | ||||||||
Fixed | $ | 4,239,448 | $ | 4,159,932 | ||||
Variable | 4,365,329 | 2,471,116 | ||||||
Total non-MBS | 8,604,777 | 6,631,048 | ||||||
MBS: | ||||||||
Fixed | 1,187,335 | — | ||||||
Variable | 6,072,226 | 1,231,860 | ||||||
Total MBS | 7,259,561 | 1,231,860 | ||||||
Total | $ | 15,864,338 | $ | 7,862,908 |
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Proceeds from and Net Gain on Sales of AFS Securities
During the three months ended March 31, 2015, we sold our PLMBS portfolio for total proceeds of $1.6 billion, which resulted in a net realized gain of $52.3 million. This amount is included under the caption net realized gain on sale of AFS securities in our statements of income. This gain is offset by $51.5 million of OTTI losses we recorded during the three months ended March 31, 2015 under the caption net amount of other-than-temporary impairment (OTTI) loss reclassified from AOCI. Both the net realized gain on sale and the OTTI loss are included in other income (loss) in our statements of income for the three months ended March 31, 2015, resulting in a net gain of $792,000. We sold no AFS securities during the three months ended March 31, 2014. See Note 5 for additional information regarding the reclassification of HTM securities to AFS securities and our assessment of OTTI during the period.
Note 5—Investment Classification and Assessment for OTTI
Reclassification of HTM Securities to AFS Securities
In connection with the Merger, during March 2015, we formalized the decision to dispose of our PLMBS. As a result, we determined that we no longer had both the ability and the intent to hold all of our securities classified as HTM to maturity, and we reclassified our HTM securities to AFS securities at fair value on the date of reclassification. The following table summarizes the HTM securities reclassified to AFS securities during the three months ended March 31, 2015. See Note 4 for further information regarding the resulting AFS portfolio as of March 31, 2015.
For the Three Months Ended March 31, 2015 | ||||||||||||||||||||
Amortized Cost | OTTI Charges Recognized in AOCI (1) | Carrying Value | Net Unrecognized Holding Gains (Losses)(2) | Fair Value | ||||||||||||||||
(in thousands) | ||||||||||||||||||||
Non-MBS | ||||||||||||||||||||
Certificates of deposit | $ | 239,000 | $ | — | $ | 239,000 | $ | 3 | $ | 239,003 | ||||||||||
Other U.S. agency obligations | 15,615 | — | 15,615 | 134 | 15,749 | |||||||||||||||
State or local housing obligations | 2,002,315 | — | 2,002,315 | 1,332 | 2,003,647 | |||||||||||||||
Total non-MBS | 2,256,930 | — | 2,256,930 | 1,469 | 2,258,399 | |||||||||||||||
MBS: | ||||||||||||||||||||
Other U.S. agency single-family MBS | 74,699 | — | 74,699 | 192 | 74,891 | |||||||||||||||
GSE single-family MBS | 4,467,094 | — | 4,467,094 | 57,216 | 4,524,310 | |||||||||||||||
GSE multifamily MBS | 1,896,685 | — | 1,896,685 | (654 | ) | 1,896,031 | ||||||||||||||
PLMBS | 340,326 | (10,912 | ) | 329,414 | (5,946 | ) | 323,468 | |||||||||||||
Total MBS | 6,778,804 | (10,912 | ) | 6,767,892 | 50,808 | 6,818,700 | ||||||||||||||
Total | $ | 9,035,734 | $ | (10,912 | ) | $ | 9,024,822 | $ | 52,277 | $ | 9,077,099 |
(1) HTM OTTI charges recognized in AOCI were transferred to AFS OTTI charges recognized in AOCI.
(2) | Gross unrecognized holding gains and losses were recorded as gross unrealized gains or losses in AOCI upon the reclassification of these securities from HTM to AFS. |
Credit Risk
Our MBS investments have consisted of agency-guaranteed securities and senior tranches of privately issued prime and Alt-A MBS, collateralized by single- and multi-family residential mortgage loans, including hybrid adjustable-rate mortgages (ARMs) and option ARMs.
Assessment for OTTI
We evaluate each of our investments in an unrealized loss position for OTTI on a quarterly basis or when certain changes in circumstances occur. As part of this process, we consider (1) whether we intend to sell each such investment security and (2) whether it is more likely than not that we would be required to sell such security before the anticipated recovery of its
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amortized cost basis. If either of these conditions is met, we recognize an OTTI charge in earnings equal to the entire difference between the security's amortized cost and its fair value as of the statement of condition date.
PLMBS
During March 2015, and in connection with the Merger, we determined that we intended to sell all of our PLMBS, and accordingly, for PLMBS whose fair value was less than their amortized cost, we recognized an OTTI loss in earnings equal to the difference between these securities' amortized costs and their fair values as of the date we changed our intent. The following table summarizes the total amount of OTTI losses recorded during the three months ended March 31, 2015.
For the Three Months Ended March 31, 2015 | ||||
(in thousands) | ||||
PLMBS previously classified as AFS | ||||
OTTI charges recognized in AOCI | $ | 34,385 | ||
PLMBS reclassified from HTM to AFS | ||||
Non-credit portion of OTTI losses recognized in AOCI | 10,912 | |||
Change in fair value of OTTI securities recognized in OCI on date of reclassification | (6,844 | ) | ||
Gross unrealized losses recognized in AOCI | 13,076 | |||
Total amount of OTTI reclassified from AOCI to earnings | $ | 51,529 |
During the three months ended March 31, 2015, we sold our PLMBS, which resulted in a net realized gain of $52.3 million. Both the net realized gain on sale and the OTTI losses are included in other income (loss) in our statements of income for the three months ended March 31, 2015, resulting in a net gain of $792,000.
In addition, as a result of the sale of our PLMBS, as of March 31, 2015, we no longer had credit losses on investment securities held for which a portion of OTTI losses were recognized in AOCI. As of December 31, 2014, $373.7 million net OTTI credit losses had been recognized in earnings on our PLMBS and during the three months ended March 31, 2015, $5.8 million net OTTI credit losses were accreted to net interest income resulting from significant improvements in expected cash flows.
See Note 4 for further information regarding proceeds from and net gain on sale of AFS securities.
All Other Securities
Certain of our remaining investment securities have experienced unrealized losses and decreases in fair value primarily due to illiquidity in the marketplace and interest-rate volatility in the U.S. mortgage and credit markets. Based on current information, we determined that, for these investments, the underlying collateral or the strength of the issuers' guarantees through direct obligations or U.S. government support is currently sufficient to protect us from losses. Further, as of March 31, 2015, the declines are considered temporary as we expect to recover the entire amortized cost basis of the remaining securities in unrealized loss positions and neither intend to sell these securities nor consider it is more likely than not that we will be required to sell them prior to the anticipated recovery of their amortized cost basis. As a result, we do not consider any of our other investments to be other-than-temporarily impaired as of March 31, 2015.
Note 6—Advances
Redemption Terms
We offer a wide range of fixed and variable interest-rate advance products with different maturities, interest rates, payment terms, and optionality. Fixed interest-rate advances generally have maturities ranging from one day to 30 years. Variable interest-rate advances generally have maturities ranging from one to 10 years, where the interest rates reset periodically at a fixed spread to the London Interbank Offered Rate (LIBOR).
15
The following table summarizes the par value and weighted-average interest rates of our advances outstanding as of March 31, 2015 and December 31, 2014 by remaining term-to-maturity.
As of March 31, 2015 | As of December 31, 2014 | |||||||||||
Amount | Weighted-Average Interest Rate | Amount | Weighted-Average Interest Rate | |||||||||
(in thousands, except interest rates) | ||||||||||||
Due in one year or less | $ | 3,575,403 | 0.56 | $ | 3,722,410 | 0.46 | ||||||
Due after one year through two years | 1,256,543 | 2.33 | 2,936,039 | 1.09 | ||||||||
Due after two years through three years | 1,118,987 | 3.27 | 1,141,114 | 3.21 | ||||||||
Due after three years through four years | 586,169 | 1.95 | 788,648 | 2.26 | ||||||||
Due after four years through five years | 532,538 | 2.06 | 451,505 | 2.10 | ||||||||
Thereafter | 1,229,939 | 2.97 | 1,183,122 | 3.00 | ||||||||
Total par value | 8,299,579 | 1.74 | 10,222,838 | 1.45 | ||||||||
Commitment fees | (309 | ) | (320 | ) | ||||||||
Premium | 6,252 | 6,586 | ||||||||||
Discount | (4,603 | ) | (5,052 | ) | ||||||||
Hedging adjustments | 105,449 | 89,639 | ||||||||||
Total | $ | 8,406,368 | $ | 10,313,691 |
We offer fixed-rate callable advances to members that may be prepaid on specified dates without incurring prepayment or termination fees (e.g., returnable or prepayable advances). As of March 31, 2015 and December 31, 2014, we had $15.8 million of callable advances. In exchange for receiving the right to call the advance on a predetermined call schedule, the member pays a higher fixed rate for the advance relative to an equivalent maturity non-callable, fixed-rate advance. If the call option is exercised, replacement funding may be available. We also offer choice advances on which the interest-rate resets at specified intervals based on a spread to our short-term cost of funds and which may be prepaid at any repricing date without incurring a prepayment fee. As of March 31, 2015, we had no choice advances outstanding. We had $125.0 million of choice advances as of December 31, 2014.
Other advances, including symmetrical prepayment advances, may only be prepaid subject to a fee sufficient to make us economically indifferent to a borrower's decision to prepay an advance or maintain the advance until contractual maturity. In the case of our standard advance products, the fee cannot be less than zero; however, the symmetrical prepayment advance removes this floor, resulting in a potential payment to the borrower under certain circumstances. Symmetrical prepayment advances outstanding as of March 31, 2015 and December 31, 2014 totaled $552.7 million and $554.1 million.
We also offer convertible and putable advances. Convertible advances allow us to convert the advance from variable to fixed interest rate on a pre-determined date after the lock-out period. The fixed interest rate on a convertible advance is determined at origination. In addition, after the conversion date, the convertible advance is putable on specific dates throughout the remaining term. We had no convertible advances outstanding that had not converted to fixed interest rates as of March 31, 2015 and December 31, 2014.
With a putable advance, we effectively purchase a put option from the member that allows us the right to put or extinguish the advance at par on predetermined exercise dates and at our discretion. We would typically exercise our right to terminate a putable advance when interest rates increase sufficiently above the interest rate that existed when the putable advance was issued. The borrower may then apply for a new advance at the prevailing market interest rate. We had putable advances outstanding of $853.5 million and $881.0 million as of March 31, 2015 and December 31, 2014.
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The following table summarizes the par value of our advances by year of remaining contractual maturity or next put date as of March 31, 2015 and December 31, 2014.
As of | As of | |||||||
March 31, 2015 | December 31, 2014 | |||||||
(in thousands) | ||||||||
Due in one year or less | $ | 4,288,919 | $ | 4,510,926 | ||||
Due after one year through two years (1) | 925,527 | 2,567,023 | ||||||
Due after two years through three years (2) | 876,487 | 876,614 | ||||||
Due after three years through four years | 576,169 | 763,648 | ||||||
Due after four years through five years | 532,538 | 451,505 | ||||||
Thereafter | 1,099,939 | 1,053,122 | ||||||
Total par value | $ | 8,299,579 | $ | 10,222,838 |
(1) As of March 31, 2015, includes fixed-rate callable advances of $10.8 million with next call date of April 1, 2015.
(2) As of March 31, 2015, includes fixed-rate callable advances of $5.0 million with next call date of December 1, 2015.
The following table summarizes the par value of our advances by interest-rate payment terms as of March 31, 2015 and December 31, 2014.
As of | As of | |||||||
March 31, 2015 | December 31, 2014 | |||||||
(in thousands) | ||||||||
Fixed: | ||||||||
Due in one year or less | $ | 1,857,393 | $ | 1,761,526 | ||||
Due after one year | 4,724,176 | 4,875,428 | ||||||
Total fixed | 6,581,569 | 6,636,954 | ||||||
Variable: | ||||||||
Due in one year or less | 1,718,010 | 1,960,884 | ||||||
Due after one year | — | 1,625,000 | ||||||
Total variable | 1,718,010 | 3,585,884 | ||||||
Total par value | $ | 8,299,579 | $ | 10,222,838 |
Credit Risk Exposure and Security Terms
Our potential credit risk from advances is concentrated in commercial banks and thrifts. The par value of our top five borrowers was $5.3 billion and $6.8 billion as of March 31, 2015 and December 31, 2014, which represented 63.4% and 66.4% of total advances outstanding at March 31, 2015 and December 31, 2014.
In April 2013, as a result of a corporate restructuring, Bank of America Oregon, N.A., our then largest borrower, merged into its parent, Bank of America, N.A. (BANA). At that time, Bank of America Oregon, N.A.'s membership in the Seattle Bank was terminated and all outstanding advances and capital stock were assumed by BANA, a nonmember financial institution. As a result, BANA's outstanding advances will eventually decline to zero as the advances mature. During the first quarter of 2015, $1.5 billion of BANA advances matured and approximately 96% of the entity's remaining $1.6 billion of outstanding advances as of March 31, 2015 will mature in 2016.
We expect that the concentration of advances with our largest borrowers will remain significant for the foreseeable future. For information on our credit risk on advances and allowance for credit losses, see Note 8.
Prepayment Fees
We record prepayment fees received from members on prepaid advances net of fair value basis adjustments related to hedging activities, unamortized premiums, deferred fees, and other adjustments on those advances where prepaid advances were deemed extinguished. The net amount of prepayment fees is reflected as interest income in our statements of income.
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The following table presents our gross prepayment fees, adjustments, net prepayment fees, and the amount of advance principal prepaid for the three months ended March 31, 2015 and 2014.
For the Three Months Ended March 31, | ||||||||
2015 | 2014 | |||||||
(in thousands) | ||||||||
Gross prepayment fees | $ | 539 | $ | 80 | ||||
Adjustments | 19 | (59 | ) | |||||
Net prepayment fees | $ | 558 | $ | 21 | ||||
Advance principal prepaid | $ | 136,510 | $ | 9,343 |
Note 7—Mortgage Loans
Mortgage Loans Held for Portfolio
We historically purchased single-family mortgage loans originated or acquired by participating members (i.e., participating financial institutions, or PFIs) in our Mortgage Purchase Program (MPP); we have not purchased any mortgage loans since 2006 and have not sold any mortgage loans since 2011. These mortgage loans are guaranteed or insured by federal agencies or credit-enhanced by the PFI. We have no current plans to sell the remaining mortgage loans held for portfolio.
The following tables summarize our mortgage loans held for portfolio as of March 31, 2015 and December 31, 2014.
As of | As of | |||||||
March 31, 2015 | December 31, 2014 | |||||||
(in thousands) | ||||||||
Real Estate: | ||||||||
Fixed interest-rate, medium-term*, single-family | $ | 20,720 | $ | 23,254 | ||||
Fixed interest-rate, long-term, single-family | 598,923 | 625,784 | ||||||
Total unpaid principal balance | 619,643 | 649,038 | ||||||
Premiums | 2,806 | 2,997 | ||||||
Discounts | (3,243 | ) | (3,438 | ) | ||||
Deferred loan costs, net | (14 | ) | (14 | ) | ||||
Mortgage loans held for portfolio before allowance for credit losses | 619,192 | 648,583 | ||||||
Less: Allowance for credit losses on mortgage loans | (717 | ) | (1,404 | ) | ||||
Total mortgage loans held for portfolio, net | $ | 618,475 | $ | 647,179 |
* | Medium-term is defined as a term of 15 years or less. |
As of | As of | |||||||
Unpaid Principal Balance of Mortgage Loans Held for Portfolio | March 31, 2015 | December 31, 2014 | ||||||
(in thousands) | ||||||||
Government-guaranteed/insured | $ | 59,614 | $ | 62,170 | ||||
Conventional | 560,029 | 586,868 | ||||||
Total unpaid principal balance | $ | 619,643 | $ | 649,038 |
As of March 31, 2015 and December 31, 2014, approximately 77% of our outstanding mortgage loans had been purchased from our former member, Washington Mutual Bank, F.S.B. (which was acquired by JPMorgan Chase Bank, N.A., a nonmember).
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Note 8—Allowance for Credit Losses
We have established a credit-loss allowance methodology for each of our asset portfolios: credit products, which include our advances, letters of credit, and other products; mortgage loans held for portfolio, including government-guaranteed and conventional mortgage loans; securities purchased under agreements to resell; and federal funds sold. See Note 9 "Part II. Item 8. Financial Statements and Supplementary Data—Audited Financial Statements—Notes to Financial Statements" in our 2014 10-K for a description of our allowance methodologies for each portfolio.
Credit Products
We consider the payment status, collateral types and concentrations, and our borrowers' financial condition to be primary indicators of credit quality for our credit products. As of March 31, 2015 and December 31, 2014, we had rights to collateral on a borrower-by-borrower basis with a value in excess of our outstanding extensions of credit. As of March 31, 2015 and December 31, 2014, we had no credit products that were past due, on nonaccrual status, or considered impaired.
Based upon the collateral held as security, our credit extension and collateral policies, our credit analysis, and the repayment history on credit products, we have not incurred any credit losses on credit products outstanding as of March 31, 2015 and December 31, 2014. Accordingly, we have not recorded any allowance for credit losses for this asset portfolio. In addition, as of March 31, 2015 and December 31, 2014, no liability was recorded to reflect an allowance for credit losses for credit exposures not recorded on the statements of condition. For additional information on credit exposure on unrecorded commitments, see Note 14.
Mortgage Loans Held for Portfolio
Government-Guaranteed
Government-guaranteed mortgage loans are mortgage loans insured or guaranteed by the Federal Housing Administration (FHA) and any losses from such loans are expected to be recovered from this entity. Any losses from such loans that are not recovered from this entity are absorbed by the mortgage servicers. Therefore, we record no allowance for credit losses on government-guaranteed mortgage loans. Furthermore, due to the FHA's guarantee, these mortgage loans are also not placed on nonaccrual status.
Conventional
We evaluate our conventional mortgage loans held for portfolio for credit losses by: (1) collectively evaluating homogeneous pools of residential mortgage loans; and (2) individually evaluating mortgage loans that meet certain criteria.
Allowance for Credit Losses on Mortgage Loans Held for Portfolio
Our credit risk analysis of conventional loans evaluated collectively for impairment and determination of allowance for credit losses considers loan pool specific attribute data, applies estimated loss severities, and factors in the credit enhancements to determine our best estimate of probable incurred losses for our allowance for credit losses. Specifically, the determination of the allowance generally factors in the presence of primary mortgage insurance (PMI) and lender risk account (LRA) funds. Incurred losses that would be recovered from the credit enhancements are not reserved as part of our allowance for loan losses. In such cases, a receivable is generally established to reflect the expected recovery from credit enhancements. Because we purchased most of our conventional mortgage loans prior to 2004, the LRA balances were almost fully distributed as of March 31, 2015. Once the LRA balance is exhausted, our mortgages will have no LRA coverage and our credit exposure will be reflected accordingly in our quarterly allowance for credit loss evaluations.
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The following table presents a rollforward of the allowance for credit losses on our collectively evaluated conventional mortgage loans held for portfolio as of and for the three months ended March 31, 2015 and 2014, as well as the recorded investment in mortgage loans by impairment methodology as of March 31, 2015 and 2014.
As of and For the Three Months Ended March 31, | ||||||||
2015 | 2014 | |||||||
(in thousands) | ||||||||
Balance, beginning of period | $ | 1,404 | $ | 934 | ||||
Charge-offs (1) | (479 | ) | (29 | ) | ||||
Provision (benefit) for credit losses | (208 | ) | 236 | |||||
Balance, end of period - collectively evaluated for impairment | $ | 717 | $ | 1,141 | ||||
Recorded investments of mortgage loans, end of period (2): | ||||||||
Individually evaluated for impairment | $ | 31,651 | $ | 14,262 | ||||
Collectively evaluated for impairment | $ | 530,098 | $ | 678,311 |
(1) | For the three months ended March 31, 2015, comprised of charge-offs from individually evaluated impaired mortgage loans due to the adoption of the charge-off requirements under AB 2012-02 beginning January 1, 2015. |
(2) | Includes the unpaid principal balance of the mortgage loans, adjusted for accrued interest, unamortized premiums or discounts, and direct write-downs. The recorded investment excludes any valuation allowance. |
As a result of our March 31, 2015 analysis, we determined that the credit enhancement provided by our members in the form of the LRA and our previously recorded allowance for credit losses was in excess of the amount required to absorb the expected credit losses on our mortgage loan portfolio. Accordingly, we recorded a benefit for credit losses of $208,000 for the three months ended March 31, 2015. We recorded a provision for credit losses of $236,000 for the three months ended March 31, 2014.
In addition to PMI and LRA, we formerly maintained supplemental mortgage insurance (SMI) to cover losses on our conventional mortgage loans over and above the losses covered by the LRA in order to achieve the minimum level of portfolio credit protection required by regulation. Under FHFA regulation, SMI from an insurance provider rated "AA" or equivalent by a nationally recognized statistical rating organization must be obtained, unless this requirement is waived by the regulator. In 2008, because the credit rating on our SMI provider was lowered from "AA-" to "A," we cancelled our SMI policies. As of March 31, 2015, while we have determined that the LRA and our previously recorded allowance for credit losses were in excess of the amount required to absorb the expected credit losses on our mortgage loan portfolio, we remain in technical violation of the regulatory requirement to provide SMI on our MPP conventional mortgage loans.
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Credit Quality Indicators
Key credit quality indicators for mortgage loans include the migration of past-due loans, nonaccrual loans, loans in process of foreclosure, and impaired loans. The table below summarizes our key credit quality indicators for mortgage loans held for portfolio as of March 31, 2015 and December 31, 2014.
As of March 31, 2015 | As of December 31, 2014 | |||||||||||||||||||||||
Recorded Investment (1) in Delinquent Mortgage Loans | Conventional | Government-Guaranteed | Total | Conventional | Government-Guaranteed | Total | ||||||||||||||||||
(in thousands, except percentages) | ||||||||||||||||||||||||
Mortgage loans: | ||||||||||||||||||||||||
Past due 30-59 days delinquent and not in foreclosure | $ | 14,537 | $ | 5,938 | $ | 20,475 | $ | 18,508 | $ | 7,818 | $ | 26,326 | ||||||||||||
Past due 60-89 days delinquent and not in foreclosure | 7,225 | 2,308 | 9,533 | 5,687 | 2,831 | 8,518 | ||||||||||||||||||
Past due 90 days or more delinquent (2) | 23,291 | 6,066 | 29,357 | 25,960 | 6,772 | 32,732 | ||||||||||||||||||
Total past due | 45,053 | 14,312 | 59,365 | 50,155 | 17,421 | 67,576 | ||||||||||||||||||
Total current loans | 516,696 | 45,891 | 562,587 | 538,534 | 45,363 | 583,897 | ||||||||||||||||||
Total mortgage loans | $ | 561,749 | $ | 60,203 | $ | 621,952 | $ | 588,689 | $ | 62,784 | $ | 651,473 | ||||||||||||
Accrued interest - mortgage loans | $ | 2,481 | $ | 279 | $ | 2,760 | $ | 2,599 | $ | 291 | $ | 2,890 | ||||||||||||
Other delinquency statistics: | ||||||||||||||||||||||||
In process of foreclosure included above (2) (3) | $ | 18,687 | none | $ | 18,687 | $ | 18,762 | none | $ | 18,762 | ||||||||||||||
Serious delinquency rate (4) | 4.1 | % | 10.1 | % | 4.7 | % | 4.4 | % | 10.8 | % | 5.0 | % | ||||||||||||
Past due 90 days or more still accruing interest | $ | — | $ | 6,066 | $ | 6,066 | $ | — | $ | 6,772 | $ | 6,772 | ||||||||||||
Loans in non-accrual status (5) | $ | 23,291 | none | $ | 23,291 | $ | 25,960 | none | $ | 25,960 | ||||||||||||||
REO(6) | $ | 1,410 | none | $ | 1,410 | $ | 1,279 | none | $ | 1,279 |
(1) | Includes the unpaid principal balance of the mortgage loans, adjusted for accrued interest, unamortized premiums or discounts, and direct writedowns. The recorded investment excludes any valuation allowance. |
(2) | Conventional mortgage loans includes loans classified as troubled debt restructurings (TDRs). As of March 31, 2015 and December 31, 2014, $6.0 million of the $18.3 million and $6.7 million of the $17.9 million recorded investment in TDRs was 90 days or more past due and in the process of foreclosure. |
(3) | Includes mortgage loans where the decision of foreclosure has been reported. |
(4) | Mortgage loans that are 90 days or more past due or in the process of foreclosure, expressed as a percentage of the unpaid principal balance of the total mortgage loan portfolio class. |
(5) | Generally represents mortgage loans with contractual principal or interest payments 90 days or more past due and not accruing interest. |
(6) | Reflected at carrying value. |
Individually Evaluated Mortgage Loans
We individually evaluate our TDRs and certain other mortgage loans for impairment when determining our allowance for credit losses and typically remove the credit loss amount from the general allowance for credit losses and record it as a reduction to the mortgage loan carrying value.
TDRs
A TDR is considered to have occurred when a concession is granted to a borrower for economic or legal reasons related to the borrower's financial difficulties and that concession would not have been considered otherwise. We have granted a concession when we do not expect to collect all amounts due to us under the original contract as a result of the restructuring. Our TDR loans resulting from modification of terms primarily involve loans where an agreement permits the recapitalization of past-due amounts up to the original loan amount. Under this type of modification, no other terms of the original loan are modified, including the borrower's original interest rate and contractual maturity. Loans that are discharged in Chapter 7 bankruptcy and have not been reaffirmed by the borrowers are also considered to be TDRs, except in cases where all contractual amounts due are still expected to be collected as a result of government guarantees.
Credit losses in these cases are measured by factoring in expected cash shortfalls incurred as of the reporting date and the economic loss attributable to delaying the original contractual principal and interest due dates. As of March 31, 2015 and
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December 31, 2014, the recorded investment balances of mortgage loans classified as TDRs were $18.3 million and $17.9 million. The financial amounts related to TDRs are not material to our financial condition, results of operations, or cash flows.
Other Individually Evaluated Mortgage Loans
In compliance with AB 2013-02, beginning January 1, 2015, we implemented the charge-off provisions required under AB 2012-02. Under this guidance, we individually evaluate mortgage loans and write them down to their collateral value less cost to sell if impairment is present. The associated charge-off is generally recorded no later than the end of the month in which the loan becomes 180 days past due, unless we determine that repayment is likely to occur. As of March 31, 2015, the recorded investment balances and unpaid principal balances of individually evaluated mortgage loans (other than TDRs) under AB 2012-02 were $13.3 million.
Loans evaluated for impairment under AB 2012-02 were previously assessed for potential losses as part of our estimation process for the general allowance for credit losses. The initial charge-off of an impaired loan under AB 2012-02 is made against the carrying value of the mortgage loan and recorded against the previously recorded general allowance for credit losses. Subsequent charge-offs of those loans are recorded directly in other income (loss) in our statements of income. For the three months ended March 31, 2015, we recorded $531,000 of charge-offs against the carrying values of our mortgage loans, of which $479,000 was recorded against our general allowance for credit losses and $52,000 was recorded directly in other income (loss) in our statements of income.
The following table presents our average recorded investment balances and related interest income recognized on our individually evaluated mortgage loans with no related allowance for the three months ended March 31, 2015 and 2014.
For the Three Months Ended March 31, | ||||||||||||||||
2015 | 2014 | |||||||||||||||
Average Recorded Investment | Interest Income Recognized | Average Recorded Investment | Interest Income Recognized | |||||||||||||
(in thousands) | ||||||||||||||||
Conventional mortgage loans | $ | 19,606 | $ | 149 | $ | 13,417 | $ | 68 |
REO
We had $1.4 million and $1.3 million of REO recorded in other assets on our statements of condition as of March 31, 2015 and December 31, 2014.
Federal Funds Sold and Securities Purchased Under Agreements to Resell
These investments are generally short-term (primarily overnight), and the recorded balance approximates fair value. We invest in federal funds with counterparties that are considered to be of investment quality by the Seattle Bank, and these investments are only evaluated for purposes of an allowance for credit losses if the investment is not paid when due. All investments in federal funds as of March 31, 2015 and December 31, 2014 were repaid or are expected to be repaid according to the contractual terms. Securities purchased under agreements to resell are considered collateralized financing arrangements and effectively represent short-term loans with counterparties that are considered to be of investment quality by the Seattle Bank. If an agreement to resell is deemed to be impaired, the difference between the fair value of the collateral and the amortized cost of the agreement is charged to earnings. Based upon the collateral held as security, we determined that no allowance for credit losses was required for the securities purchased under agreements to resell as of March 31, 2015 and December 31, 2014.
Note 9—Derivatives and Hedging Activities
Nature of Business Activity
We are exposed to interest-rate risk primarily from the effect of interest-rate changes on our interest-earning assets and the funding sources that finance these assets. Consistent with FHFA regulation, we enter into interest-rate exchange agreements (derivatives) to manage the interest-rate exposures inherent in otherwise unhedged asset and funding positions, to achieve our risk-management objectives, and to reduce our cost of funds. We generally use interest-rate swaps, options, swaptions, and interest-rate caps and floors in our interest-rate risk management. For more information on the types of derivatives we use, see
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Note 10 in "Part II. Item 8. Financial Statements and Supplementary Data—Audited Financial Statements—Notes to Financial Statements" in our 2014 10-K. To mitigate the risk of loss, we monitor the risk to our interest income, net interest margin, and average maturity of interest-earning assets and interest-bearing liabilities. FHFA regulations and our risk management policy prohibit the speculative use of derivatives and limit credit risk arising from these instruments. The use of derivatives is an integral part of our financial and risk management strategy.
We generally use derivatives to:
• | Reduce funding costs by combining a derivative with a consolidated obligation, as the cost of a combined funding structure can be lower than the cost of a comparable consolidated obligation; |
• | Reduce the interest-rate sensitivity and repricing gaps of assets and liabilities; |
• | Preserve the interest-rate spread between the yield of an asset (e.g., an advance) and the cost of the related liability (e.g., the consolidated obligation used to fund the advance). Without the use of derivatives, this interest-rate spread could be reduced or eliminated when a change in the interest rate on the advance does not match a change in the interest rate on the consolidated obligation; |
• | Mitigate the adverse earnings effects of the shortening or extension of expected lives of certain assets (e.g., mortgage-related assets) and liabilities; |
• | Protect the value of existing asset or liability positions; |
• | Manage embedded options in assets and liabilities; and |
• | Enhance our overall asset/liability management. |
Application of Derivatives
We use derivatives in the following ways: (1) by designating them as a fair value hedge of an associated financial instrument or firm commitment or (2) in asset/liability management as an economic or offsetting hedge. Economic hedges are primarily used to manage mismatches between the coupon features of our assets and liabilities. For example, we may use derivatives to adjust the interest-rate sensitivity of consolidated obligations to approximate more closely the interest-rate sensitivity of our assets or to adjust the interest-rate sensitivity of advances, investments, or mortgages to approximate more closely the interest-rate sensitivity of our liabilities. We review our hedging strategies periodically and change our hedging techniques or adopt new hedging strategies as appropriate.
We document, at inception, all relationships between derivatives designated as hedging instruments and hedged items, and include our risk management objectives and strategies for undertaking the various hedging transactions and our method of assessing effectiveness. This process includes linking all derivatives that are designated as fair value hedges to: (1) assets or liabilities on the statements of condition or (2) firm commitments. We also formally assess (both at the hedge relationship's inception and at least quarterly thereafter) whether the derivatives in fair value hedging relationships have been effective in offsetting changes in the fair value of hedged items attributable to the hedged risk and whether those derivatives may be expected to remain effective in future periods. We generally use regression analysis to assess the effectiveness of our hedge relationships.
We have also established processes to evaluate financial instruments, such as debt instruments, certain advances, and investment securities, for the presence of embedded derivatives and to determine the need, if any, for bifurcation and separate accounting under GAAP.
Types of Hedged Items
We are exposed to interest-rate risk on virtually all of our assets and liabilities, and our hedged items may include advances, mortgage loans, investments, and consolidated obligations.
Financial Statement Effect and Additional Financial Information
The contractual notional amount of derivatives reflects our involvement in the various classes of financial instruments and serves as a factor in determining periodic interest payments or cash flows received and paid. The notional amount of derivatives represents neither the actual amounts exchanged nor our overall exposure to credit and market risk. The overall
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amount that could potentially be subject to credit or market loss is much smaller. The risks of derivatives are more appropriately measured on a hedging relationship or portfolio basis, taking into account the counterparties, the types of derivatives, the item(s) being hedged, and any offsets between the derivatives and the items being hedged.
The following tables summarize the notional amounts and the fair values of our derivatives, including the effect of qualifying netting arrangements and cash collateral as of March 31, 2015 and December 31, 2014. For purposes of this disclosure, the derivative values include both the fair value of derivatives and related accrued interest.
As of March 31, 2015 | ||||||||||||
Notional Amount | Derivative Assets | Derivative Liabilities | ||||||||||
(in thousands) | ||||||||||||
Derivatives designated as hedging instruments: | ||||||||||||
Interest-rate swaps | $ | 21,039,893 | $ | 95,800 | $ | 287,268 | ||||||
Interest-rate caps or floors | 10,000 | — | — | |||||||||
Total derivatives designated as hedging instruments | 21,049,893 | 95,800 | 287,268 | |||||||||
Derivatives not designated as hedging instruments: | ||||||||||||
Interest-rate swaps | 972,761 | 21,390 | 21,377 | |||||||||
Interest-rate swaptions | 375,000 | 219 | — | |||||||||
Total derivatives not designated as hedging instruments | 1,347,761 | 21,609 | 21,377 | |||||||||
Total derivatives before netting and collateral adjustments | $ | 22,397,654 | 117,409 | 308,645 | ||||||||
Netting and collateral adjustments * | (67,864 | ) | (237,854 | ) | ||||||||
Derivative assets and derivative liabilities | $ | 49,545 | $ | 70,791 |
As of December 31, 2014 | ||||||||||||
Notional Amount | Derivative Assets | Derivative Liabilities | ||||||||||
(in thousands) | ||||||||||||
Derivatives designated as hedging instruments: | ||||||||||||
Interest-rate swaps | $ | 18,819,251 | $ | 104,760 | $ | 268,782 | ||||||
Interest-rate caps or floors | 10,000 | — | — | |||||||||
Total derivatives designated as hedging instruments | 18,829,251 | 104,760 | 268,782 | |||||||||
Derivatives not designated as hedging instruments: | ||||||||||||
Interest-rate swaps | 2,472,513 | 18,703 | 18,143 | |||||||||
Interest-rate swaptions | 375,000 | 305 | — | |||||||||
Total derivatives not designated as hedging instruments | 2,847,513 | 19,008 | 18,143 | |||||||||
Total derivatives before netting and collateral adjustments: | $ | 21,676,764 | 123,768 | 286,925 | ||||||||
Netting and collateral adjustments * | (77,514 | ) | (210,213 | ) | ||||||||
Derivative assets and derivative liabilities | $ | 46,254 | $ | 76,712 |
* | Amounts represent the effect of legally enforceable netting arrangements that allow the Seattle Bank to settle positive and negative |
positions and also cash collateral and related accrued interest held or posted with the same clearing member or counterparty. As of March 31, 2015 and December 31, 2014, the Seattle Bank posted $170.0 million and $132.7 million of cash collateral.
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The following table presents the components of net gain (loss) on derivatives and hedging activities as presented in the statements of income for the three months ended March 31, 2015 and 2014.
For the Three Months Ended March 31, | ||||||||
2015 | 2014 | |||||||
(in thousands) | ||||||||
Derivatives and hedged items designated in fair value hedging relationships: | ||||||||
Net gain (loss) related to fair value hedge ineffectiveness - Interest-rate swaps | $ | 1,686 | $ | (907 | ) | |||
Derivatives not designated as hedging instruments: | ||||||||
Economic hedges: | ||||||||
Interest-rate swaps | 34 | (89 | ) | |||||
Interest-rate swaptions | (85 | ) | (1,161 | ) | ||||
Net interest settlements | (5 | ) | 919 | |||||
Offsetting transactions: | ||||||||
Interest-rate swaps | — | (196 | ) | |||||
Total net loss related to derivatives not designated as hedging instruments | (56 | ) | (527 | ) | ||||
Net gain (loss) on derivatives and hedging activities | $ | 1,630 | $ | (1,434 | ) |
The following tables present, by type of hedged item, the gain (loss) on derivatives and the related hedged items in fair value hedging relationships, and the impact of those derivatives on our net interest income for the three months ended March 31, 2015 and 2014.
For the Three Months Ended March 31, 2015 | ||||||||||||||||
Gain (Loss) on Derivatives | Gain (Loss) on Hedged Items | Net Hedge Ineffectiveness (1) | Effect of Derivatives on Net Interest Income (2) | |||||||||||||
(in thousands) | ||||||||||||||||
Advances | $ | (16,359 | ) | $ | 15,819 | $ | (540 | ) | $ | (20,359 | ) | |||||
AFS securities | (53,281 | ) | 51,557 | (1,724 | ) | (14,880 | ) | |||||||||
Consolidated obligation bonds | 26,264 | (22,179 | ) | 4,085 | 24,738 | |||||||||||
Consolidated obligation discount notes | 264 | (399 | ) | (135 | ) | 82 | ||||||||||
Total | $ | (43,112 | ) | $ | 44,798 | $ | 1,686 | $ | (10,419 | ) |
For the Three Months Ended March 31, 2014 | ||||||||||||||||
Gain (Loss) on Derivatives | Gain (Loss) on Hedged Items | Net Hedge Ineffectiveness (1) | Effect of Derivatives on Net Interest Income (2) | |||||||||||||
(in thousands) | ||||||||||||||||
Advances | $ | 507 | $ | (1,627 | ) | $ | (1,120 | ) | $ | (21,247 | ) | |||||
AFS securities | (49,624 | ) | 47,202 | (2,422 | ) | (14,894 | ) | |||||||||
Consolidated obligation bonds | 16,109 | (13,500 | ) | 2,609 | 30,940 | |||||||||||
Consolidated obligation discount notes | (75 | ) | 101 | 26 | 74 | |||||||||||
Total | $ | (33,083 | ) | $ | 32,176 | $ | (907 | ) | $ | (5,127 | ) |
(1) | These amounts are reported in other income. |
(2) | The periodic net interest settlements on derivatives in fair value hedge relationships is presented in the interest income/expense line item of the respective hedged item. Amounts exclude amortization of hedging adjustments. |
Managing Credit Risk on Derivatives
The Seattle Bank is subject to credit risk due to the risk of nonperformance by counterparties to our derivative agreements, and we manage this credit risk through credit analysis, collateral requirements and adherence to the requirements set forth in our credit policies and in U.S. Commodity Futures Trading Commission and FHFA regulations. For bilateral derivatives, the degree of credit risk depends on the extent to which netting arrangements are included in our contracts to mitigate the risk. We require collateral agreements with collateral delivery thresholds to be in place for all bilateral counterparties.
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These agreements include provisions for netting exposures across all transactions with that counterparty. The agreements also require a counterparty to deliver collateral to the Seattle Bank if the total exposure to that counterparty exceeds a specific threshold limit as denoted in the agreement.
For cleared derivatives, the clearinghouse is our counterparty. The clearinghouse notifies the clearing member of the required initial and variation margin and the clearing member, in turn, notifies us of such amounts. The requirement that we post initial and variation margin to the clearinghouse through the clearing member exposes us to institutional credit risk in the event that the clearing member or the clearinghouse fails to meet its obligations. The use of cleared derivatives mitigates individual counterparty credit risk exposure because a central counterparty is substituted for individual counterparties and collateral is posted daily, through a clearing member, for changes in the value of cleared derivatives. We have analyzed the enforceability of offsetting rights incorporated in our cleared derivative transactions and determined that those offsetting rights by a non-defaulting party under these transactions should be upheld under applicable law upon an event of default, including a bankruptcy, insolvency, or similar proceeding, involving the clearinghouse or clearing member, or both. Based on this analysis, we present a net derivative receivable or payable for all transactions through a particular clearing member with a particular clearinghouse. Based on our credit analyses and collateral requirements, we do not anticipate any credit losses on our derivative agreements.
Certain of our bilateral interest-rate exchange agreements include provisions that require us to post additional collateral with our counterparties if there is deterioration in our credit rating. If our credit rating were lowered by a major credit rating agency, we might be required to deliver additional collateral on certain bilateral interest-rate exchange agreements in net liability positions. The aggregate fair value of all bilateral derivative instruments with credit-risk related contingent features that were in a liability position as of March 31, 2015 was $131.3 million, for which we posted cash collateral of $60.5 million in the normal course of business. If the Seattle Bank's individual credit rating had been lowered by one rating level (i.e., from "AA" to "A"), we would have been required to deliver up to an additional $43.9 million of collateral at fair value to our bilateral derivative counterparties as of March 31, 2015.
For cleared derivatives, the clearinghouse determines initial margin requirements and, generally, credit ratings are not
factored into the initial margin. However, clearing members may require additional initial margin to be posted based on credit
events, including, but not limited to, credit rating downgrades. We were not required to post additional initial margin by our
clearing members as of March 31, 2015.
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Offsetting of Derivative Assets and Derivative Liabilities
We present derivative instruments, related cash collateral (including initial and variation margin received or pledged), and associated accrued interest, on a net basis by clearing member and by counterparty when it has met the netting requirements. The following table presents, as of March 31, 2015 and December 31, 2014, the fair value of gross and net derivative assets and liabilities meeting netting requirements, including the related collateral received from or pledged to counterparties. As of March 31, 2015 and December 31, 2014, we had no derivative instruments not meeting netting requirements.
As of March 31, 2015 | As of December 31, 2014 | |||||||||||||||
Derivative Assets | Derivative Liabilities | Derivative Assets | Derivative Liabilities | |||||||||||||
(in thousands) | ||||||||||||||||
Derivative instruments meeting netting requirements: | ||||||||||||||||
Gross recognized amount | ||||||||||||||||
Bilateral derivatives | $ | 111,871 | $ | 227,632 | $ | 118,602 | $ | 227,781 | ||||||||
Cleared derivatives | 5,538 | 81,013 | 5,166 | 59,144 | ||||||||||||
Total gross recognized amount | 117,409 | 308,645 | 123,768 | 286,925 | ||||||||||||
Gross amounts of netting adjustments and cash collateral: | ||||||||||||||||
Bilateral derivatives | (96,314 | ) | (156,841 | ) | (100,074 | ) | (151,069 | ) | ||||||||
Cleared derivatives | 28,450 | (81,013 | ) | 22,560 | (59,144 | ) | ||||||||||
Total gross amounts of netting adjustments and cash collateral | (67,864 | ) | (237,854 | ) | (77,514 | ) | (210,213 | ) | ||||||||
Net amounts after offsetting adjustments: | ||||||||||||||||
Bilateral derivatives | 15,557 | 70,791 | 18,528 | 76,712 | ||||||||||||
Cleared derivatives | 33,988 | — | 27,726 | — | ||||||||||||
Total net amounts after offsetting adjustments | 49,545 | 70,791 | 46,254 | 76,712 | ||||||||||||
Non-cash collateral received or pledged not offset: | ||||||||||||||||
Cannot be sold or repledged: * | ||||||||||||||||
Bilateral derivatives | 7,671 | — | 8,699 | — | ||||||||||||
Total collateral that cannot be sold or repledged * | 7,671 | — | 8,699 | — | ||||||||||||
Net unsecured amount: | ||||||||||||||||
Bilateral derivatives | 7,886 | 70,791 | 9,829 | 76,712 | ||||||||||||
Cleared derivatives | 33,988 | — | 27,726 | — | ||||||||||||
Total net unsecured amount | $ | 41,874 | $ | 70,791 | $ | 37,555 | $ | 76,712 |
* | Non-cash collateral consists of U.S. Treasury and GSE securities at fair value. |
Note 10—Consolidated Obligations
Consolidated obligations, consisting of consolidated obligation bonds and consolidated obligation discount notes, are backed only by the financial resources of the FHLBanks. The joint and several liability regulation of the FHFA authorizes it to require any FHLBank to repay all or a portion of the principal and interest on consolidated obligations for which another FHLBank is the primary obligor. For a discussion of the joint and several liability regulation, see Note 12 in "Part II. Item 8. Financial Statements and Supplementary Data—Audited Financial Statements—Notes to Financial Statements" in our 2014 10-K. No FHLBank has ever been asked or required to repay the principal or interest on any consolidated obligation on behalf of another FHLBank, and as of March 31, 2015 and through the filing date of this report, we do not believe that it is probable that we will be asked to do so. The par amounts of the 12 FHLBanks' outstanding consolidated obligations, including consolidated obligations held by other FHLBanks, were $812.2 billion and $847.2 billion as of March 31, 2015 and December 31, 2014. The FHLBanks issue consolidated obligations through the Office of Finance as their agent. In connection with each debt issuance, each FHLBank specifies the amount of debt it wants issued on its behalf and becomes the primary obligor for the proceeds it receives.
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Consolidated Obligation Discount Notes
Consolidated obligation discount notes are issued to raise short-term funds and have original maturities of one year or less. These notes are generally issued at less than their face amount and are redeemed at par value when they mature. The following table summarizes our outstanding consolidated obligation discount notes as of March 31, 2015 and December 31, 2014.
Book Value | Par Value | Weighted-Average Interest Rate * | ||||||||
(in thousands, except interest rates) | ||||||||||
As of March 31, 2015 | $ | 14,232,389 | $ | 14,235,342 | 0.09 | |||||
As of December 31, 2014 | $ | 14,940,178 | $ | 14,941,527 | 0.07 |
* | Represents a bond equivalent yield. |
Consolidated Obligation Bonds
Redemption Terms
The following table summarizes our outstanding consolidated obligation bonds by remaining contractual term-to-maturity as of March 31, 2015 and December 31, 2014.
As of March 31, 2015 | As of December 31, 2014 | |||||||||||
Amount | Weighted-Average Interest Rate | Amount | Weighted-Average Interest Rate | |||||||||
(in thousands, except interest rates) | ||||||||||||
Due in one year or less | $ | 6,293,660 | 0.63 | $ | 6,209,660 | 0.37 | ||||||
Due after one year through two years | 1,353,000 | 0.74 | 2,813,500 | 1.04 | ||||||||
Due after two years through three years | 2,463,000 | 1.44 | 2,558,000 | 1.34 | ||||||||
Due after three years through four years | 1,545,650 | 1.90 | 1,524,650 | 1.90 | ||||||||
Due after four years through five years | 1,851,245 | 2.92 | 1,958,245 | 2.83 | ||||||||
Thereafter | 1,319,365 | 3.61 | 1,681,565 | 3.11 | ||||||||
Total par value | 14,825,920 | 1.46 | 16,745,620 | 1.33 | ||||||||
Premiums | 5,030 | 5,273 | ||||||||||
Discounts | (7,851 | ) | (8,222 | ) | ||||||||
Hedging adjustments | 125,492 | 107,787 | ||||||||||
Fair value option valuation adjustments | (87 | ) | (29 | ) | ||||||||
Total | $ | 14,948,504 | $ | 16,850,429 |
The amounts in the above table reflect certain consolidated obligation bond transfers from other FHLBanks. We become the primary obligor on consolidated obligation bonds we accept as transfers from other FHLBanks. We had no consolidated obligation bonds outstanding that were transferred from other FHLBanks as of March 31, 2015. As of December 31, 2014, we had consolidated obligation bonds outstanding that were transferred from the FHLBank of Chicago with par values of $10.0 million but no remaining unamortized premium or discount balances. We transferred no consolidated obligation bonds to other FHLBanks for the three months ended March 31, 2015 and 2014.
Consolidated obligation bonds outstanding are issued with either fixed interest-rate coupon payment terms or variable interest-rate coupon payment terms that use a variety of indices for interest-rate resets, including LIBOR. To meet the expected specific needs of certain investors in consolidated obligation bonds, both fixed interest-rate consolidated obligation bonds and variable interest-rate consolidated obligation bonds may contain features that result in complex coupon payment terms and call or put options. When these consolidated obligation bonds are issued, we typically enter into derivatives containing features that effectively offset the terms and embedded options, if any, of the consolidated obligation bond.
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The par value of our consolidated obligation bonds outstanding by call feature consisted of the following as of March 31, 2015 and December 31, 2014.
As of March 31, 2015 | As of December 31, 2014 | |||||||
(in thousands) | ||||||||
Non-callable | $ | 8,532,270 | $ | 8,764,770 | ||||
Callable | 6,293,650 | 7,980,850 | ||||||
Total par value | $ | 14,825,920 | $ | 16,745,620 |
The following table summarizes the par value of our outstanding consolidated obligation bonds by the earlier of contractual maturity or next call date as of March 31, 2015 and December 31, 2014.
As of March 31, 2015 | As of December 31, 2014 | |||||||
(in thousands) | ||||||||
Due in one year or less | $ | 11,572,310 | $ | 12,190,510 | ||||
Due after one year through two years | 723,000 | 2,208,500 | ||||||
Due after two years through three years | 458,000 | 453,000 | ||||||
Due after three years through four years | 477,000 | 316,000 | ||||||
Due after four years through five years | 716,245 | 708,245 | ||||||
Thereafter | 879,365 | 869,365 | ||||||
Total par value | $ | 14,825,920 | $ | 16,745,620 |
The following table summarizes the par value of our outstanding consolidated obligation bonds by interest-rate payment type as of March 31, 2015 and December 31, 2014.
As of March 31, 2015 | As of December 31, 2014 | |||||||
(in thousands) | ||||||||
Fixed | $ | 13,655,920 | $ | 14,988,420 | ||||
Step-up | 895,000 | 1,382,200 | ||||||
Variable | 75,000 | 175,000 | ||||||
Capped variable | 200,000 | 200,000 | ||||||
Total par value | $ | 14,825,920 | $ | 16,745,620 |
We have elected, on an instrument-by-instrument basis, the fair value option of accounting for certain of our consolidated obligation bonds and discount notes with original maturities of one year or less for operational ease or to assist in mitigating potential statement of income volatility that can arise from economic hedges in which the carrying value of the hedged item is not adjusted for changes in fair value. For the latter, prior to entering into a short-term consolidated obligation trade, we perform a preliminary evaluation of the effectiveness of the bond or discount note and the associated interest-rate swap. If the analysis indicates that the potential hedging relationship will exhibit excessive ineffectiveness, we elect the fair value option on the consolidated obligation bond or discount note. As of March 31, 2015 and December 31, 2014, we had $500.0 million and $1.5 billion par value of outstanding consolidated obligation bonds and zero and $500.0 million par value of outstanding consolidated obligation discount notes on which we elected the fair value option. See Note 12 for additional information on these consolidated obligations and the fair value option.
Concessions on Consolidated Obligations
Unamortized concessions included in other assets on our statements of condition were $2.1 million and $2.3 million as of March 31, 2015 and December 31, 2014. The amortization of these types of concessions included in consolidated obligation interest expense totaled $534,000 for the three months ended March 31, 2015, compared to $507,000 for the same period in 2014.
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Note 11—Capital
Seattle Bank Stock
The Seattle Bank has two classes of capital stock, Class A and Class B, as summarized below.
Class A Capital Stock | Class B Capital Stock | |||||||
(in thousands, except per share) | ||||||||
Par value per share (1) | $100 | $100 | ||||||
Satisfies membership purchase requirement (pursuant to capital plan) | No | Yes | ||||||
Currently satisfies activity-based purchase requirement (pursuant to capital plan) | Yes (2) | Yes | ||||||
Statutory redemption period (3) | 6 months | 5 years | ||||||
Total outstanding balance (including MRCS): | ||||||||
March 31, 2015 | $ | 74,928 | $ | 2,143,616 | ||||
December 31, 2014 | $ | 82,421 | $ | 2,230,135 |
(1) | Par value also represents the per share issue, redemption, repurchase, and transfer price between members. |
(2) | Effective June 1, 2009, the Seattle Bank board of directors (Board) suspended the issuance of Class A capital stock. |
(3) | Generally redeemable six months (Class A capital stock) or five years (Class B capital stock) after: (1) written notice from the member; (2) consolidation or merger of a member with a nonmember; or (3) withdrawal or termination of membership. |
Members are required to hold capital stock equal to the greater of: (1) $500 or 0.5% of the member's home mortgage loans and mortgage loan pass-through securities (membership stock purchase requirement), subject to a membership stock purchase requirement cap of $15.0 million; or (2) the sum of the requirement for advances currently outstanding to that member and the requirement for the remaining principal balance of mortgages sold to us under the MPP (activity-based stock purchase requirement).
Only Class B capital stock can be used to meet the membership stock purchase requirement. Subject to the limitations specified in the capital plan, a member may use Class B capital stock or Class A capital stock to meet its activity-based stock purchase requirement. Under the capital plan, the Board may set the members' advance stock purchase requirement between 2.5% and 6.0% of a member’s outstanding principal balance of advances. For the three months ended March 31, 2015 and 2014, the member activity-based stock purchase requirement was 4.5%. In addition, subject to the Seattle Bank’s approval, the capital plan allows the transfer of excess stock between unaffiliated members pursuant to the requirements of the capital plan.
The Gramm Leach Bliley Act made FHLBank membership voluntary for all members. Generally, members can redeem Class A capital stock by giving six months’ written notice and can redeem Class B capital stock by giving five years’ written notice, subject to certain restrictions. Any member that withdraws from membership may not be re-admitted to membership in any FHLBank until five years from the divestiture date for all capital stock that is held as a condition of membership unless the institution has cancelled its notice of withdrawal prior to the expiration of the redemption period. This restriction does not apply if the member is transferring its membership from one FHLBank to another.
Mandatorily Redeemable Capital Stock
We reclassify capital stock subject to redemption from equity to a liability when a member submits a written request for redemption of excess capital stock, formally gives notice of intent to withdraw from membership, or otherwise attains nonmember status by merger or acquisition, charter termination, or involuntary termination from membership. Reclassifications are recorded at fair value on the date the written redemption request is received or the effective date of attaining nonmember status. On a quarterly basis, we evaluate the outstanding excess stock balances (i.e., stock not being used to fulfill either membership or activity-based stock requirements) of members with outstanding redemption requests and adjust the amount of capital stock classified as a liability accordingly. We reclassify capital stock subject to redemption from a liability to equity if a member cancels its written request for redemption of excess capital stock.
The following table presents a summary of our MRCS activity for the three months ended March 31, 2015 and 2014.
For the Three Months Ended March 31, | ||||||||
2015 | 2014 | |||||||
(in thousands) | ||||||||
Balance, beginning of period | $ | 1,454,473 | $ | 1,747,690 | ||||
Capital stock transferred to MRCS, net | 2,504 | 8,457 | ||||||
Repurchases of MRCS | (94,289 | ) | (94,190 | ) | ||||
Balance, end of period | $ | 1,362,688 | $ | 1,661,957 |
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The following table presents the amount of MRCS by year of scheduled redemption as of March 31, 2015. The year of redemption in the table reflects the end of the six-month or five-year redemption periods, as applicable.
As of March 31, 2015 | ||||||||
Class A Capital Stock | Class B Capital Stock | |||||||
(in thousands) | ||||||||
Less than one year | $ | 786 | $ | 30,938 | ||||
One year through two years | — | 17,463 | ||||||
Two years through three years | — | 7,853 | ||||||
Three years through four years | — | 545,773 | ||||||
Four years through five years | — | 84,270 | ||||||
Past contractual redemption date due to remaining activity (1) (3) | 201 | 32,137 | ||||||
Past contractual redemption date due to regulatory action (2) (3) | 42,520 | 600,747 | ||||||
Total | $ | 43,507 | $ | 1,319,181 |
(1) | Represents MRCS that is past the end of the contractual redemption period because there is activity outstanding to which the MRCS relates. MRCS is redeemable at final maturity of related advances and mortgage loans. |
(2) | See "Consent Arrangements" below for discussion of the Seattle Bank's MRCS restrictions. |
(3) | In April 2015, following FHFA non-objection, we announced that, in connection with the Merger, we will repurchase all excess Class A and Class B MRCS with respect to which the contractual redemption period has expired, prior to the anticipated closing of the Merger. The actual amount repurchased will depend on outstanding activity. |
In April 2013, as a result of a corporate restructuring, Bank of America Oregon, N.A., our then largest borrower, merged into its parent, BANA. At that time, Bank of America Oregon, N.A. ceased to be a member of the Seattle Bank, and all outstanding advances and capital stock were assumed by BANA, a nonmember. Class B capital stock totaling $584.1 million was transferred from equity to MRCS liability. The balance in MRCS is primarily the result of the transfer of Washington Mutual Bank, F.S.B.'s capital stock due to its acquisition by JPMorgan Chase Bank, N.A., a nonmember, and the transfer of Bank of America, Oregon, N.A.'s capital stock. Of the Class A and Class B MRCS shown in the table above, these former members' stock represents $1.0 billion of the Class B balance as of March 31, 2015.
Capital Concentration
As of March 31, 2015 and December 31, 2014, two successors to former members, BANA and JPMorgan Chase Bank, N.A., held a combined total of 45% and 46% of our total outstanding capital stock, including MRCS.
Stock Repurchases and Redemptions
Although we continue to be restricted from unlimited repurchases and redemptions of capital stock under the terms of the Amended Consent Arrangement (see Consent Arrangements below), in September 2012, we implemented an excess capital stock repurchase program, with FHFA non-objection, to repurchase up to $25 million of excess capital stock per quarter. Also, in February 2014, we implemented a separate excess capital stock redemption program, with FHFA non-objection, to redeem up to $75 million per quarter of excess capital stock on which the redemption waiting period has been satisfied. Under these programs, in the first quarter of 2015, we repurchased $23.6 million and redeemed $75.0 million, of excess capital stock. Since implementing the programs, we have repurchased a total of $637.9 million of excess capital stock. Further, we repurchased $12.0 million, including $7.6 million in the first quarter of 2015, of excess Class B capital stock that had been purchased by members on or after October 27, 2010 for activity purposes (which type of repurchase we are authorized to make without regard to amount).
The following table presents the amount of excess capital stock repurchases and redemptions pursuant to the repurchase and redemption programs as well as repurchases of excess Class B capital stock originally purchased on or after October 27, 2010 for activity purposes for the three months ended March 31, 2015 and 2014.
For the Three Months Ended March 31, | ||||||||
2015 | 2014 | |||||||
(in thousands) | ||||||||
Excess capital stock repurchase program: | ||||||||
Capital stock classified as equity | $ | 4,345 | $ | 4,699 | ||||
Capital stock classified as MRCS | 19,306 | 19,349 | ||||||
Excess capital stock repurchases | 23,651 | 24,048 | ||||||
Excess capital stock redemptions | 74,983 | 74,841 | ||||||
Excess capital stock for activity purposes | 7,556 | 610 | ||||||
Total | $ | 106,190 | $ | 99,499 |
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In April 2015, following FHFA non-objection, we announced that, in connection with the Merger, we will repurchase all excess Class A and Class B MRCS with respect to which the contractual redemption period has expired, prior to the anticipated closing of the Merger.
Additional Statutory and Regulatory Restrictions on Capital Stock Redemption
Each class of our stock is considered putable by the member and we may repurchase, in our sole discretion, any member's stock investments that exceed the required minimum amount. However, there are significant statutory and regulatory restrictions on the obligation to redeem, or right to repurchase, the outstanding stock. As a result, whether or not a member may have its capital stock in the Seattle Bank repurchased (at our discretion at any time before the end of the redemption period) or redeemed (at a member's request, completed at the end of a redemption period) will depend in part on whether the Seattle Bank is in compliance with those restrictions.
Voting
Each member has the right to vote its capital stock for the election of directors to the Seattle Bank's Board and for ratification of an agreement to voluntarily merge with another FHLBank, subject to certain limitations on the maximum number of shares that can be voted, as set forth in applicable laws and regulations.
Dividends
Generally under our capital plan, our Board can declare and pay dividends, in either cash or capital stock, from retained earnings or current earnings, unless otherwise prohibited. In accordance with the Amended Consent Arrangement, as discussed below, we are required to obtain written non-objection from the FHFA prior to paying dividends on our capital stock. On February 23, 2015, we paid a $0.025 per share cash dividend based on fourth quarter 2014 net income and average Class A and Class B stock outstanding during the fourth quarter of 2014, totaling $598,000, $215,000 of which was recorded as dividends on capital stock and $383,000 of which was recorded as interest expense on MRCS on our statements of income. On February 28, 2014, we paid total dividends of $672,000, $231,000 of which was recorded as dividends on capital stock and $441,000 of which was recorded as interest expense on MRCS on our statements of income.
In addition, in April 2015, our Board declared a $0.025 per share cash dividend, based on first quarter 2015 net income. With FHFA non-objection, the dividend was paid on April 30, 2015 and totaled $576,000, $215,000 of which was recorded as dividends on capital stock and $361,000 of which was recorded as interest expense on MRCS and was based on average Class A and Class B stock outstanding during first quarter 2015.
In connection with the Merger, the Board approved a $0.0168 per share prorated cash dividend based on average Class A and Class B stock outstanding from April 1 through May 26, 2015. The dividend will be paid immediately prior to the closing of the anticipated Merger.
FHFA regulations limit an FHLBank from issuing stock dividends, if, after the issuance, the outstanding excess stock at the FHLBank would be greater than 1.0% of its total assets. As of March 31, 2015, we had excess capital stock of $1.6 billion, or 4.8%, of our total assets.
Capital Requirements
We are subject to three capital requirements under our capital plan and FHFA rules and regulations: risk-based capital, regulatory capital-to-assets ratio, and leverage capital-to-assets ratio. We complied with all of these capital requirements as of March 31, 2015 and December 31, 2014.
• | Risk-based capital. We must maintain at all times permanent capital, defined as Class B capital stock (including Class B MRCS) and retained earnings as defined according to GAAP, in an amount at least equal to the sum of our credit-risk, market-risk, and operational-risk capital requirements, all of which are calculated in accordance with the rules and regulations of the FHFA. |
• | Regulatory capital-to-assets ratio. We are required to maintain at all times a regulatory capital-to-assets ratio of at least 4.00%. Total regulatory capital is the sum of permanent capital (including Class B capital stock, Class B MRCS, and retained earnings), Class A capital stock (including Class A MRCS), any general loss allowance (if consistent with GAAP and not established for specific assets), and other amounts from sources determined by the FHFA as available to absorb losses. Total regulatory capital does not include AOCI, but does include MRCS. |
• | Leverage capital-to-assets ratio. We are required to maintain at all times a leverage capital-to-assets ratio of at least 5.00%. Leverage capital is defined as the sum of: (1) permanent capital weighted by a 1.5 multiplier plus (2) all other capital without a weighting factor. |
The FHFA may require us to maintain capital levels in excess of the regulatory minimums described above.
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The following table presents our regulatory capital requirements compared to our actual capital positions as of March 31, 2015.
As of March 31, 2015 | ||||||||
Required | Actual | |||||||
(in thousands, except for ratios) | ||||||||
Risk-based capital | $ | 560,683 | $ | 2,500,221 | ||||
Regulatory capital-to-assets ratio | 4.00 | % | 7.74 | % | ||||
Total regulatory capital | $ | 1,330,458 | $ | 2,575,149 | ||||
Leverage capital-to-assets ratio | 5.00 | % | 11.50 | % | ||||
Leverage capital | $ | 1,663,072 | $ | 3,825,260 |
Capital Classification
Since September 2012, the Seattle Bank has been determined by the FHFA to be adequately capitalized; however, we remain subject to the requirements stipulated in the Amended Consent Arrangement as discussed below. Until the FHFA determines that we have met the requirements of the Amended Consent Arrangement, we expect to continue to be required to obtain FHFA non-objection prior to redeeming, repurchasing, or paying dividends on capital stock.
Consent Arrangements
In October 2010, the Seattle Bank entered into a Stipulation and Consent to the Issuance of a Consent Order (together with the related agreements, the 2010 Consent Arrangement), which set forth certain requirements regarding our financial performance, capital management, asset composition, and other operational and risk management improvements, and placed restrictions on our redemptions and repurchases of capital stock and our payment of dividends. Since 2010, we have developed and implemented numerous plans and policies to address the 2010 Consent Arrangement requirements and remediate associated supervisory concerns, and our financial performance has improved significantly. In November 2013, the Seattle Bank entered into a Stipulation and Consent to the Issuance of a Consent Order with the FHFA, effective November 22, 2013 (together, with related understandings with the FHFA, the Amended Consent Arrangement), which superseded the 2010 Consent Arrangement. Although the Amended Consent Arrangement requires us to continue adhering to the terms of plans and policies that we adopted to address the 2010 Consent Arrangement requirements, we are no longer subject to other requirements, including minimum financial metrics and detailed monthly tracking and reporting.
The Amended Consent Arrangement requires that:
• | We develop and submit an asset composition plan acceptable to the FHFA for increasing advances and other core mission activity assets as a proportion of our consolidated obligations and, upon approval by the FHFA, implement such plan; |
• | We obtain written non-objection from the FHFA prior to repurchasing or redeeming any excess capital stock or paying dividends on our capital stock; and |
• | Our Board monitors our adherence to the Amended Consent Arrangement. |
The Amended Consent Arrangement will remain in effect until modified or terminated by the FHFA and does not prevent the FHFA from taking any other action affecting the Seattle Bank that, at the sole discretion of the FHFA, it deems appropriate in fulfilling its supervisory responsibilities.
Retained Earnings
Capital Agreement
In 2011, each of the 12 FHLBanks entered into the Joint Capital Enhancement Agreement, as amended (Capital Agreement), which is intended to enhance the capital position of each FHLBank. Under the Capital Agreement, each FHLBank will contribute 20% of its net income each quarter to a restricted retained earnings account until the balance of that account equals at least 1% of that FHLBank's average balance of outstanding consolidated obligations for the previous quarter. These restricted retained earnings are not available to pay dividends. In compliance with our amended capital plan, we allocated $2.1 million of net income to restricted retained earnings and $8.4 million and $8.5 million to unrestricted retained earnings for the three months ended March 31, 2015 and 2014. We reported total retained earnings of $356.6 million as of March 31, 2015, compared to $346.4 million as of December 31, 2014.
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Accumulated Other Comprehensive Income (Loss)
The following tables present the net change in AOCI for the three months ended March 31, 2015 and 2014.
Unrealized Gain (Loss) on AFS Securities | Unrealized Gain (Loss) on OTTI AFS Securities | Non-credit Portion of OTTI Losses on HTM Securities (Note 5) | Pension Benefits * | Total AOCI | ||||||||||||||||
(in thousands) | ||||||||||||||||||||
Balance, December 31, 2013 | $ | (15,336 | ) | $ | (41,429 | ) | $ | (14,418 | ) | $ | (585 | ) | $ | (71,768 | ) | |||||
Other comprehensive income (loss) before reclassifications: | ||||||||||||||||||||
Net change in fair value | 14,980 | 30,870 | — | — | 45,850 | |||||||||||||||
Accretion of non-credit loss | — | — | 740 | — | 740 | |||||||||||||||
Reclassifications from other comprehensive income (loss) to net income: | ||||||||||||||||||||
Net OTTI loss | — | 3 | — | — | 3 | |||||||||||||||
Pension benefits | — | — | — | 5 | 5 | |||||||||||||||
Net current period other comprehensive income | 14,980 | 30,873 | 740 | 5 | 46,598 | |||||||||||||||
Balance, March 31, 2014 | $ | (356 | ) | $ | (10,556 | ) | $ | (13,678 | ) | $ | (580 | ) | $ | (25,170 | ) | |||||
Balance, December 31, 2014 | $ | 3,826 | $ | 10,600 | $ | (11,459 | ) | $ | (1,415 | ) | $ | 1,552 | ||||||||
Other comprehensive income (loss) before reclassifications: | ||||||||||||||||||||
Net change in fair value | 3,838 | 6,764 | — | — | 10,602 | |||||||||||||||
Net unrealized gain recognized on reclassification of HTM securities to AFS securities | 58,223 | (5,946 | ) | — | — | 52,277 | ||||||||||||||
Net unrealized gain | 62,061 | 818 | — | — | 62,879 | |||||||||||||||
Non-credit OTTI losses transferred | — | (10,912 | ) | 10,912 | — | — | ||||||||||||||
Accretion of non-credit loss | — | — | 547 | — | 547 | |||||||||||||||
Reclassifications from other comprehensive income (loss) to net income: | ||||||||||||||||||||
Net realized gain on sale | (286 | ) | (52,035 | ) | — | — | (52,321 | ) | ||||||||||||
Net OTTI loss | — | 51,529 | — | — | 51,529 | |||||||||||||||
Pension benefits | — | — | — | 35 | 35 | |||||||||||||||
Net current period other comprehensive income (loss) | 61,775 | (10,600 | ) | 11,459 | 35 | 62,669 | ||||||||||||||
Balance, March 31, 2015 | $ | 65,601 | $ | — | $ | — | $ | (1,380 | ) | $ | 64,221 |
* | Amortization of pension and post-retirement benefits is recorded in compensation and benefits on the statements of income. |
Note 12—Fair Value Measurement
The fair value amounts recorded on our statements of condition and in our note disclosures for the periods presented have been determined using available market information and management's best judgment of appropriate valuation methods. Although we use our best judgment in estimating the fair value of these financial instruments, there are inherent limitations in any estimation technique or valuation methodology. For example, because an active secondary market does not exist for certain of our financial instruments, fair values are not subject to precise quantification or verification and may change as economic and market factors and evaluation of those factors change. Therefore, these fair values are not necessarily indicative of the amounts that would be realized in current market transactions, although they do reflect our best judgment as to how a market participant would estimate fair values.
Fair Value Hierarchy
We record AFS securities, derivative assets and liabilities, certain consolidated obligation bonds and discount notes, and rabbi trust assets (included in other assets) at fair value on a recurring basis on the statements of condition. GAAP establishes a fair value hierarchy and requires an entity to maximize the use of observable inputs and minimize the use of unobservable inputs when measuring fair value. The inputs are evaluated and an overall level for the measurement is determined. This overall level is an indication of the market observability of the inputs to the fair value measurement for the asset or liability.
The fair value hierarchy prioritizes the inputs used to measure fair value into three broad levels.
• | Level 1. Quoted prices (unadjusted) for identical assets or liabilities in active markets that the entity can access on the measurement date. |
• | Level 2. Inputs, other than quoted prices within Level 1, that are observable inputs for the asset or liability, either directly or indirectly, for substantially the full term of the asset or liability. Level 2 inputs include the following: (1) quoted prices for similar assets or liabilities in active markets; (2) quoted prices for identical or similar assets or |
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liabilities in markets that are not active; (3) inputs other than quoted prices that are observable for the asset or liability (e.g., interest rates and yield curves that are observable at commonly quoted intervals, and implied volatilities); and (4) inputs that are derived principally from or corroborated by observable market data by correlation or other means.
• | Level 3. Unobservable inputs for the asset or liability. |
Fair value is first based on quoted market prices or market-based prices, where available. If quoted market prices or market-based prices are not available, fair value is determined based on valuation models that use market-based information available to us as inputs to our models.
For instruments carried at fair value, we review the fair value hierarchy classification on a quarterly basis. Changes in the observability of the valuation attributes may result in a reclassification of certain financial assets or liabilities. Such reclassifications are reported as transfers at fair value in the quarter in which the changes occur. Transfers are reported as of the beginning of the period. We had no transfers between fair value hierarchies for the three months ended March 31, 2015 and 2014.
Fair Value Summary Tables
The Fair Value Summary Tables below do not represent an estimate of the overall market value of the Seattle Bank as a going concern, which estimate would take into account future business opportunities and the net profitability of assets and liabilities. The following tables summarize the carrying value, fair values, and the level within the fair value hierarchy of our financial instruments as of March 31, 2015 and December 31, 2014.
As of March 31, 2015 | ||||||||||||||||||||||||
Fair Value | ||||||||||||||||||||||||
Carrying Value | Total | Level 1 | Level 2 | Level 3 | Netting Adjustment/ Cash Collateral | |||||||||||||||||||
(in thousands) | ||||||||||||||||||||||||
Financial assets: | ||||||||||||||||||||||||
Cash and due from banks | $ | 144 | $ | 144 | $ | 144 | $ | — | $ | — | $ | — | ||||||||||||
Deposits with other FHLBanks | 248 | 248 | 248 | — | — | — | ||||||||||||||||||
Securities purchased under agreements to resell | 5,250,000 | 5,249,999 | — | 5,249,999 | — | — | ||||||||||||||||||
Federal funds sold | 2,940,800 | 2,940,878 | — | 2,940,878 | — | — | ||||||||||||||||||
AFS securities | 15,929,939 | 15,929,939 | — | 15,929,939 | — | — | ||||||||||||||||||
Advances (1) | 8,406,368 | 8,488,732 | — | 8,488,732 | — | — | ||||||||||||||||||
Mortgage loans held for portfolio, net | 618,475 | 663,391 | — | 663,391 | — | — | ||||||||||||||||||
Accrued interest receivable | 42,970 | 42,970 | — | 42,970 | — | — | ||||||||||||||||||
Derivative assets, net | 49,545 | 49,545 | — | 117,409 | — | (67,864 | ) | |||||||||||||||||
Other assets (rabbi trust) | 5,123 | 5,123 | 5,123 | — | — | — | ||||||||||||||||||
Financial liabilities: | ||||||||||||||||||||||||
Deposits | 377,743 | 377,742 | — | 377,742 | — | — | ||||||||||||||||||
Consolidated obligations: | ||||||||||||||||||||||||
Discount notes (2) | 14,232,389 | 14,231,864 | — | 14,231,864 | — | — | ||||||||||||||||||
Bonds (3) | 14,948,504 | 15,175,710 | — | 15,175,710 | — | — | ||||||||||||||||||
MRCS | 1,362,688 | 1,362,688 | 1,362,688 | — | — | — | ||||||||||||||||||
Accrued interest payable | 51,299 | 51,299 | 51,299 | — | — | |||||||||||||||||||
Derivative liabilities, net | 70,791 | 70,791 | — | 308,645 | — | (237,854 | ) |
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As of December 31, 2014 | ||||||||||||||||||||||||
Fair Value | ||||||||||||||||||||||||
Carrying Value | Total | Level 1 | Level 2 | Level 3 | Netting Adjustment/ Cash Collateral | |||||||||||||||||||
(in thousands) | ||||||||||||||||||||||||
Financial assets: | ||||||||||||||||||||||||
Cash and due from banks | $ | 126 | $ | 126 | $ | 126 | $ | — | $ | — | $ | — | ||||||||||||
Deposit with other FHLBanks | 140 | 140 | 140 | — | — | — | ||||||||||||||||||
Securities purchased under agreements to resell | 3,000,000 | 3,000,000 | — | 3,000,000 | — | — | ||||||||||||||||||
Federal funds sold | 4,058,800 | 4,058,854 | — | 4,058,854 | — | — | ||||||||||||||||||
AFS securities | 7,877,334 | 7,877,334 | — | 6,634,874 | 1,242,460 | — | ||||||||||||||||||
HTM securities | 9,110,269 | 9,167,713 | — | 8,835,350 | 332,363 | — | ||||||||||||||||||
Advances (1) | 10,313,691 | 10,384,049 | — | 10,384,049 | — | — | ||||||||||||||||||
Mortgage loans held for portfolio, net | 647,179 | 689,865 | — | 689,865 | — | — | ||||||||||||||||||
Accrued interest receivable | 49,558 | 49,558 | — | 49,558 | — | — | ||||||||||||||||||
Derivative assets, net | 46,254 | 46,254 | — | 123,768 | — | (77,514 | ) | |||||||||||||||||
Other assets (rabbi trust) | 5,143 | 5,143 | 5,143 | — | — | — | ||||||||||||||||||
Financial liabilities: | ||||||||||||||||||||||||
Deposits | 410,773 | 410,731 | — | 410,731 | — | — | ||||||||||||||||||
Consolidated obligations: | ||||||||||||||||||||||||
Discount notes (2) | 14,940,178 | 14,939,865 | — | 14,939,865 | — | — | ||||||||||||||||||
Bonds (3) | 16,850,429 | 17,038,832 | — | 17,038,832 | — | — | ||||||||||||||||||
MRCS | 1,454,473 | 1,454,473 | 1,454,473 | — | — | — | ||||||||||||||||||
Accrued interest payable | 51,382 | 51,382 | — | 51,382 | — | — | ||||||||||||||||||
Derivative liabilities, net | 76,712 | 76,712 | — | 286,925 | — | (210,213 | ) |
(1) | Carrying value includes $4.3 billion and $4.2 billion par value of hedged advances whose carrying value included a hedging adjustment as of March 31, 2015 and December 31, 2014. |
(2) | Carrying value includes $500.0 million of consolidated obligation discount notes recorded at fair value under the fair value option as of December 31, 2014 and $3.2 billion and $249.9 million of hedged consolidated obligation discount notes whose carrying value included a hedging adjustment as of March 31, 2015 and December 31, 2014. No consolidated obligation discount notes recorded at fair value under the fair value option as of March 31, 2015. |
(3) | Carrying value includes $500.0 million and $1.5 billion of consolidated obligation bonds recorded under the fair value option and $10.6 billion and $11.4 billion of hedged consolidated obligation bonds whose carrying value included a hedging adjustment as of March 31, 2015 and December 31, 2014. |
The fair value of commitments to extend credit for advances and commitments to issue consolidated obligations were immaterial as of March 31, 2015 and December 31, 2014.
Valuation Techniques and Significant Inputs
Outlined below are our valuation methodologies that involve Level 3 measurements or that have been enhanced during the three months ended March 31, 2015. See Note 16 in "Part II. Item 8. Financial Statements and Supplementary Data—Audited Financial Statements—Notes to Financial Statements" in our 2014 10-K for information concerning valuation techniques and significant inputs for our other financial assets and financial liabilities.
Investment Securities—MBS
For our MBS investments, our valuation technique incorporates prices from up to four designated third-party pricing vendors. These pricing vendors use proprietary models that generally employ, but are not limited to, benchmark yields, reported trades, dealer estimates, issuer spreads, benchmark securities, bids, offers, and other market-related data. Since many MBS do not trade on a daily basis, the pricing vendors use available information, as applicable, such as benchmark curves, benchmarking of like securities, sector groupings, and matrix pricing to determine the prices for individual securities. Each pricing vendor has an established challenge process in place for all MBS valuations, which facilitates resolution of potentially erroneous prices identified by the Seattle Bank.
During the first quarter of 2015, in conjunction with the other FHLBanks, we conducted reviews of the four pricing vendors to confirm and further augment our understanding of the vendors' pricing processes, methodologies, and control procedures for GSE MBS and PLMBS.
As of March 31, 2015, four prices were received for a majority of our MBS. Based on our review of the pricing methods and controls employed by the third-party pricing vendors and the relative lack of dispersion among the vendor prices (or in those
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instances where there were outliers or significant yield variances, our additional analyses), we believe our final prices are representative of the prices that would have been received if the assets had been sold at the measurement date (i.e., exit prices).
Fair Value Measurements
The following tables present, for each hierarchy level, our assets and liabilities that are measured at fair value on a recurring or non-recurring basis on our statements of condition as of March 31, 2015 and December 31, 2014. We measure individually evaluated mortgage loans, REO, and certain HTM securities at fair value on a non-recurring basis. These assets are subject to fair value adjustments only in certain circumstances (e.g., individually evaluated mortgage loans and REO are remeasured as a result of becoming impaired). The estimated fair value of impaired mortgage loans under AB 2012-02 and REO are based on the current property value, as provided by a third party vendor, adjusted for estimated selling costs.
As of March 31, 2015 | ||||||||||||||||||||
Total | Level 1 | Level 2 | Level 3 | Netting Adjustment/Cash Collateral * | ||||||||||||||||
(in thousands) | ||||||||||||||||||||
Recurring fair value measurements: | ||||||||||||||||||||
AFS securities: | ||||||||||||||||||||
Other US agency obligations MBS | $ | 72,234 | $ | — | $ | 72,234 | $ | — | $ | — | ||||||||||
GSE MBS | 7,248,533 | — | 7,248,533 | — | — | |||||||||||||||
Other U.S. agency obligations | 4,299,314 | — | 4,299,314 | — | — | |||||||||||||||
GSE obligations | 2,305,713 | — | 2,305,713 | — | — | |||||||||||||||
State or local housing agency obligations | 2,004,145 | — | 2,004,145 | — | — | |||||||||||||||
Derivative assets, net | 49,545 | 117,409 | (67,864 | ) | ||||||||||||||||
Other assets (rabbi trust) | 5,123 | 5,123 | — | — | — | |||||||||||||||
Total recurring assets at fair value | $ | 15,984,607 | $ | 5,123 | $ | 16,047,348 | $ | — | $ | (67,864 | ) | |||||||||
Consolidated obligations bonds | $ | 499,913 | $ | — | $ | 499,913 | $ | — | $ | — | ||||||||||
Derivative liabilities, net | 70,791 | — | 308,645 | — | (237,854 | ) | ||||||||||||||
Total recurring liabilities at fair value | $ | 570,704 | $ | — | $ | 808,558 | $ | — | $ | (237,854 | ) | |||||||||
Non-recurring fair value measurements: | ||||||||||||||||||||
Individually evaluated mortgage loans | $ | 3,070 | $ | — | $ | 128 | $ | 2,942 | $ | — | ||||||||||
REO | 234 | — | — | 234 | — | |||||||||||||||
Total non-recurring assets at fair value | $ | 3,304 | $ | — | $ | 128 | $ | 3,176 | $ | — |
As of December 31, 2014 | ||||||||||||||||||||
Total | Level 1 | Level 2 | Level 3 | Netting Adjustment/ Cash Collateral * | ||||||||||||||||
(in thousands) | ||||||||||||||||||||
Recurring fair value measurements: | ||||||||||||||||||||
AFS securities: | ||||||||||||||||||||
PLMBS | $ | 1,242,460 | $ | — | $ | — | $ | 1,242,460 | $ | — | ||||||||||
Other U.S. agency obligations | 4,353,320 | — | 4,353,320 | — | — | |||||||||||||||
GSE obligations | 2,281,554 | — | 2,281,554 | — | — | |||||||||||||||
Derivative assets, net | 46,254 | — | 123,768 | — | (77,514 | ) | ||||||||||||||
Other assets (rabbi trust) | 5,143 | 5,143 | — | — | — | |||||||||||||||
Total recurring assets at fair value | $ | 7,928,731 | $ | 5,143 | $ | 6,758,642 | $ | 1,242,460 | $ | (77,514 | ) | |||||||||
Consolidated obligations: | ||||||||||||||||||||
Discount notes | $ | 499,930 | $ | — | $ | 499,930 | $ | — | $ | — | ||||||||||
Bonds | 1,499,971 | — | 1,499,971 | — | — | |||||||||||||||
Derivative liabilities, net | 76,712 | — | 286,925 | — | (210,213 | ) | ||||||||||||||
Total recurring liabilities at fair value | $ | 2,076,613 | $ | — | $ | 2,286,826 | $ | — | $ | (210,213 | ) | |||||||||
Non-recurring fair value measurements: | ||||||||||||||||||||
Mortgage loans (TDRs) | $ | 491 | $ | — | $ | 491 | $ | — | $ | — | ||||||||||
REO | 697 | — | — | 697 | — | |||||||||||||||
Total non-recurring assets at fair value | $ | 1,188 | $ | — | $ | 491 | $ | 697 | $ | — |
* | Amounts that are subject to netting arrangements, other agreements, or operation of law that meet netting requirements and also cash collateral and related accrued interest held or placed with the same clearing member or counterparty. |
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Fair Value Option
The fair value option provides an irrevocable option to elect fair value as an alternative measurement for selected financial assets, financial liabilities, and unrecognized firm commitments not previously carried at fair value. Fair value is used for both the initial and subsequent measurement of the designated assets, liabilities, and firm commitments, with the changes in fair value recognized in net income. Interest income and interest expense on advances and consolidated obligations carried at fair value are recognized solely on the contractual amount of interest due or unpaid. Any transaction fees or costs are immediately recognized into other expense.
We have elected, on an instrument-by-instrument basis, the fair value option of accounting for certain of our consolidated obligation bonds and discount notes with original maturities of one year or less for operational ease or to assist in mitigating potential statement of income volatility that can arise from economic hedges in which the carrying value of the hedged items are not adjusted for changes in fair value. For the latter, prior to entering into a short-term consolidated obligation trade, we perform a preliminary evaluation of the effectiveness of the bond or discount note and the associated interest-rate swap. If the analysis indicates that the potential hedging relationship will exhibit excessive ineffectiveness, we elect the fair value option on the consolidated obligation bond or discount note. The potential earnings volatility associated with measuring only the derivative at fair value is the primary reason that we have elected the fair value option for these instruments.
The following table presents the activity on our consolidated obligation bonds on which we elected the fair value option for the three months ended March 31, 2015 and 2014.
For the Three Months Ended March 31, | ||||||||
2015 | 2014 | |||||||
(in thousands) | ||||||||
Balance, beginning of the period | $ | 1,499,971 | $ | 500,020 | ||||
New transactions elected for fair value option | 500,000 | — | ||||||
Maturities and terminations | (1,500,000 | ) | (500,000 | ) | ||||
Net change in fair value adjustments on financial instruments held under fair value option | (58 | ) | (20 | ) | ||||
Balance, end of the period | $ | 499,913 | $ | — |
The following table presents the activity on our consolidated obligation discount notes on which we elected the fair value option for the three months ended March 31, 2015 and 2014.
For the Three Months Ended March 31, | ||||||||
2015 | 2014 | |||||||
(in thousands) | ||||||||
Balance, beginning of the period | $ | 499,930 | $ | 999,890 | ||||
Maturities and terminations | (500,000 | ) | (1,000,000 | ) | ||||
Net change in fair value adjustments on financial instruments held under fair value option | 70 | 110 | ||||||
Balance, end of the period | $ | — | $ | — |
For consolidated obligations recorded under the fair value option, only the related contractual interest expense is recorded as part of net interest income on the statements of income. The remaining changes in fair value for instruments on which the fair value option has been elected are recorded as net loss on financial instruments under fair value option in the statements of income. Any change in fair value does not include changes in instrument-specific credit risk. We determined that no instrument-specific credit-risk adjustments to the fair values of our consolidated obligation bonds and discount notes recorded under the fair value option were required as of March 31, 2015 and December 31, 2014.
The following tables present the difference between the aggregate unpaid principal balance outstanding and the aggregate fair value for consolidated obligation bonds and discount notes, as applicable, for which the fair value option has been elected as of March 31, 2015 and December 31, 2014.
As of March 31, 2015 | ||||||||||||
Aggregate Unpaid Principal Balance | Aggregate Fair Value | Aggregate Fair Value Over (Under) Aggregate Unpaid Principal Balance | ||||||||||
(in thousands) | ||||||||||||
Consolidated obligation bonds | $ | 500,000 | $ | 499,913 | $ | (87 | ) |
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As of December 31, 2014 | ||||||||||||
Aggregate Unpaid Principal Balance | Aggregate Fair Value | Aggregate Fair Value Over (Under) Aggregate Unpaid Principal Balance | ||||||||||
(in thousands) | ||||||||||||
Consolidated obligation discount notes | $ | 500,000 | $ | 499,930 | $ | (70 | ) | |||||
Consolidated obligation bonds | 1,500,000 | 1,499,971 | (29 | ) | ||||||||
Total | $ | 2,000,000 | $ | 1,999,901 | $ | (99 | ) |
Note 13—Transactions with Related Parties and Other FHLBanks
Transactions with Members
The Seattle Bank is a cooperative and our capital stock is held by current members and former members. Former members include certain nonmembers that own Seattle Bank capital stock as a result of a merger or acquisition of a Seattle Bank member (or former member). Former members and certain nonmembers are required to maintain their investment in our capital stock until their outstanding transactions have matured or are paid off and their capital stock is redeemed in accordance with our capital plan or regulatory requirements (see Note 11 for additional information).
All of our advances are initially issued to members and approved housing associates, and all mortgage loans held for portfolio were initially purchased from members. We also maintain demand deposit accounts, primarily to facilitate settlement activities that are directly related to advances. We enter into such transactions with members during the normal course of business. In addition, we may enter into investments in federal funds sold, securities purchased under agreements to resell, certificates of deposit, and MBS with members or their affiliates. Our MBS investments are purchased through securities brokers or dealers, and all investments are transacted at market prices without preference to the status of the counterparty or the issuer of the investment as a member, nonmember, or affiliate thereof.
Transactions with Related Parties
For purposes of these financial statements, we define related parties as those members and former members and their affiliates with capital stock outstanding in excess of 10% of our total outstanding capital stock and MRCS. We also consider entities where a member or an affiliate of a member has an officer or director who is a director on the Board of the Seattle Bank to meet the definition of a related party. Transactions with such members are entered into in the normal course of business and are subject to the same eligibility and credit criteria and the same terms and conditions as other similar transactions, and we do not believe that they involve more than the normal risk of collectability. The Board has imposed certain restrictions on the repurchase of capital stock held by members who have officers or directors on our Board.
The following tables set forth significant outstanding balances as of March 31, 2015 and December 31, 2014, and the income effect for the three months ended March 31, 2015 and 2014, resulting from related party transactions.
Balances with Related Parties | As of March 31, 2015 | As of December 31, 2014 | ||||||
(in thousands) | ||||||||
Assets: | ||||||||
AFS securities | $ | — | $ | 467,562 | ||||
HTM securities | — | 102,563 | ||||||
Advances (par value) | 2,216,499 | 3,427,971 | ||||||
Mortgage loans held for portfolio | 479,860 | 502,407 | ||||||
Liabilities and capital: | ||||||||
Deposits | 8,917 | 7,281 | ||||||
MRCS | 1,037,735 | 1,103,755 | ||||||
Class B capital stock | 135,185 | 84,902 | ||||||
Class A capital stock | 1,136 | 1,129 | ||||||
AOCI | — | 21,252 | ||||||
Other: | ||||||||
Notional amount of derivatives | 6,205,251 | 7,204,203 |
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For the Three Months Ended March 31, | ||||||||
Income (Loss) with Related Parties | 2015 | 2014 | ||||||
(in thousands) | ||||||||
Advances, net * | $ | (1,182 | ) | $ | (3,905 | ) | ||
Federal funds sold | — | 39 | ||||||
AFS securities | 3,037 | 3,076 | ||||||
HTM securities | 204 | 401 | ||||||
Mortgage loans held for portfolio | 6,532 | 8,004 | ||||||
MRCS | (291 | ) | (346 | ) | ||||
Total | $ | 8,300 | $ | 7,269 |
* | Includes prepayment fee income and the effect of associated derivatives with related parties or their affiliates hedging advances with both related parties and non-related parties. |
Transactions with Other FHLBanks
From time to time, the Seattle Bank may lend to or borrow from other FHLBanks on a short-term uncollateralized basis. We made $30.0 million in loans with maturities of one day to other FHLBanks during the three months ended March 31, 2015. We had no transactions with other FHLBanks during the three months ended March 31, 2014.
In September 2013, we began offering the MPF Xtra product to our members. The MPF Xtra product is offered under the Mortgage Partnership Finance® (“MPF”®) program offered by the FHLBank of Chicago. (“Mortgage Partnership Finance,” “MPF,” and "MPF Xtra" are registered trademarks of the FHLBank of Chicago.) Through a purchase price adjustment, the FHLBank of Chicago receives a transaction fee for its administrative activities for the loans sold to Fannie Mae, and we receive a nominal fee from the FHLBank of Chicago for facilitating the sale of loans by Seattle Bank PFIs through the MPF Xtra product. During the three months ended March 31, 2015, Seattle Bank PFIs delivered $23.2 million of mortgage loans to the FHLBank of Chicago compared to $1.9 million of mortgage loans delivered during the first quarter of 2014. The fees received by the FHLBank of Chicago and the fees we earned on the mortgage loans sold through the MPF Xtra product were not material for the three months ended March 31, 2015 or 2014.
As of March 31, 2015 and December 31, 2014, we had $248,000 and $140,000 on deposit with the FHLBank of Chicago for shared FHLBank System expenses and MPF Xtra program fees.
We may, from time to time, transfer to or assume from another FHLBank the outstanding primary liability of another FHLBank rather than have new debt issued on our behalf by the Office of Finance. For information on debt transfers to or from other FHLBanks, see Note 10.
On September 25, 2014, we entered into the Merger Agreement with the Des Moines Bank. For information on the Merger Agreement, see Note 1.
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Note 14—Commitments and Contingencies
The following table summarizes the notional amount of our commitments outstanding that are not recorded on our statements of condition as of March 31, 2015 and December 31, 2014.
As of March 31, 2015 | As of December 31, 2014 | |||||||||||||||
Expire Within One Year | Expire After One Year | Total | Total | |||||||||||||
(in thousands) | ||||||||||||||||
Standby letters of credit outstanding (1) | $ | 382,568 | $ | 3,163 | $ | 385,731 | $ | 428,516 | ||||||||
Commitments to fund additional advances | 5,000 | — | 5,000 | 5,000 | ||||||||||||
Unsettled consolidated obligation bonds, at par (2) | 30,000 | — | 30,000 | 15,000 | ||||||||||||
Unsettled consolidated obligation discount notes, at par | — | — | — | 257,861 | ||||||||||||
Total | $ | 417,568 | $ | 3,163 | $ | 420,731 | $ | 706,377 |
(1) | Excludes unconditional commitments to issue standby letters of credit of $6.0 million as of March 31, 2015 and December 31, 2014. |
(2) | As of March 31, 2015 and December 31, 2014, all of our unsettled consolidated obligation bonds were hedged with associated interest rate swaps. |
Commitments to Extend Credit
Standby letters of credit are executed for members for a fee. A standby letter of credit is a financing arrangement between the Seattle Bank and a member. If we are required to make payment for a beneficiary's draw, the payment amount is converted into a collateralized advance to the member. As of March 31, 2015, the original terms of our outstanding standby letters of credit, including related commitments, ranged from 90 days to 7 years, including a final expiration in 2017.
Unearned fees for standby letter of credit-related transactions are recorded in other liabilities and totaled $120,000 and $153,000 as of March 31, 2015 and December 31, 2014. We monitor the creditworthiness of our standby letters of credit based on an evaluation of our members and have established parameters for the measurement, review, classification, and monitoring of credit risk related to these standby letters of credit. Based on our analyses and collateral requirements, we did not consider it necessary to record an allowance for credit losses on these commitments.
In addition, we enter into commitments that legally bind us to fund additional advances. These commitments generally are for periods of up to 12 months.
Legal Proceedings
The Seattle Bank is currently involved in a number of legal proceedings against various entities relating to our purchases and subsequent impairment of certain PLMBS. After consultations with legal counsel, other than as may result from the legal proceedings referenced in the preceding sentence, we do not believe that the ultimate resolutions of any current matters will have a material impact on our financial condition, results of operations, or cash flows.
Further discussion of other commitments and contingencies is provided in Notes 6, 9, 10, 11, and 12.
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ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
Forward-Looking Statements
This report contains forward-looking statements that are subject to risk and uncertainty. These statements describe the expectations, beliefs, plans, strategies, and objectives of the Federal Home Loan Bank of Seattle (Seattle Bank) regarding future events, conditions, and developments, including future operational results, changes in asset levels, and use of our products. The words "will," "expect," "intend," "may," "could," "should," "anticipate," and words of similar nature are intended in part to help identify forward-looking statements.
Future results, events, and developments are difficult to predict, and the expectations described in this report, including any forward-looking statements, are subject to risk and uncertainty that may cause actual results, events, and developments to differ materially from those we anticipate. There is no assurance that the expected results, events, and developments will occur. See “Part II. Item 1A. Risk Factors” of this report for additional information on risks and uncertainties.
Factors that may cause actual results, events, and developments to differ materially from those discussed in this report include, among others:
• | The ability of the Federal Home Loan Bank of Des Moines (Des Moines Bank) and the Seattle Bank (together, the Banks) to obtain final Federal Housing Finance Agency (FHFA) approvals and meet other closing requirements and obligations relating to the merger of the Banks (Merger), and otherwise complete the Merger efficiently and successfully; |
• | Our ability to complete actions and transactions undertaken in contemplation of the Merger including, repurchase of outstanding past-due excess Class A and Class B mandatorily redeemable capital stock (MRCS), payment of our final prorated dividend, and rebalancing of our balance sheet; |
• | Our failure to identify, manage, mitigate, or remedy risks that could adversely affect our operations, including, among others, risks associated with credit and collateral management, the Merger, operational risks arising from our information technology, and risks related to internal control systems and processes; |
• | Decreases in advance demand due to a decline in our members' need for funding or their use of alternative sources of wholesale funding, uncertainty associated with the Merger, or member failures, mergers, consolidations, or withdrawals from membership; |
• | Our ability to attract new members and our existing members' willingness to transact business with us, which may be adversely affected by, among other things, uncertainty associated with the Merger and our inability to repurchase or redeem capital stock or pay dividends without FHFA non-objection; |
• | Actions taken by governmental entities, including the U.S. Congress, the U.S. Department of the Treasury (U.S. Treasury), the Federal Reserve System, the FHFA, or the Federal Deposit Insurance Corporation, affecting housing finance reform, the Federal Home Loan Bank (FHLBank) System, or our core mission activity (CMA) assets, or other action that could affect the capital and credit markets or our business; |
• | Regulatory requirements and restrictions, including those resulting from our entering into a Stipulation and Consent to the Issuance of a Consent Order with the FHFA, effective November 22, 2013 (together with related understandings with the FHFA, the Amended Consent Arrangement), which superseded the previous Stipulation and Consent to the Issuance of a Consent Order and related understandings put in place in October 2010 (2010 Consent Arrangement), and potentially resulting from the notice of proposed rulemaking issued by the FHFA on September 2, 2014, as published in the Federal Register on September 12, 2014, relating to FHLBank membership; |
• | Adverse changes in credit quality or market prices of our mortgage-related assets and liabilities, home price declines or increases that exceed or fall short of our expectations, changes in assumptions or timing of cash flows, or other factors that could affect our financial instruments and that could cause losses of market value or other losses; |
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• | Significant or rapid changes in market conditions, including fluctuations in interest rates, shifts in yield curves, and changes in the spreads on our assets and liabilities, and our failure to effectively hedge these risks; |
• | Changes in global, national, and local economic conditions that could impact the financial and credit markets, including debt restructurings and defaults, unemployment levels, inflation, or deflation; |
• | Negative information about the Seattle Bank, the FHLBank System, housing government-sponsored enterprises (GSEs), or housing finance in general that could adversely impact demand for our debt, member perceptions, and our business; |
• | Rating agency actions affecting the Seattle Bank, the FHLBank System, or U.S. debt issuances; |
• | Adverse changes in investor demand for consolidated obligations or increased competition from other GSEs, including other FHLBanks, and corporate, sovereign, and supranational entities; |
• | Adverse changes in the market prices or credit quality of our members' assets used as collateral for our advances that could reduce our members' borrowing capacity or result in an under-secured position on outstanding advances; |
• | Our inability to retain or timely hire key personnel; |
• | Changing accounting guidance, including changes relating to the recognition and measurement of financial instrument fair values, that could adversely affect our financial statements; |
• | The need to make principal or interest payments for another FHLBank because of the joint and several liability of all FHLBanks for consolidated obligations; and |
• | Events such as terrorism, natural disasters, or other catastrophic events that could disrupt the financial markets where we obtain funding, our borrowers' ability to repay advances, the value of the collateral we hold, or our ability to conduct business in general. |
These cautionary statements apply to all related forward-looking statements, wherever they appear in this report. We do not undertake to update any forward-looking statements we make in this report or that we may make from time to time.
Overview
This discussion and analysis reviews our financial condition as of March 31, 2015 and December 31, 2014 and our results of operations for the three months ended March 31, 2015 and 2014. It should be read in conjunction with our financial statements and condensed notes for the three months ended March 31, 2015 and 2014 included in "Part I. Item 1. Financial Statements" in this report and our annual report on Form 10-K for the year ended December 31, 2014 (2014 10-K). Our financial condition as of March 31, 2015 and our results of operations for the three months ended March 31, 2015 are not necessarily indicative of the financial condition and results of operations that may be expected as of or for the year ending December 31, 2015 or for any other future dates or periods.
The Seattle Bank, one of 12 federally chartered FHLBanks, is a member-owned financial cooperative that serves regulated depositories, insurance companies, and community development financial institutions (CDFIs) located within our district. Like other FHLBanks, our mission is to provide liquidity and funding to members and eligible non-shareholder housing associates, so they can meet the housing and other credit needs of their communities. We further fulfill our mission of supporting housing finance and economic development by investing in mortgage-backed securities (MBS) and debt obligations that increase our CMA assets (which include advances, certain housing finance agency obligations, and acquired member assets, such as mortgage loans) and provide for a profitable and stable cooperative. We also provide, through the Affordable Housing Program (AHP) and in cooperation with our members and other entities, direct subsidy grants and low- or no-interest loans to benefit communities and individuals with incomes at or below 80% of their area's median income.
Our primary business is providing wholesale funding, or advances, to our members. We earn net interest income from the following sources: (1) net interest-rate spread, which is the difference between the interest earned on advances, investments, and mortgage loans, less the interest accrued or paid on consolidated obligations, deposits, and other borrowings funding those assets; and (2) earnings from capital, which is the return from investing our members' capital and retained earnings. Our principal funding derives from consolidated obligations issued by the Office of Finance as our agent. We are primarily liable for repayment of consolidated obligations issued on our behalf, and we are jointly and severally liable for consolidated obligations
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issued on behalf of the other FHLBanks. We believe many variables influence our financial performance, including interest-rate changes in the financial markets, yield-curve shifts, availability of wholesale funding, and general economic conditions.
The Merger
On September 25, 2014, the Des Moines Bank and the Seattle Bank entered into an Agreement and Plan of Merger (Merger Agreement), pursuant to which the Seattle Bank will be merged with and into the Des Moines Bank (the post-Merger bank being the Continuing Bank). The Merger Agreement provides that the Seattle Bank members will receive one share of Continuing Bank Class A stock for each share of Seattle Bank Class A stock they own immediately prior to the Merger and one share of Continuing Bank Class B stock for each share of Seattle Bank Class B stock they own immediately prior to the Merger. Pursuant to the Merger, no shares of Seattle Bank capital stock will remain outstanding and all of the Seattle Bank shares will automatically be cancelled.
On December 19, 2014, the FHFA approved the merger application submitted by the Banks in accordance with the Merger Agreement, subject to satisfaction of closing conditions set forth in the FHFA approval letter, including the ratification of the Merger Agreement by members of each bank. On February 27, 2015, the Banks announced that the Merger Agreement had been appropriately ratified by members of each bank. Subject to satisfaction of the remaining closing conditions contained in the Merger Agreement, including FHFA acceptance of the Continuing Bank's organization certificate, the Banks expect the Merger to become effective on May 31, 2015. If the Merger is completed, Seattle Bank members will immediately become members of the Continuing Bank with the rights, preferences, and obligations of a Continuing Bank member.
As part of the preparation for combining our balance sheet with that of the Des Moines Bank, during the first quarter of 2015, we, in consultation with the Des Moines Bank, disposed of all of our private-label mortgage-backed securities (PLMBS). In connection with such dispositions, we reinvested funds in other highly rated investments, including GSE MBS.
In addition, the following actions are anticipated in connection with the Merger:
• | Prior to the consummation of the Merger, we intend to repurchase our outstanding past-due MRCS that constitute excess stock (i.e., stock that is not required to satisfy membership or activity requirements under the Seattle Bank’s capital plan). In connection with these repurchases, we will take such related investment portfolio actions as may be appropriate to comply with regulatory requirements. With this in mind and considering that our anticipated capital stock repurchases prior to the closing of the Merger could result in the Continuing Bank having a MBS portfolio immediately following the effective date of the Merger (and the Des Moines Bank’s “purchase” of the Seattle Bank assets for accounting purposes) exceeding the 300% of capital regulatory limit, we have secured the commitment of the FHFA that it would not take action in the case of such a result. Subsequent to conversion of remaining Seattle Bank Class A and Class B stock into Continuing Bank Class A and Class B stock and conformance of each stockholder's capital stock to the requirements of the Continuing Bank's capital plan, the Continuing Bank will, as promptly as practicable after the effective date of the Merger, repurchase all Continuing Bank Class A stock and any excess Continuing Bank Class B stock. |
• | The Board of Directors (Board) approved a $0.0168 per share prorated cash dividend, which will be based on average Seattle Bank Class A and Class B stock outstanding from April 1, 2015 to May 26, 2015, and paid immediately prior to the anticipated closing of the Merger. |
The FHFA has also provided its concurrence or non-objection to requests by the Banks to confirm various regulatory-related matters in connection with the Merger, including the FHFA’s agreement to lift the Amended Consent Arrangement and to allow the Continuing Bank to remedy and close out the Seattle Bank's existing regulatory violation relating to the supplemental mortgage insurance requirement.
Financial Condition and Results - First Quarter 2015 Highlights
First Quarter 2015 Market Conditions
During the first quarter of 2015, U.S. economic growth has moderated from 2014. Labor market conditions continued to improve, albeit irregularly, household spending rose moderately, and business capital investment advanced. These improvements were tempered by the continued slow recovery of the housing sector and weakened export growth during the first quarter of 2015. Although housing prices have recovered to a significant extent from lows reached during the recent recession, the housing market continued to be negatively impacted by, among other things, slow residential construction activity and adverse weather conditions during the first quarter of 2015.
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Interest rates remained very low during the first quarter of 2015. Although it concluded its asset purchase program in 2014, the Federal Reserve's Federal Open Market Committee (FOMC) announced that it will maintain its existing policy of reinvesting proceeds from principal payments and maturing investments. Inflation declined further below the FOMC's longer-run objective of two percent, largely reflecting declines in energy prices and a strengthening U.S. dollar. The FOMC stated that, in determining how long it would maintain current target interest rates, it would continue to assess progress—both realized and expected—toward its objectives relating to employment and inflation. While the FOMC indicated that an increase in interest rates was unlikely in the short term, it changed its forward guidance to signal that it would be appropriate to raise interest rates when it has seen further improvement in the labor market and is reasonably confident that inflation would reach two percent over the medium term.
Financial Condition and Operating Results
As of March 31, 2015, we had total assets of $33.3 billion, total outstanding regulatory capital stock of $2.2 billion, and retained earnings of $356.6 million, compared to total assets of $35.1 billion, total outstanding regulatory capital stock of $2.3 billion, and retained earnings of $346.4 million as of December 31, 2014.
As of March 31, 2015, our outstanding advances had decreased to $8.4 billion from $10.3 billion as of December 31, 2014, primarily due to the maturity of $1.5 billion in Bank of America, N.A. (BANA) advances in March 2015.
Net income for the three months ended March 31, 2015 was $10.4 million, compared to $10.7 million for the same period in 2014. Net income for the three months ended March 31, 2015, compared to the same period in 2014, was unfavorably impacted by higher operating expenses, primarily comprised of $10.8 million of merger-related expenses, and favorably impacted by higher net interest income after provision (benefit) for credit losses and other income.
Net interest income after provision (benefit) for credit losses for the three months ended March 31, 2015, increased to $38.0 million, from $31.5 million for the same period in 2014, primarily due to lower funding costs, partially offset by lower interest income. Interest income on advances was positively impacted by an increase in yield during the first quarter of 2015, compared to the same period in 2014, offset by the decrease in average balances outstanding due to the maturities of $1.5 billion of advances with BANA in March 2015. Interest income on mortgage loans held for portfolio declined due to the continued paydown of mortgage loans during the three months ended March 31, 2015. Interest income on investments was negatively impacted by the sale of our PLMBS portfolio and partial reinvestment of proceeds from the sale in higher-quality, lower-yielding GSE MBS during the three months ended March 31, 2015. However, until the PLMBS were sold in March 2015, interest income on investments continued to benefit from accretion of previously recorded other-than-temporary impairment (OTTI) credit losses, due to increased yields on previously impaired PLMBS with significant increases in expected cash flows totaling $5.8 million for the three months ended March 31, 2015, compared to $5.7 million for the same period in 2014.
Compared to previous periods, other income (loss) during the three months ended March 31, 2015, was positively impacted by higher gains on derivative and hedging activities. During the three months ended March 31, 2015, we classified all investment securities as available-for-sale (AFS) and recorded a $51.5 million OTTI charge based on our intent to sell our PLMBS. Subsequently, we sold our PLMBS and recognized a $52.3 million gain on sale. The total impact to other income (loss) of the OTTI charge together with the gain on sale from the above transactions was a gain of $792,000. See Results of Operations for the Three Months Ended March 31, 2015 and 2014—Other Income (Loss) for additional information.
Other expenses increased for the three months ended March 31, 2015, compared to the same period in 2014, due to $10.8 million of merger-related costs for the three months ended March 31, 2015.
We repurchased $106.2 million of excess stock in the first quarter of 2015 and paid a $0.025 per share cash dividend in January 2015. The dividends, totaling $598,000 (including $383,000 of dividends relating to MRCS recorded as interest expense on the statements of income), were calculated based on financial results and average Class A and Class B stock outstanding during the fourth quarter of 2014.
On April 30, 2015, we paid a $0.025 per share cash dividend based on our financial results and average Class A and Class B stock outstanding during the first quarter of 2015. In addition, in connection with the anticipated closing of the Merger, the Board approved the following:
• | Redemption of Seattle Bank excess past-due Class A and Class B MRCS prior to the anticipated closing of the Merger. |
• | A $0.0168 per share prorated cash dividend based on average Class A and Class B stock outstanding from April 1 through May 26, 2015. The dividend will be paid immediately prior to the anticipated closing of the Merger. |
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Consent Arrangements
We continue to address the requirements of the Amended Consent Arrangement, which superseded the 2010 Consent Arrangement. In addition to continued compliance with the terms of the plans and policies adopted and implemented to address the 2010 Consent Arrangement, the Amended Consent Arrangement requires development and implementation of a plan acceptable to the FHFA to increase advances and other CMA assets as a percentage of the bank's consolidated obligations, Board monitoring for compliance with the terms of such plans and policies, and continued non-objection from the FHFA prior to repurchasing or redeeming any excess capital stock or paying dividends on the bank's capital stock. Further information regarding the Amended Consent Arrangement is included in "—Capital Resources and Liquidity" in this report.
Recent Legislative and Regulatory Developments
The legislative and regulatory environments in which each FHLBank and its members operate continue to evolve as a result of regulations enacted pursuant to the Housing and Economic Recovery Act of 2008, the Dodd-Frank Wall Street Reform and Consumer Protection Act enacted in July 2010, and the reforms of the Basel Committee on Banking Supervision. Our business operations, funding costs, rights and obligations, and the environment in which we carry out our housing finance mission are likely to continue to be significantly impacted by these regulations and reforms. Our 2014 10-K includes a detailed discussion of recent legislative and regulatory developments. There have been no material changes from the legislative and regulatory developments disclosed in "Part I. Item 1. Business—Oversight, Audits, and Examinations—Legislative and Regulatory Developments" of our 2014 10-K.
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Selected Financial Data
The following selected financial data for the Seattle Bank should be read in conjunction with “Part I. Item 1. Financial Statements,” included in this report, as well as the bank's 2014 10-K, including the financial statements and related notes for the years ended December 31, 2014, 2013, and 2012.
March 31, 2015 | December 31, 2014 | September 30, 2014 | June 30, 2014 | March 31, 2014 | ||||||||||||||||
(in millions, except percentages) | ||||||||||||||||||||
Statements of Condition (at period end) | ||||||||||||||||||||
Total assets | $ | 33,261 | $ | 35,129 | $ | 35,017 | $ | 36,549 | $ | 36,055 | ||||||||||
Investments (1) | 24,121 | 24,046 | 22,945 | 25,486 | 25,313 | |||||||||||||||
Advances | 8,406 | 10,314 | 10,226 | 10,214 | 9,860 | |||||||||||||||
Mortgage loans held for portfolio, net (2) | 618 | 647 | 685 | 724 | 761 | |||||||||||||||
Deposits and other borrowings | 377 | 411 | 462 | 423 | 447 | |||||||||||||||
Consolidated obligations: | ||||||||||||||||||||
Discount notes | 14,232 | 14,940 | 13,310 | 17,220 | 15,554 | |||||||||||||||
Bonds | 14,949 | 16,851 | 18,242 | 15,894 | 16,780 | |||||||||||||||
Total consolidated obligations | 29,181 | 31,791 | 31,552 | 33,114 | 32,334 | |||||||||||||||
MRCS | 1,363 | 1,454 | 1,544 | 1,635 | 1,662 | |||||||||||||||
AHP payable | 21 | 22 | 21 | 21 | 21 | |||||||||||||||
Capital stock: | ||||||||||||||||||||
Class A capital stock - putable | 31 | 33 | 36 | 41 | 42 | |||||||||||||||
Class B capital stock - putable | 825 | 825 | 823 | 817 | 872 | |||||||||||||||
Total capital stock | 856 | 858 | 859 | 858 | 914 | |||||||||||||||
Retained earnings: | ||||||||||||||||||||
Unrestricted | 291 | 283 | 268 | 256 | 245 | |||||||||||||||
Restricted | 65 | 63 | 59 | 56 | 53 | |||||||||||||||
Total retained earnings | 356 | 346 | 327 | 312 | 298 | |||||||||||||||
Accumulated other comprehensive income (loss) (AOCI) | 65 | 2 | 24 | 17 | (26 | ) | ||||||||||||||
Total capital | 1,277 | 1,206 | 1,210 | 1,187 | 1,186 | |||||||||||||||
Statements of Income (for the quarter ended) | ||||||||||||||||||||
Interest income | $ | 67 | $ | 69 | $ | 71 | $ | 69 | $ | 68 | ||||||||||
Net interest income after provision (benefit) for credit losses | 38 | 41 | 40 | 34 | 31 | |||||||||||||||
Other income (loss) | 2 | (1 | ) | — | 2 | — | ||||||||||||||
Other expense | 29 | 19 | 22 | 20 | 19 | |||||||||||||||
Income before assessments | 11 | 21 | 18 | 16 | 12 | |||||||||||||||
Assessments | 1 | 2 | 2 | 2 | 1 | |||||||||||||||
Net income | 10 | 19 | 16 | 14 | 11 |
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Selected Financial Data (continued) | March 31, 2015 | December 31, 2014 | September 30, 2014 | June 30, 2014 | March 31, 2014 | |||||||||||||||
(in millions, except percentages) | ||||||||||||||||||||
Financial Statistics (as of and for the quarter ended) | ||||||||||||||||||||
Return on average equity | 3.47 | % | 6.32 | % | 5.11 | % | 4.81 | % | 3.69 | % | ||||||||||
Return on average assets | 0.12 | % | 0.21 | % | 0.17 | % | 0.16 | % | 0.12 | % | ||||||||||
Average equity to average assets | 3.38 | % | 3.34 | % | 3.27 | % | 3.38 | % | 3.17 | % | ||||||||||
Regulatory capital-to-assets ratio (3) | 7.74 | % | 7.57 | % | 7.79 | % | 7.68 | % | 7.97 | % | ||||||||||
Net interest margin (4) | 0.43 | % | 0.45 | % | 0.44 | % | 0.37 | % | 0.35 | % | ||||||||||
Market value of equity (MVE) to par value of capital stock (PVCS) ratio | 114.49 | % | 114.29 | % | 114.36 | % | 112.55 | % | 109.13 | % | ||||||||||
Return on PVCS vs. one-month London Interbank Offered Rate (LIBOR) | 1.67 | % | 3.06 | % | 2.30 | % | 2.15 | % | 1.47 | % | ||||||||||
CMA assets to consolidated obligations | 37.80 | % | 40.90 | % | 41.10 | % | 38.88 | % | 38.11 | % | ||||||||||
Dividends (for the quarter ended) | ||||||||||||||||||||
Cash dividends paid on capital stock | $ | 0.2 | $ | 0.3 | $ | 0.2 | $ | 0.2 | $ | 0.2 | ||||||||||
Cash dividends on MRCS recorded as interest expense | 0.4 | 0.5 | 0.4 | 0.4 | 0.4 | |||||||||||||||
Annualized dividend rate: (5) | 0.10 | % | 0.10 | % | 0.10 | % | 0.10 | % | 0.10 | % | ||||||||||
Class A stock - putable | 0.10 | % | 0.10 | % | 0.10 | % | 0.10 | % | 0.10 | % | ||||||||||
Class B stock - putable | 0.10 | % | 0.10 | % | 0.10 | % | 0.10 | % | 0.10 | % | ||||||||||
Dividend payout ratio (6) | 2.06 | % | 1.10 | % | 1.51 | % | 1.55 | % | 2.16 | % |
(1) | Investments include federal funds sold, securities purchased under agreements to resell, and AFS, and prior to the first quarter of 2015, held-to-maturity (HTM) securities. |
(2) | Mortgage loans held for portfolio, net includes allowance for credit losses of $717,000 as of March 31, 2015, $1.4 million as of December 31, 2014, $984,000 as of September 30, 2014, $1.3 million as of June 30, 2014, and $1.1 million as of March 31, 2014. |
(3) | Regulatory capital-to-assets ratio is defined as period-end regulatory capital, which includes total capital stock, retained earnings, and MRCS, expressed as a percentage of period-end total assets. |
(4) | Net interest margin is defined as net interest income for the period, expressed as a percentage of average earning assets for the period. |
(5) | Annualized dividend rate is dividends paid in cash and stock, divided by the average balance of capital stock eligible for dividends during the year. |
(6) | Dividend payout ratio is defined as dividends in the period expressed as a percentage of net income in the period. Ratio excludes dividends on MRCS, which are recorded as interest expense. |
Financial Condition as of March 31, 2015 and December 31, 2014
Our assets principally consist of advances, investments, and mortgage loans. Our advance balance and our advances as a percentage of total assets as of March 31, 2015 decreased to $8.4 billion and 25.3%, from $10.3 billion and 29.4% as of December 31, 2014. As of March 31, 2015, our investments balance and investments as a percentage of total assets increased to $24.1 billion and 72.5%, from $24.0 billion and 68.5% as of December 31, 2014. The balance of our mortgage loans outstanding continued to decline due to receipt of principal payments.
We obtain funding to support our business primarily through the issuance, by the Office of Finance as our agent, of debt securities in the form of consolidated obligations. To a significantly lesser extent, we also rely on member deposits and on the issuance of our capital stock to our members in connection with their membership and their utilization of our products.
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The following table summarizes our major categories of assets, liabilities, and capital as a percentage of total assets as of March 31, 2015 and December 31, 2014.
As of | As of | |||||
March 31, 2015 | December 31, 2014 | |||||
(in percentages) | ||||||
Assets | ||||||
Advances * | 25.3 | 29.4 | ||||
Investments: | ||||||
Short-term | 24.6 | 21.1 | ||||
CMA investments * | 6.0 | 5.8 | ||||
Other medium-/long-term | 41.9 | 41.6 | ||||
Subtotal | 72.5 | 68.5 | ||||
Mortgage loans * | 1.9 | 1.8 | ||||
Other assets | 0.3 | 0.3 | ||||
Total | 100.0 | 100.0 | ||||
Liabilities and Capital | ||||||
Consolidated obligations | 87.7 | 90.5 | ||||
Deposits | 1.1 | 1.2 | ||||
MRCS | 4.1 | 4.1 | ||||
Other liabilities | 3.2 | 0.8 | ||||
Total capital | 3.9 | 3.4 | ||||
Total | 100.0 | 100.0 |
* | CMA assets. CMA investments include certain housing finance agency obligations. Our ratio of CMA assets-to-consolidated obligations as of March 31, 2015 and December 31, 2014 was 37.8% and 40.9%. |
We discuss the material changes in each of our principal categories of assets and liabilities and our capital stock in more detail below.
Advances
As of March 31, 2015, the carrying value of total advances decreased by 18.5%, to $8.4 billion, from $10.3 billion as of December 31, 2014, primarily due to the maturity of $1.5 billion in BANA advances in March 2015. Overall, our members' demand for advances continued to be negatively impacted by high levels of retail deposits and modest loan demand by their customers.
The following table summarizes the par value of our advances outstanding by member type as of March 31, 2015 and December 31, 2014.
As of | As of | |||||||
March 31, 2015 | December 31, 2014 | |||||||
(in thousands) | ||||||||
Commercial banks | $ | 4,337,234 | $ | 4,680,740 | ||||
Thrifts | 1,108,096 | 1,077,859 | ||||||
Credit unions | 884,394 | 1,008,271 | ||||||
Insurance companies | 162,039 | 138,959 | ||||||
CDFIs | 2,991 | 2,000 | ||||||
Total member advances | 6,494,754 | 6,907,829 | ||||||
Housing associates | 16,638 | 21,563 | ||||||
Nonmember borrowers | 1,788,187 | 3,293,446 | ||||||
Total par value of advances | $ | 8,299,579 | $ | 10,222,838 |
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A large percentage of our advances is held by a limited number of borrowers. Changes in this group's borrowing decisions and ability to continue borrowing have affected and can still significantly affect the amount of our advances outstanding. We expect that our advances will be concentrated with our largest borrowers for the foreseeable future.
In April 2013, Bank of America Oregon, N.A., our then-largest borrower, merged into its parent, BANA. At that time, Bank of America Oregon, N.A.'s membership in the Seattle Bank was terminated and all outstanding advances and capital stock were assumed by BANA, a nonmember financial institution. As a result, BANA's business activity with us will eventually decline to zero as the outstanding advances mature. As currently structured, approximately 96% of BANA's $1.6 billion in outstanding advances will mature in 2016.
The following table provides the par value of outstanding advances and percentage of total par value of outstanding advances of our top five borrowers (at the holding company level) as of March 31, 2015 and December 31, 2014. Due to the number of member institutions that are part of larger holding companies, we believe this aggregation provides greater visibility into borrowing activity at the Seattle Bank than would a listing of advances by individual member institutions.
As of March 31, 2015 | As of December 31, 2014 | |||||||||||
Par Value of Advances Outstanding | Percent of Par Value of Advances Outstanding | Par Value of Advances Outstanding | Percent of Par Value of Advances Outstanding | |||||||||
(in thousands, except percentages) | ||||||||||||
Washington Federal, Inc. | $ | 1,830,000 | 22.1 | $ | 1,830,000 | 17.9 | ||||||
Bank of America Corporation * | 1,562,945 | 18.8 | 3,063,701 | 30.0 | ||||||||
Umpqua Holdings Corporation | 960,016 | 11.6 | 1,000,016 | 9.8 | ||||||||
HomeStreet, Inc. | 603,590 | 7.3 | 597,590 | 5.8 | ||||||||
Stockman Financial Corporation | 302,623 | 3.6 | not in top 5 | not in top 5 | ||||||||
Glacier Bancorp, Inc. | not in top 5 | not in top 5 | 291,802 | 2.9 | ||||||||
Total | $ | 5,259,174 | 63.4 | $ | 6,783,109 | 66.4 |
* | Nonmember borrower as of April 1, 2013. |
As of March 31, 2015 and December 31, 2014, the weighted-average remaining term-to-maturity of the advances outstanding to our top five borrowers as listed above was approximately 28 months and 23 months.
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The following table summarizes our advance portfolio by product type as of March 31, 2015 and December 31, 2014.
As of March 31, 2015 | As of December 31, 2014 | |||||||||||
Par Value of Advances Outstanding | Percent of Par Value of Advances Outstanding | Par Value of Advances Outstanding | Percent of Par Value of Advances Outstanding | |||||||||
(in thousands, except percentages) | ||||||||||||
Variable interest-rate advances: | ||||||||||||
Cash management | $ | 190,510 | 2.3 | $ | 433,384 | 4.2 | ||||||
Adjustable interest-rate | 1,517,500 | 18.3 | 3,017,500 | 29.5 | ||||||||
Choice | — | — | 125,000 | 1.2 | ||||||||
Capped floater | 10,000 | 0.1 | 10,000 | 0.1 | ||||||||
Fixed interest-rate advances: | ||||||||||||
Non-amortizing | 4,653,329 | 56.0 | 4,688,694 | 45.9 | ||||||||
Amortizing | 506,188 | 6.1 | 497,355 | 4.9 | ||||||||
Symmetrical prepayment: | ||||||||||||
Non-amortizing | 495,046 | 6.0 | 495,046 | 4.8 | ||||||||
Amortizing | 57,680 | 0.7 | 59,033 | 0.6 | ||||||||
Callable | 15,810 | 0.2 | 15,810 | 0.2 | ||||||||
Putable: | ||||||||||||
Non-knockout | 548,516 | 6.6 | 576,016 | 5.7 | ||||||||
Knockout | 270,000 | 3.3 | 270,000 | 2.6 | ||||||||
Floating-to-fixed convertible (after conversion date) | 35,000 | 0.4 | 35,000 | 0.3 | ||||||||
Total par value | $ | 8,299,579 | 100.0 | $ | 10,222,838 | 100.0 |
The following table summarizes our advance portfolio by interest-payment type and remaining terms to maturity as of March 31, 2015 and December 31, 2014.
As of | As of | |||||||
March 31, 2015 | December 31, 2014 | |||||||
(in thousands) | ||||||||
Fixed: | ||||||||
Due in one year or less | $ | 1,857,393 | $ | 1,761,526 | ||||
Due after one year | 4,724,176 | 4,875,428 | ||||||
Total fixed | 6,581,569 | 6,636,954 | ||||||
Variable: | ||||||||
Due in one year or less | 1,718,010 | 1,960,884 | ||||||
Due after one year | — | 1,625,000 | ||||||
Total variable | 1,718,010 | 3,585,884 | ||||||
Total par value | $ | 8,299,579 | $ | 10,222,838 |
Fixed interest-rate and structured advances (i.e., advances that include optionality) as a percentage of total par value of advances increased to 79.3% as of March 31, 2015, compared to 65.0% as of December 31, 2014, primarily due to the reduction in outstanding advances as of March 31, 2015, resulting from the maturity of $1.5 billion of BANA variable interest-rate advances in March 2015. The total par value of advances maturing in one year or less remained at $3.6 billion as of March 31, 2015, compared to $3.7 billion as of December 31, 2014, primarily due to an additional $1.5 billion of BANA variable interest-rate advances scheduled to mature in March 2016.
The total weighted-average contractual interest rate on our outstanding advance portfolio increased to 1.74%% as of March 31, 2015, from 1.45%% as of December 31, 2014, primarily due to an increase in long-term advances during the period. The weighted-average interest rate on our portfolio depends upon the term-to-maturity and type of advances within the portfolio, as well as on our cost of funds (which is the basis for our advance pricing).
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Member Demand for Advances
Many factors affect the demand for advances, including changes in credit markets, interest rates, collateral availability, regulation, and our members' liquidity and wholesale funding needs. Our members regularly evaluate their other funding options relative to our advance products and pricing. Demand for advances by our members decreased in the first quarter of 2015, due to lower loan demand and other factors.
Because the timing and magnitude of potential increases in long-term interest rates and other economic factors are uncertain, we do not know when or by how much advance demand from our members may increase in future periods, if at all. Furthermore, it is unclear whether the uncertainties surrounding the Merger and potential changes brought on by integration efforts if the Merger is successful, may impact our members' decisions to borrow from us in the immediate future. In addition, we expect the balance of outstanding advances to continue to be negatively impacted by the April 2013 loss of our then-largest borrower, Bank of America Oregon, N.A., and its subsequent inability to borrow from the Seattle Bank and, potentially, from the April 2014 merger of the holding companies of Sterling Savings Bank and Umpqua Bank.
We periodically review our advance pricing structure to determine whether it remains competitive and complies with regulatory requirements. Our current advance pricing structure includes posted-rate pricing, both window and auction pricing, and differential pricing. Window pricing indications are published daily on our corporate website, and auction funding is typically available two times per week when the Seattle Bank participates in issuances of consolidated obligation discount notes through the Office of Finance as our agent. Although auction pricing borrowers can generally borrow at a lower interest rate than the window posted rates, borrowers do not know the interest rate of an auction-priced advance until the auction is complete. The differential pricing option, under which borrowers can request an advance rate lower than our posted rates, is administered by specified bank employees within parameters established by our asset and liability management committee (consisting of Seattle Bank employees) under authority delegated by our president and chief executive officer and overseen by the Board. The differential pricing option enables the bank to compete with lower interest-rate funding available to those members that have alternative funding sources that may be offering lower interest rates.
Our members' use of window and auction pricing increased during the first three months of 2015, compared to the same period in 2014, with aggregate offsetting decreases in differential pricing activity, primarily due to a reduction in advance activity by users of differentially priced advances. Overall, while use of differential pricing has declined, we believe this product has helped to support our advance business and improve our ability to generate net income for the benefit of all of our members.
The following table summarizes our advance pricing as a percentage of new advance activity, excluding cash management advances, for the three months ended March 31, 2015 and 2014.
For the Three Months Ended March 31, | ||||
2015 | 2014 | |||
(in percentages) | ||||
Posted-rate pricing: | ||||
Window | 78.7 | 72.0 | ||
Auction | 9.4 | 5.5 | ||
Differential pricing | 11.9 | 22.5 | ||
Total | 100.0 | 100.0 |
The demand for advances also may be affected by the manner in which members support their advances with capital stock, their ability to have capital stock repurchased or redeemed by us, and the dividends we may pay on our capital stock. In late 2012, we implemented an excess stock pool to encourage advance usage. As of March 31, 2015, $35.7 million of outstanding advances were obtained by members utilizing the excess stock pool. Due to our sustained periods of stock repurchases and dividend payment activity, effective October 10, 2014, we closed the excess stock pool for new and renewing advances.
In September 2012, we implemented a quarterly excess capital stock repurchase program with FHFA non-objection. Also, in February 2014, we implemented an additional excess capital stock redemption program, with FHFA non-objection, to redeem up to $75 million per quarter of excess capital stock on which the redemption waiting period has been satisfied. Under these two programs, we have repurchased a total of $637.9 million of excess capital stock, including $98.6 million in the first three months of 2015. Further, with FHFA non-objection, we announced we will repurchase all outstanding past-due excess Class A and Class B MRCS prior to the anticipated closing of the Merger.
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In each quarter beginning with the third quarter of 2013, we have paid a $0.025 per share cash dividend based on our financial results and calculated based on average Class A and Class B stock outstanding during the preceding quarter. With FHFA non-objection, we paid a $0.025 per share cash dividend on April 30, 2015. Further, with FHFA non-objection, we announced we will pay a final $0.0168 per share prorated cash dividend immediately prior to the anticipated closing of the Merger.
Credit Risk
We assign each member institution an internal risk rating based on a number of factors, including levels of non-performing assets, profitability, and capital. We also assign a collateral control category (e.g., blanket, listing, or physical possession), which may be based on the risk rating. For those borrowers under the blanket pledge or listing collateral arrangements, we generally do not take control of collateral, other than pledged securities collateral. We generally will further secure our interests by taking physical possession (or control) of supporting collateral if we determine the financial or other condition of a member borrower so warrants. We take physical possession of collateral pledged by non-depository institutions (e.g., insurance companies and housing associates) to help ensure that an advance is as secure as the security interest in collateral pledged by depository institutions. As of March 31, 2015 and December 31, 2014, approximately 18% of our borrowers were on the physical possession collateral arrangement, representing approximately 4% and 5% of the par value of our outstanding advances. We have never incurred a credit loss on an advance.
Our members' borrowing capacity with the Seattle Bank depends on the collateral they pledge and is calculated as a percentage of the collateral's value. We periodically evaluate this percentage in the context of the value of the collateral in current market conditions. As of March 31, 2015 and December 31, 2014, we had unencumbered rights to collateral (i.e., loans and securities), on a borrower-by-borrower basis, with an estimated value in excess of all outstanding extensions of credit.
For additional information on advances, see Note 6 in "Part I. Item 1. Financial Statements—Condensed Notes to Financial Statements" in this report.
Investments
We maintain an investment portfolio for liquidity purposes and to generate income to support our operations and provide a return on our members' capital stock. Short-term investments generally include overnight and term federal funds sold, securities purchased under agreements to resell, interest-bearing certificates of deposit, commercial paper, and U.S. Treasury bills. Medium/long-term investments generally include: debentures and MBS issued or guaranteed by other GSEs, such as Federal National Mortgage Association (Fannie Mae) or the Federal Home Loan Mortgage Corporation (Freddie Mac); PLMBS (which we no longer acquire and, as of March 31, 2015, no longer hold); securities issued or guaranteed by other U.S. government agencies, including the Export-Import Bank of the U.S. (Ex-Im Bank); and securities issued by state or local housing finance authorities. Our investment securities have been classified either as AFS or HTM.
In connection with the Merger, during March 2015, we decided to dispose of our PLMBS. Because we no longer had both the ability and the intent to hold all of our securities classified as HTM to maturity, we reclassified our HTM securities to AFS securities at fair value on the date of reclassification. In addition, during March 2015, we sold our PLMBS portfolio.
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The table below presents the carrying values and yields of our investment securities by major security type as of March 31, 2015 and December 31, 2014. It also presents the remaining contractual maturities of our AFS securities as of March 31, 2015. Expected maturities of some securities may differ from contractual maturities because borrowers may have the right to call or prepay obligations with or without call or prepayment fees.
As of March 31, 2015 | As of December 31, 2014 | |||||||||||||||||||||||||||
AFS Securities | AFS Securities | HTM Securities | ||||||||||||||||||||||||||
One Year or Less | After One Year through Five Years | After Five Years through 10 Years | After 10 Years | Total Carrying Value | Total Carrying Value | Total Carrying Value | ||||||||||||||||||||||
(in thousands, except percentages) | ||||||||||||||||||||||||||||
Non-MBS: | ||||||||||||||||||||||||||||
Certificates of deposit | $ | — | $ | — | $ | — | $ | — | $ | — | $ | — | $ | 356,000 | ||||||||||||||
Other U.S. agency obligations (1) | 20,612 | 113,040 | 2,674,906 | 1,490,756 | 4,299,314 | 4,353,320 | 16,242 | |||||||||||||||||||||
GSE obligations (2) | 149,328 | 1,027,750 | 634,264 | 494,371 | 2,305,713 | 2,281,554 | — | |||||||||||||||||||||
State and local housing agency obligations | 24,254 | 225,821 | 387,321 | 1,366,749 | 2,004,145 | — | 2,040,239 | |||||||||||||||||||||
Total non-MBS | 194,194 | 1,366,611 | 3,696,491 | 3,351,876 | 8,609,172 | 6,634,874 | 2,412,481 | |||||||||||||||||||||
MBS: | ||||||||||||||||||||||||||||
Other U.S. agency single-family MBS (3) | — | — | 959 | 71,275 | 72,234 | — | 79,289 | |||||||||||||||||||||
GSE single-family MBS (4) | — | 46,626 | 179,496 | 4,461,395 | 4,687,517 | — | 4,620,571 | |||||||||||||||||||||
GSE multifamily MBS (5) | — | — | 1,726,006 | 835,010 | 2,561,016 | — | 1,659,182 | |||||||||||||||||||||
Residential PLMBS | — | — | — | — | — | 1,242,460 | 338,746 | |||||||||||||||||||||
Total MBS | — | 46,626 | 1,906,461 | 5,367,680 | 7,320,767 | 1,242,460 | 6,697,788 | |||||||||||||||||||||
Total | $ | 194,194 | $ | 1,413,237 | $ | 5,602,952 | $ | 8,719,556 | $ | 15,929,939 | $ | 7,877,334 | $ | 9,110,269 | ||||||||||||||
Yield | 0.42 | % | 0.90 | % | 1.07 | % | 1.24 | % | 1.13 | % | 1.30 | % | 0.98 | % |
(1) | Consists of obligations issued or guaranteed by one or more of the following: Ex-Im Bank, Small Business Administration (SBA), U.S. Agency for International Development, and Private Export Funding Corporation. |
(2) | Consists of obligations issued or guaranteed by Federal Farm Credit Bank (FFCB), Freddie Mac, Fannie Mae, and Tennessee Valley Authority (TVA). |
(3) | Consists of securities issued by Government National Mortgage Association. |
(4) | Consists of securities issued by Fannie Mae and Freddie Mac. |
(5) | Consists of Fannie Mae Delegated Underwriting and Servicing MBS. |
The following table summarizes the carrying value of our investment portfolio as of March 31, 2015 and December 31, 2014.
As of | As of | |||||||
March 31, 2015 | December 31, 2014 | |||||||
(in thousands) | ||||||||
Securities purchased under agreements to resell | $ | 5,250,000 | $ | 3,000,000 | ||||
Federal funds sold | 2,940,800 | 4,058,800 | ||||||
AFS securities | 15,929,939 | 7,877,334 | ||||||
HTM securities | — | 9,110,269 | ||||||
Total investments | $ | 24,120,739 | $ | 24,046,403 |
As of March 31, 2015, our investments increased slightly to $24.1 billion, from $24.0 billion as of December 31, 2014. During the first quarter of 2015 and the fourth quarter of 2014, we maintained an average investment balance of $25.5 billion. However, due to a temporary shortage of overnight investment opportunities in the financial markets at both March 31, 2015 and December 31, 2014, our investments balance at both quarter ends declined below the average for the quarter.
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GSE Debt Obligations
The following table summarizes the carrying value of our investments in GSE debt obligations as of March 31, 2015 and December 31, 2014.
As of | As of | |||||||
March 31, 2015 | December 31, 2014 | |||||||
(in thousands) | ||||||||
Freddie Mac | $ | 1,119,588 | $ | 1,111,177 | ||||
Fannie Mae | 304,266 | 302,310 | ||||||
FFCB | 432,621 | 428,415 | ||||||
TVA | 449,238 | 439,652 | ||||||
Total | $ | 2,305,713 | $ | 2,281,554 |
MBS Investments
Our MBS investments represented 283.1% and 298.9% of our regulatory capital as of March 31, 2015 and December 31, 2014. FHFA regulation limits our investments in MBS (including PLMBS) and mortgage-related asset-backed securities (such as those backed by home equity loans or SBA loans) by requiring that the total book value of such securities owned by us on the day we purchase the securities does not exceed 300% of our previous month-end regulatory capital. As of March 31, 2015 and December 31, 2014, our MBS investments included $1.9 billion in Freddie Mac MBS and $5.4 billion and $4.3 billion in Fannie Mae MBS. See “—Credit Risk” below for credit ratings relating to our MBS investments as of March 31, 2015 and December 31, 2014.
During the three months ended March 31, 2015, we sold our PLMBS portfolio for total proceeds of $1.6 billion. As of March 31, 2015, we had reinvested $871.8 million of the sale proceeds in GSE MBS, primarily floating interest-rate securities. The remaining proceeds were temporarily reinvested in short-term investments and we continue to evaluate investment opportunities to bring our MBS up to or near the 300% of capital regulatory limit prior to the anticipated closing of the Merger. With this in mind and considering that our anticipated capital stock repurchases prior to the closing of the Merger could result in the Continuing Bank having a MBS portfolio immediately following the effective date of the Merger (and the Des Moines Bank’s “purchase” of the Seattle Bank assets for accounting purposes) exceeding the 300% of capital regulatory limit, we have secured the commitment of the FHFA that it would not take action in the case of such a result. We sold no AFS securities during the first quarter of 2014.
Credit Risk
We are subject to credit risk on our long- and short-term investments. We actively monitor our credit exposures and the credit quality of our counterparties, including an assessment of each counterparty's financial performance, capital adequacy, and sovereign support, as well as related market signals. As a result of these monitoring activities, we may limit or suspend additional exposures, as appropriate.
In addition, we are subject to regulatory limits on our unsecured portfolio. We limit our unsecured credit exposure to any counterparty based on the credit quality and capital level of the counterparty and the capital level of the Seattle Bank. Our unsecured credit exposure to U.S. government-sponsored agencies or instrumentalities is generally limited to the lesser of 100% of our total regulatory capital or 100% of the capital of the government-sponsored agency or instrumentality. For other unsecured counterparties, the maximum allowable credit exposure is based on the counterparty's nationally recognized statistical rating organization credit rating and a corresponding factor prescribed by regulation that is applied to the lower of the counterparty's Tier 1 capital and the Seattle Bank's regulatory capital.
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Short-term investments are transacted with large financial institutions that we determine to be of investment quality. Within this portfolio of short-term investments, we face credit risk from unsecured exposures on certain investments. The following table presents our short-term unsecured credit exposure by type of investment as of March 31, 2015 and December 31, 2014. This table excludes those investments with implicit or explicit government guarantees and does not include related accrued interest receivable.
As of | As of | |||||||
March 31, 2015 | December 31, 2014 | |||||||
(in thousands) | ||||||||
Federal funds sold | $ | 2,940,800 | $ | 4,058,800 | ||||
Certificates of deposit | — | 356,000 | ||||||
Total | $ | 2,940,800 | $ | 4,414,800 |
We are prohibited by regulation, without FHFA waiver, from investing in financial instruments issued by non-U.S. entities other than those issued by U.S. branches and agency offices of foreign commercial banks. Our unsecured credit exposure to U.S. branches and agency offices of foreign commercial banks includes the risk that, as a result of political or economic conditions in a foreign country, the counterparty may be unable to meet its contractual repayment obligations. Our unsecured credit exposure to domestic counterparties and U.S. subsidiaries of foreign commercial banks includes the risk that these counterparties have extended credit to foreign counterparties. We are in compliance with the regulation and did not own any financial instruments issued by non-U.S. entities other than those issued by U.S. branches and agency offices of foreign commercial banks as of March 31, 2015.
We reduce the credit risk on short-term unsecured investments by generally investing in investments that have maturities of less than three months. The following table presents our short-term unsecured investments as of March 31, 2015, by remaining contractual terms to maturity and the domicile of the counterparty or, for U.S. branches and agency offices of foreign commercial banks, the domicile of the counterparty's headquarters or, as applicable, the domicile of the parent.
Carrying Value as of March 31, 2015 | ||||||||||||||||
Overnight | Two Days through 30 Days | 31 Days through 90 Days | Total | |||||||||||||
(in thousands) | ||||||||||||||||
U.S. branches and agency offices of foreign commercial banks: | ||||||||||||||||
Canada | $ | 181,800 | $ | 612,000 | $ | — | $ | 793,800 | ||||||||
Netherlands | 463,000 | — | — | 463,000 | ||||||||||||
Sweden | — | — | 375,000 | 375,000 | ||||||||||||
Australia | — | 100,000 | 746,000 | 846,000 | ||||||||||||
Norway | 223,000 | 240,000 | — | 463,000 | ||||||||||||
Total | $ | 867,800 | $ | 952,000 | $ | 1,121,000 | $ | 2,940,800 | ||||||||
Percentage of total carrying value | 29.5 | % | 32.4 | % | 38.1 | % | 100.0 | % |
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We also reduce the credit risk on short-term unsecured investments by investing in highly-rated investments. The following table presents our short-term unsecured investments as of March 31, 2015 by the counterparty credit ratings and the domicile of the counterparty or, for U.S. branches and agency offices of foreign commercial banks, the domicile of the counterparty's headquarters or, as applicable, the domicile of the parent.
Carrying Value as of March 31, 2015 | ||||||||||||
AA | A | Total | ||||||||||
(in thousands) | ||||||||||||
U.S. branches and agency offices of foreign commercial banks: | ||||||||||||
Canada | $ | 372,000 | $ | 421,800 | $ | 793,800 | ||||||
Netherlands | — | 463,000 | 463,000 | |||||||||
Sweden | 375,000 | — | 375,000 | |||||||||
Australia | 846,000 | — | 846,000 | |||||||||
Norway | — | 463,000 | 463,000 | |||||||||
Total | $ | 1,593,000 | $ | 1,347,800 | $ | 2,940,800 |
Within our portfolio of long-term investments, we were primarily subject to credit risk related to residential PLMBS. During March 2015, in connection with the Merger, we sold all of our PLMBS. The proceeds from the sale of our PLMBS were largely reinvested in GSE MBS and other short-term investments.
We monitor credit risk on our non-MBS investments and our U.S. agency and GSE MBS investments based on the underlying collateral or the strength of the issuers' guarantees through direct obligations or U.S. government support. The following tables summarize the carrying value of our investments by their credit ratings or the credit rating of the obligors, issuers, guarantors, or pledged collateral as of March 31, 2015 and December 31, 2014.
As of March 31, 2015 | ||||||||||||||||||||||||||||
AAA | AA | A | BBB | Below Investment Grade | Unrated | Total | ||||||||||||||||||||||
(in thousands) | ||||||||||||||||||||||||||||
Securities purchased under agreements to resell | $ | — | $ | 1,500,000 | $ | 750,000 | $ | 3,000,000 | $ | — | $ | — | $ | 5,250,000 | ||||||||||||||
Federal funds sold | — | 1,593,000 | 1,347,800 | — | — | — | 2,940,800 | |||||||||||||||||||||
Investment securities: | ||||||||||||||||||||||||||||
Other U.S. agency obligations | — | 4,179,063 | 120,251 | — | — | — | 4,299,314 | |||||||||||||||||||||
GSE and TVA | — | 2,305,713 | — | — | — | — | 2,305,713 | |||||||||||||||||||||
State or local housing agency obligations | 1,514,193 | 489,952 | — | — | — | — | 2,004,145 | |||||||||||||||||||||
Total non-MBS | 1,514,193 | 10,067,728 | 2,218,051 | 3,000,000 | — | — | 16,799,972 | |||||||||||||||||||||
MBS: | ||||||||||||||||||||||||||||
Other U.S. agency single-family MBS | — | 72,234 | — | — | — | — | 72,234 | |||||||||||||||||||||
GSE single-family MBS | — | 4,687,517 | — | — | — | — | 4,687,517 | |||||||||||||||||||||
GSE multifamily MBS | — | 2,561,016 | — | — | — | — | 2,561,016 | |||||||||||||||||||||
Total MBS | — | 7,320,767 | — | — | — | — | 7,320,767 | |||||||||||||||||||||
Total | $ | 1,514,193 | $ | 17,388,495 | $ | 2,218,051 | $ | 3,000,000 | $ | — | $ | — | $ | 24,120,739 |
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As of December 31, 2014 | ||||||||||||||||||||||||||||
AAA | AA | A | BBB | Below Investment Grade | Unrated | Total | ||||||||||||||||||||||
(in thousands) | ||||||||||||||||||||||||||||
Securities purchased under agreements to resell | $ | — | $ | — | $ | — | $ | 3,000,000 | $ | — | $ | — | $ | 3,000,000 | ||||||||||||||
Federal funds sold | — | 1,269,000 | 2,789,800 | — | — | — | 4,058,800 | |||||||||||||||||||||
Investment securities: | ||||||||||||||||||||||||||||
Certificates of deposit | — | — | 356,000 | — | — | — | 356,000 | |||||||||||||||||||||
Other U.S. agency obligations | — | 4,251,499 | 118,063 | — | — | — | 4,369,562 | |||||||||||||||||||||
GSE and TVA | — | 2,281,554 | — | — | — | — | 2,281,554 | |||||||||||||||||||||
State or local housing agency obligations | 1,537,712 | 502,527 | — | — | — | — | 2,040,239 | |||||||||||||||||||||
Total non-MBS | 1,537,712 | 8,304,580 | 3,263,863 | 3,000,000 | — | — | 16,106,155 | |||||||||||||||||||||
MBS: | ||||||||||||||||||||||||||||
Other U.S. agency single-family MBS | — | 79,289 | — | — | — | — | 79,289 | |||||||||||||||||||||
GSE single-family MBS | — | 4,620,571 | — | — | — | — | 4,620,571 | |||||||||||||||||||||
GSE multifamily MBS | — | 1,659,182 | — | — | — | — | 1,659,182 | |||||||||||||||||||||
Residential PLMBS | — | 63,046 | 26,556 | 56,643 | 1,433,428 | 1,533 | 1,581,206 | |||||||||||||||||||||
Total MBS | — | 6,422,088 | 26,556 | 56,643 | 1,433,428 | 1,533 | 7,940,248 | |||||||||||||||||||||
Total | $ | 1,537,712 | $ | 14,726,668 | $ | 3,290,419 | $ | 3,056,643 | $ | 1,433,428 | $ | 1,533 | $ | 24,046,403 |
OTTI Assessment
We evaluate each of our investments in an unrealized loss position for OTTI on a quarterly basis. As part of this process, we consider whether we intend to sell each such security and whether it is more likely than not that we would be required to sell such security before the anticipated recovery of its amortized cost basis. If either of these conditions is met, we recognize an OTTI loss in earnings equal to the difference between the security's amortized cost basis and its fair value as of the statement of condition date. If neither condition is met, we perform analyses to determine if any of these securities are other-than-temporarily impaired. Based on current information, we determined that, for our non-MBS investments and our U.S. agency and GSE MBS investments, the underlying collateral or the strength of the issuers' guarantees through direct obligations or U.S. government support is currently sufficient to protect us from losses. Further, as of March 31, 2015, the declines in market value of our non-MBS investments and U.S. agency and GSE MBS investments were considered temporary as we expect to recover the entire amortized cost basis of the remaining securities in unrealized loss positions and neither intend to sell these securities nor believe it is more likely than not that we will be required to sell them prior to their anticipated recovery.
During March 2015, in connection with the Merger, we determined that we intended to sell all of our PLMBS. As a result of this change in our intent, for PLMBS whose fair value were less than their amortized cost, we recognized an OTTI loss of $51.5 million in earnings representing the difference between the PLMBS' amortized cost and their fair value as of the date we changed our intent.
Mortgage Loans
Mortgage Loans Held for Portfolio
The par value of our mortgage loans held for portfolio consisted of $560.0 million and $586.9 million in conventional mortgage loans and $59.6 million and $62.2 million in government-guaranteed mortgage loans as of March 31, 2015 and December 31, 2014. The portfolio balance decreased for the three months ended March 31, 2015, due to our receipt of $28.9 million in principal payments.
We have not purchased mortgage loans under the Mortgage Purchase Program (MPP) since 2006 and have sold no mortgage loans since 2011. Accordingly, the weighted-average FICO scores and loan-to-value ratios at origination (i.e., values of outstanding mortgage loans as a percentage of appraised values at origination) of the loans in our conventional mortgage loan portfolio are generally stable. As of March 31, 2015 and December 31, 2014, over 96% of our conventional mortgage loans had FICO scores at origination over 660 and 93% of our conventional mortgage loan portfolio had loan-to-value ratios at origination of less than 80%.
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As of March 31, 2015 and December 31, 2014, approximately 77% of our outstanding mortgage loans held for portfolio had been purchased from our former member, Washington Mutual Bank, F.S.B., which was subsequently acquired by JPMorgan Chase Bank, N.A., a nonmember institution.
Credit Risk
The following table provides a summary of the recorded investment in mortgage loans 90 days or more past due and still accruing interest, the balance of non-accrual loans, and the activity in our allowance for credit losses on mortgage loans held for portfolio as of and for the three months ended March 31, 2015 and 2014.
As of and for the Three Months Ended March 31, | ||||||||
Past-Due and Nonaccrual Mortgage Loan Data | 2015 | 2014 | ||||||
(in thousands) | ||||||||
Total recorded investment in mortgage loans past due 90 days or more and still accruing interest | $ | 6,066 | $ | 9,674 | ||||
Non-accrual loans * | 23,291 | 30,773 | ||||||
Allowance for credit losses on mortgage loans - collectively evaluated: | ||||||||
Balance, beginning of year | 1,404 | 934 | ||||||
Charge-offs | (479 | ) | (29 | ) | ||||
Provision (benefit) for credit losses | (208 | ) | 236 | |||||
Balance, end of period | $ | 717 | $ | 1,141 |
* | A mortgage loan is placed in non-accrual status when the contractual principal or interest is 90 days or more past due. |
Key credit quality indicators for mortgage loans include the migration of past-due loans, non-accrual loans, loans in process of foreclosure, and impaired loans. See Note 8 in "Part I. Item 1. Financial Statements—Condensed Notes to Financial Statements" of this report for additional information on our mortgage loans that are delinquent or in foreclosure, troubled debt restructurings (TDRs), and our real estate owned (REO) as of March 31, 2015 and December 31, 2014.
With a delinquency rate of 10.1%, our government-guaranteed mortgage loans are exhibiting delinquency rates that are significantly higher than those of the conventional mortgages within our mortgage loans held for portfolio. This is primarily due to the relative impact of individual mortgage delinquencies on the balance of our 719 outstanding government-guaranteed mortgage loans as of March 31, 2015. We rely on Federal Housing Administration insurance, which generally provides a 100% guarantee, to protect against credit losses on this portfolio, and consequently, we do not record an allowance for credit losses on these loans. See Notes 8 and 9 in "Part II. Item 8. Financial Statements and Supplementary Data—Audited Financial Statements—Notes to Financial Statements" in our 2014 10-K for additional information on our government-guaranteed mortgage loan portfolio.
We conduct a loss reserve analysis of our conventional mortgage loan portfolio on a quarterly basis. As a result of our March 31, 2015 analysis, we determined that the credit enhancement provided by our members in the form of the lender risk account (LRA) and our previously recorded allowance for credit losses exceeded the expected credit losses on our collectively evaluated conventional mortgage loan portfolio. Accordingly, we recorded a benefit for credit losses of $208,000 for the three months ended March 31, 2015. We recorded a provision for credit losses of $236,000 for the three months ended March 31, 2014. Our allowance for credit losses for mortgage loans collectively evaluated for impairment totaled $717,000 and $1.4 million as of March 31, 2015 and December 31, 2014.
We individually evaluate our TDRs and certain other mortgage loans for impairment when determining our allowance for credit losses and typically remove the credit loss amount from the general allowance for credit losses and record it as a reduction to the mortgage loan carrying value.
A mortgage loan is reported as a TDR when: (1) we grant concessions that we would not otherwise consider, for legal or economic reasons, and the concession is accepted by the borrower, or (2) when a mortgage loan is discharged in a bankruptcy proceeding and not reaffirmed by the borrower. As of March 31, 2015 and December 31, 2014, the recorded investment in mortgage loans classified as TDRs was $18.3 million and $17.9 million.
Beginning January 1, 2015, we adopted the charge-off requirements under an advisory bulletin issued by the FHFA in April 2012 (AB 2012-02). Under this guidance, we individually evaluate mortgage loans and write them down to their collateral value less cost to sell if impairment is present. The associated charge-off is generally recorded no later than the end of the month
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in which the loan becomes 180 days past due, unless we determine that repayment is likely to occur. Loans evaluated for impairment under AB 2012-02 were previously assessed for potential losses as part of our estimation process for the general allowance for credit losses. The initial charge-off of an impaired loan under AB 2012-02 is made against the carrying value of the mortgage loan and recorded against the previously recorded general allowance for credit losses. Subsequent charge-offs of those loans are recorded directly in other income (loss) in our statements of income. For the three months ended March 31, 2015, we recorded $531,000 of charge-offs against the carrying values of our mortgage loans, of which $479,000 was recorded against our general allowance for credit losses, and $52,000 was recorded directly in other income (loss) in our statements of income.
Derivative Assets and Liabilities
We use derivatives to hedge advances, consolidated obligations, and certain AFS investments, and to manage the overall market risk of the assets and liabilities on our statements of condition. The principal derivatives we use are interest-rate exchange agreements, including swaps, caps, floors, and swaptions. We are not a derivatives dealer and do not trade derivatives for profit. See Note 9 in "Part I. Item 1. Financial Statements—Condensed Notes to Financial Statements" in this report for further information on our use of derivatives.
The following table summarizes the notional amounts and fair values of our derivatives by hedging relationship, including the effect of qualifying netting arrangements and cash collateral, as of March 31, 2015 and December 31, 2014. Changes in the notional amounts of derivatives generally reflect changes in our use of such instruments to effectively reduce our interest-rate risk and lower our cost of funds.
As of March 31, 2015 | As of December 31, 2014 | |||||||||||||||
Notional Amount | Fair Value (Loss) Gain Position Excluding Accrued Interest | Notional Amount | Fair Value (Loss) Gain Position Excluding Accrued Interest | |||||||||||||
(in thousands) | ||||||||||||||||
Advances: | ||||||||||||||||
Fair value | $ | 4,289,247 | $ | (107,928 | ) | $ | 4,218,225 | $ | (91,946 | ) | ||||||
Investments: | ||||||||||||||||
Fair value | 2,934,485 | (148,198 | ) | 2,975,041 | (94,917 | ) | ||||||||||
Consolidated obligation bonds: | ||||||||||||||||
Fair value | 10,578,909 | 48,745 | 11,386,109 | 22,699 | ||||||||||||
Non-qualifying economic hedges | 500,000 | 25 | 1,500,000 | (28 | ) | |||||||||||
Total | 11,078,909 | 48,770 | 12,886,109 | 22,671 | ||||||||||||
Consolidated obligation discount notes: | ||||||||||||||||
Fair value | 3,247,252 | 269 | 249,876 | 4 | ||||||||||||
Non-qualifying economic hedges | — | — | 499,753 | 5 | ||||||||||||
Total | 3,247,252 | 269 | 749,629 | 9 | ||||||||||||
Balance sheet: | ||||||||||||||||
Non-qualifying economic hedges | 375,000 | 219 | 375,000 | 305 | ||||||||||||
Offsetting positions: | ||||||||||||||||
Offsetting | 472,761 | (21 | ) | 472,760 | (32 | ) | ||||||||||
Total notional and fair value | $ | 22,397,654 | (206,889 | ) | $ | 21,676,764 | (163,910 | ) | ||||||||
Accrued interest at period end | 15,653 | 753 | ||||||||||||||
Cash collateral posted to counterparty - assets | 169,990 | 132,699 | ||||||||||||||
Net derivative balance | $ | (21,246 | ) | $ | (30,458 | ) | ||||||||||
Net derivative asset balance | $ | 49,545 | $ | 46,254 | ||||||||||||
Net derivative liability balance | (70,791 | ) | (76,712 | ) | ||||||||||||
Net derivative balance | $ | (21,246 | ) | $ | (30,458 | ) |
Compared to December 31, 2014, the total notional amount of derivatives hedging advances increased by $71.0 million, to $4.3 billion, as of March 31, 2015, due to an increase in the proportion of fixed interest-rate advances hedged during the period. Compared to December 31, 2014, the total notional amount of derivatives hedging consolidated obligation bonds and discount notes increased by $690.4 million, to $14.3 billion, as of March 31, 2015, primarily due to our increased use of term consolidated obligation discount notes that were hedged with derivatives.
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Credit Risk
We transact our derivative agreements with large banks and major broker-dealers. Some of these banks and broker-dealers or their affiliates also buy, sell, and distribute FHLBank consolidated obligations. We enter into derivative transactions with highly regulated financial institutions or broker-dealers (bilateral derivatives) or, for cleared derivatives, with an executing broker and cleared through a futures commission merchant (clearing member) that is a member of a derivatives clearing organization (clearinghouse).
We are exposed to credit risk on our derivatives because of potential counterparty nonperformance. The degree of counterparty credit risk on derivatives depends on our selection of counterparties and the extent to which we use netting arrangements and other credit enhancements to mitigate the risk. We manage counterparty credit risk through credit analysis, collateral management, and other credit enhancements. See Note 9 in "Part I. Item 1. Financial Statements—Condensed Notes to Financial Statements" in this report for further information regarding credit risk associated with derivatives. The following is a description of the specific measures we employ by derivative type.
Cleared Derivatives
The requirement that we post initial and variation margin to the clearinghouse through the clearing member exposes us to institutional credit risk in the event that the clearing member or the clearinghouse fails to meet its obligations. However, the use of cleared derivatives mitigates certain credit risk exposure because a central counterparty is substituted for individual counterparties and collateral is posted daily through a clearing member based on changes in the value of cleared derivatives. We do not anticipate any credit losses on our cleared derivatives.
Bilateral Derivatives
We are exposed to nonperformance by the counterparties to bilateral derivative agreements. We require netting arrangements to be in place for all bilateral counterparties. These arrangements include provisions for netting exposures across all transactions with that counterparty. The arrangements also contain collateral delivery thresholds requiring the counterparty to deliver collateral to us if the total exposure to that counterparty exceeds a specific threshold limit. The amount of net unsecured credit exposure that is permissible with respect to each bilateral counterparty depends on the counterparty's credit rating and the arrangement we have with that counterparty. We do not anticipate any credit losses on our bilateral derivative agreements.
We define "maximum counterparty credit risk" on our derivatives to be the estimated cost of replacing derivatives in a net asset position if the counterparty defaults. For this calculation, we assume the related non-cash collateral, if any, has no value. In determining the maximum counterparty credit risk on our derivatives, we consider accrued interest receivables and payables and the legal right to offset derivative assets and liabilities by counterparty. As of March 31, 2015 and December 31, 2014, our maximum counterparty credit risk, taking into consideration netting arrangements, was $15.6 million and $18.5 million, including $7.6 million and $5.7 million of net accrued interest receivable, and we held no cash collateral from our counterparties. We held $7.7 million and $8.7 million of securities collateral, consisting of GSE and U.S. Treasury securities, from our counterparties as of March 31, 2015 and December 31, 2014. We do not include the fair value of securities collateral from our counterparties in our derivative asset or liability balances on our statements of condition. Changes in maximum counterparty credit risk and net exposure after considering collateral on our derivatives are primarily due to changes in market conditions.
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The following tables present by credit rating, as applicable, the total notional and credit exposure to counterparties with which we had credit exposure (i.e., derivatives in a net asset position on our statements of condition) as of March 31, 2015 and December 31, 2014.
As of March 31, 2015 | ||||||||||||||||
Total Notional | Credit Exposure Net of Cash Collateral | Other Collateral Held | Net Credit Exposure | |||||||||||||
(in thousands) | ||||||||||||||||
AA | $ | 245,000 | $ | 617 | $ | — | $ | 617 | ||||||||
A | 3,357,455 | 14,940 | 7,671 | 7,269 | ||||||||||||
Cleared derivatives * | 9,060,761 | 33,988 | — | 33,988 | ||||||||||||
Total | $ | 12,663,216 | $ | 49,545 | $ | 7,671 | $ | 41,874 |
As of December 31, 2014 | ||||||||||||||||
Total Notional | Credit Exposure Net of Cash Collateral | Other Collateral Held | Net Credit Exposure | |||||||||||||
(in thousands) | ||||||||||||||||
AA | $ | 245,000 | $ | 137 | $ | — | $ | 137 | ||||||||
A | 3,915,455 | 18,391 | 8,699 | 9,692 | ||||||||||||
Cleared derivatives * | 6,281,789 | 27,726 | — | 27,726 | ||||||||||||
Total | $ | 10,442,244 | $ | 46,254 | $ | 8,699 | $ | 37,555 |
* | Represents derivative transactions cleared with a clearinghouse. Exposure includes initial and variation margins, changes in fair value of cleared derivatives, and net interest receivable/payable. |
The following table presents our derivative asset and liability positions by counterparty credit ratings, presented by the domicile of the counterparty or, for U.S. branches and agency offices of foreign commercial banks, the domicile of the counterparty's headquarters (or, as applicable, the domicile of its parent), as of March 31, 2015.
As of March 31, 2015 | ||||||||||||||||||||||||
Derivatives by counterparty credit ratings | Notional Amount | AA | A | BBB | Cleared | Total | ||||||||||||||||||
(in thousands) | ||||||||||||||||||||||||
Counterparties in net derivative asset positions: | ||||||||||||||||||||||||
Domestic | $ | 12,638,216 | $ | 617 | $ | 14,805 | $ | — | $ | 33,988 | $ | 49,410 | ||||||||||||
U.S. branches and agency offices of foreign commercial banks | ||||||||||||||||||||||||
Switzerland | 25,000 | — | 135 | — | — | 135 | ||||||||||||||||||
Total counterparties in net derivative asset positions | $ | 12,663,216 | $ | 617 | $ | 14,940 | $ | — | $ | 33,988 | $ | 49,545 | ||||||||||||
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As of March 31, 2015 | ||||||||||||||||||||||||
Derivatives by counterparty credit ratings (continued) | Notional Amount | AA | A | BBB | Cleared | Total | ||||||||||||||||||
(in thousands) | ||||||||||||||||||||||||
Counterparties in net derivative liability positions: | ||||||||||||||||||||||||
Domestic | $ | 4,255,630 | $ | — | $ | 21,360 | $ | 2,776 | $ | — | $ | 24,136 | ||||||||||||
U.S. subsidiaries of foreign commercial banks | 278,551 | — | 27,081 | — | — | 27,081 | ||||||||||||||||||
Total | 4,534,181 | — | 48,441 | 2,776 | — | 51,217 | ||||||||||||||||||
U.S. branches and agency offices of foreign commercial banks | ||||||||||||||||||||||||
United Kingdom | 302,000 | — | 1,375 | — | — | 1,375 | ||||||||||||||||||
Germany | 1,964,824 | — | 17,926 | — | — | 17,926 | ||||||||||||||||||
France | 2,395,433 | — | 17 | — | — | 17 | ||||||||||||||||||
Switzerland | 538,000 | — | 256 | — | — | 256 | ||||||||||||||||||
Total | 5,200,257 | — | 19,574 | — | — | 19,574 | ||||||||||||||||||
Total counterparties in net derivative liability positions | $ | 9,734,438 | $ | — | $ | 68,015 | $ | 2,776 | $ | — | $ | 70,791 | ||||||||||||
Total notional | $ | 22,397,654 |
We believe that the credit risk on our bilateral and cleared derivative agreements is relatively modest because we contract with counterparties that are of high credit quality, and we have collateral and netting arrangements in place with each counterparty.
Consolidated Obligations and Other Funding Sources
Our principal sources of funding are consolidated obligation discount notes and bonds issued on our behalf by the Office of Finance as our agent and, to a significantly lesser extent, capital stock issuances, deposits, and other borrowings. Although we are jointly and severally liable for all consolidated obligations issued by the Office of Finance on behalf of all of the FHLBanks, we report only the portion of consolidated obligations for which we are the primary obligor.
We seek to match, to the extent possible, the anticipated cash flows of our debt to the anticipated cash flows of our assets. When interest rates rise and all other factors remain unchanged, borrowers (and issuers of callable investments) tend to refinance their debt more slowly than originally anticipated; when interest rates fall, borrowers tend to refinance their debt more rapidly than originally anticipated. We use a combination of bullet and callable debt in seeking to manage the risks from the variability of anticipated cash flows of our fixed interest-rate mortgage-related assets and callable investments, using a variety of prepayment scenarios.
With callable debt, we have the option to repay the obligation without penalty prior to the contractual maturity date of the debt obligation, while with bullet debt, we generally repay the obligation at maturity. Our callable debt is predominantly fixed interest-rate debt that may be used to fund our fixed interest-rate assets or that may be swapped to LIBOR and used to fund variable interest-rate advances and investments. The call feature embedded in an interest-rate swap is generally matched to the call feature in the consolidated obligation, giving the swap counterparty the right to cancel the swap under certain circumstances. To the extent we continue to have variable interest-rate advances or investments or other short-term assets, we attempt to replace the called debt with new callable debt that is generally swapped to LIBOR. When appropriate, we use this type of structured funding to reduce our funding costs and manage our liquidity and interest-rate risk.
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The following table summarizes the carrying value of our consolidated obligations by type as of March 31, 2015 and December 31, 2014.
As of | As of | |||||||
March 31, 2015 | December 31, 2014 | |||||||
(in thousands) | ||||||||
Discount notes | $ | 14,232,389 | $ | 14,940,178 | ||||
Bonds | 14,948,504 | 16,850,429 | ||||||
Total | $ | 29,180,893 | $ | 31,790,607 |
Total consolidated obligation balances decreased by $2.6 billion as of March 31, 2015, compared to December 31, 2014, primarily due to reduced funding needs related to the decline in outstanding advances caused by the maturity of $1.5 billion in BANA advances during the quarter.
Our outstanding consolidated obligation discount notes decreased by $706.2 million, to a par amount of $14.2 billion as of March 31, 2015, from a par amount of $14.9 billion as of December 31, 2014. Outstanding consolidated obligation bonds decreased by $1.9 billion to a par amount of $14.8 billion as of March 31, 2015, from a par amount of $16.7 billion as of December 31, 2014. The par value of consolidated obligation discount notes as a percentage of the total par value of consolidated obligations increased to 49.0% as of March 31, 2015, compared to 47.2% as of December 31, 2014, reflecting a shift to the use of consolidated obligation discount notes as of March 31, 2015, based on our preference for the instruments and the more attractive cost of funds.
The following table summarizes the outstanding balances, weighted-average interest rates, and highest outstanding monthly ending balance on our short-term debt (i.e., consolidated obligations with original maturities of one year or less from issuance date) as of and for the three months ended March 31, 2015 and the year ended December 31, 2014.
As of and For the Three Months Ended March 31, 2015 | As of and For the Year Ended December 31, 2014 | |||||||||||||||
Consolidated Obligations | Consolidated Obligations | |||||||||||||||
Discount Notes | Bonds with Original Maturities of One Year or Less | Discount Notes | Bonds with Original Maturities of One Year or Less | |||||||||||||
(in thousands, except percentages) | ||||||||||||||||
Outstanding balance as of period end (par) | $ | 14,235,342 | $ | 2,730,000 | $ | 14,941,527 | $ | 2,730,000 | ||||||||
Weighted-average interest rate as of period end | 0.09 | % | 0.18 | % | 0.07 | % | 0.14 | % | ||||||||
Daily average outstanding for the period (par) | $ | 17,782,519 | $ | 2,193,889 | $ | 15,725,012 | $ | 3,078,562 | ||||||||
Weighted-average interest rate for the period | 0.08 | % | 0.16 | % | 0.06 | % | 0.12 | % | ||||||||
Highest outstanding balance at any month-end for the period | $ | 18,500,174 | $ | 2,730,000 | $ | 17,221,112 | $ | 5,190,000 |
The following table summarizes our consolidated obligation bonds by interest-rate type as of March 31, 2015 and December 31, 2014.
As of March 31, 2015 | As of December 31, 2014 | |||||||||||
Par Value | Percent of Total Par Value | Par Value | Percent of Total Par Value | |||||||||
(in thousands, except percentages) | ||||||||||||
Fixed | $ | 13,655,920 | 92.1 | $ | 14,988,420 | 89.5 | ||||||
Step-up * | 895,000 | 6.0 | 1,382,200 | 8.3 | ||||||||
Variable | 75,000 | 0.5 | 175,000 | 1.0 | ||||||||
Capped variable | 200,000 | 1.4 | 200,000 | 1.2 | ||||||||
Total par value | $ | 14,825,920 | 100.0 | $ | 16,745,620 | 100.0 |
* | The interest rates on step-up consolidated obligation bonds are fixed rates that increase at contractually specified dates. |
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Fixed interest-rate consolidated obligation bonds decreased by $1.3 billion, to $13.7 billion, as of March 31, 2015, from December 31, 2014, primarily due to a decrease in our fixed-rate callable consolidated obligation bonds (included in the fixed interest-rate consolidated obligation bonds) outstanding of $1.2 billion, to $5.4 billion, as of March 31, 2015, compared to December 31, 2014. Similarly, step-up consolidated obligation bonds decreased by $487.2 million, to $895.0 million, as of March 31, 2015, from December 31, 2014. The decline in our overall consolidated obligation bond portfolio reflected a shift to the use of more favorably priced consolidated obligation discount notes during the quarter.
The following table summarizes our outstanding consolidated obligation bonds by year of remaining contractual term-to-maturity as of March 31, 2015 and December 31, 2014.
As of March 31, 2015 | As of December 31, 2014 | |||||||||||
Amount | Weighted- Average Interest Rate | Amount | Weighted- Average Interest Rate | |||||||||
(in thousands, except interest rates) | ||||||||||||
Due in one year or less | $ | 6,293,660 | 0.63 | $ | 6,209,660 | 0.37 | ||||||
Due after one year through two years | 1,353,000 | 0.74 | 2,813,500 | 1.04 | ||||||||
Due after two years through three years | 2,463,000 | 1.44 | 2,558,000 | 1.34 | ||||||||
Due after three years through four years | 1,545,650 | 1.90 | 1,524,650 | 1.90 | ||||||||
Due after four years through five years | 1,851,245 | 2.92 | 1,958,245 | 2.83 | ||||||||
Thereafter | 1,319,365 | 3.61 | 1,681,565 | 3.11 | ||||||||
Total par value | 14,825,920 | 1.46 | 16,745,620 | 1.33 | ||||||||
Premiums | 5,030 | 5,273 | ||||||||||
Discounts | (7,851 | ) | (8,222 | ) | ||||||||
Hedging adjustments | 125,492 | 107,787 | ||||||||||
Fair value option valuation adjustments | (87 | ) | (29 | ) | ||||||||
Total | $ | 14,948,504 | $ | 16,850,429 |
The weighted-average interest rate on our consolidated obligation bonds increased to 1.46% as of March 31, 2015, from 1.33% as of December 31, 2014, as lower-cost short-term consolidated obligation bonds matured.
Other Funding Sources
Member deposits are a source of funds for the Seattle Bank that offers our members a liquid, low-risk investment. We offer demand and term deposit programs to our members and to other eligible depositors. There is no requirement for members or other eligible depositors to maintain balances with us and, as a result, these balances fluctuate. Deposits decreased by $33.1 million, to $377.7 million, as of March 31, 2015, compared to $410.8 million as of December 31, 2014. Demand deposits comprised the largest percentage of deposits, representing 65.7% and 68.3% of deposits as of March 31, 2015 and December 31, 2014. Deposit levels and types of deposits generally vary based on the interest rates paid to our members, as well as on our members' liquidity levels and market conditions.
Capital Resources and Liquidity
Our capital resources consist of capital received in consideration for Seattle Bank stock held by our members and nonmember shareholders (i.e., former members that own capital stock as a result of a merger with or acquisition by an institution that is not a member of the Seattle Bank) and retained earnings. The amount of our capital resources does not take into account our joint and several liability for the consolidated obligations of other FHLBanks. Our principal sources of liquidity are the proceeds from the issuance of consolidated obligations and proceeds from liquidation of our short-term investments.
Capital Resources
Our total capital increased by $70.7 million, to $1.3 billion, as of March 31, 2015, from December 31, 2014, primarily due to recognition of net unrealized gains upon reclassification of HTM securities to AFS securities, improvements in the fair values of our AFS investments, and our net income for the three months ended March 31, 2015, partially offset by transfers of capital stock to MRCS.
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Seattle Bank Stock
The Seattle Bank has two classes of capital stock, Class A (which we no longer issue) and Class B. All of our capital stock is issued, redeemed, repurchased, and transferred between members at $100 per share. Pursuant to our capital plan, Class B capital stock satisfies both the membership stock purchase and activity-based stock purchase requirements, while Class A capital stock satisfies only the activity-based stock purchase requirement. Class A capital stock has a six-month statutory redemption period, and Class B capital stock has a five-year statutory redemption period. The following table details our outstanding capital stock as of March 31, 2015 and December 31, 2014.
As of March 31, 2015 | As of December 31, 2014 | |||||||||||||||
Class A Capital Stock | Class B Capital Stock | Class A Capital Stock | Class B Capital Stock | |||||||||||||
(in thousands) | ||||||||||||||||
Capital stock classified within equity on the statements of condition | $ | 31,421 | $ | 824,435 | $ | 33,196 | $ | 824,887 | ||||||||
Capital stock classified as MRCS within liabilities on the statements of condition | 43,507 | 1,319,181 | 49,225 | 1,405,248 | ||||||||||||
Total capital stock | $ | 74,928 | $ | 2,143,616 | $ | 82,421 | $ | 2,230,135 |
See Note 11 in "Part I. Item 1. Financial Statements—Condensed Notes to Financial Statements" of this report for additional information on our capital stock, including membership stock purchase and activity-based stock purchase requirements and the requirements for utilization of our excess stock pool.
In September 2012, the FHFA approved our proposal for an excess capital stock repurchase program and granted us
the authority to repurchase up to $25 million of excess capital stock per quarter at par ($100 per share), provided: (1) our
financial condition—measured primarily by our MVE-to-PVCS ratio—does not deteriorate; (2) the excess stock repurchases from
the bank's shareholders are handled on a pro-rata basis; and (3) we receive FHFA non-objection for each quarter's repurchase. In February 2014, we implemented a separate excess capital stock redemption program, with FHFA non-objection, to redeem up to $75 million per quarter of excess capital stock on which the redemption waiting period has been satisfied.
The Amended Consent Arrangement requires that we request and obtain FHFA non-objection for repurchases and redemptions of capital stock and prescribes the contents of the requests. Under this authority, in the first quarter of 2015, we repurchased $98.6 million, including repurchases of $23.6 million and redemptions of $75.0 million, of excess capital stock. Since implementing the programs, we have repurchased a total of $637.9 million of excess capital stock. In addition, we also repurchased $12.0 million, including $7.6 million in first quarter of 2015, of excess Class B stock that had been purchased by members on or after October 27, 2010 for activity purposes (which type of repurchase we are authorized to make without regard to amount).
Mandatorily Redeemable Capital Stock
We reclassify capital stock subject to redemption from equity to a liability when a member submits a written request for redemption of excess capital stock, formally gives notice of intent to withdraw from membership, or otherwise attains nonmember status by merger or acquisition, charter termination, or involuntary termination from membership. Reclassifications are recorded at fair value on the date the written redemption request is received or the effective date of attaining nonmember status. On a quarterly basis, we evaluate the outstanding excess stock balances (i.e., stock not being used to fulfill either membership or activity-based stock requirements) of members with outstanding redemption requests and adjust the amount of capital stock classified as a liability accordingly. We reclassify capital stock subject to redemption from a liability to equity if a member cancels its written request for redemption of excess capital stock.
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The following table presents the amount of MRCS by year of scheduled redemption as of March 31, 2015. The year of redemption in the table reflects the end of the six-month or five-year redemption periods, as applicable.
As of March 31, 2015 | ||||||||
Class A Capital Stock | Class B Capital Stock | |||||||
(in thousands) | ||||||||
Less than one year | $ | 786 | $ | 30,938 | ||||
One year through two years | — | 17,463 | ||||||
Two years through three years | — | 7,853 | ||||||
Three years through four years | — | 545,773 | ||||||
Four years through five years | — | 84,270 | ||||||
Past contractual redemption date due to remaining activity (1) (3) | 201 | 32,137 | ||||||
Past contractual redemption date due to regulatory action (2) (3) | 42,520 | 600,747 | ||||||
Total | $ | 43,507 | $ | 1,319,181 |
(1) | Represents MRCS that is past the end of the contractual redemption period because there is activity outstanding to which the MRCS relates. Dates assume payments of advances and mortgage loans at final maturity. |
(2) | Represents MRCS that is past the end of the contractual redemption period because of FHFA restrictions limiting our ability to redeem capital stock. |
(3) | In April 2015, following FHFA non-objection, we announced that, in connection with the Merger, we will repurchase all excess Class A and Class B MRCS with respect to which the contractual redemption period has expired, prior to the anticipated closing of the Merger. The actual amount repurchased will depend on outstanding activity. |
The number of shareholders with MRCS decreased to 76 as of March 31, 2015, from 77 as of December 31, 2014. The Class B capital stock in the table above includes $450.9 million and $542.3 million in Class B capital stock held by nonmembers JPMorgan Chase Bank, N.A. and BANA.
In connection with the Merger, the Board approved the redemption of all excess Class A and Class B MRCS with respect to which the redemption period has expired. The redemption would take place prior to the anticipated closing of the Merger.
Dividends
Generally under our capital plan, our Board can declare and pay dividends, in either cash or capital stock, from retained earnings or current earnings, unless otherwise prohibited. Under the provisions of the Amended Consent Arrangement, we must obtain written non-objection from the FHFA prior to paying dividends on our capital stock. Beginning in the third quarter of 2013, with FHFA non-objection, we have paid a $0.025 per share dividend every quarter. Total dividends paid since the third quarter of 2013 totaled $4.6 million, of which $1.6 million was recorded as dividends on capital stock and $3.0 million was recorded as interest expense on MRCS on our statements of income.
In addition, our Board declared a $0.025 per share cash dividend, based on first quarter 2015 net income. With FHFA non-objection, the dividend was paid on April 30, 2015 and totaled $576,000, of which $215,000 was recorded as dividends on capital stock and $361,000 was recorded as interest expense on MRCS.
In connection with the Merger, the Board approved a $0.0168 per share prorated cash dividend, which will be based on average Class A and Class B stock outstanding from April 1, 2015 to May 26, 2015, and paid immediately prior to the anticipated closing of the Merger.
See "—Capital Classification" and "—Consent Arrangements" below and "Part II. Item 5. Market for Registrant's Common Equity, Related Stockholder Matters and Issuer Purchases of Equity Securities—Dividends" and Note 14 in "Part II. Item 8. Financial Statements and Supplementary Data—Audited Financial Statements—Notes to Financial Statements" in our 2014 10-K for additional information on dividends and dividend restrictions.
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Retained Earnings
We reported retained earnings of $356.6 million as of March 31, 2015, an increase of $10.2 million from $346.4 million as of December 31, 2014, with the increase primarily due to our net income for the three months ended March 31, 2015, partially offset by our dividend payments made in 2015.
In accordance with the Joint Capital Enhancement Agreement (Capital Agreement), during the first three months of 2015, we allocated $2.1 million of our net income to restricted retained earnings and $8.4 million to unrestricted retained earnings. As of March 31, 2015, our restricted retained earnings balance totaled $65.0 million. See Note 11 in "Part I. Item 1. Financial Statements—Condensed Notes to Financial Statements" in this report for additional detail relating to the Capital Agreement.
Accumulated Other Comprehensive Income
Our AOCI improved to $64.2 million as of March 31, 2015, from $1.6 million as of December 31, 2014, primarily due to the recognition of $58.2 million of unrealized gains upon the reclassification of investment securities to AFS and to improvements in the market values of the bank's other AFS securities. See "Part I. Item 1. Financial Statements—Statements of Comprehensive Income" and Note 11 in "Part I. Item 1. Financial Statements—Condensed Notes to Financial Statements" in this report for additional detail relating to AOCI for the three months ended March 31, 2015 and 2014.
Capital Requirements
We are subject to three capital requirements under our capital plan and FHFA rules and regulations: risk-based capital, regulatory capital-to-assets ratio, and leverage capital-to-assets ratio. We complied with all of these capital requirements as of March 31, 2015 and December 31, 2014.
• | Risk-based capital. We must maintain at all times permanent capital, defined as Class B capital stock (including Class B MRCS) and retained earnings as defined according to GAAP, in an amount at least equal to the sum of our credit-risk, market-risk, and operational-risk capital requirements, all of which are calculated in accordance with the rules and regulations of the FHFA. |
• | Regulatory capital-to-assets ratio. We are required to maintain at all times a regulatory capital-to-assets ratio of at least 4.00%. Total regulatory capital is the sum of permanent capital (including Class B capital stock, Class B MRCS, and retained earnings), Class A capital stock (including Class A MRCS), any general loss allowance (if consistent with GAAP and not established for specific assets), and other amounts from sources determined by the FHFA as available to absorb losses. Total regulatory capital does not include AOCI, but does include MRCS. |
• | Leverage capital-to-assets ratio. We are required to maintain at all times a leverage capital-to-assets ratio of at least 5.00%. Leverage capital is defined as the sum of: (1) permanent capital weighted by a 1.5 multiplier plus (2) all other capital without a weighting factor. |
The FHFA may require us to maintain capital levels in excess of the regulatory minimums described above.
The following table presents our regulatory capital requirements compared to our actual capital positions as of March 31, 2015.
As of March 31, 2015 | ||||||||
Required | Actual | |||||||
(in thousands, except for ratios) | ||||||||
Risk-based capital | $ | 560,683 | $ | 2,500,221 | ||||
Regulatory capital-to-assets ratio | 4.00 | % | 7.74 | % | ||||
Total regulatory capital | $ | 1,330,458 | $ | 2,575,149 | ||||
Leverage capital-to-assets ratio | 5.00 | % | 11.50 | % | ||||
Leverage capital | $ | 1,663,072 | $ | 3,825,260 |
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Capital Classification
Since September 2012, the Seattle Bank has been determined by the FHFA to be adequately capitalized; however, we remain subject to the requirements stipulated in the Amended Consent Arrangement as discussed below. Until the FHFA determines that we have met the requirements of the Amended Consent Arrangement, we expect to continue to be required to obtain FHFA non-objection prior to redeeming, repurchasing, or paying dividends on capital stock.
Consent Arrangements
In October 2010, the Seattle Bank entered into the 2010 Consent Arrangement, which set forth certain requirements regarding our financial performance, capital management, asset composition, and other operational and risk management improvements, and placed restrictions on our redemptions and repurchases of capital stock and our payment of dividends. Since 2010, we have developed and implemented numerous plans and policies to address the 2010 Consent Arrangement requirements and remediate associated supervisory concerns, and our financial performance has improved significantly.
In November 2013, the Seattle Bank entered into the Amended Consent Arrangement with the FHFA, which superseded the 2010 Consent Arrangement. Although the Amended Consent Arrangement requires us to continue adhering to the terms of plans and policies that we adopted to address the 2010 Consent Arrangement requirements, we are no longer subject to other requirements, including minimum financial metrics and detailed monthly tracking and reporting.
The Amended Consent Arrangement requires that:
• | We develop and submit an asset composition plan acceptable to the FHFA for increasing advances and other CMA assets as a proportion of our consolidated obligations and, upon approval by the FHFA, implement such plan; |
• | We obtain written non-objection from the FHFA prior to repurchasing or redeeming any excess capital stock or paying dividends on our capital stock; and |
• | Our Board monitors our adherence to the Amended Consent Arrangement. |
The Amended Consent Arrangement will remain in effect until modified or terminated by the FHFA and does not prevent the FHFA from taking any other action affecting the Seattle Bank that, at the sole discretion of the FHFA, it deems appropriate in fulfilling its supervisory responsibilities. If the Merger is completed, the FHFA is expected to terminate the Amended Consent Arrangement. See "Part I. Item 1A. Risk Factors" section of our 2014 10-K for further discussion of the Amended Consent Arrangement.
Liquidity
We are required to maintain the following liquidity measures in accordance with federal laws and regulations and policies established by our Board: a deposit reserve requirement, an operational liquidity requirement, and a contingency liquidity requirement. In addition, in their asset and liability management planning, many members look to the Seattle Bank as a source of standby liquidity. We seek to meet our members' credit and liquidity needs, while complying with regulatory requirements and Board-established policies. We actively manage our liquidity to preserve our access to stable, reliable, and cost-effective sources of funds to meet all current and future financial obligations and commitments.
Our primary sources of liquidity are the proceeds of new consolidated obligation issuances and proceeds from liquidation of short-term investments. Our secondary sources of liquidity consist of other short-term borrowings, including federal funds purchased and securities sold under agreements to repurchase. Member deposits, capital, and proceeds from liquidation of securities classified as AFS are also liquidity sources. To ensure that adequate liquidity is available to meet our requirements, we monitor and forecast our future cash flows and anticipated member liquidity needs, and we adjust our funding and investment strategies accordingly. Our access to liquidity may be negatively affected by, among other things, changes in demand for FHLBank System debt or regulatory action that would limit debt issuances.
Federal regulations require the FHLBanks to maintain, in the aggregate, unpledged qualifying assets equal to the consolidated obligations outstanding. Qualifying assets are cash, secured advances, assets with an assessment or rating at least equivalent to the current assessment or rating of the consolidated obligations, mortgage loans, or other securities that are issued by the U.S. government or its agencies, and securities in which fiduciary and trust funds may invest under the laws of the state in which the FHLBank is located. We were in compliance with this requirement as of March 31, 2015 and December 31, 2014.
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Deposit Reserve Requirement
The following table presents the components of the deposit reserve requirement as of March 31, 2015 and December 31, 2014.
As of | As of | |||||||
March 31, 2015 | December 31, 2014 | |||||||
(in thousands) | ||||||||
Total eligible deposit reserves | $ | 7,069,784 | $ | 9,039,842 | ||||
Less: Total member deposits | (377,743 | ) | (410,773 | ) | ||||
Excess deposit reserves | $ | 6,692,041 | $ | 8,629,069 |
Operational Liquidity Requirement
FHFA regulation also requires us to establish a day-to-day operational liquidity policy, including a methodology for determining our operational liquidity needs and an enumeration of specific types of investments to be held for such liquidity purposes. Unlike contingency liquidity, operational liquidity includes ongoing access to the capital markets. We maintained operational liquidity in accordance with federal laws and regulations and policies established by our Board at all times to date in 2015 and during 2014.
Contingency Liquidity Requirement
Contingency liquidity requirements are intended to ensure that we have sufficient sources of funding to meet our operational requirements when our access to the capital markets, including our ability to issue consolidated obligations, is impeded for a maximum of five business days due to, among other things, a market disruption, operations failure, or problem with the FHLBank System's credit quality. We have satisfied our contingency liquidity requirement if our contingent liquidity sources exceed or are equal to our contingent liquidity needs for a period of five consecutive business days. We met our contingency liquidity requirement at all times to date in 2015 and during 2014.
The following table summarizes our liquidity reserves to protect against contingency liquidity risk as of March 31, 2015.
As of | ||||
March 31, 2015 | ||||
(in thousands) | ||||
Total contingency liquidity reserves (1) | $ | 18,635,000 | ||
Less: Total requirement (2) | (4,056,000 | ) | ||
Excess contingency liquidity reserves | $ | 14,579,000 |
(1) | Includes cash, overnight federal funds sold, securities purchased under agreements to resell, advances maturing within five days, and certain AFS securities (discounted by between 4% and 15%, depending on the instrument), and expected mortgage loan principal payments. |
(2) | Includes net liabilities maturing within five days, including consolidated obligation bonds and discount notes and deposits. |
Furthermore, we comply with FHFA guidance requiring each FHLBank to maintain sufficient liquidity, through short-term or other investments, in an amount at least equal to its anticipated cash outflows under two different scenarios. One scenario assumes that an FHLBank cannot access the capital markets for 15 calendar days and that, during that time, members do not renew any maturing, prepaid, or called advances. The second scenario assumes that an FHLBank cannot access the capital markets for five calendar days and that during that period an FHLBank will automatically renew maturing or called advances for all members except very large, highly-rated members. To comply with this liquidity guidance and to ensure adequate liquidity availability for member advances, since fourth quarter 2008, we have held larger-than-normal balances of overnight federal funds and securities purchased under agreements to resell and have lengthened the maturity of consolidated obligation discount notes used to fund many of these investments.
In addition, our Board requires us to maintain a voluntary contingency liquidity operating threshold of 30 consecutive calendar days. The voluntary contingency liquidity operating threshold is forward-looking, and at all times, we have had ample liquidity to meet our obligations and member funding needs. We complied with all liquidity requirements and operating targets at all times to date in 2015 and during 2014. See "Part I. Item 1. Business—Liquidity Requirements" and Note 14 in "Part II. Item 8.
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Financial Statements and Supplementary Data—Audited Financial Statements—Notes to Financial Statements" in our 2014 10-K, for additional information on liquidity requirements.
Contractual Obligations and Other Commitments
The following table presents our contractual obligations and commitments as of March 31, 2015.
As of March 31, 2015 | ||||||||||||||||||||
Payments Due by Period | ||||||||||||||||||||
Less than 1 Year | 1 to 3 Years | 3 to 5 Years | Thereafter | Total | ||||||||||||||||
(in thousands) | ||||||||||||||||||||
Contractual obligations: | ||||||||||||||||||||
Consolidated obligation bonds (at par) * | $ | 6,293,660 | $ | 3,816,000 | $ | 3,396,895 | $ | 1,319,365 | $ | 14,825,920 | ||||||||||
MRCS | 707,329 | 25,316 | 630,043 | — | 1,362,688 | |||||||||||||||
Total contractual obligations | $ | 7,000,989 | $ | 3,841,316 | $ | 4,026,938 | $ | 1,319,365 | $ | 16,188,608 | ||||||||||
Other commitments: | ||||||||||||||||||||
Standby letters of credit | $ | 382,568 | $ | 3,163 | $ | — | $ | — | $ | 385,731 | ||||||||||
Unused lines of credit and other commitments | 6,000 | — | — | — | 6,000 | |||||||||||||||
Commitments to fund additional advances | 5,000 | — | — | — | 5,000 | |||||||||||||||
Total other commitments | $ | 393,568 | $ | 3,163 | $ | — | $ | — | $ | 396,731 |
* | Does not include interest payments on consolidated obligation bonds and is based on remaining contractual term-to-maturity; the actual timing of payments could be affected by redemptions. |
In addition, as of March 31, 2015, we had $30.0 million in unsettled agreements to issue consolidated obligation bonds, all of which were hedged with interest-rate exchange agreements.
Results of Operations for the Three Months Ended March 31, 2015 and 2014
The following table presents comparative highlights of our net income for the three months ended March 31, 2015 and 2014. See further discussion of these items in the sections that follow.
For the Three Months Ended March 31, | |||||||||||
Selected Statements of Income Data | 2015 | 2014 | Percent Increase/(Decrease) | ||||||||
Net interest income | $ | 37,750 | $ | 31,706 | 19.1 | ||||||
Provision (benefit) for credit losses | (208 | ) | 236 | 188.1 | |||||||
Net interest income after provision (benefit) for credit losses | 37,958 | 31,470 | 20.6 | ||||||||
Other income (loss) | 2,426 | (665 | ) | 464.8 | |||||||
Other expense | 28,736 | 18,888 | 52.1 | ||||||||
Total assessments | 1,203 | 1,236 | (2.7 | ) | |||||||
Net income | $ | 10,445 | $ | 10,681 | (2.2 | ) |
Net Interest Income
Net interest income is the primary performance measure for our ongoing operations. Net interest income is affected by changes in the average balance (volume) and in the average yield (rate) of our interest-earning assets and interest-bearing liabilities. These changes are influenced by economic factors, our investment and funding strategies, and changes in our products and services. Interest rates, yield-curve shifts, and changes in market conditions are the primary economic factors affecting net interest income.
Our net interest income derives from the following sources:
• | Net interest-rate spread, which is the difference between the interest earned on advances, investments, and mortgage loans, and the interest accrued or paid on the consolidated obligations, deposits, and other borrowings |
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funding those assets; and
• | Earnings from capital, which is the interest earned from investing our members' capital and retained earnings. |
The sum of our net interest-rate spread and our earnings from capital, when expressed as a percentage of the average balance of interest-earning assets, equals our net interest margin. When we evaluate our net interest income and net interest margin, we exclude the provision (benefit) for credit losses, as this amount is not a component of net interest spread or earnings on capital.
The following table summarizes the average rates of various interest-rate indices for the three months ended March 31, 2015 and 2014 that impacted our interest-earning assets and interest-bearing liabilities and such indices' ending rates as of March 31, 2015 and 2014 and December 31, 2014.
Average Rate for the Three Months Ended | Ending Rate as of | |||||||||
Market Instrument | March 31, 2015 | March 31, 2014 | March 31, 2015 | December 31, 2014 | March 31, 2014 | |||||
(in percentages) | ||||||||||
Federal funds effective rate | 0.11 | 0.07 | 0.06 | 0.06 | 0.06 | |||||
3-month Treasury bill | 0.01 | 0.04 | 0.02 | 0.04 | 0.03 | |||||
1-month LIBOR | 0.17 | 0.16 | 0.18 | 0.17 | 0.15 | |||||
3-month LIBOR | 0.26 | 0.24 | 0.27 | 0.26 | 0.23 | |||||
2-year U.S. Treasury note | 0.59 | 0.36 | 0.56 | 0.66 | 0.42 | |||||
5-year U.S. Treasury note | 1.45 | 1.59 | 1.37 | 1.65 | 1.72 | |||||
10-year U.S. Treasury note | 1.97 | 2.76 | 1.92 | 2.17 | 2.72 |
The following table presents average balances, interest income and expense, and average yields of our major categories of interest-earning assets and interest-bearing liabilities for the three months ended March 31, 2015 and 2014. The table also presents interest-rate spreads between the average yield on total interest-earning assets and the average cost of total interest-bearing liabilities, earnings on capital, and net interest margin.
For the Three Months Ended March 31, | ||||||||||||||||||||||
2015 | 2014 | |||||||||||||||||||||
Average Balance | Interest Income/ Expense | Average Yield | Average Balance | Interest Income/ Expense | Average Yield | |||||||||||||||||
(in thousands, except percentages) | ||||||||||||||||||||||
Interest-earning assets: | ||||||||||||||||||||||
Advances | $ | 9,773,706 | $ | 17,047 | 0.71 | $ | 10,566,794 | $ | 16,272 | 0.62 | ||||||||||||
Mortgage loans | 633,461 | 8,361 | 5.35 | 780,056 | 10,264 | 5.34 | ||||||||||||||||
Investments * | 25,455,776 | 41,152 | 0.66 | 25,502,014 | 41,820 | 0.67 | ||||||||||||||||
Other interest-earning assets | 161,714 | 37 | 0.09 | 60,880 | 7 | 0.05 | ||||||||||||||||
Total interest-earning assets | 36,024,657 | 66,597 | 0.75 | 36,909,744 | 68,363 | 0.75 | ||||||||||||||||
Other assets * | 119,432 | 130,359 | ||||||||||||||||||||
Total assets | $ | 36,144,089 | $ | 37,040,103 | ||||||||||||||||||
Interest-bearing liabilities: | ||||||||||||||||||||||
Consolidated obligations | $ | 32,589,318 | 28,435 | 0.35 | $ | 33,435,713 | 36,186 | 0.44 | ||||||||||||||
Deposits | 404,557 | 29 | 0.03 | 394,668 | 30 | 0.03 | ||||||||||||||||
MRCS | 1,446,373 | 383 | 0.11 | 1,743,206 | 441 | 0.10 | ||||||||||||||||
Other borrowings | 108 | — | 0.17 | 116 | — | 0.06 | ||||||||||||||||
Total interest-bearing liabilities | 34,440,356 | 28,847 | 0.34 | 35,573,703 | 36,657 | 0.42 | ||||||||||||||||
Other liabilities | 481,985 | 292,287 | ||||||||||||||||||||
Capital | 1,221,748 | 1,174,113 | ||||||||||||||||||||
Total liabilities and capital | $ | 36,144,089 | $ | 37,040,103 | ||||||||||||||||||
Net interest income | $ | 37,750 | $ | 31,706 | ||||||||||||||||||
Interest-rate spread | $ | 34,821 | 0.41 | $ | 29,231 | 0.33 | ||||||||||||||||
Earnings from capital | 2,929 | 0.02 | 2,475 | 0.02 | ||||||||||||||||||
Net interest margin | $ | 37,750 | 0.43 | $ | 31,706 | 0.35 |
* | Investments include securities purchased under agreements to resell, federal funds sold, and HTM and AFS securities. The average balances of HTM and AFS securities are reflected at amortized cost; therefore, the resulting yields do not include changes in fair value or the non-credit component of a previously recognized OTTI charge reflected in AOCI. The changes in fair value and the non-credit component of a previously recognized OTTI charge reflected in AOCI are included in other assets in the table above. |
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For the three months ended March 31, 2015, our average assets decreased by $896.0 million, compared to the same period in 2014. Average advances decreased by $793.1 million for the three months ended March 31, 2015, compared to the same period in 2014, primarily due to the maturity of $1.5 billion in BANA advances in March 2015. Average mortgage loan balances also decreased by $146.6 million for the three months ended March 31, 2015, compared to the same period in 2014, as remaining mortgage loans in the portfolio continued to pay down. Average investments balances remained stable at $25.5 billion for the three months ended March 31, 2015, compared to the same period in 2014.
For the three months ended March 31, 2015, compared to the same period in 2014, the average yield on our interest-earning assets remained the same, while the average cost of our interest-bearing liabilities decreased by 8 basis points. The lower cost of funding was the primary reason for the increase of 8 basis points in our interest-rate spread for the three months ended March 31, 2015, compared to the same period in 2014.
The following table separates the two principal components of the changes in our net interest income—interest income and interest expense—identifying the amounts due to changes in the volume of interest-earning assets and interest-bearing liabilities and changes in the average interest rate for the three months ended March 31, 2015 and 2014.
For the Three Months Ended March 31, | ||||||||||||
2015 vs. 2014 Increase (Decrease) | ||||||||||||
Volume * | Rate * | Total | ||||||||||
(in thousands) | ||||||||||||
Interest income: | ||||||||||||
Advances | $ | (1,280 | ) | $ | 2,055 | $ | 775 | |||||
Investments | (76 | ) | (592 | ) | (668 | ) | ||||||
Mortgage loans | (1,935 | ) | 32 | (1,903 | ) | |||||||
Other loans | 19 | 11 | 30 | |||||||||
Total interest income | (3,272 | ) | 1,506 | (1,766 | ) | |||||||
Interest expense: | ||||||||||||
Consolidated obligations | (896 | ) | (6,855 | ) | (7,751 | ) | ||||||
Deposits | 1 | (2 | ) | (1 | ) | |||||||
MRCS | (78 | ) | 20 | (58 | ) | |||||||
Total interest expense | (973 | ) | (6,837 | ) | (7,810 | ) | ||||||
Change in net interest income excluding provision (benefit) for credit losses | $ | (2,299 | ) | $ | 8,343 | $ | 6,044 |
* | Changes in interest income and interest expense not identifiable as either volume-related or rate-related, but rather equally attributable to both volume and rate changes, are allocated to the volume and rate categories based on the proportion of the absolute value of the volume and rate changes. |
Changes in net interest income for the three months ended March 31, 2015, compared to the same period in 2014, were primarily due to changes in average interest rates (with the exception of interest income on mortgage loans which was primarily impacted by continued paydowns) and the impact of the maturity of $1.5 billion of advances with BANA during the quarter on interest income on advances. These changes are discussed in more detail below.
Interest Income
The following table presents the components of our interest income by category of interest-earning asset and the percentage change in each category for the three months ended March 31, 2015, from the same period in 2014.
For the Three Months Ended March 31, | |||||||||||
2015 | 2014 | Percent Increase/ (Decrease) | |||||||||
(in thousands, except percentages) | |||||||||||
Advances | $ | 16,489 | $ | 16,251 | 1.5 | ||||||
Prepayment fees on advances, net | 558 | 21 | N/M | ||||||||
Subtotal | 17,047 | 16,272 | 4.8 | ||||||||
Investments | 41,152 | 41,820 | (1.6 | ) | |||||||
Mortgage loans | 8,361 | 10,264 | (18.5 | ) | |||||||
Interest-bearing deposits and other | 37 | 7 | 428.6 | ||||||||
Total interest income | $ | 66,597 | $ | 68,363 | (2.6 | ) |
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Interest income decreased for the three months ended March 31, 2015, compared to the same period in 2014, primarily due to decreases in average balances of mortgage loans and advances, partially offset by increases in the average yields and prepayment fees on advances.
Advances
Interest income from advances increased by 4.8% for the three months ended March 31, 2015, compared to the same period in 2014, primarily due to an increase in average yields, partially offset by a decrease in average balances on advances. The average yield on advances, including prepayment fees on advances, increased by 9 basis points, to 0.71%, for the three months ended March 31, 2015, compared to the same period in 2014. The increase in average yield during the three months ended March 31, 2015, compared to the same period in 2014, was primarily attributable to an increase in prepayment fees on advances. The average yield on advances, excluding prepayment fees, for the three months ended March 31, 2015 was 0.68%, compared to 0.62% for the same period in 2014. Our average advances balance decreased by 7.5%, to $9.8 billion, for the three months ended March 31, 2015, compared to the same period in 2014, primarily due to the effect of the maturity of advances with BANA in the first quarter of 2015.
Prepayment Fees on Advances
For the three months ended March 31, 2015, we recorded net prepayment fee income of $558,000, compared to $21,000 for the same period in 2014. Borrowers prepaid advances totaling $136.5 million for the three months ended March 31, 2015, compared to $9.3 million for the same period in 2014. Prepayment fees on hedged advances were partially offset by fair value basis adjustments related to hedging activities, and unamortized premiums, deferred fees, and other adjustments. See Note 6 in "Part I. Item 1. Financial Statements—Condensed Notes to Financial Statements" in this report for additional detail on gross and net prepayment fees.
Investments
Interest income from investments, which included short-term investments and AFS and HTM investments, decreased slightly by 1.6% for the three months ended March 31, 2015, compared to the same period in 2014. Average investments decreased slightly by $46.2 million, to $25.5 billion, for the three months ended March 31, 2015, compared to the same period in 2014, and the average yield on investments decreased slightly by 1 basis point, to 0.66%, compared to the prior period. Average yield on investments was impacted by the sale of our PLMBS portfolio during the three months ended March 31, 2015 and partial reinvestment of proceeds from the sale in higher quality, lower yielding GSE MBS.
As part of our quarterly OTTI assessment, we analyzed the expected cash flows of previously impaired PLMBS securities with no additional OTTI credit losses. If there was a significant increase in the expected cash flows of such a security, we adjusted the yield on the security on a prospective basis. This adjusted yield was used to calculate the amount to be recognized into interest income over the remaining life of the PLMBS in order to match the amount and timing of future cash flows expected to be collected. As shown in the table below, we adjusted a number of securities' yields in order to recognize the effect of favorable expected future cash flows and this recovery has been a material component in our investment interest income in recent periods. Accretion of previously recorded OTTI credit losses attributable to increased yields on previously impaired PLMBS with significant increases in expected cash flows, totaled $5.8 million for the three months ended March 31, 2015, compared to $5.7 million for the same period in 2014. Due to the sale of our PLMBS during the first quarter of 2015, our investment interest income will no longer be affected by the accretion of previously recorded OTTI credit losses in future periods.
The following table provides additional details about the components of investment interest income for the three months ended March 31, 2015 and 2014.
For the Three Months Ended March 31, | ||||||||
2015 | 2014 | |||||||
(in thousands) | ||||||||
Non-MBS | $ | 16,345 | $ | 13,955 | ||||
MBS: | ||||||||
GSE and other U.S. agency | 15,586 | 18,280 | ||||||
PLMBS: | ||||||||
Coupon and purchase premium amortization/discount accretion | 3,414 | 3,885 | ||||||
Amount of net OTTI credit losses accreted during the period * | 5,807 | 5,700 | ||||||
Total PLMBS | 9,221 | 9,585 | ||||||
Total MBS | 24,807 | 27,865 | ||||||
Total investment interest income | $ | 41,152 | $ | 41,820 |
* | Net OTTI credit losses accreted during the period include accretion related to increases in yields attributable to significantly improved expected cash flows and OTTI credit loss present value accretion of $288,000 and $359,000 for the three months ended March 31, 2015 and 2014. |
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Mortgage Loans
Interest income from mortgage loans held for portfolio decreased by 18.5% for the three months ended March 31, 2015, compared to the same period in 2014. The decrease was primarily due to the effect of continuing repayments of principal on the average balance of mortgage loans held for portfolio. The average balance of our mortgage loans held for portfolio decreased by $146.6 million, to $633.5 million, for the three months ended March 31, 2015, compared to the same period in 2014. The yield on our mortgage loans held for portfolio increased slightly by 1 basis point, to 5.35% for the three months ended March 31, 2015, compared to the same period in 2014.
We conduct a loss reserve analysis of our mortgage loan portfolio on a quarterly basis. As a result of our March 31, 2015 analysis, we determined that the credit enhancement provided by our members in the form of the LRA and our previously recorded allowance for credit losses was in excess of the expected credit losses on our mortgage loan portfolio. Accordingly, for the three months ended March 31, 2015, we recorded a benefit for credit losses of $208,000. We recorded a provision for credit losses of $236,000 for the three months ended March 31, 2014.
Interest Expense
The following table presents the components of our interest expense by category of interest-bearing liability and the percentage change in each category for the three months ended March 31, 2015, from the same period in 2014.
For the Three Months Ended March 31, | |||||||||||
2015 | 2014 | Percent Increase/ (Decrease) | |||||||||
(in thousands, except percentages) | |||||||||||
Consolidated obligation discount notes | $ | 3,471 | $ | 2,347 | 47.9 | ||||||
Consolidated obligation bonds | 24,964 | 33,839 | (26.2 | ) | |||||||
Total consolidated obligations | 28,435 | 36,186 | (21.4 | ) | |||||||
Deposits | 29 | 30 | (3.3 | ) | |||||||
MRCS | 383 | 441 | (13.2 | ) | |||||||
Total interest expense | $ | 28,847 | $ | 36,657 | (21.3 | ) |
Consolidated Obligations
When we require funding with original maturity terms of one year or less, we generally select the type of consolidated obligation based on whichever instrument — discount note or bond, sometimes paired with an accompanying derivative — that is most beneficial to the bank. Costs by type of instrument vary, depending on market conditions, including investor demand and availability of competing products. Our strategy can result in significant changes in the average balances of our consolidated obligation bonds and discount notes over relatively short periods, particularly when large percentages of our assets and liabilities have terms to maturity of one year or less.
Interest expense on consolidated obligations decreased by 21.4% for the three months ended March 31, 2015, compared to the same period in 2014. This decrease was primarily due to lower average balances and significantly lower cost of funds for the three months ended March 31, 2015, compared to the same period in 2014. The average balance of our consolidated obligations decreased by $846.4 million, to $32.6 billion, and the average cost of funds on these obligations decreased by 9 basis points to 0.35%, during the three months ended March 31, 2015, compared to the same period in 2014.
Effect of Derivatives and Hedging on Income
We use derivatives to manage our exposure to changes in interest rates and to adjust the effective maturity, repricing frequency, or option characteristics of our assets and liabilities in response to changing market conditions and financial management strategies. We often use derivatives to hedge fixed interest-rate advances and consolidated obligations by effectively converting the fixed interest rates to short-term variable interest rates (generally one- or three-month LIBOR). For example, when we fund a variable interest-rate advance with a fixed interest-rate consolidated obligation, we may enter into an interest-rate exchange agreement that effectively converts the fixed interest-rate consolidated obligation to a variable interest rate and locks in the spread between the consolidated obligation and the advance. In this example, net interest income would reflect the impact on interest expense as a result of the hedging of the consolidated obligation, effectively resulting in interest expense on a variable interest-rate debt instrument.
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The following table presents the total effect of derivatives and hedging on our net income for the three months ended March 31, 2015 and 2014.
For the Three Months Ended March 31, | ||||||||
2015 | 2014 | |||||||
(in thousands) | ||||||||
Total effect on net interest income * | $ | (5,965 | ) | $ | (793 | ) | ||
Net gains (losses) on derivatives and hedging activities | 1,630 | (1,434 | ) | |||||
Net effect on net income | $ | (4,335 | ) | $ | (2,227 | ) |
* | Includes periodic net interest settlements on derivatives designated in a hedging relationship and amortization of hedging adjustments. |
The total effect on net interest income from derivatives activity primarily reflects the net effects of: (1) converting fixed-interest rate advances to variable interest-rate advances, (2) converting fixed interest rates on our consolidated obligation bonds and discount notes to variable interest rates, and (3) converting fixed interest rates on AFS investments to variable interest rates. See Note 9 in "Part I. Item 1. Financial Statements—Condensed Notes to Financial Statements" in this report for income and expense impacts by hedged item type for the three months ended March 31, 2015 and 2014, "—Financial Condition as of March 31, 2015 and December 31, 2014—Derivative Assets and Liabilities," and "—Other Income (Loss)" below for additional information on our outstanding derivatives.
Other Income (Loss)
The following table presents the components of our other income (loss) and the percentage change for the three months ended March 31, 2015, from the same period in 2014. Because of the type of financial activities reported in this category, other income (loss) can be volatile from period to period. For instance, net gain on derivatives and hedging activities is highly dependent on changes in interest rates and spreads between various interest-rate yield curves.
For the Three Months Ended March 31, | |||||||||||
2015 | 2014 | Percent Increase/(Decrease) | |||||||||
(in thousands, except percentages) | |||||||||||
Net OTTI loss reclassified from AOCI | $ | (51,529 | ) | $ | (3 | ) | N/M | ||||
Net loss on financial instruments under fair value option | (12 | ) | (90 | ) | 86.7 | ||||||
Net realized gain on sale of AFS securities | 52,321 | — | N/M | ||||||||
Net gain (loss) on derivatives and hedging activities | 1,630 | (1,434 | ) | 213.7 | |||||||
Net realized (loss) gain on early extinguishment of consolidated obligations | (264 | ) | 63 | (519.0 | ) | ||||||
Other, net | 280 | 799 | (65.0 | ) | |||||||
Total other income (loss) | $ | 2,426 | $ | (665 | ) | 464.8 |
OTTI Loss
We recorded $51.5 million of OTTI losses on our PLMBS for the three months ended March 31, 2015, compared to $3,000 of such losses for the three months ended March 31, 2014. During March 2015, and in connection with the Merger, we determined that we intended to sell all of our PLMBS, and accordingly, for PLMBS whose fair value were less than their amortized cost, we recognized an OTTI loss in earnings equal to the difference between these securities' amortized cost and their fair value as of the date we changed our intent. See “—Financial Condition as of March 31, 2015 and December 31, 2014—Investments," and Note 5 in “Part I. Item 1. Financial Statements—Condensed Notes to Financial Statements” in this report for additional information regarding our other-than-temporarily impaired securities.
Net Realized Gain on Sale of AFS Securities
During the three months ended March 31, 2015, we sold our PLMBS portfolio for total proceeds of $1.6 billion, which resulted in a net realized gain of $52.3 million. This gain is offset by $51.5 million of OTTI losses we recorded during the three months ended March 31, 2015 under the caption net amount of other-than-temporary impairment (OTTI) loss reclassified from AOCI. The net resulting gain from sale of our PLMBS was $792,000. We sold no AFS securities during the three months ended March 31, 2014.
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Net Gain (Loss) on Derivatives and Hedging Activities
For the three months ended March 31, 2015, we recorded an increase of $3.1 million in our net gain (loss) on derivatives and hedging activities, compared to the same period in 2014. The following table presents the components of net gain (loss) on derivatives and hedging activities for the three months ended March 31, 2015 and 2014.
For the Three Months Ended March 31, | ||||||||
2015 | 2014 | |||||||
(in thousands) | ||||||||
Derivatives and hedged items designated in fair value hedging relationships: | ||||||||
Net gain (loss) related to fair value hedge ineffectiveness - Interest-rate swaps | $ | 1,686 | $ | (907 | ) | |||
Derivatives not designated as hedging instruments: | ||||||||
Economic hedges: | ||||||||
Interest-rate swaps | 34 | (89 | ) | |||||
Interest-rate swaptions | (85 | ) | (1,161 | ) | ||||
Net interest settlements | (5 | ) | 919 | |||||
Offsetting transactions: | ||||||||
Interest-rate swaps | — | (196 | ) | |||||
Total net loss related to derivatives not designated as hedging instruments | (56 | ) | (527 | ) | ||||
Net gain (loss) on derivatives and hedging activities | $ | 1,630 | $ | (1,434 | ) |
The increase in the net gain (loss) on derivatives and hedging activities for the three months ended March 31, 2015, compared to the same period in 2014, was primarily the result of temporary ineffectiveness of the bank's fair value hedges. See “—Effect of Derivatives and Hedging on Income," "Financial Condition—Derivative Assets and Liabilities,” and Note 9 in “Part I. Item 1. Financial Statements—Condensed Notes to Financial Statements” in this report for additional information.
Net Realized (Loss) Gain on Early Extinguishment of Consolidated Obligations
From time to time, we early extinguish consolidated obligations by exercising our rights to call consolidated obligations or by reacquiring such consolidated obligations on the open market. We early extinguish debt primarily to economically reduce the relative cost of our consolidated obligation debt in future periods, particularly when the future yield of the replacement debt is expected to be lower than the yield for the extinguished debt. Net realized loss on early extinguishment of consolidated obligations was $264,000 for the three months ended March 31, 2015, compared to net gain of $63,000 for the same period in 2014.
We continue to review our consolidated obligations portfolio for opportunities to call or otherwise extinguish debt, lower our interest expense, or better match the duration of our liabilities to that of our assets.
Other Expense
The following table presents the components of our other expense and the percentage changes for the three months ended March 31, 2015, from the same period in 2014.
For the Three Months Ended March 31, | |||||||||||
Other Expense | 2015 | 2014 | Percent Increase/(Decrease) | ||||||||
(in thousands, except percentages) | |||||||||||
Operating expenses: | |||||||||||
Compensation and benefits | $ | 10,858 | $ | 9,304 | 16.7 | ||||||
Occupancy cost | 1,280 | 1,509 | (15.2 | ) | |||||||
Other operating | 15,282 | 6,662 | 129.4 | ||||||||
FHFA | 683 | 779 | (12.3 | ) | |||||||
Office of Finance | 548 | 595 | (7.9 | ) | |||||||
Other | 85 | 39 | 117.9 | ||||||||
Total other expense | $ | 28,736 | $ | 18,888 | 52.1 |
Total other expense increased by $9.8 million for the three months ended March 31, 2015, compared to the same period in 2014. The increase was primarily due to increase in operating expenses from the inclusion of $10.8 million of Merger-related cost for the three months ended March 31, 2015. Cost associated with the Merger included professional fees, such as banking, accounting, and legal fees, accruals for retention bonuses and lease termination fees. We expect to continue to have additional expenses relating to the Merger as we work toward completing the Merger.
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Assessments
Our assessments for AHP are calculated as 10% of our net earnings before assessments and dividends recorded as interest expense. We recorded $1.2 million of AHP assessments for the three months ended March 31, 2015 and 2014.
Critical Accounting Policies and Estimates
Our financial statements and related disclosures are prepared in accordance with GAAP, which requires management to make judgments, assumptions, and estimates that affect the amounts reported and disclosures made. We base our estimates on historical experience and on other factors believed to be reasonable given the circumstances, but actual results may vary from these estimates under different assumptions or conditions, sometimes materially. Our significant accounting policies are summarized in “Part II. Item 7. Management's Discussion and Analysis of Results of Operations and Financial Condition—Critical Accounting Policies and Estimates” included in our 2014 10-K. Critical accounting policies and estimates are those that may materially affect our financial statements and related disclosures and that involve difficult, subjective, or complex judgments by management about matters that are inherently uncertain. Our critical accounting policies and estimates include determination of OTTI of securities, fair valuation of financial instruments, application of accounting for derivatives and hedging activities, amortization and accretion of mortgage-related premiums and discounts, and determination of allowances for credit losses. There were no significant changes to our critical accounting policies or to the judgments, assumptions, and estimates, as described in our 2014 10-K, during the three months ended March 31, 2015.
Recently Issued and Adopted Accounting Guidance
See Note 3 in “Part I. Item 1. Financial Statements—Condensed Notes to Financial Statements” in this report for a discussion of recently issued and adopted accounting guidance.
ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
Market Risk
The Seattle Bank is exposed to market risk, typically interest-rate risk, because our business model results in our holding large amounts of interest-earning assets and interest-bearing liabilities, at various interest rates and for varying periods.
Through our market-risk management practices, we attempt to manage the impact of interest rate changes on our net interest margin and market value over a wide variety of interest-rate environments. Our general approach to managing market risk is to maintain a portfolio of assets, liabilities, and derivatives that limits our exposure to adverse changes in our market value and in our net interest margin. We use derivatives to hedge market risk exposures and to lower our cost of funds. The derivatives that we employ comply with FHFA regulations and are not used for purposes of speculating on interest rates.
Measurement of Market Risk
We monitor and manage our market risk on a daily basis through a variety of measures. Our Board oversees our risk management policy through four primary risk measures that assist us in monitoring and managing our market risk exposures: effective duration of equity, effective key-rate-duration-of-equity mismatch, effective convexity of equity, and market value-of-equity sensitivity. These policy measures are described below. We manage our market risk using the policy limits set for each of these measures. For market-risk measurement purposes, we consider MRCS to be a component of equity.
Effective Duration/Effective Duration of Equity
Effective duration is a measure of the market value sensitivity of a financial instrument to changes in interest rates. Larger duration numbers, whether positive or negative, indicate greater market value sensitivity to parallel changes in interest rates. For example, if a financial instrument has an effective duration of two, then the financial instrument's value would be expected to decline about 2% for a 1% instantaneous increase in interest rates across the entire yield curve or rise about 2% for a 1% instantaneous decrease in interest rates across the entire yield curve, absent any other effects.
Effective duration of equity is the market value weighted average of the effective durations of each asset, liability, and derivative position we hold that has market value. It is calculated by multiplying the market value of our assets by their respective effective durations minus the market value of our liabilities multiplied by their respective durations plus or minus (depending upon whether the market value of a derivative position is positive or negative) the market value of our derivatives multiplied by their respective effective durations. The net result of the calculation is divided by the market value of equity to obtain the effective duration of equity. All else being equal, higher effective duration numbers, whether positive or negative, indicate greater market value sensitivity to changes in interest rates.
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Effective Key-Rate-Duration-of-Equity Mismatch
Effective key-rate-duration-of-equity disaggregates effective duration of equity into various points on the yield curve to allow us to measure and manage our exposure to changes in the shape of the yield curve. Effective key-rate-duration-of-equity mismatch is the difference between the maximum and minimum effective key-rate-duration-of-equity measures.
Effective Convexity/Effective Convexity of Equity
Effective convexity measures the estimated effect of non-proportional changes in instrument prices that is not incorporated in the proportional effects measured by effective duration. Financial instruments can have positive or negative effective convexity.
Effective convexity of equity is the market value of assets multiplied by the effective convexity of assets minus the market value of liabilities multiplied by the effective convexity of liabilities, plus or minus the market value of derivatives (depending upon whether the market value of a derivative position is positive or negative) multiplied by the effective convexity of derivatives, with the net result divided by the market value of equity.
Market Value of Equity/Market Value-of-Equity Sensitivity
Market value of equity is the sum of the present values of the expected future cash flows, whether positive or negative, of each of our assets, liabilities, and derivatives. Market value-of-equity sensitivity is the change in the estimated market value of equity that would result from an instantaneous parallel increase or decrease in the yield curve.
Market-Risk Management
Our market-risk measures reflect the sensitivity of our assets, liabilities, and derivatives to changes in interest rates, which is primarily due to mismatches in the maturities, basis, and embedded options associated with our mortgage-related assets and the consolidated obligations we use to fund these assets. The opportunities and incentives for exercising the prepayment options embedded in mortgage-related instruments (which generally may be exercised at any time) generally do not match those of the consolidated obligations that fund such assets, which causes the market value of the mortgage-related assets and the consolidated obligations to behave differently to changes in interest rates and market conditions. Our method of managing advances results in lower interest-rate risk because we price, value, and risk manage our advances based upon our consolidated obligation funding curve, which is used to value the debt that funds our advances. In addition, when we make an advance or have consolidated obligations issued on our behalf by the Office of Finance, we generally enter contemporaneously into interest-rate exchange agreements that hedge any optionality that may be embedded in each advance or consolidated obligation. Our short-term investments have short terms to maturity and low durations, which cause their market values to have lower sensitivity to changes in market conditions.
We evaluate our market-risk measures daily, under a variety of parallel and non-parallel shock scenarios. These primary risk measures are used for regulatory reporting purposes; however, as discussed further below, for interest-rate risk management and policy compliance purposes, we segregate our assets, liabilities, and associated interest-rate exchange agreements into two separate portfolios.
The following table summarizes our total statements of condition risk measures as of March 31, 2015 and December 31, 2014.
Primary Risk Measures | As of March 31, 2015 | As of December 31, 2014 | ||||
Effective duration of equity | (1.24 | ) | (0.68 | ) | ||
Effective convexity of equity | (2.95 | ) | (3.77 | ) | ||
Effective key-rate-duration-of-equity mismatch | 1.44 | 1.15 | ||||
Market value-of-equity sensitivity | ||||||
+ 100 basis point shock scenario | (0.19 | )% | (0.66 | )% | ||
- 100 basis point shock scenario | (1.37 | )% | (1.38 | )% | ||
+ 200 basis point shock scenario | (1.80 | )% | (2.56 | )% | ||
- 200 basis point shock scenario | (2.22 | )% | (2.22 | )% | ||
+ 250 basis point shock scenario | (2.66 | )% | (3.74 | )% | ||
- 250 basis point shock scenario | (2.25 | )% | (2.36 | )% |
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The duration and the market value of each of our asset and liability portfolios have contributing effects on our overall effective duration of equity. As of March 31, 2015, the effective duration of equity reflected the change in interest rates and projected prepayment speeds of our mortgage assets, compared to those as of December 31, 2014. The change in the effective convexity of equity as of March 31, 2015 from December 31, 2014, was primarily caused by the change in the convexity profile of our mortgage portfolio, partially offset by the change in convexity of our consolidated obligations. Effective key-rate-duration-of-equity mismatch increased as of March 31, 2015 from December 31, 2014, primarily due to the changes in the composition of our statements of condition.
The estimated decreases in our market value-of-equity sensitivity resulting from the plus and minus 100-, 200-, and 250-basis point changes in interest rates between December 31, 2014 and March 31, 2015 were the result of our reduced risk in convexity exposure.
To isolate the effects of credit/liquidity associated with a portion of our PLMBS, we disaggregate our assets, liabilities, and interest-rate exchange agreements into: (1) a credit/liquidity portfolio and (2) a risk management portfolio. Prior to the sale of our PLMBS, the credit/liquidity portfolio contained our PLMBS collateralized by Alt-A mortgage loans along with the liabilities funding those PLMBS and any associated derivatives as well as the credit basis difference in the risk management portfolio. Due to the sale of our PLMBS portfolio during the first quarter of 2015, the credit/liquidity portfolio as of March 31, 2015 and thereafter, contains solely the credit basis difference associated with consolidated obligations and interest-rate exchange agreements in hedging relationships. The risk management portfolio contains our core operations, primarily consisting of our advances, short-term investments, mortgage loans held for portfolio, and mortgage-backed investments not collateralized by Alt-A mortgage loans, along with the funding and hedges associated with these assets (after removing the credit basis difference associated with the consolidated obligations and interest-rate exchange agreements in hedging relationships). This disaggregation allows us to more accurately measure and manage interest-rate risk in the risk management portfolio. Similarly, the credit/liquidity portfolio, after inclusion of the credit basis difference, allows more accurate identification of the credit/liquidity effects of this portfolio on our market-risk measures and our market value leverage ratio. We believe that this segregation provides greater transparency, a more granular assessment of market risk, and a means to more effectively manage our market risks.
Our risk management policy limits described below apply only to the risk management portfolio risk measures. We were in compliance with these risk management policy limits as of March 31, 2015 and December 31, 2014. The following table summarizes the portfolio's risk measures and respective limits as of March 31, 2015 and December 31, 2014.
As of | As of | Risk Measure | ||||||
Risk Management Portfolio Risk Measures and Limits | March 31, 2015 | December 31, 2014 | Limit | |||||
Effective duration of equity | (0.83 | ) | (0.07 | ) | +/-4.00 | |||
Effective convexity of equity | (1.88 | ) | (2.25 | ) | -5.00 | |||
Effective key-rate-duration-of-equity mismatch | 1.55 | 1.22 | +4.00 | |||||
Market value-of-equity sensitivity | ||||||||
+ 100 basis point shock scenario | (0.41 | )% | (0.85 | )% | -4.00% | |||
- 100 basis point shock scenario | (0.69 | )% | (0.34 | )% | -4.00% | |||
+ 200 basis point shock scenario | (2.10 | )% | (2.51 | )% | -8.00% | |||
- 200 basis point shock scenario | (1.35 | )% | (1.04 | )% | -8.00% | |||
+ 250 basis point shock scenario | (2.97 | )% | (3.43 | )% | -10.00% | |||
- 250 basis point shock scenario | (1.29 | )% | (1.10 | )% | -10.00% |
The changes in the effective duration of equity, effective convexity of equity, effective key-rate-duration-of-equity mismatch, and estimated changes in our market value-of-equity sensitivity resulting from the plus and minus 100-, 200-, and 250-basis point changes in interest rates of our interest-rate risk management portfolio as of March 31, 2015 from that as of December 31, 2014, primarily reflected changes in interest rates during the first quarter of 2015.
Instruments that Address Market Risk
Consistent with FHFA regulation, we enter into interest-rate exchange agreements, such as interest-rate swaps, interest-rate caps and floors, and swaptions, only to reduce the interest-rate exposure inherent in otherwise unhedged asset and funding positions, to achieve our risk management objectives, and to reduce our cost of funds. This enables us to adjust the effective maturity, repricing frequency, or option characteristics of our assets and liabilities in response to changing market
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conditions. See "Part I. Item 2. Management's Discussion and Analysis of Financial Condition and Result of Operations—Financial Condition as of March 31, 2015 and December 31, 2014—Derivative Assets and Liabilities" in this report for additional information.
ITEM 4. CONTROLS AND PROCEDURES
Disclosure Controls and Procedures
The Seattle Bank's management is responsible for establishing and maintaining a system of disclosure controls and procedures designed to ensure that information required to be disclosed by the Seattle Bank in the reports it files or submits under the Securities Exchange Act of 1934, as amended (Exchange Act), is recorded, processed, summarized, and reported within the time periods specified in the rules and forms of the SEC. The Seattle Bank's disclosure controls and procedures include, without limitation, controls and procedures designed to ensure that information required to be disclosed by the Seattle Bank in the reports it files or submits under the Exchange Act is accumulated and communicated to management, including the principal executive officer and principal financial officer, or persons performing similar functions, as appropriate, to allow timely decisions regarding required disclosure. Because of inherent limitations, disclosure controls and procedures, as well as internal control over financial reporting, may not prevent or detect all inaccurate statements or omissions.
Under the supervision and with the participation of the Seattle Bank's management, including the president and chief executive officer and the chief accounting and administrative officer (who for purposes of the Seattle Bank's disclosure controls and procedures performs similar functions as a principal financial officer), management of the Seattle Bank evaluated the effectiveness of the Seattle Bank's disclosure controls and procedures (as defined in Rule 13a-15(e) of the Exchange Act) as of March 31, 2015, the end of the period covered by this report. Based on this evaluation, the president and chief executive officer and chief accounting and administrative officer have concluded that the Seattle Bank's disclosure controls and procedures were effective as of March 31, 2015.
Changes in Internal Control Over Financial Reporting
The president and chief executive officer and the chief accounting and administrative officer (who for purposes of the Seattle Bank's internal control over financial reporting performs similar functions as a principal financial officer), conducted an evaluation of our internal control over financial reporting (as defined in Rule 13a-15(f) of the Exchange Act) to determine whether any changes in our internal control over financial reporting occurred during the fiscal quarter ended March 31, 2015, that have materially affected, or that are reasonably likely to materially affect, our internal control over financial reporting. It was determined that there were no changes in internal control over financial reporting in the quarter ended March 31, 2015 that have materially affected, or are reasonably likely to materially affect, the Seattle Bank's internal control over financial reporting.
PART II.
ITEM 1. LEGAL PROCEEDINGS
The Seattle Bank is currently involved in a number of legal proceedings against various entities relating to our purchases and subsequent impairment of certain PLMBS as described below. Although we sold our PLMBS during the first quarter of 2015, we continue to be involved in these legal proceedings. Other than as may possibly result from the legal proceedings discussed below, after consultations with legal counsel, we do not believe that the ultimate resolutions of any current matters would have a material impact on our financial condition, results of operations, or cash flows.
PLMBS Legal Proceedings
The Seattle Bank is currently involved in a number of legal proceedings against various entities relating to our purchases and subsequent impairment of certain PLMBS. These proceedings are described in “Part I. Item 3. Legal Proceedings” in our 2014 10-K and below. As was previously reported, in December of 2009, the Seattle Bank filed 11 complaints in the Superior Court of Washington for King County relating to PLMBS that the Seattle Bank purchased from various dealers and financial institutions in an aggregate original principal amount of approximately $4 billion. The Seattle Bank's complaints under Washington State law request rescission of its purchases of the securities and repurchases of the securities by the defendants for the original purchase prices plus 8% per annum (plus related costs), minus distributions on the securities received by the Seattle Bank. The Seattle Bank asserts that the defendants made untrue statements and omitted important information in connection with their sales of the securities to the Seattle Bank.
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In October 2010, each of the defendant groups filed a motion to dismiss the proceedings against it. The issues raised by those motions were fully briefed and were the subject of oral arguments that occurred in March and April 2011. In a series of decisions handed down in June, July, and August 2011, the judge handling the pre-trial motions ruled in favor of the Seattle Bank on all issues, except that the judge granted the defendants' motions to dismiss the Seattle Bank's allegations of misrepresentation as to owner occupancy of properties securing loans in the securitized loan pools while noting that the dismissal does not preclude the Seattle Bank from arguing that occupancy is relevant to other allegations. In addition, the judge granted motions to dismiss a group of related entities as defendants in one of the eleven cases for lack of personal jurisdiction. The resolution of the pre-trial motions allowed the cases to proceed to the discovery phase, which is currently ongoing. In March 2012, the judge entered a scheduling order under which trials for these cases would be held beginning in late first-quarter 2015 at the earliest. Due to delays during the discovery phase, the trials now will likely be held no earlier than first-quarter 2016.
Although several other FHLBanks have entered into agreements to settle certain of their similar legal proceedings against various entities, the Seattle Bank has not entered into any such agreements as of the date of this report.
Consent Arrangement
For additional information relating to the Seattle Bank's Amended Consent Arrangement with the FHFA, see "Part I. Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations—Capital Resources and Liquidity—Capital Resources—Consent Arrangement" and Note 11 in "Part I. Item 1. Financial Statements—Condensed Notes to Financial Statements" in this report.
ITEM 1A. RISK FACTORS
Our 2014 10-K includes a detailed discussion of our risk factors. The information below includes risk factors related to the Merger, including some updates thereto, and should be read in conjunction with the risk factors disclosed in the “Part I. Item 1A. Risk Factors” section of our 2014 10-K.
Combining the Banks may be more difficult, costly, or time consuming than expected, which could adversely affect the ability to realize the anticipated benefits and cost savings of the Merger or the ability to operate the Continuing Bank.
The Banks have operated and, until the completion of the Merger, will continue to operate independently. The success of the Merger, including anticipated benefits and cost savings (including the time to realize such benefits and savings), will depend, in part, on the Continuing Bank's ability to successfully combine and integrate the businesses of the Banks in a manner that permits growth opportunities and does not materially disrupt the existing member relations or result in decreased business with or loss of members. It is possible that the integration process could result in the loss of key employees, corporate culture issues, the disruption of either Bank's ongoing businesses, or inconsistencies in standards, controls, technologies, procedures, or policies that may adversely affect the Banks' and the Continuing Bank's ability to maintain relationships with members, vendors, and employees or to achieve the anticipated benefits and cost savings expected of the Merger.
For example, certain operational risks accompany the integration of the Banks. As the Banks' systems and processes are integrated, it is possible that members may experience a full or partial disruption in service, unexpected changes in the way that service is provided, or service limitations on a temporary basis. Further, while the Banks seek to minimize disruption in service provided to members during the transition period, there remains a risk that unforeseen events or circumstances may arise that may impact, among other things, current Seattle Bank members' capital stock requirements, credit line and collateral availability. Other types of unexpected changes (e.g., to member legal agreements, regarding member data requests, or to other member service provisions) are also possible during this period and could result in delays or disruption of service to members.
If difficulties with the integration process are encountered, the anticipated benefits and cost savings of the Merger may not be realized fully, or at all, or may take longer to realize than expected. In addition, the integration efforts will also divert management attention and resources. These integration matters could have an adverse effect on us or our members during the transition period and for an undetermined period after completion of the Merger, which would negatively impact our members prior to the Merger and the Continuing Bank after the Merger.
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Transactions and actions scheduled to be taken in anticipation of the Merger may be unsuccessful or have unintended outcomes, which could adversely affect our business and our members.
In connection with the anticipated closing of the Merger on May 31, 2015, the Board approved the following:
• | Redemption of Seattle Bank Class A and Class B stock classified as MRCS with respect to which the redemption period has expired and that is excess. The redemption will take place prior to the anticipated closing of the Merger. |
• | A $0.0168 per share prorated cash dividend based on average Class A and Class B stock outstanding from April 1 through May 26, 2015. The dividend will be paid immediately prior to the anticipated closing of the Merger. |
Although we have obtained FHFA non-objection, we may not be able to complete the above actions prior to the anticipated closing of the Merger or the amounts of dividends paid or MRCS redeemed may be inconsistent with our shareholders' expectations. In addition, in accordance with its capital plan, after the Merger, the Continuing Bank is expected to redeem all remaining Class A and excess Class B capital stock outstanding. If we fail, or after the Merger the Continuing Bank fails, to complete the above transactions within the expected time frames or in the amounts anticipated, our business or members, or those of the Continuing Bank, could be negatively impacted.
If the Merger is not completed, we will have incurred substantial expenses and may have taken significant related actions without realizing the expected benefits of the Merger and our business could be negatively impacted.
We have devoted and will continue to devote substantial resources, including advisors' fees, travel costs, and management and employee focus, and have already taken significant actions, including disposal of our PLMBS portfolio and reinvestment of sale proceeds in GSE MBS, in the pursuit of the Merger, and the expected benefits of those resource allocations and actions would be lost if the Merger is not completed. In addition, we are contemplating certain additional actions, including repurchasing our excess past-due Class A and Class B MRCS, as part of our preparation for the Merger. If any of these actions are undertaken, or other decisions are made or actions are taken, in contemplation of the completion of the Merger but the Merger is not completed, we will have allocated significant resources and made significant changes, including to our balance sheet structure, without receiving the expected benefits of the completed Merger. Furthermore, if the Merger is not completed, the actions we will have taken could adversely affect our financial condition, results of operations, and ability to successfully operate as a stand-alone entity in the future.
In addition, the Merger Agreement provides that we must pay a termination fee in the amount of $57 million (Termination Fee) in the event that the Merger Agreement is terminated under certain circumstances. Payment of the Termination Fee may require us to use available cash that would have otherwise been available for other operating purposes, including potential dividend payments and stock repurchases.
Further, if the Merger does not close, our reputation could be damaged and the FHFA could require us to take various actions, any of which could be detrimental to our business. Finally, given the current challenges of our business environment, rising operational expenses, and sustained low levels of advance demand, if the Merger is not completed, we could be forced to pursue various alternative strategic options that may not be as beneficial as the Merger.
We will be subject to business uncertainties and contractual restrictions while the Merger is pending.
Uncertainty about the effects of the Merger could prompt employees, vendors, and members to take or refrain from taking actions and may have an adverse impact on our business. These uncertainties may impair our ability to attract, retain, and motivate employees until the Merger and associated integration process is further along or completed, and could cause members and others that deal with us to delay or defer certain decisions or seek to change or terminate existing business or other relationships. In addition, specific restrictions and other provisions in the Merger Agreement may, among other things, delay or limit our ability to: follow certain business strategies; respond effectively to industry developments, competitive pressures, and other business opportunities; or make necessary systems enhancements or other changes to our business, prior to the completion of the Merger or termination of the Merger Agreement. If, despite our retention and business efforts, key employees depart or vendors or members limit or terminate business with us, our ability to operate our business successfully could be negatively impacted.
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The Merger is subject to certain closing conditions, which may not be met, may take longer than expected to meet, or may impose additional conditions that are not presently anticipated or that could have an adverse effect on the Continuing Bank following the Merger.
There are significant risks and uncertainties associated with the Merger that could delay or prevent the completion of the Merger or make the Merger less beneficial than expected. General economic and financial market conditions, regulatory changes, and other internal and external factors may affect the ability of the Banks to complete the Merger or cause its delay. Further, although the Banks have obtained FHFA approval and appropriate member ratification pursuant to the rules set forth under Final Rule, Voluntary Mergers of Federal Home Loan Banks, 76 Fed. Reg. 72,823 (Nov. 28, 2011) (codified at 12 C.F.R. part 1278), completion of the Merger is subject to the satisfaction of certain additional conditions, which include, among other things, acceptance by the FHFA of the Continuing Bank’s organization certificate and no material adverse change occurring that would, among other things, materially reduce the Continuing Bank's projected earnings. Such conditions or changes in circumstance could have the effect of delaying or preventing completion of the Merger or could impose additional costs on or limit the potential success of the Continuing Bank, which could have an adverse effect on the Seattle Bank or the Continuing Bank, as the case may be.
The Merger Agreement may be terminated in accordance with its terms and the Merger may not be completed.
The Merger Agreement is subject to a number of conditions that must be fulfilled (or waived, as applicable) in order to complete the Merger. Those conditions remaining include, among others: absence of material breaches of representations, warranties, or obligations as set forth in the Merger Agreement; absence of orders prohibiting completion of the Merger; and absence of any governmental action, statute, rule, or regulation that makes the Merger illegal, or causes any condition that would constitute a material impairment of the benefits reasonably expected to be realized from the Merger. These conditions to the closing of the Merger may not be fulfilled (or waived, as applicable), and, accordingly, the Merger may not be completed. In addition, under the Merger Agreement, if the Merger is not completed by June 30, 2015 (unless such date is extended under certain circumstances pursuant to the terms of the Merger Agreement), either the Seattle Bank or the Des Moines Bank may choose not to proceed with the Merger, and the parties can mutually decide to terminate the Merger Agreement at any time. In addition, the Seattle Bank or the Des Moines Bank may elect to terminate the Merger Agreement under certain other circumstances. If the Merger Agreement is terminated under certain circumstances, we may be required to pay the Termination Fee of $57 million to the Des Moines Bank.
The Merger Agreement limits our ability to pursue acquisition proposals or to change recommendations regarding the Merger, and requires us to pay the Termination Fee of $57 million under limited circumstances, including circumstances relating to acquisition proposals.
The Merger Agreement prohibits us from initiating, soliciting, knowingly encouraging, or knowingly facilitating certain third-party acquisition proposals. In addition, we have agreed that the Board will not change its recommendation to our members regarding the Merger or approve an alternative transaction, except under very limited circumstances. The Merger Agreement also provides that we must pay the Termination Fee in the amount of $57 million in the event that the Merger Agreement is terminated under certain circumstances, including involving our failure to abide by certain obligations not to solicit acquisition proposals or change our recommendation. These provisions might discourage a potential competing acquirer that might have an interest in acquiring the Seattle Bank from considering or proposing such an acquisition, which acquisition proposal could have ultimately led to a more beneficial transaction for our members than the Merger may.
Our members will have a reduced ownership interest after completion of the Merger; a majority of the Continuing Bank’s board of directors will consist of former Des Moines Bank board members; and the Continuing Bank will have co-executive leaders and its executive management is expected to be made up of primarily the Des Moines Bank’s executive management serving immediately prior to the Merger.
After the completion of the Merger, our members will own a smaller percentage of the Continuing Bank than they currently own of the Seattle Bank. Shortly following completion of the Merger, based on stockholdings of the Banks’ members as of September 30, 2014, and after giving effect to the repurchase of all excess stock (whether classified as MRCS or otherwise), it is anticipated that the Des Moines Bank members and the Seattle Bank members will hold approximately 82% and 18%, respectively, of the shares of capital stock of the Continuing Bank. Consequently, our members, will have significantly less than a majority of the ownership of the Continuing Bank.
In addition, immediately following the Merger, the Continuing Bank’s board of directors will comprise 29 members, 14 of whom will be the members of our Board immediately prior to the Merger and 15 of whom will be the members of the Des Moines Bank’s board of directors immediately prior to the Merger; the Continuing Bank’s board is expected to develop and, with the
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approval of the FHFA, implement a plan to reduce the size of the board at some point following the Merger. It is also expected that immediately following the Merger, the chair of the Des Moines Bank will serve as the chair of the Continuing Bank and the chair of the Seattle Bank will serve as the vice chair of the Continuing Bank. Further, immediately following the Merger, the usual role of president and chief executive officer of an FHLBank will be split between two officers for the Continuing Bank, with the current president and chief executive officer of the Des Moines Bank, Richard S. Swanson, expected to serve as the chief executive officer of the Continuing Bank and the current president and chief executive officer of the Seattle Bank, Michael L. Wilson, expected to serve as the president of the Continuing Bank (the chief executive officer being the external-facing executive and the president being responsible for selecting the executive officers, integrating the two organizations, and day-to-day operations). Both co-executive leaders will report directly to the Continuing Bank’s board of directors. This co-executive leadership structure is expected to remain in place until June 30, 2017, when Mr. Swanson will retire and Mr. Wilson will become the Continuing Bank’s president and chief executive officer. The remainder of the Continuing Bank’s executive management is expected to be primarily made up of the Des Moines Bank’s executive management serving immediately prior to the Merger. As a result of these restructurings of the board of directors and management for the Continuing Bank, the Seattle Bank members will have a change in governance and management dynamics that they may find unfavorable compared to what they had prior to the Merger.
The shares of the Continuing Bank’s capital stock to be received by our members as a result of the Merger will have different rights than shares of our capital stock, and the Continuing Bank will have different bylaws than our bylaws.
Upon completion of the Merger, our members will become members of the Continuing Bank and their rights as stockholders will be governed by the Continuing Bank’s capital plan and bylaws. The rights associated with the Continuing Bank’s capital stock vary from the rights associated with our capital stock, and the governance requirements of the Continuing Bank’s bylaws are different from those of our bylaws. Such rights and requirements of the Continuing Bank will be substantially similar to those of the Des Moines Bank as the Continuing Bank’s capital plan and bylaws are based on those of the Des Moines Bank. As a result, members' rights as stockholders of the Continuing Bank will be different from their current member rights and therefore there could be unexpected adverse consequences to their bank membership and expectations after completion of the Merger.
ITEM 2. UNREGISTERED SALES OF EQUITY SECURITIES
None.
ITEM 3. DEFAULTS ON SENIOR SECURITIES
None.
ITEM 4. MINE SAFETY DISCLOSURES
Not applicable.
ITEM 5. OTHER INFORMATION
None.
ITEM 6. EXHIBITS
See List of Exhibits.
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SIGNATURES
Pursuant to the requirements of Section 13 or 15(d) the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned, thereunto duly authorized.
Federal Home Loan Bank of Seattle
By: | /s/ Michael L. Wilson | Dated: | May 7, 2015 | |
Michael L. Wilson | ||||
President and Chief Executive Officer | ||||
(Principal Executive Officer) | ||||
By: | /s/ Christina J. Gehrke | Dated: | May 7, 2015 | |
Christina J. Gehrke | ||||
Senior Vice President, Chief Accounting and Administrative Officer | ||||
(Principal Accounting Officer *) |
* | The Chief Accounting and Administrative Officer for purposes of the Seattle Bank's disclosure controls and procedures and internal control over financial reporting performs similar functions as a principal financial officer. |
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LIST OF EXHIBITS
Exhibit No. | Exhibits | |
31.1 | Certification of the President and Chief Executive Officer pursuant to Section 302 of the Sarbanes-Oxley Act of 2002. | |
31.2 | Certification of the Chief Accounting and Administrative Officer pursuant to Section 302 of the Sarbanes-Oxley Act of 2002. | |
32.1 | Certification of the President and Chief Executive Officer pursuant to 18.U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002. | |
32.2 | Certification of the Chief Accounting and Administrative Officer pursuant to 18.U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002. | |
101.INS | XBRL Instance Document | |
101.SCH | XBRL Taxonomy Extension Schema Document | |
101.CAL | XBRL Taxonomy Extension Calculation Linkbase Document | |
101.LAB | XBRL Taxonomy Extension Label Linkbase Document | |
101.PRE | XBRL Taxonomy Extension Presentation Linkbase Document | |
101.DEF | XBRL Taxonomy Extension Definition Linkbase Document |
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