Fair Value Accounting

12 Months Ended

Dec. 31, 2019

Fair Value Disclosures [Abstract]

Fair Value Accounting

16. FAIR VALUE ACCOUNTING

The fair value of an asset or liability is the price that would be received to sell that asset or paid to transfer that liability in an orderly transaction occurring in the principal market (or most advantageous market in the absence of a principal market) for such asset or liability. In estimating fair value, the Company utilizes valuation techniques that are consistent with the market approach, the income approach, and/or the cost approach. Such valuation techniques are consistently applied. Inputs to valuation techniques include the assumptions that market participants would use in pricing an asset or liability. ASC 825 establishes a fair value hierarchy that prioritizes the inputs to valuation techniques used to measure fair value. The hierarchy gives the highest priority to unadjusted quoted prices in active markets for identical assets or liabilities (Level 1 measurements) and the lowest priority to unobservable inputs (Level 3 measurements). The three levels of the fair value hierarchy under ASC 825 are described in "Note 1. Summary of Significant Accounting Policies" of these Notes to Consolidated Financial Statements.

In general, fair value is based upon quoted market prices, where available. If such quoted market prices are not available, fair value is based upon internally-developed models that primarily use, as inputs, observable market-based parameters. Valuation adjustments may be made to ensure that financial instruments are recorded at fair value. These adjustments may include amounts to reflect counterparty credit quality and the Company’s creditworthiness, among other things, as well as unobservable parameters. Any such valuation adjustments are applied consistently over time. The Company’s valuation methodologies may produce a fair value calculation that may not be indicative of net realizable value or reflective of future fair values. While management believes the Company’s valuation methodologies are appropriate and consistent with other market participants, the use of different methodologies or assumptions to determine the fair value of certain financial instruments could result in a different estimate of fair value at the reporting date. Furthermore, the reported fair value amounts have not been comprehensively revalued since the presentation dates, and therefore, estimates of fair value after the balance sheet date may differ significantly from the amounts presented herein. A more detailed description of the valuation methodologies used for assets and liabilities measured at fair value is set forth below. Transfers between levels in the fair value hierarchy are recognized as of the end of the month following the event or change in circumstances that caused the transfer.

Under ASC 825, the Company elected the FVO treatment for junior subordinated debt issued by WAL. This election is irrevocable and results in the recognition of unrealized gains and losses on these items at each reporting date. These unrealized gains and losses are recognized as part of other comprehensive income rather than earnings. The Company did not elect FVO treatment for the junior subordinated debt assumed in the Bridge Capital Holdings acquisition.

For the years ended December 31, 2019, 2018, and 2017, unrealized gains and losses from fair value changes on junior subordinated debt were as follows:

	Year Ended December 31,
	2019			2018		2017
	(in thousands)
Unrealized gains/(losses)	$	(13,001	)	$	7,550	$	(5,824	)
Changes included in OCI, net of tax	(9,804		)	5,693		(3,604		)

Fair value on a recurring basis

Financial assets and financial liabilities measured at fair value on a recurring basis include the following:

AFS securities: Securities classified as AFS are reported at fair value utilizing Level 1 and Level 2 inputs. For these securities, the Company obtains fair value measurements from an independent pricing service. The fair value measurements consider observable data that may include quoted prices in active markets, dealer quotes, market spreads, cash flows, the U.S. Treasury yield curve, live trading levels, trade execution data, market consensus prepayment speeds, credit information, and the bond’s terms and conditions, among other things.

Equity securities: Preferred stock and CRA investments are reported at fair value utilizing Level 1 inputs.

Independent pricing service: The Company's independent pricing service provides pricing information on the majority of the Company's Level 1 and 2 AFS securities. For a small subset of securities, other pricing sources are used, including observed prices on publicly-traded securities and dealer quotes. Management independently evaluates the fair value measurements received from the Company's third-party pricing service through multiple review steps. First, management reviews what has transpired in the marketplace with respect to interest rates, credit spreads, volatility, and mortgage rates, among other things, and develops an expectation of changes to the securities' valuations from the previous quarter. Then, management selects a sample of investment securities and compares the values provided by its primary third-party pricing service to the market values obtained from secondary sources, including other pricing services and safekeeping statements, and evaluates those with notable variances. In instances where there are discrepancies in pricing from various sources and management expectations, management may manually price securities using currently observed market data to determine whether they can develop similar prices or may utilize bid information from broker dealers. Any remaining discrepancies between management's review and the prices provided by the vendor are discussed with the vendor and/or the Company's other valuation advisors.

Interest rate swaps: Interest rate swaps are reported at fair value utilizing Level 2 inputs. The Company obtains dealer quotations to value its interest rate swaps.

Junior subordinated debt: The Company estimates the fair value of its junior subordinated debt using a discounted cash flow model which incorporates the effect of the Company’s own credit risk in the fair value of the liabilities (Level 3). The Company’s cash flow assumptions are based on contractual cash flows as the Company anticipates that it will pay the debt according to its contractual terms.

The fair value of assets and liabilities measured at fair value on a recurring basis was determined using the following inputs as of the periods presented: 

	Fair Value Measurements at the End of the Reporting Period Using:
	Quoted Prices in Active Markets for Identical Assets (Level 1)		Significant Other Observable Inputs (Level 2)		Significant Unobservable Inputs (Level 3)		Fair Value
	(in thousands)
December 31, 2019
Assets:
Available-for-sale debt securities
CDO	$	—	$	10,142	$	—	$	10,142
Commercial MBS issued by GSEs	—		94,253		—		94,253
Corporate debt securities	5,127		94,834		—		99,961
Municipal securities	—		7,773		—		7,773
Private label residential MBS	—		1,129,227		—		1,129,227
Residential MBS issued by GSEs	—		1,412,060		—		1,412,060
Tax-exempt	—		554,855		—		554,855
Trust preferred securities	27,040		—		—		27,040
U.S. government sponsored agency securities	—		10,000		—		10,000
U.S. treasury securities	—		999		—		999
Total AFS debt securities	$	32,167	$	3,314,143	$	—	$	3,346,310
Equity securities
CRA investments	$	52,504	$	—	$	—	$	52,504
Preferred stock	86,197		—		—		86,197
Total equity securities	$	138,701	$	—	$	—	$	138,701
Loans - HFS	$	—	$	21,803	$	—	$	21,803
Derivative assets (1)	—		1,903		—		1,903
Liabilities:
Junior subordinated debt (2)	$	—	$	—	$	61,685	$	61,685
Derivative liabilities (1)	—		55,570		—		55,570

(1) Derivative assets and liabilities relate to interest rate swaps, see "Note 12. Derivatives and Hedging Activities." In addition, the carrying value of loans is increased by $53,292 and the net carrying value of subordinated debt is decreased by $401 as of December 31, 2019 for the effective portion of the hedge, which relates to the fair value of the hedges put in place to mitigate against fluctuations in interest rates.

(2) Includes only the portion of junior subordinated debt that is recorded at fair value at each reporting period pursuant to the election of FVO treatment.

	Fair Value Measurements at the End of the Reporting Period Using:
	Quoted Prices in Active Markets for Identical Assets (Level 1)		Significant Other Observable Inputs (Level 2)		Significant Unobservable Inputs (Level 3)		Fair Value
	(in thousands)
December 31, 2018
Assets:
Available-for-sale debt securities
CDO	$	—	$	15,327	$	—	$	15,327
Commercial MBS issued by GSEs	—		100,106		—		100,106
Corporate debt securities	—		99,380		—		99,380
Private label residential MBS	—		924,594		—		924,594
Residential MBS issued by GSEs	—		1,530,124		—		1,530,124
Tax-exempt	—		538,668		—		538,668
Trust preferred securities	—		28,617		—		28,617
U.S. government sponsored agency securities	—		38,188		—		38,188
U.S. treasury securities	—		1,984		—		1,984
Total AFS debt securities	$	—	$	3,276,988	$	—	$	3,276,988
Equity securities
CRA investments	$	51,142	$	—	$	—	$	51,142
Preferred stock	63,919		—		—		63,919
Total equity securities	$	115,061	$	—	$	—	$	115,061
Derivative assets (1)	$	—	$	2,643	$	—	$	2,643
Liabilities:
Junior subordinated debt (2)	$	—	$	—	$	48,684	$	48,684
Derivative liabilities (1)	—		45,120		—		45,120

(1) Derivative assets and liabilities relate to interest rate swaps, see "Note 12. Derivatives and Hedging Activities." In addition, the carrying value of loans is increased by $23,039 and the net carrying value of subordinated debt is decreased by $19,691 as of December 31, 2018, which relates to the effective portion of the hedges put in place to mitigate against fluctuations in interest rates.

(2) Includes only the portion of junior subordinated debt that is recorded at fair value at each reporting period pursuant to the election of FVO treatment.

For the years ended December 31, 2019, 2018, and 2017, the change in Level 3 liabilities measured at fair value on a recurring basis was as follows: 

	Junior Subordinated Debt
	Year Ended December 31,
	2019			2018			2017
	(in thousands)
Beginning balance	$	(48,684	)	$	(56,234	)	$	(50,410	)
Change in fair value (1)	(13,001		)	7,550			(5,824		)
Ending balance	$	(61,685	)	$	(48,684	)	$	(56,234	)

 

(1) Unrealized gains/(losses) attributable to changes in the fair value of junior subordinated debt are recorded as part of OCI, net of tax, and totaled $(9.8) million, $5.7 million, and $(3.6) million for the years ended December 31, 2019, 2018, and 2017, respectively.

For Level 3 liabilities measured at fair value on a recurring basis as of December 31, 2019 and 2018, the significant unobservable inputs used in the fair value measurements were as follows: 

	December 31, 2019		Valuation Technique	Significant Unobservable Inputs	Input Value
	(in thousands)
Junior subordinated debt	$	61,685	Discounted cash flow	Implied credit rating of the Company	5.09	%

 

	December 31, 2018		Valuation Technique	Significant Unobservable Inputs	Input Value
	(in thousands)
Junior subordinated debt	$	48,684	Discounted cash flow	Implied credit rating of the Company	7.82	%

The significant unobservable input used in the fair value measurement of the Company’s junior subordinated debt as of December 31, 2019 and 2018 was the implied credit risk for the Company, calculated as the difference between the 15-year 'BB' rated financial index over the corresponding swap index.

As of December 31, 2019, the Company estimates the discount rate at 5.09%, which represents an implied credit spread of 3.18% plus three-month LIBOR (1.91%). As of December 31, 2018, the Company estimated the discount rate at 7.82%, which was a 5.01% credit spread plus three-month LIBOR (2.81%).

Fair value on a nonrecurring basis

Certain assets are measured at fair value on a nonrecurring basis. That is, the assets are not measured at fair value on an ongoing basis, but are subject to fair value adjustments in certain circumstances (for example, when there is evidence of impairment). The following table presents such assets carried on the balance sheet by caption and by level within the ASC 825 hierarchy:

	Fair Value Measurements at the End of the Reporting Period Using
	Total		Quoted Prices in Active Markets for Identical Assets (Level 1)		Active Markets for Similar Assets (Level 2)		Unobservable Inputs (Level 3)
	(in thousands)
As of December 31, 2019
Impaired loans with specific valuation allowance	$	18,203	$	—	$	—	$	18,203
Impaired loans without specific valuation allowance (1)	92,069		—		—		92,069
Other assets acquired through foreclosure	13,850		—		—		13,850
As of December 31, 2018
Impaired loans with specific valuation allowance	$	305	$	—	$	—	$	305
Impaired loans without specific valuation allowance (1)	91,821		—		—		91,821
Other assets acquired through foreclosure	17,924		—		—		17,924

(1) Net of loan balances with charge-offs of $3.3 million and $19.4 million as of December 31, 2019 and 2018, respectively.

For Level 3 assets measured at fair value on a nonrecurring basis as of December 31, 2019 and 2018, the significant unobservable inputs used in the fair value measurements were as follows:

	December 31, 2019		Valuation Technique(s)		Significant Unobservable Inputs	Range
	(in thousands)
Impaired loans	$	110,272	Collateral method	Third party appraisal	Costs to sell	4.0% to 10.0%
			Discounted cash flow method	Discount rate	Contractual loan rate	4.0% to 7.0%
				Scheduled cash collections	Probability of default	0% to 20.0%
				Proceeds from non-real estate collateral	Loss given default	0% to 70.0%
Other assets acquired through foreclosure	13,850		Collateral method	Third party appraisal	Costs to sell	4.0% to 10.0%

	December 31, 2018		Valuation Technique(s)		Significant Unobservable Inputs	Range
	(in thousands)
Impaired loans	$	92,126	Collateral method	Third party appraisal	Costs to sell	4.0% to 10.0%
			Discounted cash flow method	Discount rate	Contractual loan rate	4.0% to 7.0%
				Scheduled cash collections	Probability of default	0% to 20.0%
				Proceeds from non-real estate collateral	Loss given default	0% to 70.0%
Other assets acquired through foreclosure	17,924		Collateral method	Third party appraisal	Costs to sell	4.0% to 10.0%

Impaired loans: The specific reserves for collateral dependent impaired loans are based on collateral value, net of estimated disposition costs and other identified quantitative inputs. Collateral value is determined based on independent third-party appraisals or internally-developed discounted cash flow analyses. Appraisals may utilize a single valuation approach or a combination of approaches, including comparable sales and the income approach. Fair value is determined, where possible, using market prices derived from an appraisal or evaluation, which are considered to be Level 2. However, certain assumptions and unobservable inputs are often used by the appraiser, therefore qualifying the assets as Level 3 in the fair value hierarchy. In addition, when adjustments are made to an appraised value to reflect various factors such as the age of the appraisal or known changes in the market or the collateral, such valuation inputs are considered unobservable and the fair value measurement is categorized as a Level 3 measurement. Internal discounted cash flow analyses are also utilized to estimate the fair value of impaired loans, which considers internally-developed, unobservable inputs such as discount rates, default rates, and loss severity.

Total Level 3 impaired loans had an estimated fair value of $110.3 million and $92.1 million at December 31, 2019 and 2018, respectively. Impaired loans with a specific valuation allowance had a gross estimated fair value of $21.0 million and $1.0 million at December 31, 2019 and 2018, respectively, which was reduced by a specific valuation allowance of $2.8 million and $0.7 million, respectively.

Other assets acquired through foreclosure: Other assets acquired through foreclosure consist of properties acquired as a result of, or in-lieu-of, foreclosure. These assets are initially reported at the fair value determined by independent appraisals using appraised value less estimated cost to sell. Such properties are generally re-appraised every 12 months. There is risk for subsequent volatility. Costs relating to the development or improvement of the assets are capitalized and costs relating to holding the assets are charged to expense.

Fair value is determined, where possible, using market prices derived from an appraisal or evaluation, which are considered to be Level 2. However, certain assumptions and unobservable inputs are often used by the appraiser, therefore qualifying the assets as Level 3 in the fair value hierarchy. When significant adjustments are based on unobservable inputs, such as when a current appraised value is not available or management determines the fair value of the collateral is further impaired below the appraised value and there is no observable market price, the resulting fair value measurement has been categorized as a Level 3 measurement. The Company had $13.9 million and $17.9 million of such assets at December 31, 2019 and 2018, respectively.

Credit vs. non-credit losses

Under the provisions of ASC 320, Investments-Debt and Equity Securities, OTTI is separated into the amount of total impairment related to the credit loss and the amount of the total impairment related to all other factors. The amount of the total OTTI related to the credit loss is recognized in earnings. The amount of the total impairment related to all other factors is recognized in OCI.

For the years ended December 31, 2019, 2018, and 2017, the Company determined that there were no securities that experienced credit losses.

There is no OTTI balance recognized in comprehensive income as of December 31, 2019 and 2018.

FAIR VALUE OF FINANCIAL INSTRUMENTS

The estimated fair value of the Company’s financial instruments is as follows: 

	December 31, 2019
	Carrying Amount		Fair Value
			Level 1		Level 2		Level 3		Total
	(in thousands)
Financial assets:
Investment securities:
HTM	$	485,107	$	—	$	516,261	$	—	$	516,261
AFS	3,346,310		32,167		3,314,143		—		3,346,310
Equity securities	138,701		138,701		—		—		138,701
Derivative assets	1,903		—		1,903		—		1,903
Loans, net	20,955,499		—		—		21,256,462		21,256,462
Accrued interest receivable	108,694		—		108,694		—		108,694
Financial liabilities:
Deposits	$	22,796,493	$	—	$	22,813,265	$	—	$	22,813,265
Customer repurchase agreements	16,675		—		16,675		—		16,675
Qualifying debt	393,563		—		332,635		74,155		406,790
Derivative liabilities	55,570		—		55,570		—		55,570
Accrued interest payable	24,661		—		24,661		—		24,661

	December 31, 2018
	Carrying Amount		Fair Value
			Level 1		Level 2		Level 3		Total
	(in thousands)
Financial assets:
Investment securities:
HTM	$	302,905	$	—	$	298,648	$	—	$	298,648
AFS	3,276,988		—		3,276,988		—		3,276,988
Equity securities	115,061		115,061		—		—		115,061
Derivative assets	2,643		—		2,643		—		2,643
Loans, net	17,557,912		—		16,857,852		92,126		16,949,978
Accrued interest receivable	101,275		—		101,275		—		101,275
Financial liabilities:
Deposits	$	19,177,447	$	—	$	19,188,216	$	—	$	19,188,216
Customer repurchase agreements	22,411		—		22,411		—		22,411
Other borrowings	491,000		—		491,000		—		491,000
Qualifying debt	360,458		—		323,572		57,924		381,496
Derivative liabilities	45,120		—		45,120		—		45,120
Accrued interest payable	20,463		—		20,463		—		20,463

Interest rate risk

The Company assumes interest rate risk (the risk to the Company’s earnings and capital from changes in interest rate levels) as a result of its normal operations. As a result, the fair values of the Company’s financial instruments, as well as its future net interest income will change when interest rate levels change and that change may be either favorable or unfavorable to the Company.

Interest rate risk exposure is measured using interest rate sensitivity analysis to determine the Company's change in EVE and net interest income resulting from hypothetical changes in interest rates. If potential changes to EVE and net interest income resulting from hypothetical interest rate changes are not within the limits established by the BOD, the BOD may direct management to adjust the asset and liability mix to bring interest rate risk within BOD-approved limits.

WAB has an ALCO charged with managing interest rate risk within the BOD-approved limits. Limits are structured to preclude an interest rate risk profile that does not conform to both management and BOD risk tolerances without ALCO approval. There

is also ALCO reporting at the Parent level for reviewing interest rate risk for the Company, which gets reported to the BOD and its Finance and Investment Committee.

Fair value of commitments

The estimated fair value of standby letters of credit outstanding at December 31, 2019 and 2018 is insignificant. Loan commitments on which the committed interest rates are less than the current market rate are also insignificant at December 31, 2019 and 2018.