Quarterly report pursuant to Section 13 or 15(d)

Derivative Financial Instruments

 v2.3.0.11
Derivative Financial Instruments
 6 Months Ended
Jun. 30, 2011
Derivative Financial Instruments [Abstract]  
DERIVATIVE FINANCIAL INSTRUMENTS
14. DERIVATIVE FINANCIAL INSTRUMENTS
Derivative financial instruments are recorded in the Unaudited Condensed Consolidated Balance Sheet as either an asset or a liability (in accrued income and other assets or accrued expenses and other liabilities, respectively) and measured at fair value.
Derivatives used in Asset and Liability Management Activities
A variety of derivative financial instruments, principally interest rate swaps, caps, floors, and collars are used in asset and liability management activities to protect against the risk of adverse price or interest rate movements. These instruments provide flexibility in adjusting Huntington’s sensitivity to changes in interest rates without exposure to loss of principal and higher funding requirements. Huntington records derivatives at fair value, as further described in Note 13. Collateral agreements are regularly entered into as part of the underlying derivative agreements with Huntington’s counterparties to mitigate counterparty credit risk. At June 30, 2011, December 31, 2010, and June 30, 2010, aggregate credit risk associated with these derivatives, net of collateral that has been pledged by the counterparty, was $38.5 million, $39.9 million, and $42.8 million, respectively. The credit risk associated with interest rate swaps is calculated after considering master netting agreements.
At June 30, 2011, Huntington pledged $201.4 million of investment securities and cash collateral to counterparties, while other counterparties pledged $101.3 million of investment securities and cash collateral to Huntington to satisfy collateral netting agreements. In the event of credit downgrades, Huntington could be required to provide $4.3 million of additional collateral.
The following table presents the gross notional values of derivatives used in Huntington’s asset and liability management activities at June 30, 2011, identified by the underlying interest rate-sensitive instruments:
                         
    Fair Value     Cash Flow        
(dollar amounts in thousands )   Hedges     Hedges     Total  
Instruments associated with:
                       
Loans
  $ —     $ 5,555,000     $ 5,555,000  
Investment securities
    —       50,000       50,000  
Deposits
    958,912       —       958,912  
Subordinated notes
    598,000       —       598,000  
Other long-term debt
    35,000       —       35,000  
 
                 
Total notional value at June 30, 2011
  $ 1,591,912     $ 5,605,000     $ 7,196,912  
 
                 
The following table presents additional information about the interest rate swaps used in Huntington’s asset and liability management activities at June 30, 2011:
                                         
            Average             Weighted-Average  
    Notional     Maturity     Fair     Rate  
(dollar amounts in thousands )   Value     (years)     Value     Receive     Pay  
Asset conversion swaps — receive fixed — generic
  $ 5,605,000       1.9     $ 55,374       1.65 %     0.65 %
Liability conversion swaps — receive fixed — generic
    1,591,912       4.1       69,285       2.53       0.32  
 
                             
Total swap portfolio
  $ 7,196,912       2.4     $ 124,659       1.84 %     0.58 %
 
                             
These derivative financial instruments were entered into for the purpose of managing the interest rate risk of assets and liabilities. Consequently, net amounts receivable or payable on contracts hedging either interest earning assets or interest bearing liabilities were accrued as an adjustment to either interest income or interest expense. The net amounts resulted in an increase to net interest income of $28.1 million and $48.4 million for the three-month periods ended June 30, 2011, and 2010, respectively. For the six-month periods ended June 30, 2011 and 2010, the net amounts resulted in an increase to net interest income of $62.0 million and $106.4 million, respectively.
In connection with securitization activities, Huntington purchased interest rate caps with a notional value totaling $0.9 billion. These purchased caps were assigned to the securitization trust for the benefit of the security holders. Interest rate caps were also sold totaling $0.9 billion outside the securitization structure. Both the purchased and sold caps are marked to market through income.
In connection with the sale of Huntington’s Class B Visa® shares, Huntington entered into a swap agreement with the purchaser of the shares. The swap agreement adjusts for dilution in the conversion ratio of Class B shares resulting from the Visa® litigation. At June 30, 2011, the fair value of the swap liability of $1.4 million is an estimate of the exposure liability based upon Huntington’s assessment of the probability-weighted potential Visa® litigation losses and certain fixed payments required to be made through the term of the swap.
The following table presents the fair values at June 30, 2011, December 31, 2010, and June 30, 2010 of Huntington’s derivatives that are designated and not designated as hedging instruments. Amounts in the table below are presented gross without the impact of any net collateral arrangements.
Asset derivatives included in accrued income and other assets:
                         
    June 30,     December 31,     June 30,  
(dollar amounts in thousands)   2011     2010     2010  
Interest rate contracts designated as hedging instruments
  $ 124,659     $ 127,346     $ 119,483  
Interest rate contracts not designated as hedging instruments
    253,310       263,015       334,766  
Foreign exchange contracts not designated as hedging instruments
    3,793       2,845       1,554  
 
                 
Total contracts
  $ 381,762     $ 393,206     $ 455,803  
 
                 
Liability derivatives included in accrued expenses and other liabilities
                         
    June 30,     December 31,     June 30,  
(dollar amounts in thousands)   2011     2010     2010  
Interest rate contracts designated as hedging instruments
  $ —     $ —     $ —  
Interest rate contracts not designated as hedging instruments
    208,928       233,805       267,397  
Foreign exchange contracts not designated as hedging instruments
    4,336       3,107       —  
 
                 
Total contracts
  $ 213,264     $ 236,912     $ 267,397  
 
                 
Fair value hedges are purchased to convert deposits and subordinated and other long-term debt from fixed-rate obligations to floating rate. The changes in fair value of the derivative are, to the extent that the hedging relationship is effective, recorded through earnings and offset against changes in the fair value of the hedged item.
The following table presents the change in fair value for derivatives designated as fair value hedges as well as the offsetting change in fair value on the hedged item for the three-month and six-month periods ended June 30, 2011 and 2010:
                                 
    Three Months Ended     Six Months Ended  
    June 30,     June 30,  
(dollar amounts in thousands)   2011     2010     2011     2010  
Interest rate contracts
                               
Change in fair value of interest rate swaps hedging deposits (1)
  $ 7,185     $ 2,269     $ 909     $ 5,581  
Change in fair value of hedged deposits (1)
    (7,117 )     (1,856 )     (1,080 )     (5,012 )
Change in fair value of interest rate swaps hedging subordinated notes (2)
    14,392       12,718       5,237       16,361  
Change in fair value of hedged subordinated notes (2)
    (14,392 )     (12,718 )     (5,237 )     (16,361 )
Change in fair value of interest rate swaps hedging other long-term debt (2)
    969       2,035       389       2,553  
Change in fair value of hedged other long-term debt (2)
    (969 )     (2,035 )     (389 )     (2,553 )
(1)   Effective portion of the hedging relationship is recognized in Interest expense — deposits in the Unaudited Condensed Consolidated Statements of Income. Any resulting ineffective portion of the hedging relationship is recognized in noninterest income in the Unaudited Condensed Consolidated Statements of Income.
 
(2)   Effective portion of the hedging relationship is recognized in Interest expense - subordinated notes and other long-term debt in the Unaudited Condensed Consolidated Statements of Income. Any resulting ineffective portion of the hedging relationship is recognized in noninterest income in the Unaudited Condensed Consolidated Statements of Income.
For cash flow hedges, interest rate swap contracts were entered into that pay fixed-rate interest in exchange for the receipt of variable-rate interest without the exchange of the contract’s underlying notional amount, which effectively converts a portion of its floating-rate debt to a fixed-rate debt. This reduces the potentially adverse impact of increases in interest rates on future interest expense. Other LIBOR-based commercial and industrial loans as well as investment securities were effectively converted to fixed-rate by entering into contracts that swap certain variable-rate interest payments for fixed-rate interest payments at designated times.
To the extent these derivatives are effective in offsetting the variability of the hedged cash flows, changes in the derivatives’ fair value will not be included in current earnings but are reported as a component of OCI in the Unaudited Condensed Consolidated Statements of Shareholders’ Equity. These changes in fair value will be included in earnings of future periods when earnings are also affected by the changes in the hedged cash flows. To the extent these derivatives are not effective, changes in their fair values are immediately included in noninterest income.
The following table presents the gains and (losses) recognized in OCI and the location in the Unaudited Condensed Consolidated Statements of Income of gains and (losses) reclassified from OCI into earnings for the six-month periods ended June 30, 2011 and 2010 for derivatives designated as effective cash flow hedges:
                                     
                        Amount of (gain) or loss  
    Amount of gain or         reclassified from  
    (loss) recognized in         accumulated OCI into  
Derivatives in cash flow   OCI on derivatives     Location of gain or (loss) reclassified from   earnings (effective  
hedging relationships   (effective portion)     accumulated OCI into earnings (effective portion)   portion)  
    Six Months Ended         Six Months Ended  
    June 30,         June 30,  
(dollar amounts in thousands)   2011     2010         2011     2010  
Interest rate contracts
                                   
Loans
  $ (3,210 )   $ 47,434     Interest and fee income — loans and leases   $ 7,627     $ (73,381 )
Investment Securities
    468       —     Interest and fee income — investment securities     —       —  
FHLB Advances
    —       —     Interest expense — subordinated notes and other long-term debt     —       2,216  
Deposits
    —       —     Interest expense — deposits     —       —  
Subordinated notes
    —       —     Interest expense — subordinated notes and other long-term debt     —       (837 )
Other long term debt
    —       —     Interest expense — subordinated notes and other long-term debt     13       —  
 
                         
Total
  $ (2,742 )   $ 47,434         $ 7,640     $ (72,002 )
 
                         
During the next twelve months, Huntington expects to reclassify to earnings $35.0 million of after-tax unrealized gains on cash flow hedging derivatives currently in OCI.
The following table details the gains and (losses) recognized in noninterest income on the ineffective portion on interest rate contracts for derivatives designated as cash flow hedges for the three-month and six-month periods ended June 30, 2011 and 2010.
                                 
    Three Months Ended     Six Months Ended  
    June 30,     June 30,  
(dollar amounts in thousands)   2011     2010     2011     2010  
Derivatives in cash flow hedging relationships
                               
Interest rate contracts
                               
Loans
    (350 )     (293 )     114       574  
FHLB Advances
    —       —       —       —  
Derivatives used in trading activities
Various derivative financial instruments are offered to enable customers to meet their financing and investing objectives and for their risk management purposes. Derivative financial instruments used in trading activities consisted predominantly of interest rate swaps, but also included interest rate caps, floors, and futures, as well as foreign exchange options. Interest rate options grant the option holder the right to buy or sell an underlying financial instrument for a predetermined price before the contract expires. Interest rate futures are commitments to either purchase or sell a financial instrument at a future date for a specified price or yield and may be settled in cash or through delivery of the underlying financial instrument. Interest rate caps and floors are option-based contracts that entitle the buyer to receive cash payments based on the difference between a designated reference rate and a strike price, applied to a notional amount. Written options, primarily caps, expose Huntington to market risk but not credit risk. Purchased options contain both credit and market risk. The interest rate risk of these customer derivatives is mitigated by entering into similar derivatives having offsetting terms with other counterparties. The credit risk to these customers is evaluated and included in the calculation of fair value.
The net fair values of these derivative financial instruments, for which the gross amounts are included in accrued income and other assets or accrued expenses and other liabilities at June 30, 2011, December 31, 2010, and June 30, 2010, were $46.4 million, $46.3 million, and $43.5 million, respectively. The total notional values of derivative financial instruments used by Huntington on behalf of customers, including offsetting derivatives, were $9.8 billion, $9.8 billion, and $9.5 billion at June 30, 2011, December 31, 2010, and June 30, 2010, respectively. Huntington’s credit risks from interest rate swaps used for trading purposes were $252.8 million, $263.0 million, and $334.8 million at the same dates, respectively.
Derivatives used in mortgage banking activities
Huntington also uses certain derivative financial instruments to offset changes in value of its MSRs. These derivatives consist primarily of forward interest rate agreements and forward mortgage securities. The derivative instruments used are not designated as hedges. Accordingly, such derivatives are recorded at fair value with changes in fair value reflected in mortgage banking income. The following table summarizes the derivative assets and liabilities used in mortgage banking activities:
                         
    June 30,     December 31,     June 30,  
(dollar amounts in thousands)   2011     2010     2010  
Derivative assets:
                       
Interest rate lock agreements
  $ 2,102     $ 2,817     $ 8,469  
Forward trades and options
    580       20,669       109  
 
                 
Total derivative assets
    2,682       23,486       8,578  
 
                 
Derivative liabilities:
                       
Interest rate lock agreements
    (323 )     (1,445 )     (79 )
Forward trades and options
    (2,246 )     (883 )     (13,682 )
 
                 
Total derivative liabilities
    (2,569 )     (2,328 )     (13,761 )
 
                 
Net derivative asset (liability)
  $ 113     $ 21,158     $ (5,183 )
 
                 
The total notional value of these derivative financial instruments at June 30, 2011, December 31, 2010, and June 30, 2010, was $1.7 billion, $2.6 billion, and $3.1 billion, respectively. The total notional amount at June 30, 2011, corresponds to trading assets with a fair value of $8.4 million and trading liabilities with a fair value of $0.8 million. Total MSR hedging gains and (losses) for the three-month periods ended June 30, 2011 and 2010, were $13.1 million and $46.3 million, respectively, and $8.8 million and $58.2 million for the six-month periods ended June 30, 2011 and June 30, 2010, respectively. Included in total MSR hedging gains and losses for the three-month periods ended June 30, 2011 and 2010 were gains and (losses) related to derivative instruments of $12.6 million and $46.1 million, respectively, and $9.0 million and $57.6 million for the six-month periods ended June 30, 2011, and June 30, 2010, respectively. These amounts are included in mortgage banking income in the Unaudited Condensed Consolidated Statements of Income.