10-Q 1 fhlb06301710q.htm FORM 10-Q Document
 
 
 
 
 
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 June 30, 2017
OR
 
o
 
TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
 

Commission File Number: 000-51999
 

FEDERAL HOME LOAN BANK OF DES MOINES
(Exact name of registrant as specified in its charter)
 
Federally chartered corporation
(State or other jurisdiction of incorporation or organization)
 
42-6000149
(I.R.S. employer identification number)
 
 
 
 
 
 
 
Skywalk Level
801 Walnut Street, Suite 200
Des Moines, IA
(Address of principal executive offices)
 


50309
(Zip code)
 

Registrant's telephone number, including area code: (515) 281-1000
 

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.
x Yes o No
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 (section 232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files).
x Yes o No
Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, a smaller reporting company, or an emerging growth company. See the definitions of large accelerated filer, accelerated filer, smaller reporting company, and emerging growth company in Rule 12b-2 of the Exchange Act.
Large accelerated filer o
 
Accelerated filer o
Non-accelerated filer x
 
Smaller reporting company o
 
 
Emerging growth company o

If an emerging growth company, indicate by check mark if the registrant has elected not to use the extended transition period for complying with any new or revised financial accounting standards provided pursuant to Section 13(a) of the Exchange Act. o

Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act).

o Yes x No
Indicate the number of shares outstanding of each of the issuer's classes of common stock, as of the latest practicable date.
 
 
Shares outstanding as of July 31, 2017
 
Class B Stock, par value $100
 
62,691,068
 
 
 
 
 
 
 
 
 



Table of Contents
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Note 15 - Activities with Stockholders
 
 
 
 
 
 
Note 16 - Activities with Other FHLBanks
 
 
 
 
 
 
Note 17 - Subsequent Events
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 


PART I - FINANCIAL INFORMATION

ITEM 1. FINANCIAL STATEMENTS (UNAUDITED)

FEDERAL HOME LOAN BANK OF DES MOINES
STATEMENTS OF CONDITION
(dollars and shares in millions, except capital stock par value)
(Unaudited)
 
 
June 30,
2017
 
December 31,
2016
ASSETS
 
 
 
 
Cash and due from banks
 
$
964

 
$
223

Interest-bearing deposits
 
2

 
2

Securities purchased under agreements to resell
 
3,500

 
5,925

Federal funds sold
 
5,100

 
5,095

Investment securities
 
 
 
 
Trading securities (Note 3)
 
2,549

 
2,553

Available-for-sale securities (Note 4)
 
22,403

 
22,969

Held-to-maturity securities (fair value of $4,265 and $4,706) (Note 5)
 
4,209

 
4,674

Total investment securities
 
29,161

 
30,196

Advances (Note 7)
 
118,878

 
131,601

Mortgage loans held for portfolio, net of allowance for credit losses of $2 and $2 (Notes 8 and 9)
 
6,953

 
6,913

Loans to other FHLBanks

 
—

 
200

Accrued interest receivable
 
206

 
197

Derivative assets, net (Note 10)
 
139

 
191

Other assets
 
85

 
62

TOTAL ASSETS
 
$
164,988

 
$
180,605

LIABILITIES
 
 
 
 
Deposits
 
 
 
 
Interest-bearing
 
$
868

 
$
1,021

Non-interest-bearing
 
96

 
92

Total deposits
 
964

 
1,113

Consolidated obligations (Note 11)
 
 
 
 
Discount notes
 
66,558

 
80,947

Bonds
 
89,171

 
89,898

Total consolidated obligations
 
155,729

 
170,845

Mandatorily redeemable capital stock (Note 12)
 
480

 
664

Accrued interest payable
 
209

 
180

Affordable Housing Program payable
 
133

 
116

Derivative liabilities, net (Note 10)
 
23

 
76

Other liabilities
 
54

 
210

TOTAL LIABILITIES
 
157,592

 
173,204

Commitments and contingencies (Note 14)
 

 

CAPITAL (Note 12)
 
 
 
 
Capital stock - Class B putable ($100 par value); 56 and 59 issued and outstanding shares
 
5,623

 
5,917

Additional capital from merger
 
—

 
52

Retained earnings
 
 
 
 
Unrestricted
 
1,399

 
1,219

Restricted
 
285

 
231

Total retained earnings
 
1,684

 
1,450

Accumulated other comprehensive income (loss)
 
89

 
(18
)
TOTAL CAPITAL
 
7,396

 
7,401

TOTAL LIABILITIES AND CAPITAL
 
$
164,988

 
$
180,605

The accompanying notes are an integral part of these financial statements.

3

FEDERAL HOME LOAN BANK OF DES MOINES
STATEMENTS OF INCOME
(dollars in millions)
(Unaudited)
 
 
For the Three Months Ended
 
For the Six Months Ended
 
 
June 30,
 
June 30,
 
 
2017
 
2016
 
2017
 
2016
INTEREST INCOME
 
 
 
 
 
 
 
 
Advances
 
$
380

 
$
188

 
$
713

 
$
357

Prepayment fees on advances, net
 
1

 
1

 
1

 
5

Interest-bearing deposits
 
1

 
—

 
1

 
1

Securities purchased under agreements to resell
 
8

 
5

 
16

 
9

Federal funds sold
 
15

 
4

 
27

 
8

Trading securities
 
12

 
14

 
23

 
26

Available-for-sale securities
 
89

 
57

 
168

 
113

Held-to-maturity securities
 
20

 
19

 
40

 
40

Mortgage loans held for portfolio
 
59

 
59

 
117

 
120

Total interest income
 
585

 
347


1,106

 
679

INTEREST EXPENSE
 
 
 
 
 
 
 
 
Consolidated obligations - Discount notes
 
124

 
113

 
233

 
222

Consolidated obligations - Bonds
 
286

 
135

 
539

 
251

Deposits
 
1

 
—

 
2

 
—

Mandatorily redeemable capital stock
 
4

 
5

 
9

 
9

Total interest expense
 
415

 
253


783

 
482

NET INTEREST INCOME
 
170

 
94


323

 
197

Provision (reversal) for credit losses on mortgage loans
 
—

 
1

 
—

 
1

NET INTEREST INCOME AFTER PROVISION (REVERSAL) FOR CREDIT LOSSES
 
170

 
93


323

 
196

OTHER INCOME (LOSS)
 
 
 
 
 
 
 
 
Net gains (losses) on trading securities
 
4

 
18

 
9

 
53

Net gains (losses) on derivatives and hedging activities
 
(3
)
 
(30
)
 
3

 
(73
)
Gains on litigation settlements, net
 
—

 
200

 
21

 
337

Other, net
 
5

 
4

 
8

 
7

Total other income (loss)
 
6

 
192


41

 
324

OTHER EXPENSE
 
 
 
 
 
 
 
 
Compensation and benefits
 
14

 
12

 
27

 
26

Contractual services
 
3

 
3

 
6

 
6

Professional fees
 
5

 
3

 
10

 
4

Other operating expenses
 
5

 
5

 
10

 
9

Federal Housing Finance Agency
 
2

 
2

 
5

 
4

Office of Finance
 
2

 
1

 
4

 
3

Other, net
 
—

 
1

 
1

 
2

Total other expense
 
31

 
27


63

 
54

NET INCOME BEFORE ASSESSMENTS
 
145

 
258


301


466

Affordable Housing Program assessments
 
15

 
26

 
31

 
47

NET INCOME
 
$
130

 
$
232


$
270


$
419

The accompanying notes are an integral part of these financial statements.

4


FEDERAL HOME LOAN BANK OF DES MOINES
STATEMENTS OF COMPREHENSIVE INCOME
(dollars in millions)
(Unaudited)
 
 
For the Three Months Ended
 
For the Six Months Ended
 
 
June 30,
 
June 30,
 
 
2017
 
2016
 
2017
 
2016
Net income
 
$
130

 
$
232

 
$
270

 
$
419

Other comprehensive income (loss)
 
 
 
 
 
 
 
 
Net unrealized gains (losses) on available-for-sale securities
 
41

 
36

 
105

 
(1
)
Pension and postretirement benefits
 
1

 
1

 
2

 
—

Total other comprehensive income (loss)
 
42

 
37


107


(1
)
TOTAL COMPREHENSIVE INCOME (LOSS)
 
$
172

 
$
269


$
377


$
418

The accompanying notes are an integral part of these financial statements.




5

FEDERAL HOME LOAN BANK OF DES MOINES
STATEMENTS OF CAPITAL
(dollars and shares in millions)
(Unaudited)

 
Capital Stock Class B (putable)
 
Additional Capital from Merger
 
Shares
 
Par Value
 
BALANCE, DECEMBER 31, 2015
47

 
$
4,714

 
$
194

Comprehensive income (loss)
—

 
—

 
—

Proceeds from issuance of capital stock
32

 
3,232

 
—

Repurchases/redemptions of capital stock
(20
)
 
(1,974
)
 
—

Net shares reclassified (to) from mandatorily redeemable capital stock
(7
)
 
(731
)
 
—

Cash dividends on capital stock
—

 
—

 
(66
)
BALANCE, JUNE 30, 2016
52

 
$
5,241

 
$
128

 
 
 
 
 
 
BALANCE, DECEMBER 31, 2016
59

 
$
5,917

 
$
52

Comprehensive income (loss)
—

 
—

 
—

Proceeds from issuance of capital stock
29

 
2,905

 
—

Repurchases/redemptions of capital stock
(32
)
 
(3,171
)
 
—

Net shares reclassified (to) from mandatorily redeemable capital stock
—

 
(28
)
 
—

Cash dividends on capital stock
—

 
—

 
(52
)
BALANCE, JUNE 30, 2017
56

 
$
5,623

 
$
—

The accompanying notes are an integral part of these financial statements.

6

FEDERAL HOME LOAN BANK OF DES MOINES
STATEMENTS OF CAPITAL (continued from previous page)
(dollars and shares in millions)
(Unaudited)
 
 
Retained Earnings
 
Accumulated Other Comprehensive Income (Loss)
 
Total
Capital
 
 
Unrestricted
 
Restricted
 
Total
 
 
BALANCE, DECEMBER 31, 2015
 
$
700

 
$
101

 
$
801

 
$
(84
)
 
$
5,625

Comprehensive income (loss)
 
335

 
84

 
419

 
(1
)
 
418

Proceeds from issuance of capital stock
 
—

 
—

 
—

 
—

 
3,232

Repurchases/redemptions of capital stock
 
—

 
—

 
—

 
—

 
(1,974
)
Net shares reclassified (to) from mandatorily redeemable capital stock
 
—

 
—

 
—

 
—

 
(731
)
Cash dividends on capital stock
 
—

 
—

 
—

 
—

 
(66
)
BALANCE, JUNE 30, 2016
 
$
1,035

 
$
185

 
$
1,220

 
$
(85
)
 
$
6,504

 
 
 
 
 
 
 
 
 
 
 
BALANCE, DECEMBER 31, 2016
 
$
1,219

 
$
231

 
$
1,450

 
$
(18
)
 
$
7,401

Comprehensive income (loss)
 
216

 
54

 
270

 
107

 
377

Proceeds from issuance of capital stock
 
—

 
—

 
—

 
—

 
2,905

Repurchases/redemptions of capital stock
 
—

 
—

 
—

 
—

 
(3,171
)
Net shares reclassified (to) from mandatorily redeemable capital stock
 
—

 
—

 
—

 
—

 
(28
)
Cash dividends on capital stock
 
(36
)
 
—

 
(36
)
 
—

 
(88
)
BALANCE, JUNE 30, 2017
 
$
1,399

 
$
285

 
$
1,684

 
$
89

 
$
7,396

The accompanying notes are an integral part of these financial statements.


7

FEDERAL HOME LOAN BANK OF DES MOINES
STATEMENTS OF CASH FLOWS
(dollars in millions)
(Unaudited)
 
 
For the Six Months Ended
 
 
June 30,
 
 
2017
 
2016
OPERATING ACTIVITIES
 
 
 
 
Net income
 
$
270

 
$
419

Adjustments to reconcile net income to net cash provided by (used in) operating activities
 
 
 
 
Depreciation and amortization
 
16

 
52

Net (gains) losses on trading securities
 
(9
)
 
(53
)
Net change in derivatives and hedging activities
 
(1
)
 
45

Other adjustments
 
(1
)
 
(8
)
Net change in:
 
 
 
 
Accrued interest receivable
 
(36
)
 
(37
)
Other assets
 
(4
)
 
(2
)
Accrued interest payable
 
29

 
14

Other liabilities
 
(15
)
 
38

Total adjustments
 
(21
)
 
49

Net cash provided by (used in) operating activities
 
249

 
468

INVESTING ACTIVITIES
 
 
 
 
Net change in:
 
 
 
 
Interest-bearing deposits
 
17

 
(460
)
Securities purchased under agreements to resell
 
2,425

 
(25
)
Federal funds sold
 
(5
)
 
(2,080
)
Premises, software, and equipment
 
(21
)
 
(5
)
Loans to other FHLBanks
 
200

 
—

Trading securities
 
 
 
 
Proceeds from maturities of long-term
 
13

 
12

Purchases of long-term
 
—

 
(1,598
)
Available-for-sale securities
 
 
 
 
Proceeds from sales and maturities of long-term
 
1,002

 
1,306

Purchases of long-term
 
(402
)
 
(1,791
)
Held-to-maturity securities
 
 
 
 
Proceeds from maturities of long-term
 
457

 
752

Advances
 
 
 
 
Principal collected
 
142,862

 
90,807

Originated or purchased
 
(130,163
)
 
(117,776
)
Mortgage loans held for portfolio
 
 
 
 
Principal collected
 
516

 
555

Originated or purchased
 
(566
)
 
(452
)
Proceeds from sales of foreclosed assets
 
4

 
9

Net cash provided by (used in) investing activities
 
16,339

 
(30,746
)
The accompanying notes are an integral part of these financial statements.

8

FEDERAL HOME LOAN BANK OF DES MOINES
STATEMENTS OF CASH FLOWS (continued from previous page)
(dollars in millions)
(Unaudited)
 
 
For the Six Months Ended
 
 
June 30,
 
 
2017
 
2016
FINANCING ACTIVITIES
 
 
 
 
Net change in deposits
 
(150
)
 
(44
)
Net payments on derivative contracts with financing elements
 
(2
)
 
(3
)
Net proceeds from issuance of consolidated obligations
 
 
 
 
Discount notes
 
118,084

 
143,494

Bonds
 
26,848

 
49,439

Payments for maturing and retiring consolidated obligations
 
 
 
 
Discount notes
 
(132,486
)
 
(150,017
)
Bonds
 
(27,575
)
 
(14,169
)
Proceeds from issuance of capital stock
 
2,905

 
3,232

Payments for repurchases/redemptions of capital stock
 
(3,171
)
 
(1,974
)
Net payments for repurchases/redemptions of mandatorily redeemable capital stock
 
(212
)
 
(136
)
Cash dividends paid
 
(88
)
 
(66
)
Net cash provided by (used in) financing activities
 
(15,847
)
 
29,756

Net increase (decrease) in cash and due from banks
 
741

 
(522
)
Cash and due from banks at beginning of the period
 
223

 
982

Cash and due from banks at end of the period
 
$
964

 
$
460

 
 
 
 
 
SUPPLEMENTAL DISCLOSURES
 
 
 
 
Cash Transactions:
 
 
 
 
Interest paid
 
$
1,091

 
$
783

Affordable Housing Program payments
 
15

 
8

Non-Cash Transactions:
 
 
 
 
Capitalized interest on reverse mortgage investment securities
 
27

 
11

Mortgage loan charge-offs
 
1

 
1

Transfers of mortgage loans to other assets
 
3

 
5

Capital stock reclassified to (from) mandatorily redeemable capital stock, net
 
28

 
731

The accompanying notes are an integral part of these financial statements.

9

FEDERAL HOME LOAN BANK OF DES MOINES
CONDENSED NOTES TO THE UNAUDITED FINANCIAL STATEMENTS

Background Information

The Federal Home Loan Bank of Des Moines (the Bank) is a federally chartered corporation organized on October 31, 1932, that is exempt from all federal, state, and local taxation (except real property taxes) and is one of 11 district Federal Home Loan Banks (FHLBanks). The FHLBanks were created under the authority of the Federal Home Loan Bank Act of 1932 (FHLBank Act). With the passage of the Housing and Economic Recovery Act of 2008 (Housing Act), the Federal Housing Finance Agency (Finance Agency) was established and became the new independent federal regulator of Federal National Mortgage Association (Fannie Mae) and Federal Home Loan Mortgage Corporation (Freddie Mac) (collectively, Enterprises), as well as the FHLBanks and FHLBanks' Office of Finance, effective July 30, 2008. The Finance Agency's mission is to ensure that the Enterprises and FHLBanks operate in a safe and sound manner so that they serve as a reliable source of liquidity and funding for housing finance and community investment. The Finance Agency establishes policies and regulations governing the operations of the Enterprises and FHLBanks. Each FHLBank operates as a separate entity with its own management, employees, and board of directors.

The FHLBanks are government-sponsored enterprises (GSEs) that serve the public by enhancing the availability of funds for residential mortgages and targeted community development. The Bank provides a readily available source of funding to its member institutions and eligible housing associates in Alaska, Hawaii, Idaho, Iowa, Minnesota, Missouri, Montana, North Dakota, Oregon, South Dakota, Utah, Washington, Wyoming, and the U.S. Pacific territories of American Samoa, Guam, and the Commonwealth of the Northern Mariana Islands. Commercial banks, savings institutions, credit unions, insurance companies, and community development financial institutions (CDFIs) may apply for membership. State and local housing associates that meet certain statutory criteria may also borrow from the Bank; while eligible to borrow, housing associates are not members of the Bank and, as such, are not permitted to hold capital stock.

The Bank is a cooperative. This means the Bank is owned by its customers, whom the Bank calls members. As a condition of membership in the Bank, all members must purchase and maintain membership capital stock based on a percentage of their total assets, subject to a minimum and maximum amount, as of the preceding December 31st. Each member is also required to purchase and maintain activity-based capital stock to support certain business activities with the Bank.

The Bank's current and former members own all of the outstanding capital stock of the Bank. Former members own capital stock (included in mandatorily redeemable capital stock) to support business transactions still carried on the Bank's Statements of Condition. All stockholders, including current and former members, may receive dividends on their capital stock investment to the extent declared by the Bank's Board of Directors.




10

Note 1 — Basis of Presentation

The accompanying unaudited financial statements have been prepared in accordance with accounting principles generally accepted in the United States of America (GAAP) for interim financial information. Accordingly, they do not include all of the disclosures required by GAAP for annual financial statements and should be read in conjunction with the audited financial statements for the year ended December 31, 2016, which are contained in the Bank's 2016 Annual Report on Form 10-K filed with the SEC on March 21, 2017 (2016 Form 10-K).

In the opinion of management, the unaudited financial information is complete and reflects all adjustments, consisting of normal recurring adjustments, necessary for a fair statement of results for the interim periods. The preparation of financial statements in accordance with GAAP requires management to make assumptions and estimates that affect the amounts reported in the financial statements and accompanying notes. Actual results could differ from these estimates. The results of operations for interim periods are not necessarily indicative of the results to be expected for the full year ending December 31, 2017.

FHLB Des Moines Headquarters. The Bank leases its headquarters office space from Wells Fargo Bank. On June 22, 2017, a storm pipe broke at the Bank's headquarters causing significant water damage to the Bank's office space rendering it totally uninhabitable. From June 23 through July 14 of this year, the Bank utilized its back-up data center, and employees worked out of a business recovery center located in Urbandale, Iowa, additional leased space in downtown Des Moines, and remotely. On July 17, 2017, the Bank resumed use of its primary data center at its headquarters; however, staff continue to work from alternative locations. Through the date of this filing, there have been no material disruptions to the Bank's operations or to its ability to serve its members.

The Bank incurred immaterial expenses related to damages caused by the storm drain break during the second quarter of 2017. The Bank expects additional expenses, including the write-off of equipment and lease costs related to the lease of back-up office space, to be incurred during the third quarter 2017. At this time, the full amount of combined property damage and recoveries cannot be estimated, and accordingly, no additional amounts, including amounts for insurance recoveries, have been recorded in the Bank's financial statements as of June 30, 2017.

The Bank expects that insurance, less applicable deductibles, will cover the majority of the costs incurred to maintain operations, repair or replace damaged Bank property and assets, and restore the premises to the condition it was in prior to the time the water damage occurred. The timing is uncertain as to when the repairs to the Bank's headquarters will be completed and the Bank's office space will be ready for re-occupancy. The total impact of the water damage is not expected, however, to materially impact the Bank's financial condition or results of operations.

SIGNIFICANT ACCOUNTING POLICIES

There have been no material changes to the Bank's significant accounting policies during the six months ended June 30, 2017, with the exception of one policy noted below which was updated in the first quarter 2017 Form 10-Q. Descriptions of all significant accounting policies are included in "Note 1 - Summary of Significant Accounting Policies" in the 2016 Form 10-K.

Derivatives. All derivatives are recognized on the Statements of Condition at their fair values and reported as either derivative assets or derivative liabilities, net of cash collateral, including initial margin, and accrued interest received from or pledged to clearing agents and/or counterparties. The fair values of derivatives are netted by clearing agent and/or counterparty when the netting requirements have been met. If these netted amounts are positive, they are classified as a derivative asset and, if negative, they are classified as a derivative liability. Cash flows associated with derivatives are reflected as cash flows from operating activities in the Statements of Cash Flows unless the derivative meets the criteria to be a financing derivative.

The Bank utilizes one Derivative Clearing Organization (Clearinghouse), CME Clearing, for all cleared derivative transactions. Effective January 3, 2017, CME Clearing made certain amendments to its rulebook changing the legal characterization of variation margin payments to be daily settlement payments, which are a component of the derivative fair value, rather than collateral. Initial margin is considered cash collateral.




11

Note 2 — Recently Adopted and Issued Accounting Guidance

ADOPTED ACCOUNTING GUIDANCE

Contingent Put and Call Options in Debt Instruments

On March 14, 2016, the Financial Accounting Standards Board (FASB) issued amendments to clarify the requirements for assessing whether contingent call (put) options that can accelerate the payment of principal on debt instruments are clearly and closely related to their debt hosts. The guidance requires entities to apply only the four-step decision sequence when assessing whether the economic characteristics and risks of call (put) options are clearly and closely related to the economic characteristics and risks of their debt hosts. Consequently, when a call (put) option is contingently exercisable, an entity does not have to assess whether the event that triggers the ability to exercise a call (put) option is related to interest rates or credit risks. This guidance became effective for the Bank for the interim and annual periods beginning on January 1, 2017. The adoption of this guidance did not have an effect on the Bank's financial conditions, results of operations, or cash flows.
ISSUED ACCOUNTING GUIDANCE
Premium Amortization on Purchased Callable Debt Securities

On March 30, 2017, FASB issued guidance for the amortization period for certain purchased callable debt securities held at a premium. Specifically, this guidance requires the premium to be amortized to the earliest call date. This guidance does not require an accounting change for securities held at a discount; the discount continues to be amortized to maturity. This guidance affects all entities that hold investments in callable debt securities that have an amortized cost basis in excess of the amount that is repayable by the issuer at the earliest call date (that is, at a premium). This guidance is effective for the Bank for interim and annual periods beginning on January 1, 2019, and early adoption is permitted. This guidance should be applied using a modified retrospective method through a cumulative-effect adjustment directly to retained earnings as of the beginning of the period of adoption. The Bank is in the process of evaluating this guidance, but its effect on the Bank's financial condition, results of operations, and cash flows has not yet been determined.

Presentation of Net Periodic Pension Cost and Net Periodic Postretirement Benefit Cost

On March 10, 2017, the FASB issued the guidance to improve the presentation of net periodic pension cost and net periodic postretirement benefit cost. This guidance requires entities to disaggregate the service cost component from the other components of net benefit cost. The guidance also provide explicit guidance on how to present the service cost component and the other components of net benefit cost in the income statement and allow only the service cost component of net benefit cost to be eligible for capitalization. This guidance is effective for the Bank for interim and annual periods beginning on January 1, 2018, and early adoption is permitted. This guidance should be applied retrospectively for the presentation of the service cost component and the other components of net periodic pension cost and net periodic postretirement benefit cost in the income statement and prospectively, on and after the effective date, for the capitalization of the service cost component of net periodic pension cost and net periodic postretirement benefit in assets. The Bank is in the process of evaluating this guidance, but its effect on the Banks’ financial condition, results of operations, and cash flows has not yet been determined.

Classification of Certain Cash Receipts and Cash Payments

On August 26, 2016, the FASB issued amendments to clarify guidance on the classification of certain cash receipts and payments in the statement of cash flows. This guidance is intended to reduce existing diversity in practice in how certain cash receipts and cash payments are presented and classified in the statement of cash flows. This guidance is effective for the Bank for interim and annual periods beginning on January 1, 2018, and early adoption is permitted. This guidance should be applied using a retrospective transition method to each period presented. The Bank does not intend to adopt this guidance early. The adoption of this guidance will have no effect on the Bank's financial condition, results of operations, or cash flows.
Measurement of Credit Losses on Financial Instruments

On June 16, 2016, the FASB issued amended guidance for the accounting of credit losses on financial instruments. The amendments require entities to measure expected credit losses based on relevant information about past events, including historical experience, current conditions, and reasonable and supportable forecasts that affect the collectability of the reported amount. An entity must use judgment in determining the relevant information and estimation methods that are appropriate in its circumstances. The new guidance requires a financial asset, or a group of financial assets, measured at amortized cost to be presented at the net amount expected to be collected. The guidance also requires, among other things, the following:

12

•
The statement of income to reflect the measurement of credit losses for newly recognized financial assets, as well as the expected increases or decreases of expected credit losses that have taken place during the period.

•
Entities to determine the allowance for credit losses for purchased financial assets with a more-than-insignificant amount of credit deterioration since origination (PCD assets) that are measured at amortized cost in a similar manner to other financial assets measured at amortized cost. The initial allowance for credit losses is required to be added to the purchase price of the assets acquired.

•
Entities to record credit losses relating to available-for-sale (AFS) debt securities through an allowance for credit losses. The amendments limit the allowance for credit losses to the amount by which fair value is below amortized cost.

•
Public entities to further disaggregate the current disclosure of credit quality indicators in relation to the amortized cost of financing receivables by the year of origination (i.e., vintage).

This guidance is effective for the Bank for interim and annual periods beginning on January 1, 2020. Early application is permitted as of the interim and annual reporting periods beginning after December 15, 2018. This guidance should be applied using a modified-retrospective approach, through a cumulative-effect adjustment to retained earnings as of the beginning of the first reporting period in which the guidance is effective. In addition, entities are required to use a prospective transition approach for PCD assets upon adoption and for debt securities for which an other-than-temporary impairment had been recognized before the effective date. The Bank does not intend to adopt the new guidance early. While the Bank is in the process of evaluating this guidance, the Bank expects the adoption of the guidance may result in an increase in the allowance for credit losses, including an allowance for debt securities, given the requirement to assess losses for the entire estimated life of the financial asset. The effect on the Bank's financial condition, results of operations, and cash flows will depend upon the composition of financial assets held by the Bank at the adoption date as well as the economic conditions and forecasts at that time.
Leases

On February 25, 2016, the FASB issued guidance which requires recognition of lease assets and lease liabilities on the statement of condition and disclosure of key information about leasing arrangements. Specifically, this guidance requires a lessee, of operating or finance leases, to recognize on the statement of condition a liability to make lease payments and a right-of-use asset representing its right to use the underlying asset for the lease term. For leases with a term of 12 months or less, a lessee is permitted to make an accounting policy election not to recognize lease assets and lease liabilities. Under previous GAAP, a lessee was not required to recognize lease assets and lease liabilities arising from operating leases on the statement of condition. While this guidance does not fundamentally change lessor accounting, some changes have been made to align that guidance with the lessee guidance and other areas within GAAP.

This guidance becomes effective for the Bank for the interim and annual periods beginning on January 1, 2019, and early application is permitted. This guidance requires lessors and lessees to recognize and measure leases at the beginning of the earliest period presented in the financial statements using a modified retrospective approach. The Bank does not intend to adopt this new guidance early. Upon adoption, the Bank expects to report higher assets and liabilities as a result of recording right-of-use assets and lease liabilities on its statements of condition. The Bank is in the process of evaluating this guidance, but its effect on the Bank's financial condition, results of operations, or cash flows has not yet been determined.

Recognition and Measurement of Financial Assets and Financial Liabilities

On January 5, 2016, the FASB issued amended guidance on certain aspects of recognition, measurement, presentation, and disclosure of financial instruments. This guidance includes, but is not limited to, the following:

•
Requires an entity to present separately in other comprehensive income (OCI) the portion of the total change in the fair value of a liability resulting from a change in the instrument-specific credit risk when the entity has elected to measure the liability at fair value in accordance with the fair value option for financial instruments.

•
Requires separate presentation of financial assets and financial liabilities by measurement category and form of financial asset (that is, securities or loans and receivables) on the statements of condition or the accompanying notes to the financial statements.


13

•
Eliminates the requirement for public entities to disclose the method(s) and significant assumptions used to estimate the fair value that is required to be disclosed for financial instruments measured at amortized cost on the statements of condition.

This guidance becomes effective for the Bank for the interim and annual periods beginning on January 1, 2018, and early adoption is only permitted for certain provisions. The amendments, in general, should be applied by means of a cumulative-effect adjustment to the statements of condition as of the beginning of the period of adoption. While this guidance will affect the Bank's disclosures, the Bank does not expect the requirement to present the instrument-specific credit risk in OCI to have a material effect on the Bank's financial condition, results of operations, or cash flows.

Revenue from Contracts with Customers

On May 28, 2014, the FASB issued guidance on revenue from contracts with customers. This guidance outlines a single comprehensive model for recognizing revenue arising from contracts with customers and supersedes most current revenue recognition guidance. In addition, this guidance amends the existing requirements for the recognition of a gain or loss on the transfer of non-financial assets that are not in a contract with a customer. This guidance applies to all contracts with customers except those that are within the scope of certain other standards, such as financial instruments, certain guarantees, insurance contracts, and lease contracts. The guidance provides entities with the option of using either of the following adoption methods: a full retrospective method, retrospectively to each prior reporting period presented; or a modified retrospective method, retrospectively with the cumulative effect of initially applying this guidance recognized at the date of initial application.

On August 12, 2015, the FASB issued an amendment to defer the effective date of this guidance issued in May 2014 by one year. In 2016, the FASB has issued additional amendments to clarify certain aspects of the new revenue guidance. However, these amendments do not change the core principle in the new revenue standard.

This guidance is effective for the Bank for interim and annual periods beginning on January 1, 2018. Early application is permitted only as of the interim and annual reporting periods beginning after December 15, 2016. The Bank does not intend to adopt this new guidance early. Given that the majority of the Bank's financial instruments and other contractual rights that generate revenue are covered by other U.S. GAAP, the effect of this guidance on the Bank's financial condition, results of operations, and cash flows is not expected to be material.

Note 3 — Trading Securities

MAJOR SECURITY TYPES

Trading securities were as follows (dollars in millions):
 
June 30,
2017
 
December 31,
2016
Non-mortgage-backed securities
 
 
 
Other U.S. obligations1
$
207

 
$
216

GSE and Tennessee Valley Authority obligations
1,612

 
1,611

Other2
275

 
273

     Total non-mortgage-backed securities
2,094

 
2,100

Mortgage-backed securities
 
 
 
GSE multifamily
455

 
453

Total fair value
$
2,549

 
$
2,553


1
Represents investment securities backed by the full faith and credit of the U.S. Government.

2
Consists of taxable municipal bonds.

NET GAINS (LOSSES) ON TRADING SECURITIES

The Bank did not sell any trading securities during the three and six months ended June 30, 2017 and 2016. During the three and six months ended June 30, 2017, the Bank recorded net holding gains of $4 million and $9 million on its trading securities compared to net holding gains of $18 million and $53 million for the same periods in 2016.


14

Note 4 — Available-for-Sale Securities

MAJOR SECURITY TYPES

AFS securities were as follows (dollars in millions):
 
June 30, 2017
 
Amortized
Cost1
 
Gross
Unrealized
Gains
 
Gross
Unrealized
Losses
 

Fair
Value
Non-mortgage-backed securities
 
 
 
 
 
 
 
Other U.S. obligations2
$
3,325

 
$
5

 
$
(7
)
 
$
3,323

GSE and Tennessee Valley Authority obligations
1,278

 
26

 
—

 
1,304

State or local housing agency obligations
989

 
—

 
(1
)
 
988

Other3
273

 
8

 
—

 
281

Total non-mortgage-backed securities
5,865

 
39

 
(8
)
 
5,896

Mortgage-backed securities
 
 
 
 
 
 
 
Other U.S. obligations single-family2
3,936

 
12

 
(2
)
 
3,946

GSE single-family
1,116

 
9

 
—

 
1,125

GSE multifamily
11,395

 
51

 
(10
)
 
11,436

Total mortgage-backed securities
16,447

 
72

 
(12
)
 
16,507

Total
$
22,312

 
$
111

 
$
(20
)
 
$
22,403


 
December 31, 2016
 
Amortized
Cost1
 
Gross
Unrealized
Gains
 
Gross
Unrealized
Losses
 

Fair
Value
Non-mortgage-backed securities
 
 
 
 
 
 
 
Other U.S. obligations2
$
3,537

 
$
5

 
$
(13
)
 
$
3,529

GSE and Tennessee Valley Authority obligations
1,341

 
11

 
(1
)
 
1,351

State or local housing agency obligations
1,010

 
—

 
(1
)
 
1,009

Other3
272

 
6

 
—

 
278

Total non-mortgage-backed securities
6,160

 
22

 
(15
)
 
6,167

Mortgage-backed securities
 
 
 
 
 
 
 
Other U.S. obligations single-family2
3,852

 
2

 
(16
)
 
3,838

GSE single-family
1,257

 
7

 
(3
)
 
1,261

GSE multifamily
11,714

 
30

 
(41
)
 
11,703

Total mortgage-backed securities
16,823

 
39

 
(60
)
 
16,802

Total
$
22,983

 
$
61

 
$
(75
)
 
$
22,969


1
Amortized cost includes adjustments made to the cost basis of an investment for accretion, amortization, and/or fair value hedge accounting adjustments.

2
Represents investment securities backed by the full faith and credit of the U.S. Government.

3
Consists of taxable municipal bonds and/or Private Export Funding Corporation (PEFCO) bonds.



15

UNREALIZED LOSSES

The following tables summarize AFS securities with unrealized losses by major security type and length of time that individual securities have been in a continuous unrealized loss position (dollars in millions). In cases where the gross unrealized losses for an investment category are less than $1 million, the losses are not reported.
 
June 30, 2017
 
Less than 12 Months
 
12 Months or More
 
Total
 
Fair
Value
 
Unrealized
Losses
 
Fair
Value
 
Unrealized
Losses
 
Fair
Value
 
Unrealized
Losses
Non-mortgage-backed securities
 
 
 
 
 
 
 
 
 
 
 
Other U.S. obligations1
$
305

 
$
(1
)
 
$
2,356

 
$
(6
)
 
$
2,661

 
$
(7
)
State or local housing agency obligations
53

 
—

 
628

 
(1
)
 
681

 
(1
)
Total non-mortgage-backed securities
358

 
(1
)
 
2,984

 
(7
)
 
3,342

 
(8
)
Mortgage-backed securities
 
 
 
 
 
 
 
 
 
 
 
Other U.S. obligations single-family1
—

 
—

 
1,335

 
(2
)
 
1,335

 
(2
)
GSE single-family
115

 
—

 
61

 
—

 
176

 
—

GSE multifamily
544

 
—

 
3,293

 
(10
)
 
3,837

 
(10
)
Total mortgage-backed securities
659

 
—

 
4,689

 
(12
)
 
5,348

 
(12
)
Total
$
1,017

 
$
(1
)
 
$
7,673

 
$
(19
)
 
$
8,690

 
$
(20
)

 
December 31, 2016
 
Less than 12 Months
 
12 Months or More
 
Total
 
Fair
Value
 
Unrealized
Losses
 
Fair
Value
 
Unrealized
Losses
 
Fair
Value
 
Unrealized
Losses
Non-mortgage-backed securities
 
 
 
 
 
 
 
 
 
 
 
Other U.S. obligations1
$
209

 
$
—

 
$
2,972

 
$
(12
)
 
$
3,181

 
$
(12
)
GSE and Tennessee Valley Authority obligations
—

 
—

 
126

 
(1
)
 
126

 
(1
)
State or local housing agency obligations
354

 
(1
)
 
395

 
(1
)
 
749

 
(2
)
Total non-mortgage-backed securities
563

 
(1
)
 
3,493

 
(14
)
 
4,056

 
(15
)
Mortgage-backed securities
 
 
 
 
 
 
 
 
 
 
 
Other U.S. obligations single-family1
1,123

 
(2
)
 
2,076

 
(14
)
 
3,199

 
(16
)
GSE single-family
545

 
(3
)
 
32

 
—

 
577

 
(3
)
GSE multifamily
2,713

 
(6
)
 
6,315

 
(35
)
 
9,028

 
(41
)
Total mortgage-backed securities
4,381

 
(11
)
 
8,423

 
(49
)
 
12,804

 
(60
)
Total
$
4,944

 
$
(12
)
 
$
11,916

 
$
(63
)
 
$
16,860

 
$
(75
)

1
Represents investment securities backed by the full faith and credit of the U.S. Government.





16

CONTRACTUAL MATURITY

The following table summarizes AFS securities by contractual maturity. Expected maturities of some securities may differ from contractual maturities as borrowers may have the right to call or prepay obligations with or without call or prepayment fees (dollars in millions):
 
 
June 30, 2017
 
December 31, 2016
Year of Contractual Maturity
 
Amortized
Cost
 
Fair
Value
 
Amortized
Cost
 
Fair
Value
Non-mortgage-backed securities
 
 
 
 
 
 
 
 
Due in one year or less
 
$
227

 
$
231

 
$
133

 
$
134

Due after one year through five years
 
727

 
731

 
489

 
496

Due after five years through ten years
 
3,858

 
3,862

 
4,452

 
4,447

Due after ten years
 
1,053

 
1,072

 
1,086

 
1,090

Total non-mortgage-backed securities
 
5,865

 
5,896

 
6,160

 
6,167

Mortgage-backed securities
 
16,447

 
16,507

 
16,823

 
16,802

Total
 
$
22,312

 
$
22,403

 
$
22,983

 
$
22,969




17

Note 5 — Held-to-Maturity Securities

MAJOR SECURITY TYPES

Held-to-maturity (HTM) securities were as follows (dollars in millions):
 
June 30, 2017
 
Amortized
Cost1
 
Gross
Unrealized
Gains
 
Gross
Unrealized
Losses
 
Fair
Value
Non-mortgage-backed securities
 
 
 
 
 
 
 
GSE and Tennessee Valley Authority obligations
$
395

 
$
66

 
$
—

 
$
461

State or local housing agency obligations
655

 
2

 
(9
)
 
648

Total non-mortgage-backed securities
1,050

 
68

 
(9
)
 
1,109

Mortgage-backed securities
 
 
 
 
 
 
 
Other U.S. obligations single-family2
20

 
—

 
—

 
20

Other U.S. obligations commercial2
3

 
—

 
—

 
3

GSE single-family
3,122

 
7

 
(10
)
 
3,119

Private-label residential
14

 
—

 
—

 
14

Total mortgage-backed securities
3,159

 
7

 
(10
)
 
3,156

Total
$
4,209

 
$
75

 
$
(19
)
 
$
4,265


 
December 31, 2016
 
Amortized
Cost1
 
Gross
Unrealized
Gains
 
Gross
Unrealized
Losses
 
Fair
Value
Non-mortgage-backed securities
 
 
 
 
 
 
 
GSE and Tennessee Valley Authority obligations
$
397

 
$
60

 
$
(1
)
 
$
456

State or local housing agency obligations
688

 
1

 
(11
)
 
678

Total non-mortgage-backed securities
1,085

 
61

 
(12
)
 
1,134

Mortgage-backed securities
 
 
 
 
 
 
 
Other U.S. obligations single-family2
26

 
—

 
—

 
26

Other U.S. obligations commercial2
4

 
—

 
—

 
4

GSE single-family
3,543

 
4

 
(20
)
 
3,527

Private-label residential
16

 
—

 
(1
)
 
15

Total mortgage-backed securities
3,589

 
4

 
(21
)
 
3,572

Total
$
4,674

 
$
65

 
$
(33
)
 
$
4,706


1
Amortized cost includes adjustments made to the cost basis of an investment for accretion or amortization.

2
Represents investment securities backed by the full faith and credit of the U.S. Government.



18

UNREALIZED LOSSES

The following tables summarize HTM securities with unrealized losses by major security type and the length of time that individual securities have been in a continuous unrealized loss position (dollars in millions). In cases where the gross unrealized losses for an investment category are less than $1 million, the losses are not reported.
 
June 30, 2017
 
Less than 12 Months
 
12 Months or More
 
Total
 
Fair
Value
 
Unrealized
Losses
 
Fair
Value
 
Unrealized
Losses
 
Fair
Value
 
Unrealized
Losses
Non-mortgage-backed securities
 
 
 
 
 
 
 
 
 
 
 
State or local housing agency obligations
$
1

 
$
—

 
$
268

 
$
(9
)
 
$
269

 
$
(9
)
Total non-mortgage-backed securities
1

 
—

 
268

 
(9
)
 
269

 
(9
)
Mortgage-backed securities
 
 
 
 
 
 
 
 
 
 
 
Other U.S. obligations single-family1
10

 
—

 
1

 
—

 
11

 
—

Other U.S. obligations commercial1
—

 
—

 
2

 
—

 
2

 
—

GSE single-family
800

 
(7
)
 
937

 
(3
)
 
1,737

 
(10
)
Private-label residential
—

 
—

 
9

 
—

 
9

 
—

Total mortgage-backed securities
810

 
(7
)
 
949

 
(3
)
 
1,759

 
(10
)
Total
$
811

 
$
(7
)
 
$
1,217

 
$
(12
)
 
$
2,028

 
$
(19
)

 
December 31, 2016
 
Less than 12 Months
 
12 Months or More
 
Total
 
Fair
Value
 
Unrealized
Losses
 
Fair
Value
 
Unrealized
Losses
 
Fair
Value
 
Unrealized
Losses
Non-mortgage backed securities
 
 
 
 
 
 
 
 
 
 
 
GSE and Tennessee Valley Authority obligations
$
73

 
$
(1
)
 
$
—

 
$
—

 
$
73

 
$
(1
)
State or local housing agency obligations
291

 
(11
)
 
10

 
—

 
301

 
(11
)
Total non-mortgage-backed securities
364

 
(12
)
 
10

 
—

 
374

 
(12
)
Mortgage-backed securities
 
 
 
 
 
 
 
 
 
 
 
Other U.S. obligations single-family1
12

 
—

 
—

 
—

 
12

 
—

Other U.S. obligations commercial1
—

 
—

 
3

 
—

 
3

 
—

GSE single-family
1,918

 
(15
)
 
1,224

 
(5
)
 
3,142

 
(20
)
Private-label residential
5

 
—

 
10

 
(1
)
 
15

 
(1
)
Total mortgage-backed securities
1,935

 
(15
)
 
1,237

 
(6
)
 
3,172

 
(21
)
Total
$
2,299

 
$
(27
)
 
$
1,247

 
$
(6
)
 
$
3,546

 
$
(33
)

1
Represents investment securities backed by the full faith and credit of the U.S. Government.


19

CONTRACTUAL MATURITY

The following table summarizes HTM securities by contractual maturity. Expected maturities of some securities may differ from contractual maturities as borrowers may have the right to call or prepay obligations with or without call or prepayment fees (dollars in millions):
 
 
June 30, 2017
 
December 31, 2016
Year of Contractual Maturity
 
Amortized
Cost
 
Fair
Value
 
Amortized
Cost
 
Fair
Value
Non-mortgage-backed securities
 
 
 
 
 
 
 
 
Due in one year or less
 
$
11

 
$
11

 
$
11

 
$
11

Due after one year through five years
 
55

 
55

 
62

 
62

Due after five years through ten years
 
363

 
397

 
367

 
399

Due after ten years
 
621

 
646

 
645

 
662

Total non-mortgage-backed securities
 
1,050

 
1,109

 
1,085

 
1,134

Mortgage-backed securities
 
3,159

 
3,156

 
3,589

 
3,572

Total
 
$
4,209

 
$
4,265

 
$
4,674

 
$
4,706


Note 6 — Other-Than-Temporary Impairment

The Bank evaluates its individual AFS and HTM securities in an unrealized loss position for other-than-temporary impairment (OTTI) on a quarterly basis. As part of its evaluation of securities for OTTI, the Bank considers its intent to sell each debt security and whether it is more likely than not that it will be required to sell the security before its anticipated recovery. If either of these conditions is met, the Bank will recognize an OTTI charge to earnings equal to the entire difference between the security's amortized cost basis and its fair value at the reporting date. For securities in an unrealized loss position that meet neither of these conditions, the Bank performs analyses to determine if any of these securities are other-than-temporarily impaired. The analysis of the Bank's AFS and HTM investment securities in an unrealized loss position at June 30, 2017 is discussed below:

•
Other U.S. obligations and GSE and Tennessee Valley Authority obligations. The unrealized losses were due primarily to changes in interest rates and credit spreads, and not to a significant deterioration in the fundamental credit quality of the obligations. The strength of the issuers' guarantees through direct obligations or support from the U.S. Government was sufficient to protect the Bank from losses based on current expectations. The Bank expects to recover the amortized cost bases on these securities and neither intends to sell these securities nor considers it more likely than not that it will be required to sell these securities before recovery of their amortized cost bases. As such, the Bank did not consider these securities to be other-than-temporarily impaired at June 30, 2017.

•
State or local housing agency obligations. The unrealized losses were due to changes in interest rates, credit spreads, and illiquidity in the credit markets, and not to a significant deterioration in the fundamental credit quality of the obligations. The creditworthiness of the issuers and the strength of the underlying collateral and credit enhancements were sufficient to protect the Bank from losses based on current expectations. The Bank does not intend to sell these securities nor is it more likely than not that it will be required to sell these securities before recovery of their amortized cost bases. As such, the Bank did not consider these securities to be other-than-temporarily impaired at June 30, 2017.

•
Private-label residential mortgage-backed securities. On a quarterly basis, the Bank engages other designated FHLBanks to perform cash flow analyses on its private-label mortgage-backed securities (private-label MBS). As of June 30, 2017, the Bank compared the present value of cash flows expected to be collected with respect to its private-label MBS to the amortized cost bases of the securities to determine whether a credit loss existed. At June 30, 2017, the Bank's cash flow analyses for private-label MBS did not project any credit losses. The Bank does not intend to sell its private-label MBS nor is it more likely than not that the Bank will be required to sell its private-label MBS before recovery of their amortized cost bases. As a result, the Bank did not consider any of its private-label MBS to be other-than-temporarily impaired at June 30, 2017.


20

Note 7 — Advances

CONTRACTUAL MATURITY

The following table summarizes the Bank's advances outstanding by contractual maturity (dollars in millions):
 
 
June 30, 2017
 
December 31, 2016
Year of Contractual Maturity
 
Amount
 
Weighted
Average
Interest
Rate
 
Amount
 
Weighted
Average
Interest
Rate
Overdrawn demand deposit accounts
 
$
3

 
4.31
%
 
$
1

 
3.81
%
Due in one year or less
 
42,781

 
1.45

 
22,532

 
1.13

Due after one year through two years
 
19,797

 
1.45

 
29,791

 
1.12

Due after two years through three years
 
14,030

 
1.48

 
30,023

 
0.98

Due after three years through four years
 
21,118

 
1.41

 
17,615

 
1.00

Due after four years through five years
 
8,707

 
1.72

 
17,197

 
1.11

Thereafter
 
12,402

 
1.80

 
14,378

 
1.11

Total par value
 
118,838

 
1.50
%
 
131,537

 
1.07
%
Premiums
 
65

 
 
 
83

 
 
Discounts
 
(5
)
 
 
 
(7
)
 
 
Fair value hedging adjustments
 
(20
)
 
 
 
(12
)
 
 
Total
 
$
118,878

 
 
 
$
131,601

 
 

The following table summarizes all advances by year of contractual maturity or next call date for callable advances, and by year of contractual maturity or next put date for putable advances (dollars in millions):
 
 
Year of Contractual Maturity
or Next Call Date
 
Year of Contractual Maturity
or Next Put Date
 
 
June 30, 2017
 
December 31, 2016
 
June 30, 2017
 
December 31, 2016
Overdrawn demand deposit accounts
 
$
3

 
$
1

 
$
3

 
$
1

Due in one year or less
 
79,669

 
93,471

 
43,130

 
23,532

Due after one year through two years
 
17,712

 
9,978

 
19,640

 
28,983

Due after two years through three years
 
9,390

 
15,515

 
14,030

 
30,023

Due after three years through four years
 
2,841

 
2,734

 
20,980

 
17,615

Due after four years through five years
 
6,906

 
7,670

 
8,674

 
17,026

Thereafter
 
2,317

 
2,168

 
12,381

 
14,357

Total par value
 
$
118,838

 
$
131,537

 
$
118,838

 
$
131,537

 
The Bank offers advances to members and eligible housing associates that may be prepaid on pertinent dates (call dates) prior to maturity without incurring prepayment fees (callable advances). Other advances may only be prepaid by paying a fee to the Bank (prepayment fee) that makes the Bank financially indifferent to the prepayment of the advance. At June 30, 2017 and December 31, 2016, the Bank had callable advances outstanding totaling $45.5 billion and $78.5 billion.

The Bank also offers putable advances. With a putable advance, the Bank has the right to terminate the advance from the borrower on the predetermined exercise dates. Generally, these put options are exercised when interest rates increase relative to contractual rates. At June 30, 2017 and December 31, 2016, the Bank had putable advances outstanding totaling $1.3 billion and $1.9 billion.


21

PREPAYMENT FEES

The Bank generally charges a prepayment fee for advances that a borrower elects to terminate prior to the stated maturity or outside of a predetermined call or put date. The fees charged are priced to make the Bank financially indifferent to the prepayment of the advance. For certain advances with symmetrical prepayment features, the Bank may charge the borrower a prepayment fee or pay the borrower a prepayment credit, depending on certain circumstances, such as movements in interest rates, when the advance is prepaid. Prepayment fees and credits are recorded net of fair value hedging adjustments in the Statements of Income.  

The following table summarizes the Bank's prepayment fees on advances, net (dollars in millions):
 
For the Three Months Ended
 
For the Six Months Ended
 
June 30,
 
June 30,
 
2017
 
2016
 
2017
 
2016
Prepayment fee income
$
1

 
$
2

 
$
1

 
$
9

Fair value hedging adjustments1
—

 
(1
)
 
—

 
(4
)
Prepayment fees on advances, net
$
1

 
$
1

 
$
1

 
$
5


1
Represents the amortization/accretion of fair value hedging adjustments on closed advance hedge relationships resulting from advance prepayments.

CREDIT RISK EXPOSURE AND SECURITY TERMS

The Bank's potential credit risk from advances is concentrated in commercial banks, savings institutions, and insurance companies. At June 30, 2017 and December 31, 2016, the Bank had outstanding advances of $63 billion and $77 billion to one member that individually held 10 percent or more of the Bank's advances, which represents 53 percent and 59 percent of total outstanding advances. For information related to the Bank's credit risk exposure on advances, refer to "Note 9 — Allowance for Credit Losses."

Note 8 — Mortgage Loans Held for Portfolio

The Bank participates in the Mortgage Partnership Finance (MPF) program (Mortgage Partnership Finance and MPF are registered trademarks of the FHLBank of Chicago). This program involves investment by the Bank in single-family mortgage loans held for portfolio that are either purchased from participating financial institutions (PFIs) or funded by the Bank through PFIs. MPF loans may also be acquired through participations in pools of eligible mortgage loans purchased from other FHLBanks. The Bank's MPF PFIs generally originate, service, and credit enhance mortgage loans that are sold to the Bank. MPF PFIs participating in the servicing release program do not service the loans owned by the Bank. The servicing on these loans is sold concurrently by the MPF PFI to a designated mortgage service provider.

Effective May 31, 2015, as a part of the merger with the Federal Home Loan Bank of Seattle (Seattle Bank) (the Merger), the Bank acquired mortgage loans previously purchased by the Seattle Bank under the Mortgage Purchase Program (MPP). This program involved investment by the Seattle Bank in single-family mortgage loans that were purchased directly from MPP PFIs. Similar to the MPF program, MPP PFIs generally originated, serviced, and credit enhanced the mortgage loans sold to the Seattle Bank. In 2005, the Seattle Bank ceased entering into new MPP master commitment contracts and therefore all MPP loans acquired by the Bank were originated prior to 2006. The Bank does not currently purchase mortgage loans under this program.


22

The following tables present information on the Bank's mortgage loans held for portfolio (dollars in millions):
 
June 30, 2017
 
MPF
 
MPP
 
Total
Fixed rate, long-term single-family mortgage loans
$
5,440

 
$
347

 
$
5,787

Fixed rate, medium-term1 single-family mortgage loans
1,071

 
3

 
1,074

Total unpaid principal balance
6,511

 
350

 
6,861

Premiums
85

 
11

 
96

Discounts
(7
)
 
—

 
(7
)
Basis adjustments from mortgage loan commitments
5

 
—

 
5

Total mortgage loans held for portfolio
6,594

 
361

 
6,955

Allowance for credit losses
(2
)
 
—

 
(2
)
Total mortgage loans held for portfolio, net
$
6,592

 
$
361

 
$
6,953


 
December 31, 2016
 
MPF
 
MPP
 
Total
Fixed rate, long-term single-family mortgage loans
$
5,272

 
$
397

 
$
5,669

Fixed rate, medium-term1 single-family mortgage loans
1,148

 
6

 
1,154

Total unpaid principal balance
6,420

 
403

 
6,823

Premiums
82

 
14

 
96

Discounts
(8
)
 
(1
)
 
(9
)
Basis adjustments from mortgage loan commitments
5

 
—

 
5

Total mortgage loans held for portfolio
6,499

 
416

 
6,915

Allowance for credit losses
(2
)
 
—

 
(2
)
Total mortgage loans held for portfolio, net
$
6,497

 
$
416

 
$
6,913


1
Medium-term is defined as a term of 15 years or less.

The following tables present the Bank's mortgage loans held for portfolio by collateral or guarantee type (dollars in millions):
 
June 30, 2017
 
MPF
 
MPP
 
Total
Conventional mortgage loans
$
6,007

 
$
315

 
$
6,322

Government-insured mortgage loans
504

 
35

 
539

Total unpaid principal balance
$
6,511

 
$
350

 
$
6,861

 
December 31, 2016
 
MPF
 
MPP
 
Total
Conventional mortgage loans
$
5,907

 
$
361

 
$
6,268

Government-insured mortgage loans
513

 
42

 
555

Total unpaid principal balance
$
6,420

 
$
403

 
$
6,823


For information related to the Bank's credit risk exposure on mortgage loans held for portfolio, refer to "Note 9 — Allowance for Credit Losses."

Note 9 — Allowance for Credit Losses

The Bank has established an allowance for credit losses methodology for each of its financing receivable portfolio segments: advances, standby letters of credit, and other extensions of credit to borrowers (collectively, credit products), government-insured mortgage loans held for portfolio, MPF conventional mortgage loans held for portfolio, MPP conventional mortgage loans held for portfolio, and term securities purchased under agreements to resell.


23

CREDIT PRODUCTS

The Bank manages its credit exposure to credit products through an approach that includes establishing a credit limit for each borrower, ongoing reviews of each borrower's financial condition, and detailed collateral and lending policies to limit risk of loss while balancing borrowers' needs for a reliable source of funding. In addition, the Bank lends to eligible borrowers in accordance with the FHLBank Act, Finance Agency regulations, and other applicable laws.

The Bank is required by regulation to obtain sufficient collateral to fully secure credit products. The estimated value of the collateral required to secure each borrower's credit products is calculated by applying collateral discounts, or haircuts, to the unpaid principal balance or market value, if available, of the collateral. Eligible collateral includes (i) whole first mortgages on improved residential real property or securities representing a whole interest in such mortgages, (ii) loans and securities issued, insured, or guaranteed by the U.S. Government or any agency thereof, including mortgage-backed securities (MBS) issued or guaranteed by Fannie Mae, Freddie Mac, or Government National Mortgage Association and Federal Family Education Loan Program guaranteed student loans, (iii) cash deposited with the Bank, and (iv) other real estate-related collateral acceptable to the Bank provided such collateral has a readily ascertainable value and the Bank can perfect a security interest in such property. In addition, community financial institutions may also pledge collateral consisting of secured small business, small agri-business, or small farm loans. As additional security, the FHLBank Act provides that the Bank has a lien on each member's capital stock investment; however, capital stock cannot be pledged as collateral to secure credit exposures.

Collateral arrangements may vary depending upon borrower credit quality, financial condition and performance, borrowing capacity, and overall credit exposure to the borrower. The Bank can also require additional or substitute collateral to protect its security interest. The Bank periodically evaluates and makes changes to its collateral guidelines and collateral haircuts.

Borrowers may pledge collateral to the Bank by executing a blanket lien, specifically assigning collateral, or placing physical possession of collateral with the Bank or its custodians. The Bank perfects its security interest in all pledged collateral by filing Uniform Commercial Code financing statements or by taking possession or control of the collateral. Under the FHLBank Act, any security interest granted to the Bank by its members, or any affiliates of its members, has priority over the claims and rights of any party (including any receiver, conservator, trustee, or similar party having rights of a lien creditor), unless those claims and rights would be entitled to priority under otherwise applicable law and are held by actual purchasers or by parties that have perfected security interests.
Under a blanket lien, the Bank is granted a security interest in all financial assets of the borrower to fully secure the borrower's obligation. Other than securities and cash deposits, the Bank does not initially take delivery of collateral pledged by blanket lien borrowers. In the event of deterioration in the financial condition of a blanket lien borrower, the Bank has the ability to require delivery of pledged collateral sufficient to secure the borrower's obligation. With respect to non-blanket lien borrowers that are federally insured, the Bank generally requires collateral to be specifically assigned. With respect to non-blanket lien borrowers that are not federally insured (typically insurance companies, CDFIs, and housing associates), the Bank generally takes control of collateral through the delivery of cash, securities, or loans to the Bank or its custodians.

Using a risk-based approach and taking into consideration each borrower's financial strength, the Bank considers the types and level of collateral to be the primary indicator of credit quality on its credit products. At June 30, 2017 and December 31, 2016, the Bank had rights to collateral on a borrower-by-borrower basis with an unpaid principal balance or market value, if available, in excess of its outstanding extensions of credit.

At June 30, 2017 and December 31, 2016, none of the Bank's credit products were past due, on non-accrual status, or considered impaired. In addition, there were no troubled debt restructurings (TDRs) related to credit products during the six months ended June 30, 2017 and 2016.

The Bank has never experienced a credit loss on its credit products. Based upon the Bank's collateral and lending policies, the collateral held as security, and the repayment history on credit products, management has determined that there were no probable credit losses on its credit products as of June 30, 2017 and December 31, 2016. Accordingly, the Bank has not recorded any allowance for credit losses for its credit products.


24

GOVERNMENT-INSURED MORTGAGE LOANS

The Bank invests in government-insured fixed rate mortgage loans in both the MPF and MPP portfolios that are insured or guaranteed by the Federal Housing Administration, the Department of Veterans Affairs, and/or the Rural Housing Service of the Department of Agriculture. The servicer or PFI obtains and maintains insurance or a guaranty from the applicable government agency. The servicer or PFI is responsible for compliance with all government agency requirements and for obtaining the benefit of the applicable guarantee or insurance with respect to defaulted government-insured mortgage loans. Any losses incurred on these loans that are not recovered from the insurer/guarantor are absorbed by the servicers. As such, the Bank only has credit risk for these loans if the servicer or PFI fails to pay for losses not covered by the guarantee or insurance. Management views this risk as remote and has never experienced a credit loss on its government-insured mortgage loans. As a result, the Bank did not establish an allowance for credit losses for its government-insured mortgage loans at June 30, 2017 and December 31, 2016. Furthermore, none of these mortgage loans have been placed on non-accrual status because of the U.S. Government guarantee or insurance on these loans and the contractual obligation of the loan servicer to repurchase the loans when certain criteria are met.

MPF CONVENTIONAL MORTGAGE LOANS

The Bank's management of credit risk in the MPF program involves several layers of legal loss protection that are defined in agreements among the Bank and its participating PFIs. For conventional MPF loans, the availability of loss protection may differ slightly among MPF products. The Bank's loss protection consists of the following loss layers, in order of priority:

•
Homeowner Equity.

•
Primary Mortgage Insurance (PMI). At the time of origination, PMI is required on all loans with homeowner equity of less than 20 percent of the original purchase price or appraised value, whichever is less and as applicable to the specific loan.

•
First Loss Account (FLA). For each master commitment, the Bank's potential loss exposure prior to the PFI's credit enhancement obligation is estimated and tracked in a memorandum account called the FLA.

•
Credit Enhancement Obligation of PFI. PFIs have a credit enhancement obligation at the time a mortgage loan is purchased to absorb certain losses in excess of the FLA in order to limit the Bank's loss exposure to that of an investor in an investment grade MBS. PFIs pledge collateral to secure this obligation.

MPP CONVENTIONAL MORTGAGE LOANS

For conventional MPP loans, the loss protection consists of the following loss layers, in order of priority:

•
Homeowner Equity.

•
Primary Mortgage Insurance. At the time of origination, PMI is required on all loans with homeowner equity of less than 20 percent of the original purchase price or appraised value, whichever is less and as applicable to the specific loan.

ALLOWANCE METHODOLOGY

The Bank utilizes an allowance for credit losses to reserve for estimated losses in its conventional MPF and MPP mortgage loan portfolios at the balance sheet date. The measurement of the Bank's MPF and MPP allowance for credit losses is determined by the following:

•
reviewing similar conventional mortgage loans for impairment on a collective basis. This evaluation is primarily based on the following factors: (i) current loan delinquencies, (ii) loans migrating to collateral-dependent status, and (iii) actual historical loss severities;

•
reviewing conventional mortgage loans for impairment on an individual basis; and

25

•
estimating additional credit losses in the conventional mortgage loan portfolio. These losses result from other factors that may not be captured in the methodology previously described at the balance sheet date, which include but are not limited to certain quantifiable economic factors, such as unemployment rates and home prices impacting housing markets.

The following table summarizes the allowance for credit losses and the recorded investment of the Bank's conventional mortgage loan portfolio by impairment methodology (dollars in millions):
 
MPF
 
MPP1
 
Total
Allowance for credit losses, June 30, 2017
 
 
 
 
 
Collectively evaluated for impairment
$
2

 
$
—

 
$
2

 
 
 
 
 
 
Allowance for credit losses, December 31, 2016
 
 
 
 
 
Collectively evaluated for impairment
$
2

 
$
—

 
$
2

 
 
 
 
 
 
Recorded investment, June 30, 20172
 
 
 
 
 
Collectively evaluated for impairment
$
6,067

 
$
302

 
$
6,369

Individually evaluated for impairment, without a related allowance
43

 
23

 
66

Total recorded investment
$
6,110

 
$
325

 
$
6,435

 
 
 
 
 
 
Recorded investment, December 31, 20162
 
 
 
 
 
Collectively evaluated for impairment
$
5,960

 
$
346

 
$
6,306

Individually evaluated for impairment, without a related allowance
45

 
27

 
72

Total recorded investment
$
6,005

 
$
373

 
$
6,378


1    The allowance for credit losses on MPP loans was less than $1 million at June 30, 2017 and December 31, 2016.

2    Represents the unpaid principal balance adjusted for accrued interest, unamortized premiums, discounts, basis adjustments, and direct write-downs.

CREDIT QUALITY INDICATORS

Key credit quality indicators for mortgage loans include the migration of past due loans, loans in process of foreclosure, and non-accrual loans. The table below summarizes the Bank's key credit quality indicators for mortgage loans at June 30, 2017 (dollars in millions):
 
June 30, 2017
 
MPF
 
MPP
 
 
 
Conventional
 
Government
 
Conventional
 
Government
 
Total
Past due 30 - 59 days
$
46

 
$
16

 
$
9

 
$
4

 
$
75

Past due 60 - 89 days
12

 
5

 
4

 
—

 
21

Past due 90 - 179 days
8

 
4

 
3

 
—

 
15

Past due 180 days or more
16

 
5

 
9

 
1

 
31

Total past due mortgage loans
82

 
30

 
25

 
5

 
142

Total current mortgage loans
6,028

 
487

 
300

 
32

 
6,847

Total recorded investment of mortgage loans1
$
6,110

 
$
517

 
$
325

 
$
37

 
$
6,989

 
 
 
 
 
 
 
 
 
 
In process of foreclosure (included above)2
$
12

 
$
2

 
$
5

 
$
—

 
$
19

Serious delinquency rate3
—
%
 
2
%
 
4
%
 
2
%
 
1
%
Past due 90 days or more and still accruing interest4
$
—

 
$
9

 
$
—

 
$
1

 
$
10

Non-accrual mortgage loans5
$
29

 
$
—

 
$
21

 
$
—

 
$
50


1
Represents the unpaid principal balance adjusted for accrued interest, unamortized premiums, discounts, basis adjustments, and direct write-downs.

2
Includes loans where the decision of foreclosure or similar alternative such as pursuit of deed-in-lieu has been reported. Loans in process of foreclosure are included in past due or current loans depending on their payment status.

3
Represents mortgage loans that are 90 days or more past due or in the process of foreclosure expressed as a percentage of the total recorded investment.

4
Represents government-insured mortgage loans that are 90 days or more past due.

5
Represents conventional mortgage loans that are 90 days or more past due and TDRs.


26

The table below summarizes the Bank's key credit quality indicators for mortgage loans at December 31, 2016 (dollars in millions):
 
December 31, 2016
 
MPF
 
MPP
 
 
 
Conventional
 
Government
 
Conventional
 
Government
 
Total
Past due 30 - 59 days
$
50

 
$
18

 
$
11

 
$
4

 
$
83

Past due 60 - 89 days
17

 
7

 
5

 
2

 
31

Past due 90 - 179 days
9

 
6

 
2

 
1

 
18

Past due 180 days or more
22

 
5

 
12

 
2

 
41

Total past due mortgage loans
98

 
36

 
30

 
9

 
173

Total current mortgage loans
5,907

 
491

 
343

 
35

 
6,776

Total recorded investment of mortgage loans1
$
6,005

 
$
527

 
$
373

 
$
44

 
$
6,949

 
 
 
 
 
 
 
 
 
 
In process of foreclosure (included above)2
$
16

 
$
2

 
$
7

 
$
—

 
$
25

Serious delinquency rate3
1
%
 
2
%
 
4
%
 
7
%
 
1
%
Past due 90 days or more and still accruing interest4
$
—

 
$
11

 
$
—

 
$
3

 
$
14

Non-accrual mortgage loans5
$
36

 
$
—

 
$
24

 
$
—

 
$
60


1
Represents the unpaid principal balance adjusted for accrued interest, unamortized premiums, discounts, basis adjustments, and direct write-downs.

2
Includes loans where the decision of foreclosure or similar alternative such as pursuit of deed-in-lieu has been reported. Loans in process of foreclosure are included in past due or current loans depending on their payment status.

3
Represents mortgage loans that are 90 days or more past due or in the process of foreclosure expressed as a percentage of the total recorded investment.

4
Represents government-insured mortgage loans that are 90 days or more past due.

5
Represents conventional mortgage loans that are 90 days or more past due and TDRs.

INDIVIDUALLY EVALUATED IMPAIRED LOANS

As previously described, the Bank evaluates certain conventional mortgage loans for impairment individually. A loan is considered impaired when, based on current information and events, it is probable that the Bank will be unable to collect all amounts due according to the contractual terms of the loan agreement.

The Bank did not recognize any interest income on impaired loans during the six months ended June 30, 2017 and 2016.

The following table summarizes the average recorded investment of the Bank's individually evaluated impaired loans (dollars in millions):
 
For the Three Months Ended
 
For the Six Months Ended
 
June 30,
 
June 30,
 
2017
 
2016
 
2017
 
2016
Impaired loans without an allowance
 
 
 
 
 
 
 
Conventional MPF Loans
$
45

 
$
34

 
$
44

 
$
35

Conventional MPP Loans
23

 
27

 
25

 
28

Total
$
68

 
$
61

 
$
69

 
$
63


TERM SECURITIES PURCHASED UNDER AGREEMENTS TO RESELL

Term securities purchased under agreements to resell are considered collateralized financing agreements and represent short-term investments. The terms of these investments are structured such that if the market value of the underlying securities decreases below the market value required as collateral, the counterparty must place an equivalent amount of additional securities as collateral or remit an equivalent amount of cash. Otherwise, the dollar value of the resale agreement will decrease accordingly. 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 will be charged to earnings to establish an allowance for credit losses. Based upon the collateral held as security, the Bank determined that no allowance for credit losses was needed for its term securities purchased under agreements to resell at June 30, 2017 and December 31, 2016.

27

OFF-BALANCE SHEET CREDIT EXPOSURES

At June 30, 2017 and December 31, 2016, the Bank did not record a liability to reflect an allowance for credit losses for off-balance sheet credit exposures. For additional information on the Bank's off-balance sheet credit exposures, see "Note 14 — Commitments and Contingencies."

Note 10 — Derivatives and Hedging Activities

NATURE OF BUSINESS ACTIVITY

The Bank is exposed to interest rate risk primarily from the effect of interest rate changes on its interest-earning assets and its related funding sources. The goal of the Bank's interest rate risk management strategy is not to eliminate interest rate risk, but to manage it within appropriate limits. To mitigate the risk of loss, the Bank has established policies and procedures, which include guidelines on the amount of exposure to interest rate changes it is willing to accept.

The Bank enters into derivative contracts to manage the interest rate risk exposures inherent in its otherwise unhedged assets and funding positions. Finance Agency regulations and the Bank's Enterprise Risk Management Policy (ERMP) establish guidelines for derivatives, prohibit trading in or the speculative use of derivatives, and limit credit risk arising from derivatives.

Derivative financial instruments are used by the Bank to achieve its financial and risk management objectives. The Bank reevaluates its hedging strategies from time to time and may change the hedging techniques it uses or may adopt new strategies. The most common ways in which the Bank uses derivatives are to:

•
reduce the interest rate sensitivity and repricing gaps of assets and liabilities;

•
preserve an interest rate spread between the yield of an asset and the cost of the related liability. Without the use of derivatives, this interest rate spread could be reduced or eliminated when a change in the interest rate on the asset does not match a change in the interest rate on the liability;

•
mitigate the adverse earnings effects of the shortening or extension of certain assets and liabilities;

•
manage embedded options in assets and liabilities; and

•
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.

TYPES OF DERIVATIVES

The Bank may use the following derivative instruments:

•
interest rate swaps;

•
options;

•
swaptions;

•
interest rate caps and floors; and

•
futures/forwards contracts.


28

The Bank may have the following types of hedged items:

•
investment securities;

•
advances;
       
•
mortgage loans;
  
•
consolidated obligations; and
  
•
firm commitments.

For additional information on the Bank's derivative and hedging accounting policy, see "Note 1 — Basis of Presentation" in this Form 10-Q and "Note 1 — Summary of Significant Accounting Policies" in the 2016 Form 10-K.

FINANCIAL STATEMENT EFFECT AND ADDITIONAL FINANCIAL INFORMATION

The notional amount of derivatives serves as a factor in determining periodic interest payments and cash flows received and paid. However, the notional amount of derivatives represents neither the actual amounts exchanged nor the overall exposure of the Bank to credit and market risk. The risks of derivatives can be measured meaningfully on a portfolio basis that takes into account the counterparties, the types of derivatives, the items being hedged, and any offsets between the derivatives and the items being hedged.

The following table summarizes the Bank's notional amount and the fair value of derivative instruments, including the effect of netting adjustments, cash collateral, and variation margin for daily settled contracts. For purposes of this disclosure, the derivative values include the fair value of derivatives and the related accrued interest (dollars in millions):
 
 
June 30, 2017
 
December 31, 2016
 
 
Notional
Amount
 
Derivative
Assets
 
Derivative
 Liabilities
 
Notional
Amount
 
Derivative
Assets
 
Derivative
 Liabilities
Derivatives designated as hedging instruments (fair value hedges)
 
 
 
 
 
 
 
 
 
 
 
 
Interest rate swaps
 
$
50,686

 
$
162

 
$
611

 
$
51,896

 
$
183

 
$
688

Derivatives not designated as hedging instruments (economic hedges)
 
 
 
 
 
 
 
 
 
 
 
 
Interest rate swaps
 
1,380

 
18

 
55

 
1,414

 
20

 
56

Forward settlement agreements (TBAs)
 
110

 
—

 
—

 
94

 
1

 
—

Mortgage delivery commitments
 
113

 
—

 
—

 
102

 
—

 
—

Total derivatives not designated as hedging instruments
 
1,603

 
18

 
55

 
1,610

 
21

 
56

Total derivatives before netting and collateral adjustments
 
$
52,289

 
180

 
666

 
$
53,506

 
204

 
744

Netting adjustments, cash collateral, and variation margin for daily settled contracts1
 
 
 
(41
)
 
(643
)
 
 
 
(13
)
 
(668
)
Total derivative assets and derivative liabilities
 
 
 
$
139

 
$
23

 
 
 
$
191

 
$
76


1
Amounts represent the application of the netting requirements that allow the Bank to net settle positive and negative positions, cash collateral and the related accrued interest held or placed with the same clearing agent and/or counterparty, and includes fair value adjustments on derivatives for variation margin, which effective January 3, 2017, is characterized as a daily settled contract. Cash collateral posted by the Bank (including accrued interest) was $264 million and $658 million at June 30, 2017 and December 31, 2016. At June 30, 2017 the Bank did not receive cash collateral from clearing agents and/or counterparties. At December 31, 2016, the Bank received cash collateral from clearing agents and/or counterparties of $2 million. Variation margin for daily settled contracts was $339 million at June 30, 2017. Variation margin was considered cash collateral prior to January 3, 2017.


29

The following table summarizes the components of “Net gains (losses) on derivatives and hedging activities” as presented in the Statements of Income (dollars in millions):
 
For the Three Months Ended
 
For the Six Months Ended
 
June 30,
 
June 30,
 
2017
 
2016

 
2017
 
2016
Derivatives designated as hedging instruments (fair value hedges)
 
 
 
 
 
 
 
Interest rate swaps
$
6

 
$
(8
)
 
$
10

 
$
(9
)
Derivatives not designated as hedging instruments (economic hedges)
 
 
 
 
 
 
 
Interest rate swaps
(6
)
 
(18
)
 
(1
)
 
(55
)
Forward settlement agreements (TBAs)
—

 
(2
)
 
(1
)
 
(3
)
Mortgage delivery commitments
—

 
2

 
1

 
3

Net interest settlements
(3
)
 
(4
)
 
(7
)
 
(9
)
Total net gains (losses) related to derivatives not designated as hedging instruments
(9
)
 
(22
)
 
(8
)
 
(64
)
  Other1
—

 
—

 
1

 
—

Net gains (losses) on derivatives and hedging activities
$
(3
)
 
$
(30
)
 
$
3

 
$
(73
)

1
Consists of price alignment amount on derivatives for variation margin which is characterized as a daily settled contract.

The following tables summarize, by type of hedged item, the gains (losses) on derivatives and the related hedged items in fair value hedging relationships, the net fair value hedge ineffectiveness, and the effect of those derivatives on the Bank's net interest income (dollars in millions):
 
 
For the Three Months Ended June 30, 2017
Hedged Item Type
 
Gains (Losses) on
Derivatives
 
Gains (Losses) on
Hedged Items
 
Net Fair Value
Hedge
Ineffectiveness
 
Effect on
Net Interest
Income1
Available-for-sale investments
 
$
(41
)
 
$
49

 
$
8

 
$
(24
)
Advances2
 
(25
)
 
26

 
1

 
(21
)
Consolidated obligation bonds
 
72

 
(75
)
 
(3
)
 
7

Total
 
$
6

 
$
—

 
$
6

 
$
(38
)

 
 
For the Three Months Ended June 30, 2016
Hedged Item Type
 
Gains (Losses) on
Derivatives
 
Gains (Losses) on
Hedged Items
 
Net Fair Value
Hedge
Ineffectiveness
 
Effect on
Net Interest
Income1
Available-for-sale investments
 
$
(128
)
 
$
120

 
$
(8
)
 
$
(36
)
Advances2
 
(42
)
 
41

 
(1
)
 
(37
)
Consolidated obligation bonds
 
84

 
(83
)
 
1

 
18

Total
 
$
(86
)
 
$
78

 
$
(8
)
 
$
(55
)

1
Represents the net interest settlements on derivatives in fair value hedge relationships and the amortization of the financing element of off-market derivatives, both of which are included in the interest income or interest expense line item of the respective hedged item type. This amortization for off-market derivatives totaled $4 million and $8 million for the three months ended June 30, 2017 and 2016.

2
Includes net gains (losses) on fair value hedge firm commitments of forward starting advances.

30

The following tables summarize, by type of hedged item, the gains (losses) on derivatives and the related hedged items in fair value hedging relationships, the net fair value hedge ineffectiveness, and the effect of those derivatives on the Bank's net interest income (dollars in millions):
 
 
For the Six Months Ended June 30, 2017
Hedged Item Type
 
Gains (Losses) on
Derivatives
 
Gains (Losses) on
Hedged Items
 
Net Fair Value
Hedge
Ineffectiveness
 
Effect on
Net Interest
Income1
Available-for-sale investments
 
$
(4
)
 
$
18

 
$
14

 
$
(53
)
Advances2
 
8

 
(6
)
 
2

 
(45
)
Consolidated obligation bonds
 
22

 
(28
)
 
(6
)
 
26

Total
 
$
26

 
$
(16
)
 
$
10

 
$
(72
)

 
 
For the Six Months Ended June 30, 2016
Hedged Item Type
 
Gains (Losses) on
Derivatives
 
Gains (Losses) on
Hedged Items
 
Net Fair Value
Hedge
Ineffectiveness
 
Effect on
Net Interest
Income1
Available-for-sale investments
 
$
(404
)
 
$
401

 
$
(3
)
 
$
(74
)
Advances2
 
(178
)
 
179

 
1

 
(77
)
Consolidated obligation bonds
 
152

 
(159
)
 
(7
)
 
33

Total
 
$
(430
)
 
$
421

 
$
(9
)
 
$
(118
)

1
Represents the net interest settlements on derivatives in fair value hedge relationships and the amortization of the financing element of off-market derivatives, both of which are included in the interest income or interest expense line item of the respective hedged item type. This amortization for off-market derivatives totaled $9 million and $16 million for the six months ended June 30, 2017 and 2016.

2
Includes net gains (losses) on fair value hedge firm commitments of forward starting advances.

MANAGING CREDIT RISK ON DERIVATIVES

The Bank is subject to credit risk due to the risk of nonperformance by counterparties to its derivative contracts. The Bank manages credit risk through credit analyses, collateral requirements, and adherence to the requirements set forth in the Bank's policies, U.S. Commodity Futures Trading Commission regulations, and Finance Agency regulations.

For uncleared derivatives, the degree of credit risk depends on the extent to which master netting arrangements are included in these contracts to mitigate the risk. The Bank requires collateral agreements with collateral delivery thresholds on the majority of its uncleared derivatives.

Certain of the Bank's uncleared derivative instruments contain provisions that require the Bank to post additional collateral with its counterparties if there is deterioration in the Bank's credit rating. If the Bank's credit rating is lowered by a nationally recognized statistical rating organization (NRSRO), the Bank may be required to deliver additional collateral on uncleared derivative instruments in net liability positions. The aggregate fair value of all uncleared derivative instruments with credit-risk related contingent features that were in a net liability position (before cash collateral and related accrued interest) at June 30, 2017 was $145 million, for which the Bank posted collateral of $133 million in the normal course of business. If the Bank's credit rating had been lowered from its current rating to the next lower rating that would have triggered additional collateral to be delivered, the Bank would have been required to deliver an additional $4 million of collateral to its uncleared derivative counterparties at June 30, 2017.

For cleared derivatives, the Clearinghouse is the Bank's counterparty. The Clearinghouse notifies the clearing agent of the required initial and variation margin and the clearing agent in turn notifies the Bank. The Bank utilizes one Clearinghouse for all cleared derivative transactions, CME Clearing. Effective January 3, 2017, CME Clearing made certain amendments to its rulebook changing the legal characteristics of variation margin payments to be daily settlement payments, rather than collateral. Initial margin is considered cash collateral. The requirement that the Bank post initial and variation margin through the clearing agent, to the Clearinghouse, exposes the Bank to institutional credit risk if the clearing agent or the Clearinghouse fails to meet its obligations. The use of cleared derivatives is intended to mitigate credit risk exposure because a central counterparty is substituted for individual counterparties and collateral/payments for changes in the fair value of cleared derivatives is posted daily through a clearing agent.

31

The Bank has analyzed the enforceability of offsetting rights incorporated in its cleared derivative transactions and has determined that the exercise of 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 the clearing agent, or both. Based on this analysis, the Bank presents a net derivative receivable or payable for all of its transactions through a particular clearing agent with a particular Clearinghouse. The Clearinghouse determines initial margin requirements and generally credit ratings are not factored into the initial margin. However, clearing agents may require additional initial margin to be posted based on credit considerations, including, but not limited to, credit rating downgrades. The Bank was not required to post additional initial margin by its clearing agents, based on credit considerations at June 30, 2017.

OFFSETTING OF DERIVATIVE ASSETS AND DERIVATIVE LIABILITIES

The Bank presents derivative instruments, related cash collateral, including initial margin pledged, and associated accrued interest on a net basis by clearing agent and/or by counterparty when it has met the netting requirements. Additional information regarding these agreements is provided in "Note 1 — Basis of Presentation" in this Form 10-Q and "Note 1 - Summary of Significant Accounting Policies" in the 2016 Form 10-K.

The following table presents the fair value of derivative instruments meeting or not meeting the netting requirements, including the related collateral received from or pledged to counterparties and variation margin for daily settled contracts (dollars in millions):
 
June 30, 2017
 
December 31, 2016
 
Derivative Assets
 
Derivative Liabilities
 
Derivative Assets
 
Derivative Liabilities
Derivative instruments meeting netting requirements
 
 
 
 
 
 
 
Gross recognized amount
 
 
 
 
 
 
 
Uncleared derivatives
$
79

 
$
223

 
$
97

 
$
263

Cleared derivatives
101

 
443

 
107

 
481

Total gross recognized amount
180

 
666

 
204

 
744

Gross amounts of netting adjustments, cash collateral, and variation margin for daily settled contracts
 
 
 
 
 
 
 
Uncleared derivatives
(68
)
 
(200
)
 
(95
)
 
(187
)
Cleared derivatives
27

 
(443
)
 
82

 
(481
)
Total gross amounts of netting adjustments, cash collateral, and variation margin for daily settled contracts
(41
)
 
(643
)
 
(13
)
 
(668
)
Net amounts after netting adjustments, cash collateral, and variation margin for daily settled contracts
 
 
 
 
 
 
 
Uncleared derivatives
11

 
23

 
2

 
76

Cleared derivatives
128

 
—

 
189

 
—

Total derivative assets and derivative liabilities
$
139

 
$
23

 
$
191

 
$
76



Note 11 — Consolidated Obligations

Consolidated obligations consist of bonds and discount notes. The FHLBanks issue consolidated obligations through the Office of Finance as their agent. Bonds are issued primarily to raise intermediate- and long-term funds for the Bank and are not subject to any statutory or regulatory limits on their maturity. Discount notes are issued primarily to raise short-term funds for the Bank and have original maturities of up to one year. Discount notes sell at or below their face amount and are redeemed at par value when they mature.

Although the Bank is primarily liable for the portion of consolidated obligations issued on its behalf, it is also jointly and severally liable with the other FHLBanks for the payment of principal and interest on all FHLBank System consolidated obligations. The Finance Agency, at its discretion, may require any FHLBank to make principal and/or interest payments due on any consolidated obligation, whether or not the primary obligor FHLBank has defaulted on the payment of that consolidated obligation. The Finance Agency has never exercised this discretionary authority. At June 30, 2017 and December 31, 2016, the total par value of outstanding consolidated obligations of the FHLBanks was $1 trillion and $989 billion.

32

DISCOUNT NOTES

The following table summarizes the Bank's discount notes (dollars in millions):
 
June 30, 2017
 
December 31, 2016
 
Amount
 
Weighted
Average
Interest
Rate
 
Amount
 
Weighted
Average
Interest
Rate
Par value
$
66,668

 
0.91
%
 
$
81,019

 
0.49
%
Discounts and concessions1
(110
)
 
 
 
(72
)
 
 
Total
$
66,558

 
 
 
$
80,947

 
 

1
Concessions represent fees paid to dealers in connections with the issuance of certain consolidated obligation discount notes.

BONDS

The following table summarizes the Bank's bonds outstanding by contractual maturity (dollars in millions):
 
 
June 30, 2017
 
December 31, 2016
Year of Contractual Maturity
 
Amount
 
Weighted
Average
Interest
Rate
 
Amount
 
Weighted
Average
Interest
Rate
Due in one year or less
 
$
48,266

 
1.05
%
 
$
47,733

 
0.88
%
Due after one year through two years
 
17,427

 
1.28

 
13,135

 
0.94

Due after two years through three years
 
10,047

 
1.73

 
15,414

 
1.48

Due after three years through four years
 
2,015

 
2.71

 
2,288

 
3.28

Due after four years through five years
 
6,799

 
1.67

 
7,152

 
1.66

Thereafter
 
4,768

 
3.03

 
4,331

 
3.04

Total par value
 
89,322

 
1.36
%
 
90,053

 
1.22
%
Premiums
 
224

 
 
 
254

 
 
Discounts and concessions1
 
(69
)
 
 
 
(79
)
 
 
Fair value hedging adjustments
 
(306
)
 
 
 
(330
)
 
 
Total
 
$
89,171

 
 
 
$
89,898

 
 

1
Concessions represent fees paid to dealers in connections with the issuance of certain consolidated obligation bonds.

The following table summarizes the Bank's bonds outstanding by call features (dollars in millions):
 
June 30,
2017
 
December 31,
2016
Noncallable or nonputable
$
86,408

 
$
87,804

Callable
2,914

 
2,249

Total par value
$
89,322

 
$
90,053



Note 12 — Capital

CAPITAL STOCK

The Bank's capital stock has a par value of $100 per share, and all shares are issued, redeemed, and repurchased only at the stated par value. The Bank generally issues a single class of capital stock (Class B stock). The Bank has two subclasses of capital stock: membership and activity-based. Each member must purchase and hold membership capital stock in an amount equal to 0.12 percent of its total assets as of the preceding December 31st, subject to a cap of $10 million and a floor of $10,000. Each member is also required to purchase activity-based capital stock equal to 4.00 percent of its advances and mortgage loans outstanding in the Bank's Statements of Condition. All capital stock issued is subject to a five year notice of redemption period.

The capital stock requirements established in the Bank's Capital Plan are designed so that the Bank can remain adequately capitalized as member activity changes. The Bank's Board of Directors may make adjustments to the capital stock requirements within ranges established in the Capital Plan.

33

EXCESS STOCK

Capital stock owned by members in excess of their investment requirement is deemed excess capital stock. Under its Capital Plan, the Bank, at its discretion and upon 15 days' written notice, may repurchase excess membership capital stock. The Bank, at its discretion, may also repurchase excess activity-based capital stock to the extent that (i) the excess capital stock balance exceeds an operational threshold set forth in the Capital Plan, which is currently set at zero, or (ii) a member submits a notice to redeem all or a portion of the excess activity-based capital stock. At June 30, 2017 and December 31, 2016, the Bank had no excess capital stock outstanding.

MANDATORILY REDEEMABLE CAPITAL STOCK

The Bank reclassifies capital stock subject to redemption from equity to a liability (mandatorily redeemable capital stock) at the time shares meet the definition of a mandatorily redeemable financial instrument. This occurs after a member provides written notice of intention to withdraw from membership, becomes ineligible for continuing membership, or attains non-member status by merger or consolidation, charter termination, or other involuntary termination from membership. Dividends on mandatorily redeemable capital stock are classified as interest expense in the Statements of Income.

As a result of the final rule on membership issued by the Finance Agency effective February 19, 2016, the eligibility requirements for FHLBank members were changed rendering captive insurance companies ineligible for FHLBank membership. On the effective date of the final rule, the Bank reclassified $723 million of capital stock, the total outstanding capital stock held by all of the Bank's captive insurance companies, to mandatorily redeemable capital stock. In accordance with the final rule, on February 17, 2017, the Bank terminated the membership of all captive insurance company members that were admitted as members after September 12, 2014 (the date the Finance Agency proposed this rule) and repurchased outstanding capital stock to these captive insurance company members in the amount of $148 million. Captive insurance company members that were admitted as members prior to September 12, 2014 will also have their memberships terminated no later than February 19, 2021. At June 30, 2017 and December 31, 2016, the Bank's mandatorily redeemable capital stock totaled $480 million and $664 million. During the three and six months ended June 30, 2017, interest expense on mandatorily redeemable capital stock was $4 million and $9 million. Interest expense on mandatorily redeemable capital stock was $5 million and $9 million for the three and six months ended June 30, 2016.

The following tables summarizes changes in mandatorily redeemable capital stock (dollars in millions):
 
For the Three Months Ended June 30,
 
2017
 
2016
Balance, beginning of period
$
494

 
$
732

Capital stock reclassified to (from) mandatorily redeemable capital stock, net
18

 
1

Repurchases/redemptions of mandatorily redeemable capital stock
(32
)
 
(35
)
Balance, end of period
$
480

 
$
698

 
For the Six Months Ended June 30,
 
2017
 
2016
Balance, beginning of period
$
664

 
$
103

Capital stock reclassified to (from) mandatorily redeemable capital stock, net
28

 
731

Repurchases/redemptions of mandatorily redeemable capital stock
(212
)
 
(136
)
Balance, end of period
$
480

 
$
698


34

The following table summarizes the Bank's mandatorily redeemable capital stock by year of contractual redemption (dollars in millions):
Year of Contractual Redemption1
 
June 30, 2017
 
December 31, 2016
Due in one year or less
 
$
4

 
$
4

Due after one year through two years
 
—

 
5

Due after two years through three years
 
4

 
4

Due after three years through four years
 
1

 
—

Due after four years through five years
 
21

 
1

Thereafter2
 
433

 
631

Past contractual redemption date due to outstanding activity with the Bank
 
17

 
19

Total
 
$
480

 
$
664


1
At the Bank's election, the mandatorily redeemable capital stock may be redeemed prior to the expiration of the five year redemption period that commences on the date of the notice of redemption, or in the case of captive insurance company members, on the date of the membership termination.

2
Represents mandatorily redeemable capital stock resulting from the Finance Agency rule previously discussed that makes captive insurance companies ineligible for FHLBank membership. The related mandatorily redeemable capital stock is not required to be redeemed until five years after the member's termination.

ADDITIONAL CAPITAL FROM MERGER

The Bank recognized the net assets acquired from the Seattle Bank by recording the par value of capital stock issued in the transaction as capital stock, with the remaining portion of net assets acquired reflected in a capital account captioned as “Additional capital from merger.” The Bank treated this additional capital from merger as a component of total capital for regulatory capital purposes. Dividends on capital stock were paid from this account following the Merger until the balance was depleted following the first quarter dividend payment in May 2017. At December 31, 2016 the Bank's additional capital from merger balance totaled $52 million.

RESTRICTED RETAINED EARNINGS

The Bank entered into a Joint Capital Enhancement Agreement (JCE Agreement) with all of the other FHLBanks in February 2011. The JCE Agreement, as amended, is intended to enhance the capital position of the Bank over time. It requires the Bank to allocate 20 percent of its quarterly net income to a separate restricted retained earnings account until the balance of that account equals at least one percent of its average balance of outstanding consolidated obligations for the previous quarter. The restricted retained earnings are not available to pay dividends. At June 30, 2017 and December 31, 2016, the Bank's restricted retained earnings account totaled $285 million and $231 million.

35

ACCUMULATED OTHER COMPREHENSIVE INCOME

The following table summarizes changes in accumulated other comprehensive income (AOCI) (dollars in millions):
 
Net unrealized gains (losses) on AFS securities (Note 4)
 
Pension and postretirement benefits
 
Total AOCI
Balance, March 31, 2016
$
(119
)
 
$
(3
)
 
$
(122
)
Other comprehensive income (loss) before reclassifications
 
 
 
 
 
Net unrealized gains (losses) on AFS securities
36

 
—

 
36

Reclassifications from other comprehensive income (loss) to net income
 
 
 
 

Amortization - pension and postretirement
—

 
1

 
1

Net current period other comprehensive income (loss)
36

 
1

 
37

Balance, June 30, 2016
$
(83
)
 
$
(2
)
 
$
(85
)
 
 
 
 
 
 
Balance, March 31, 2017
$
50

 
$
(3
)
 
$
47

Other comprehensive income (loss) before reclassifications
 
 
 
 
 
Net unrealized gains (losses) on AFS securities
41

 
—

 
41

Reclassifications from other comprehensive income (loss) to net income
 
 
 
 

Amortization - pension and postretirement
—

 
1

 
1

Net current period other comprehensive income (loss)
41

 
1

 
42

Balance, June 30, 2017
$
91

 
$
(2
)
 
$
89

 
 
 
 
 
 
Balance, December 31, 2015
$
(82
)
 
$
(2
)
 
$
(84
)
Other comprehensive income (loss) before reclassifications
 
 
 
 
 
Net unrealized gains (losses) on AFS securities
(1
)
 
—

 
(1
)
Net current period other comprehensive income (loss)
(1
)
 
—

 
(1
)
Balance, June 30, 2016
$
(83
)
 
$
(2
)
 
$
(85
)
 
 
 
 
 
 
Balance, December 31, 2016
$
(14
)
 
$
(4
)
 
$
(18
)
Other comprehensive income (loss) before reclassifications
 
 
 
 
 
Net unrealized gains (losses) on AFS securities
105

 
—

 
105

Reclassifications from other comprehensive income (loss) to net income
 
 
 
 

Amortization - pension and postretirement
—

 
2

 
2

Net current period other comprehensive income (loss)
105

 
2

 
107

Balance, June 30, 2017
$
91

 
$
(2
)
 
$
89


REGULATORY CAPITAL REQUIREMENTS

The Bank is subject to three regulatory capital requirements:

•
Risk-based capital. The Bank must maintain at all times permanent capital greater than or equal to the sum of its credit, market, and operations risk capital requirements, all calculated in accordance with Finance Agency regulations. Only permanent capital, defined as Class B stock (including mandatorily redeemable capital stock), and retained earnings can satisfy this risk-based capital requirement.

•
Regulatory capital. The Bank is required to maintain a minimum four percent capital-to-asset ratio, which is defined as total regulatory capital divided by total assets. Total regulatory capital includes Class B stock (including mandatorily redeemable capital stock) and retained earnings. It does not include AOCI. At December 31, 2016, regulatory capital also included additional capital from merger. The additional capital from merger balance was depleted in May of 2017 following the first quarter dividend payment.


36

•
Leverage capital. The Bank is required to maintain a minimum five percent leverage ratio, which is defined as the sum of permanent capital weighted 1.5 times and nonpermanent capital weighted 1.0 times, divided by total assets. The Bank did not hold any nonpermanent capital at June 30, 2017. At December 31, 2016, nonpermanent capital included additional capital from merger.

If the Bank's capital falls below the required levels, the Finance Agency has authority to take actions necessary to return it to levels that it deems to be consistent with safe and sound business operations.

The following table shows the Bank's compliance with the Finance Agency's regulatory capital requirements (dollars in millions):
 
June 30, 2017
 
December 31, 2016
 
Required
 
Actual
 
Required
 
Actual
Regulatory capital requirements
 
 
 
 
 
 
 
Risk-based capital
$
940

 
$
7,787

 
$
1,046

 
$
8,031

Regulatory capital
$
6,600

 
$
7,787

 
$
7,224

 
$
8,083

Leverage capital
$
8,249

 
$
11,681

 
$
9,030

 
$
12,098

Capital-to-assets ratio
4.00
%
 
4.72
%
 
4.00
%
 
4.48
%
Leverage ratio
5.00
%
 
7.08
%
 
5.00
%
 
6.70
%

Note 13 — Fair Value

Fair value amounts are determined by the Bank using available market information and reflect the Bank's best judgment of appropriate valuation methods. The fair value hierarchy requires an entity to maximize the use of significant observable inputs and minimize the use of significant unobservable inputs when measuring fair value. The inputs are evaluated and an overall level for the fair value measurement is determined. This overall level is an indication of market observability of 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 Inputs. Quoted prices (unadjusted) for identical assets or liabilities in an active market that the Bank can access on the measurement date.

•
Level 2 Inputs. Inputs other than quoted prices within Level 1 that are observable inputs for the asset or liability, either directly or indirectly. If the asset or liability has a specified (contractual) term, a Level 2 input must be observable for substantially the full term of the asset or liability. Level 2 inputs include the following: (i) quoted prices for similar assets or liabilities in active markets, (ii) quoted prices for identical or similar assets or liabilities in markets that are not active, (iii) 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, implied volatilities, and credit spreads), and (iv) market-corroborated inputs.

•
Level 3 Inputs. Unobservable inputs for the asset or liability.

The Bank reviews its fair value hierarchy classifications on a quarterly basis. Changes in the observability of the valuation inputs may result in a reclassification of certain assets or liabilities. These reclassifications are reported as transfers in/out as of the beginning of the quarter in which the changes occur. There were no such transfers during the six months ended June 30, 2017 and 2016.


37

The following table summarizes the carrying value, fair value, and fair value hierarchy of the Bank's financial instruments at June 30, 2017 (dollars in millions). The fair values do not represent an estimate of the overall market value of the Bank as a going concern, which would take into account future business opportunities and the net profitability of assets and liabilities.
 
 
 
 
Fair Value
Financial Instruments
 
Carrying Value
 
Level 1
 
Level 2
 
Level 3
 
Netting Adjustment1
 
Total
Assets
 
 
 
 
 
 
 
 
 
 
 

Cash and due from banks
 
$
964

 
$
964

 
$
—

 
$
—

 
$
—

 
$
964

Interest-bearing deposits
 
2

 
—

 
2

 
—

 
—

 
2

Securities purchased under agreements to resell
 
3,500

 
—

 
3,500

 
—

 
—

 
3,500

Federal funds sold
 
5,100

 
—

 
5,100

 
—

 
—

 
5,100

Trading securities
 
2,549

 
—

 
2,549

 
—

 
—

 
2,549

Available-for-sale securities
 
22,403

 
—

 
22,403

 
—

 
—

 
22,403

Held-to-maturity securities
 
4,209

 
—

 
4,251

 
14

 
—

 
4,265

Advances
 
118,878

 
—

 
119,119

 
—

 
—

 
119,119

Mortgage loans held for portfolio, net
 
6,953

 
—

 
6,981

 
69

 
—

 
7,050

Accrued interest receivable
 
206

 
—

 
206

 
—

 
—

 
206

Derivative assets, net
 
139

 
—

 
180

 
—

 
(41
)
 
139

Other assets
 
26

 
26

 
—

 
—

 
—

 
26

Liabilities
 
 
 
 
 
 
 
 
 
 
 
 
Deposits
 
(964
)
 
—

 
(964
)
 
—

 
—

 
(964
)
Consolidated obligations
 
 
 
 
 
 
 
 
 
 
 
 
Discount notes
 
(66,558
)
 
—

 
(66,550
)
 
—

 
—

 
(66,550
)
Bonds
 
(89,171
)
 
—

 
(89,636
)
 
—

 
—

 
(89,636
)
Total consolidated obligations
 
(155,729
)
 
—

 
(156,186
)
 
—

 
—

 
(156,186
)
Mandatorily redeemable capital stock
 
(480
)
 
(480
)
 
—

 
—

 
—

 
(480
)
Accrued interest payable
 
(209
)
 
—

 
(209
)
 
—

 
—

 
(209
)
Derivative liabilities, net
 
(23
)
 
—

 
(666
)
 
—

 
643

 
(23
)

1
Amounts represent the application of the netting requirements that allow the Bank to net settle positive and negative positions and also cash collateral and the related accrued interest held or placed with the same clearing agent and/or counterparty. In addition, the amount includes the fair value adjustments on derivatives for variation margin which is characterized as a daily settled contract.


38

The following table summarizes the carrying value, fair value, and fair value hierarchy of the Bank's financial instruments at December 31, 2016 (dollars in millions):
 
 
 
 
Fair Value
Financial Instruments
 
Carrying Value
 
Level 1
 
Level 2
 
Level 3
 
Netting Adjustment1
 
Total
Assets
 
 
 
 
 
 
 
 
 
 
 
 
Cash and due from banks
 
$
223

 
$
223

 
$
—

 
$
—

 
$
—

 
$
223

Interest-bearing deposits
 
2

 
—

 
2

 
—

 
—

 
2

Securities purchased under agreements to resell
 
5,925

 
—

 
5,925

 
—

 
—

 
5,925

Federal funds sold
 
5,095

 
—

 
5,095

 
—

 
—

 
5,095

Trading securities
 
2,553

 
—

 
2,553

 
—

 
—

 
2,553

Available-for-sale securities
 
22,969

 
—

 
22,969

 
—

 
—

 
22,969

Held-to-maturity securities
 
4,674

 
—

 
4,691

 
15

 
—

 
4,706

Advances
 
131,601

 
—

 
131,772

 
—

 
—

 
131,772

Mortgage loans held for portfolio, net
 
6,913

 
—

 
6,918

 
71

 
—

 
6,989

Loans to other FHLBanks
 
200

 
—

 
200

 
—

 
—

 
200

Accrued interest receivable
 
197

 
—

 
197

 
—

 
—

 
197

Derivative assets, net
 
191

 
—

 
204

 
—

 
(13
)
 
191

Other assets
 
24

 
24

 
—

 
—

 
—

 
24

Liabilities
 
 
 
 
 
 
 
 
 
 
 
 
Deposits
 
(1,113
)
 
—

 
(1,113
)
 
—

 
—

 
(1,113
)
Consolidated obligations
 
 
 
 
 
 
 
 
 
 
 
 
Discount notes
 
(80,947
)
 
—

 
(80,943
)
 
—

 
—

 
(80,943
)
Bonds
 
(89,898
)
 
—

 
(90,370
)
 
—

 
—

 
(90,370
)
Total consolidated obligations
 
(170,845
)
 
—

 
(171,313
)
 
—

 
—

 
(171,313
)
Mandatorily redeemable capital stock
 
(664
)
 
(664
)
 
—

 
—

 
—

 
(664
)
Accrued interest payable
 
(180
)
 
—

 
(180
)
 
—

 
—

 
(180
)
Derivative liabilities, net
 
(76
)
 
—

 
(744
)
 
—

 
668

 
(76
)

1
Amounts represent the application of the netting requirements that allow the Bank to net settle positive and negative positions and also cash collateral and the related accrued interest held or placed with the same clearing agent and/or counterparty.

SUMMARY OF VALUATION TECHNIQUES AND PRIMARY INPUTS
 
Cash and Due from Banks. The fair value equals the carrying value.

Interest-Bearing Deposits. For interest-bearing deposits with less than three months to maturity, the fair value approximates the carrying value. For interest-bearing deposits with more than three months to maturity, the fair value is determined by calculating the present value of the expected future cash flows and reducing the amount for accrued interest receivable.

Securities Purchased under Agreements to Resell. For overnight and term securities purchased under agreements to resell with less than three months to maturity, the fair value approximates the carrying value. For term securities purchased under agreements to resell with more than three months to maturity, the fair value is determined by calculating the present value of the expected future cash flows and reducing the amount for accrued interest receivable. The discount rates used in these calculations are the rates for securities with similar terms.

Federal Funds Sold. The fair value approximates the carrying value.


39

Investment Securities. The Bank's valuation technique incorporates prices from multiple designated third-party pricing vendors, when available. The pricing vendors generally use various proprietary models to price investment securities. The inputs to those models are derived from various sources including, but not limited to, benchmark securities and yields, reported trades, dealer estimates, issuer spreads, bids, offers, and other market-related data. Since many investment securities 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 process in place to challenge investment valuations, which facilitates resolution of questionable prices identified by the Bank. Annually, the Bank conducts reviews of its pricing vendors to confirm and further augment its understanding of the vendors' pricing processes, methodologies, and control procedures for investment securities.

The Bank's valuation technique for estimating the fair values of its investment securities first requires the establishment of a median price for each security. All prices that are within a specified tolerance threshold of the median price are included in the cluster of prices that are averaged to compute a default price. All prices that are outside the threshold (outliers) are subject to further analysis (including, but not limited to, comparison to prices provided by an additional third-party valuation service, prices for similar securities, and/or non-binding dealer estimates) to determine if an outlier is a better estimate of fair value. If an outlier (or some other price identified in the analysis) is determined to be a better estimate of fair value, then the outlier (or the other price as appropriate) is used as the final price rather than the default price. Alternatively, if the analysis confirms that an outlier (or outliers) is (are) in fact not representative of fair value and the default price is the best estimate, then the default price is used as the final price. In all cases, the final price is used to determine the fair value of the security. In limited instances, when no prices are available from one of the designated pricing services, the Bank obtains prices from dealers.

As of June 30, 2017 and December 31, 2016, multiple prices were received for the majority of the Bank's investment securities. Based on the Bank's review of the pricing methods and controls employed by the third-party pricing vendors and the relative lack of dispersion among the vendor prices, the Bank believes its 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) and further, that the fair value measurements are classified appropriately in the fair value hierarchy.

Advances. The fair value of advances is determined by calculating the present value of the expected future cash flows and reducing the amount for accrued interest receivable. The discount rates used in these calculations are equivalent to the replacement advance rates for advances with similar terms. In accordance with Finance Agency regulations, advances generally require a prepayment fee sufficient to make the Bank financially indifferent to a borrower's decision to prepay the advances. Therefore, the fair value of advances assumes no prepayment risk.

The Bank uses the following inputs for measuring the fair value of advances:

•
Consolidated Obligation Curve (CO Curve). The Office of Finance constructs a market-observable curve referred to as the CO Curve. The CO Curve is constructed using the U.S. Treasury Curve as a base curve which is then adjusted by adding indicative spreads obtained largely from market-observable sources. These market indications are generally derived from pricing indications from dealers, historical pricing relationships, recent GSE trades, and secondary market activity. The Bank utilizes the CO Curve as its input to fair value for advances because it represents the Bank's cost of funds and is used to price advances.

•
Volatility assumption. Market-based expectations of future interest rate volatility implied from current market prices for similar options.

•
Spread assumption. Represents a spread adjustment to the CO Curve.

Mortgage Loans Held for Portfolio. The fair value of mortgage loans held for portfolio is estimated based on quoted market prices of similar mortgage loans available in the market, if available, or modeled prices. The modeled prices start with prices for new MBS issued by GSEs or similar new mortgage loans. The prices are adjusted for factors such as credit risk, servicing spreads, seasoning, delinquency status, and cash flow remittances. The prices for new MBS or similar new mortgage loans are highly dependent upon the underlying prepayment assumptions priced in the secondary market. Changes in expected prepayment rates often have a material effect on the fair value estimates.

40

Impaired Mortgage Loans Held for Portfolio. The fair value of impaired mortgage loans held for portfolio is estimated by obtaining property values from an external pricing vendor. This vendor utilizes multiple pricing models that generally factor in market observable inputs, including actual sales transactions and home price indices. The Bank applies an adjustment to these values to capture certain limitations in the estimation process and takes into consideration estimated selling costs and expected PMI proceeds. In limited instances, the Bank may estimate the fair value of an impaired mortgage loan by calculating the present value of expected future cash flows discounted at the loan's effective interest rate.  

Loans to other FHLBanks. The Bank may lend or borrow unsecured overnight funds to or from other FHLBanks. All such transactions are at current market rates. The fair value approximates the carrying value.

Accrued Interest Receivable and Payable. The fair value approximates the carrying value.

Derivative Assets and Liabilities. The fair value of derivatives is generally estimated using standard valuation techniques such as discounted cash flow analyses and comparisons to similar instruments, and also effective January 3, 2017, includes variation margin payments for daily settled contracts. In limited instances, fair value estimates for interest-rate related derivatives may be obtained using an external pricing model that utilizes observable market data. The Bank is subject to credit risk in derivatives transactions due to the potential nonperformance of its derivatives counterparties. The use of cleared derivatives is intended to mitigate credit risk exposure because a central counterparty is substituted for individual counterparties and collateral/payments is posted daily, through a clearing agent, for changes in the fair value of cleared derivatives. To mitigate credit risk on uncleared derivatives, the Bank enters into master netting agreements with its counterparties as well as collateral agreements that provide for the delivery of collateral at specified levels tied to those counterparties' credit ratings. The Bank has evaluated the potential for the fair value of its derivatives to be affected by counterparty credit risk and its own credit risk and has determined that no adjustments were significant to the overall fair value measurements.

The fair values of the Bank's derivative assets and derivative liabilities include accrued interest receivable/payable and cash collateral remitted to/received from counterparties. The estimated fair values of the accrued interest receivable/payable and cash collateral approximate their carrying values due to their short-term nature. The fair values of derivatives are netted by clearing agent and/or counterparty if the netting requirements are met. If these netted amounts are positive, they are classified as an asset and, if negative, they are classified as a liability.

The Bank's discounted cash flow model utilizes market-observable inputs (inputs that are actively quoted and can be validated to external sources). The Bank uses the following inputs for measuring the fair value of interest-related derivatives:

•
Discount rate assumption. The Bank utilizes the Overnight-Index Swap (OIS) curve. 

•
Forward interest rate assumption. The Bank utilizes the London Interbank Offered Rate (LIBOR) swap curve.

•
Volatility assumption. Market-based expectations of future interest rate volatility implied from current market prices for similar options.

For forward settlement agreements (TBAs), the Bank utilizes TBA securities prices that are determined by coupon class and expected term until settlement. For mortgage delivery commitments, the Bank utilizes TBA securities prices adjusted for factors such as credit risk and servicing spreads.
 
Other Assets. These represent grantor trust assets, which are carried at estimated fair value based on quoted market prices as of the last business day of the reporting period.

Deposits. For deposits with three months or less to maturity, the fair value approximates the carrying value. For deposits with more than three months to maturity, the fair value is determined by calculating the present value of the expected future cash flows and reducing the amount for accrued interest payable. The discount rates used in these calculations are the cost of deposits with similar terms.

Consolidated Obligations. The fair value of consolidated obligations is determined by calculating the present value of the expected future cash flows and reducing the amount for accrued interest payable. The discount rates used in these calculations are for consolidated obligations with similar terms. The Bank uses the CO Curve and a volatility assumption for measuring the fair value of these consolidated obligations.


41

Mandatorily Redeemable Capital Stock. The fair value of capital stock subject to mandatory redemption is generally reported at par value. Fair value also includes an estimated dividend earned at the time of reclassification from equity to a liability (if applicable), until such amount is paid. Capital stock can only be acquired by members at par value and redeemed at par value. Capital stock is not publicly traded and no market mechanism exists for the exchange of stock outside the cooperative structure.
 
Subjectivity of Estimates. Estimates of the fair value of financial assets and liabilities using the methods previously described are highly subjective and require judgments regarding significant matters, such as the amount and timing of future cash flows, prepayment speed assumptions, expected interest rate volatility, possible distributions of future interest rates used to value options, and the selection of discount rates that appropriately reflect market and credit risks. The use of different assumptions could have a material effect on the fair value estimates.

FAIR VALUE ON A RECURRING BASIS

The following table summarizes, for each hierarchy level, the Bank's assets and liabilities that are measured at fair value in the Statements of Condition at June 30, 2017 (dollars in millions):
Recurring Fair Value Measurements
 
Level 1
 
Level 2
 
Level 3
 
Netting Adjustment1
 
Total
Assets
 
 
 
 
 
 
 
 
 
 
Trading securities
 
 
 
 
 
 
 
 
 
 
Other U.S. obligations
 
$
—

 
$
207

 
$
—

 
$
—

 
$
207

GSE and Tennessee Valley Authority obligations
 
—

 
1,612

 
—

 
—

 
1,612

Other non-MBS
 
—

 
275

 
—

 
—

 
275

GSE multifamily MBS
 
—

 
455

 
—

 
—

 
455

Total trading securities
 
—

 
2,549

 
—

 
—

 
2,549

Available-for-sale securities
 
 
 
 
 
 
 
 
 
 
Other U.S. obligations
 
—

 
3,323

 
—

 
—

 
3,323

GSE and Tennessee Valley Authority obligations
 
—

 
1,304

 
—

 
—

 
1,304

State or local housing agency obligations
 
—

 
988

 
—

 
—

 
988

Other non-MBS
 
—

 
281

 
—

 
—

 
281

Other U.S. obligations single-family MBS
 
—

 
3,946

 
—

 
—

 
3,946

GSE single-family MBS
 
—

 
1,125

 
—

 
—

 
1,125

GSE multifamily MBS
 
—

 
11,436

 
—

 
—

 
11,436

Total available-for-sale securities
 
—

 
22,403

 
—

 
—

 
22,403

Derivative assets, net
 
 
 
 
 
 
 
 
 
 
Interest-rate related
 
—

 
180

 
—

 
(41
)
 
139

Other assets
 
26

 
—

 
—

 
—

 
26

Total recurring assets at fair value
 
$
26

 
$
25,132

 
$
—

 
$
(41
)
 
$
25,117

Liabilities
 
 
 
 
 
 
 
 
 
 
Derivative liabilities, net
 
 
 
 
 
 
 
 
 
 
Interest-rate related
 
—

 
(666
)
 
—

 
643

 
(23
)
Total recurring liabilities at fair value
 
$
—

 
$
(666
)
 
$
—

 
$
643

 
$
(23
)

1
Amounts represent the application of the netting requirements that allow the Bank to net settle positive and negative positions and also cash collateral and the related accrued interest held or placed with the same clearing agent and/or counterparty. In addition, the amount includes the fair value adjustments on derivatives for variation margin which is characterized as a daily settled contract.


42

The following table summarizes, for each hierarchy level, the Bank's assets and liabilities that are measured at fair value in the Statements of Condition at December 31, 2016 (dollars in millions):
Recurring Fair Value Measurements
 
Level 1
 
Level 2
 
Level 3
 
Netting Adjustment1
 
Total
Assets
 
 
 
 
 
 
 
 
 
 
Trading securities
 
 
 
 
 
 
 
 
 
 
Other U.S. obligations
 
$
—

 
$
216

 
$
—

 
$
—

 
$
216

GSE and Tennessee Valley Authority obligations
 
—

 
1,611

 
—

 
—

 
1,611

Other non-MBS
 
—

 
273

 
—

 
—

 
273

GSE multifamily MBS
 
—

 
453

 
—

 
—

 
453

Total trading securities
 
—

 
2,553

 
—

 
—

 
2,553

Available-for-sale securities
 
 
 
 
 
 
 
 
 
 
Other U.S. obligations
 
—

 
3,529

 
—

 
—

 
3,529

GSE and Tennessee Valley Authority obligations
 
—

 
1,351

 
—

 
—

 
1,351

State or local housing agency obligations
 
—

 
1,009

 
—

 
—

 
1,009

Other non-MBS
 
—

 
278

 
—

 
—

 
278

Other U.S. obligations single-family MBS
 
—

 
3,838

 
—

 
—

 
3,838

GSE single-family MBS
 
—

 
1,261

 
—

 
—

 
1,261

GSE multifamily MBS
 
—

 
11,703

 
—

 
—

 
11,703

Total available-for-sale securities
 
—

 
22,969

 
—

 
—

 
22,969

Derivative assets, net
 
 
 
 
 
 
 
 
 
 
Interest-rate related
 
—

 
204

 
—

 
(13
)
 
191

Other assets
 
24

 
—

 
—

 
—

 
24

Total recurring assets at fair value
 
$
24

 
$
25,726

 
$
—

 
$
(13
)
 
$
25,737

Liabilities
 
 
 
 
 
 
 
 
 
 
Derivative liabilities, net
 
 
 
 
 
 
 
 
 
 
Interest-rate related
 
—

 
(744
)
 
—

 
668

 
(76
)
Total recurring liabilities at fair value
 
$
—

 
$
(744
)
 
$
—

 
$
668

 
$
(76
)

1
Amounts represent the application of the netting requirements that allow the Bank to net settle positive and negative positions and also cash collateral and the related accrued interest held or placed with the same clearing agent and/or counterparty.

FAIR VALUE ON A NON-RECURRING BASIS

The Bank measures certain impaired mortgage loans held for portfolio at level 3 fair value on a non-recurring basis. These assets are subject to fair value adjustments in certain circumstances. The Bank estimates the fair value of these assets based primarily on a broker price opinion or property values from an external pricing vendor. The Bank applies an adjustment to these values to capture certain limitations in the estimation process and takes into consideration estimated selling costs and expected PMI proceeds. At June 30, 2017 and December 31, 2016, impaired mortgage loans held for portfolio recorded at fair value as a result of a non-recurring change in fair value were $6 million and $15 million. These fair values were as of the date the fair value adjustment was recorded during the six months ended June 30, 2017 and year-ended December 31, 2016.





43

Note 14 — Commitments and Contingencies

Joint and Several Liability. The FHLBanks have joint and several liability for all consolidated obligations issued. Accordingly, if an FHLBank were unable to repay any consolidated obligation for which it is the primary obligor, each of the other FHLBanks could be called upon by the Finance Agency to repay all or part of such obligations. No FHLBank has ever been asked or required to repay the principal or interest on any consolidated obligation on behalf of another FHLBank. At June 30, 2017 and December 31, 2016, the total par value of outstanding consolidated obligations issued on behalf of other FHLBanks for which the Bank is jointly and severally liable was approximately $855.5 billion and $818.2 billion.

The following table summarizes additional off-balance sheet commitments for the Bank (dollars in millions):
 
June 30, 2017
 
December 31, 2016
 
Expire
within one year
 
Expire
after one year
 
Total
 
Total
Standby letters of credit
$
7,487

 
$
156

 
$
7,643

 
$
7,281

Standby bond purchase agreements
124

 
575

 
699

 
458

Commitments to purchase mortgage loans
113

 
—

 
113

 
102

Commitments to issue bonds
360

 
—

 
360

 
—

Commitments to issue discount notes
15

 
—

 
15

 
—

Commitments to fund advances
1,032

 
28

 
1,060

 
280


Standby Letters of Credit. A standby letter of credit is a financing arrangement between the Bank and a member. Standby letters of credit are executed with members for a fee. If the Bank is required to make payment for a beneficiary's draw, the payment is withdrawn from the member's demand account. Any resulting overdraft is converted into a collateralized advance to the member. The original terms of standby letters of credit range from less than one month to 13 years, currently no later than 2025. Unearned fees for standby letters of credit are recorded in “Other liabilities” in the Statements of Condition and amounted to $4 million at June 30, 2017 and $3 million at December 31, 2016.

The Bank monitors the creditworthiness of its standby letters of credit based on an evaluation of its borrowers. The Bank has established parameters for the measurement, review, classification, and monitoring of credit risk related to these standby letters of credit. Based on management's credit analyses and collateral requirements, the Bank does not deem it necessary to have any provision for credit losses on these standby letters of credit. All standby letters of credit are fully collateralized at the time of issuance.

Standby Bond Purchase Agreements. The Bank has entered into standby bond purchase agreements with state housing associates within its district whereby, for a fee, it agrees to serve as a standby liquidity provider if required, to purchase and hold the housing associate's bonds until the designated marketing agent can find a suitable investor or the housing associate repurchases the bonds according to a schedule established by the agreement. Each standby bond purchase agreement includes the provisions under which the Bank would be required to purchase the bonds. At June 30, 2017, the Bank had standby bond purchase agreements with seven housing associates. The standby bond purchase commitments entered into by the Bank have original expiration periods of up to seven years, currently no later than 2024. During both the six months ended June 30, 2017 and 2016, the Bank was not required to purchase any bonds under these agreements. For both the three months ended June 30, 2017 and 2016, the Bank received fees for the guarantees that amounted to less than $1 million. For both the six months ended June 30, 2017 and 2016, the Bank received fees for the guarantees that amounted to $1 million.

Commitments to Purchase Mortgage Loans. The Bank enters into commitments that unconditionally obligate it to purchase mortgage loans from its members. Commitments are generally for periods not to exceed 45 days. These commitments are considered derivatives and their estimated fair value at June 30, 2017 and December 31, 2016 is reported in “Note 10 — Derivatives and Hedging Activities” as mortgage delivery commitments.

Commitments to Issue Bonds. At June 30, 2017, the Bank had commitments to issue $360 million of consolidated obligation bonds. At December 31, 2016, the Bank had no commitments to issue consolidated obligations bonds.

Commitments to Issue Discount Notes. At June 30, 2017, the Bank had commitments to issue $15 million of consolidated obligation discount notes. At December 31, 2016, the Bank had no commitments to issue consolidated obligation discount notes.


44

Commitments to Fund Advances. The Bank enters into commitments that legally bind it to fund additional advances up to 24 months in the future. At June 30, 2017 and December 31, 2016, the Bank had commitments to fund advances of $1.1 billion and $280 million.

Other Commitments. For each master commitment, the Bank's potential loss exposure prior to the PFI's credit enhancement obligation is estimated and tracked in a memorandum account called the FLA. For absorbing certain losses in excess of the FLA, PFIs are paid a credit enhancement fee, a portion of which may be performance-based. To the extent the Bank experiences losses under the FLA, it may be able to recapture performance-based credit enhancement fees paid to the PFI to offset these losses. The FLA balance for all MPF master commitments with a PFI credit enhancement obligation was $103 million and $99 million at June 30, 2017 and December 31, 2016. For additional information related to the FLA commitment, refer to "Note 9 — Allowance for Credit Losses."
Legal Proceedings. As a result of the Merger, the Bank has been involved in a number of legal proceedings initiated by the Seattle Bank against various entities relating to its purchases and subsequent impairment of certain private-label MBS. Although the Seattle Bank sold all private-label MBS during the first quarter of 2015 and all of the lawsuits have been either settled or dismissed, the Bank has appealed certain claims dismissed by the court against three defendants. Other than the private-label MBS litigation, the Bank does not believe any legal proceedings to which it is a party could have a material impact on its financial condition, results of operations, or cash flows.
Litigation settlement gains are considered realized and recorded when the Bank receives cash or assets that are readily convertible to known amounts of cash or claims to cash. In addition, litigation settlement gains are considered realizable and recorded when the Bank enters into a signed agreement that is not subject to appeal, where the counterparty has the ability to pay, and the amount to be received can be reasonably estimated. Prior to being realized or realizable, the Bank considers potential litigation settlement gains to be gain contingencies, and therefore they are not recorded in the Statements of Income.
The Bank records legal expenses related to litigation settlements as incurred in other expenses in the Statements of Income with the exception of certain legal expenses related to litigation settlement awards that are contingent based fees for the attorneys representing the Bank. The Bank incurs and recognizes these contingent based legal fees only when litigation settlement awards are realized, at which time these fees are netted against the gains recognized on the litigation settlement.  During the three months ended June 30, 2017, the Bank did not recognize net gains on litigation settlements. During the six months ended June 30, 2017, the Bank recognized $21 million in net gains on litigation settlements through other income (loss), due to the settlement of one of the Bank's private-label MBS claims. During the three and six months ended June 30, 2016, the Bank recognized $200 million and $337 million in net gains on litigation settlements.

Note 15 — Activities with Stockholders

The Bank is a cooperative. This means the Bank is owned by its customers, whom the Bank calls members. As a condition of membership in the Bank, all members must purchase and maintain membership capital stock based on a percentage of their total assets, subject to a minimum and maximum amount, as of the preceding December 31st. Each member is also required to purchase and maintain activity-based capital stock to support certain business activities with the Bank.

TRANSACTIONS WITH DIRECTORS' FINANCIAL INSTITUTIONS

In the normal course of business, the Bank extends credit to its members whose directors and officers serve as Bank directors (Directors' Financial Institutions). Finance Agency regulations require that transactions with Directors' Financial Institutions be made on the same terms and conditions as those with any other member.

The following table summarizes the Bank's outstanding transactions with Directors' Financial Institutions (dollars in millions):
 
 
June 30, 2017
 
December 31, 2016
 
 
Amount
 
% of Total
 
Amount
 
% of Total
Advances
 
$
5,386

 
5
 
$
2,497

 
2
Mortgage loans
 
57

 
1
 
186

 
3
Deposits
 
23

 
2
 
82

 
7
Capital stock
 
270

 
4
 
157

 
2


45

BUSINESS CONCENTRATIONS

The Bank considers itself to have business concentrations with stockholders owning 10 percent or more of its total capital stock outstanding (including mandatorily redeemable capital stock). At June 30, 2017, the Bank had the following business concentrations with stockholders (dollars in millions):
 
 
Capital Stock
 
 
 
Mortgage
 
Interest
Stockholder
 
Amount
 
% of Total1
 
Advances
 
Loans
 
Income2
Wells Fargo Bank, N.A.
 
$
2,510

 
41
 
$
62,500

 
$
—

 
$
390

Superior Guaranty Insurance Company3
 
25

 
—
 
—

 
596

 
—

Wells Fargo Bank Northwest, N.A.3
 
1

 
—
 
—

 
33

 
—

Total
 
$
2,536

 
41
 
$
62,500

 
$
629

 
$
390


1
Pursuant to applicable Finance Agency regulations, the Bank's voting structure limits the voting rights of these stockholders and other members holding a significant amount of the Bank's capital stock.

2
Represents interest income earned on advances during the six months ended June 30, 2017. Interest income on mortgage loans is excluded from this table as this interest relates to the borrower, not to the stockholder.

3
Superior Guaranty Insurance Company and Wells Fargo Bank Northwest, N.A. are affiliates of Wells Fargo Bank, N.A.


At December 31, 2016, the Bank had the following business concentrations with stockholders (dollars in millions):
 
 
Capital Stock
 
 
 
Mortgage
 
Interest
Stockholder
 
Amount
 
% of Total1
 
Advances
 
Loans
 
Income2
Wells Fargo Bank, N.A.
 
$
3,093

 
47
 
$
77,075

 
$
—

 
$
429

Superior Guaranty Insurance Company3
 
28

 
1
 
—

 
683

 
—

Wells Fargo Bank Northwest N.A.3
 
2

 
—
 
—

 
38

 
—

Total
 
$
3,123

 
48
 
$
77,075

 
$
721

 
$
429


1
Pursuant to applicable Finance Agency regulations, the Bank's voting structure limits the voting rights of these stockholders and other members holding a significant amount of the Bank's capital stock.
 
2
Represents interest income earned on advances during the year ended December 31, 2016. Interest income on mortgage loans is excluded from this table as this interest relates to the borrower, not to the stockholder.

3
Superior Guaranty Insurance Company and Wells Fargo Bank Northwest, N.A. are affiliates of Wells Fargo Bank, N.A.


Note 16 — Activities with Other FHLBanks

Overnight Funds. The Bank may lend or borrow unsecured overnight funds to or from other FHLBanks. All such transactions are at current market rates. During the six months ended June 30, 2016, the Bank did not lend funds to other FHLBanks. The following table summarizes loan activity to other FHLBanks during the six months ended June 30, 2017 (dollars in millions):
Other FHLBank
 
Beginning
Balance
 
Loans
 
Principal
Repayment
 
Ending
Balance
2017
 
 
 
 
 
 
 
 
San Francisco
 
$
200

 
$
—

 
$
(200
)
 
$
—


During the six months ended June 30, 2017, the Bank did not borrow funds from other FHLBanks. The following table summarizes borrowing activity from other FHLBanks during the six months ended June 30, 2016 (dollars in millions):

Other FHLBank
 
Beginning
Balance
 
Borrowing
 
Principal Payment
 
Ending
Balance
2016
 
 
 
 
 
 
 
 
San Francisco
 
$
—

 
$
200

 
$
(200
)
 
$
—


At June 30, 2017 and 2016, none of the previous transactions were outstanding on the Bank's Statements of Condition. The interest income and expense related to this activity were immaterial.

46

Advance Transfers. The Bank may purchase or sell advances from/to other FHLBanks. These transfers are accounted for in the same manner as an advances origination with a member bank. During the six months ended June 30, 2017, a member of the Federal Home Loan Bank of Chicago (Chicago Bank) re-designated its charter, and concurrently transferred its Federal Home Loan Bank membership from the Chicago Bank to the Des Moines Bank. In conjunction with this transfer and at request of the member, the Bank purchased $37 million of par value advances outstanding to this member from the Chicago Bank and recognized related premiums of $1 million. There were no advance transfers during the six months ended June 30, 2016.

Note 17 — Subsequent Events

Subsequent events have been evaluated from July 1, 2017, through the time of the Form 10-Q filing with the Securities and Exchange Commission. No material subsequent events requiring disclosure were identified.



47

ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS

Our Management's Discussion and Analysis (MD&A) of Financial Condition and Results of Operations should be read in conjunction with our financial statements and condensed notes at the beginning of this Form 10-Q and in conjunction with our MD&A and Annual Report on Form 10-K for the fiscal year ended December 31, 2016, filed with the Securities and Exchange Commission (SEC) on March 21, 2017 (2016 Form 10-K). Our MD&A is designed to provide information that will help the reader develop a better understanding of our financial statements, key financial statement changes from quarter to quarter, and the primary factors driving those changes. Our MD&A is organized as follows:
CONTENTS
 
 
 
 
 
 
 
 
 
 
 
Bank Developments
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Other Income (Loss)
 
 
 
 
 
 
 
 
Other Expense
 
 
 
 
 
 
 
 
 
 
 
 
Cash and Due from Banks
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Mandatorily Redeemable Capital Stock
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 

48

FORWARD-LOOKING INFORMATION

Statements contained in this report, including statements describing the objectives, projections, estimates, or future predictions in our operations, may be forward-looking statements. These statements may be identified by the use of forward-looking terminology, such as believes, projects, expects, anticipates, estimates, intends, strategy, plan, could, should, may, and will or their negatives or other variations on these terms. By their nature, forward-looking statements involve risk or uncertainty, and actual results could differ materially from those expressed or implied or could affect the extent to which a particular objective, projection, estimate, or prediction is realized. As a result, you are cautioned not to place undue reliance on such statements. These risks and uncertainties include, but are not limited to, the following:
 
•
political or economic events, including legislative, regulatory, monetary, judicial, or other developments that affect us, our members, our counterparties, and/or our investors in the consolidated obligations of the 11 Federal Home Loan Banks (FHLBanks);

•
competitive forces, including without limitation, other sources of funding available to our borrowers that could impact the demand for our advances, other entities purchasing mortgage loans in the secondary mortgage market, and other entities borrowing funds in the capital markets;

•
risks related to the other FHLBanks that could trigger our joint and several liability for debt issued by the other 10 FHLBanks;

•
disruptions in the credit and debt markets and the effect of future funding costs, sources, and availability;

•
changes in the relative attractiveness of consolidated obligations due to actual or perceived changes in the FHLBanks' credit ratings as well as the U.S. Government's long-term credit rating;

•
the ability to meet capital and liquidity requirements;

•
reliance on a relatively small number of member institutions for a large portion of our advance business;

•
the volatility of credit quality, market prices, interest rates, and other indices that could affect the value of collateral held by us as security for borrower and counterparty obligations;

•
general economic and market conditions that could impact the volume of business we do with our members, including, but not limited to, the timing and volatility of market activity, inflation/deflation, employment rates, housing prices, the condition of the mortgage and housing markets on our mortgage-related assets, including the level of mortgage prepayments, and the condition of the capital markets on our consolidated obligations;

•
the availability of derivative instruments in the types and quantities needed for risk management purposes from acceptable counterparties;

•
increases in delinquency or loss estimates on mortgage loans;

•
the volatility of reported results due to changes in the fair value of certain assets, liabilities, and derivative instruments;

•
the ability to develop and support internal controls, information systems, and other operating technologies that effectively manage the risks we face;

•
the ability to attract and retain key personnel;

•
member consolidations and failures; and

•
reliance on the FHLBank of Chicago as Mortgage Partnership Finance (MPF) provider (Mortgage Partnership Finance and MPF are registered trademarks of the FHLBank of Chicago), and Fannie Mae, Redwood Trust Inc., and Ginnie Mae as the ultimate investors of certain MPF products.



49

For additional information regarding these and other risks and uncertainties that could cause our actual results to differ materially from the expectations reflected in our forward-looking statements, see “Item 1A. Risk Factors” in this quarterly report and in our 2016 Form 10-K. You are cautioned not to place undue reliance on any forward-looking statements made by us or on our behalf. Forward-looking statements apply only as of the date they are made, and we undertake no obligation to update or revise any forward-looking statement.

EXECUTIVE OVERVIEW

Our Bank is a member-owned cooperative serving shareholder members in our district. Our mission is to provide funding and liquidity for our members and housing associates so that they can meet the housing, economic development, and business needs of the communities they serve. We strive to achieve our mission within an operating principle that balances the trade-off between attractively priced products, reasonable returns on capital stock, and maintaining an adequate level of retained earnings to preserve par value of member-owned capital stock. Our members include commercial banks, savings institutions, credit unions, insurance companies, and community development financial institutions (CDFIs).

Financial Results
For the three and six months ended June 30, 2017, we reported net income of $130 million and $270 million compared to $232 million and $419 million for the same periods in 2016. Our net income for the three and six months ended June 30, 2017, calculated in accordance with accounting principles generally accepted in the United States of America (GAAP), was primarily driven by net interest income, other income (loss), and other expense.

Net interest income totaled $170 million and $323 million for the three and six months ended June 30, 2017 compared to $94 million and $197 million for the same periods last year due primarily to higher advance spreads and higher average advance balances. Our net interest margin was 0.41 percent and 0.37 percent during the three and six months ended June 30, 2017 compared to 0.24 percent and 0.26 percent for the three and six months ended June 30, 2016. The increase was driven by changes made to advance pricing on certain variable rate callable advance products and our interest-earning assets repricing to higher interest rates at a quicker pace than our interest-bearing liabilities during the first half of 2017.

We recorded net gains of $6 million and $41 million in other income (loss) for the three and six months ended June 30, 2017 compared to net gains of $192 million and $324 million for the same periods last year. Other income (loss) was primarily impacted by net gains on litigation settlements of $21 million during the six months ended June 30, 2017 and $200 million and $337 million during the three and six months ended June 30, 2016 as a result of settlements with certain defendants in our private-label mortgage-backed securities (private-label MBS) litigation. We did not record any litigation settlements during the three months ended June 30, 2017. Although all of the private-label MBS lawsuits have been either settled or dismissed, we have appealed certain claims dismissed by the court against three defendants. Other factors impacting other income (loss) included net gains (losses) on derivatives and hedging activities and net gains (losses) on trading securities, as described below.

During the three and six months ended June 30, 2017, we recorded net losses of $3 million and net gains of $3 million on our derivatives and hedging activities through other income (loss) compared to net losses of $30 million and $73 million during the same periods last year. The fair value changes were primarily driven by changes in interest rates. These changes impacted our fair value hedge relationships and fair value changes on interest rate swaps that we utilized to economically hedge our investment securities portfolio. We utilize derivative instruments to manage interest rate risk. Refer to "Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations — Results of Operations — Hedging Activities" for additional discussion on our derivatives and hedging activities, including the net impact of economic hedge relationships.

During the three and six months ended June 30, 2017, we recorded net gains on trading securities of $4 million and $9 million compared to net gains of $18 million and $53 million during the same periods in 2016. These changes in fair value were primarily due to the impact of interest rates and credit spreads on our fixed rate trading securities.

Other expense totaled $31 million and $63 million for the three and six months ended June 30, 2017 compared to $27 million and $54 million for the same periods in 2016. The increase was primarily due to an increase in professional fees.
    
Our total assets decreased to $165.0 billion at June 30, 2017, from $180.6 billion at December 31, 2016, due primarily to a decrease in advances. Advances decreased due primarily to the repayment of advances held by a large depository institution member and by certain captive insurance company members whose membership was terminated in response to the Finance Agency final rule affecting FHLBank membership.


50

Our total liabilities decreased to $157.6 billion at June 30, 2017, from $173.2 billion at December 31, 2016, driven primarily by a decline in the amount of consolidated obligations needed to fund our assets.

Total capital remained stable at $7.4 billion at June 30, 2017 and December 31, 2016. Retained earnings increased to $1.7 billion at June 30, 2017 from $1.5 billion at December 31, 2016 due to net income, partially offset by dividends paid. Our regulatory capital ratio increased to 4.72 percent at June 30, 2017, from 4.48 percent at December 31, 2016 and was above the required regulatory minimum at each period end. Regulatory capital includes all capital stock, mandatorily redeemable capital stock, and retained earnings.

Refer to “Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations — Statements of Condition” for additional discussion on our financial condition.

Adjusted Earnings

As part of evaluating financial performance, we adjust GAAP net interest income and GAAP net income before assessments for the impact of (i) market adjustments relating to derivative and hedging activities and instruments held at fair value, (ii) realized gains (losses) on investment securities, and (iii) other non-routine and unpredictable items, including net asset prepayment fee income, debt extinguishment losses, merger related expenses, mandatorily redeemable capital stock interest expense, and net gains on litigation settlements. The resulting non-GAAP measure, referred to as our adjusted earnings, reflects both adjusted net interest income and adjusted net income.
Because our business model is primarily one of holding assets and liabilities to maturity, management believes that the adjusted earnings measure is helpful in understanding our operating results and provides a meaningful period-to-period comparison of our long-term economic value in contrast to GAAP results, which can be impacted by fair value changes driven by market volatility on financial instruments recorded at fair value or transactions that are considered to be unpredictable or not routine. As a result, management uses the adjusted earnings measure to assess performance under our incentive compensation plans and to ensure management remains focused on our long-term value and performance. Non-GAAP financial measures have inherent limitations, are not required to be uniformly applied, and are not audited. While these non-GAAP measures can be used to assist in understanding the components of our earnings, they should not be considered a substitute for results reported under GAAP.

Effective January 1, 2017, management approved a revision to the adjusted net income methodology to calculate adjusted net income on a post Affordable Housing Program (AHP) assessment basis. The revision was made to better align adjusted net income results to the Bank’s strategic business plan which is calculated on a post AHP assessment basis. Management believes AHP assessments are a fundamental component of our business and believes this assessment should be included in our adjusted net income calculation. In addition, one of our incentive plan targets, our adjusted return on capital stock spread to LIBOR target, is calculated on a post AHP assessment basis. This change aligns the adjusted net income measure to the measure used as the incentive plan target. Adjusted net income for the three and six months ended June 30, 2017 has been revised to be reported on a post AHP assessment basis for comparability.

As indicated in the tables that follow, our adjusted net interest income and adjusted net income increased during the three and six months ended June 30, 2017 when compared to the same periods in 2016. The increase in our adjusted net interest income and adjusted net income was primarily due to an increase in interest income due to improved advance spreads and higher advance balances.


51

The following table summarizes the reconciliation between GAAP and adjusted net interest income (dollars in millions):
 
For the Three Months Ended
 
For the Six Months Ended
 
June 30,
 
June 30,
 
2017
 
2016
 
2017
 
2016
GAAP net interest income before provision (reversal) for credit losses on mortgage loans
$
170

 
$
94

 
$
323

 
$
197

Exclude:
 
 
 
 
 
 
 
Prepayment fees on advances, net1
1

 
1

 
1

 
5

Prepayment fees on investments, net2
—

 
—

 
—

 
2

Mandatorily redeemable capital stock interest expense
(4
)
 
(5
)
 
(9
)
 
(9
)
Total adjustments
(3
)
 
(4
)
 
(8
)
 
(2
)
Include items reclassified from other income (loss):
 
 
 
 
 
 
 
Net interest expense on economic hedges
(3
)
 
(4
)
 
(7
)
 
(9
)
Adjusted net interest income
$
170

 
$
94


$
324

 
$
190

Adjusted net interest margin
0.41
%
 
0.23
%
 
0.37
%
 
0.25
%

1
Prepayment fees on advances, net includes basis adjustment amortization.

2
Prepayment fees on investments, net includes basis adjustment amortization and premium and/or discount amortization.

The following table summarizes the reconciliation between GAAP net income before assessments and adjusted net income (dollars in millions):
 
For the Three Months Ended
 
For the Six Months Ended
 
June 30,
 
June 30,
 
2017
 
2016
 
2017
 
2016
GAAP net income before assessments
$
145

 
$
258

 
$
301

 
$
466

Exclude:
 
 
 
 
 
 
 
Prepayment fees on advances, net1
1

 
1

 
1

 
5

Prepayment fees on investments, net2
—

 
—

 
—

 
2

Mandatorily redeemable capital stock interest expense
(4
)
 
(5
)
 
(9
)
 
(9
)
Net gains (losses) on trading securities
4

 
18

 
9

 
53

Net gains (losses) on derivatives and hedging activities
(3
)
 
(30
)
 
3

 
(73
)
Gains on litigation settlements, net
—

 
200

 
21

 
337

Include:
 
 
 
 
 
 
 
Net interest expense on economic hedges
(3
)
 
(4
)
 
(7
)
 
(9
)
Adjusted net income before assessments
144

 
70

 
269

 
142

Adjusted AHP assessments3
14

 
7

 
27

 
14

Adjusted net income
$
130

 
$
63

 
$
242

 
$
128


1
Prepayment fees on advances, net includes basis adjustment amortization.

2
Prepayment fees on investments, net includes basis adjustment amortization and premium and/or discount amortization.

3
Adjusted AHP assessments for this non-GAAP measure are calculated as 10 percent of adjusted net income before assessments. For additional discussion on AHP assessments, refer to "Item 8. Financial Statements and Supplementary Data — Note 14 — Affordable Housing Program" in our 2016 10-K.

For additional discussion on items impacting our GAAP earnings, refer to “Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations — Results of Operations.”


52

BANK DEVELOPMENTS

We lease our headquarters office space from Wells Fargo Bank. On June 22, 2017, a storm drain pipe broke at our headquarters, causing significant water damage to our office space and rendering it totally uninhabitable. From June 23 to July 14 of this year, we utilized our back-up data center, and employees worked out of a business recovery center located in Urbandale, Iowa, additional leased space in downtown Des Moines, and remotely. On July 17, 2017, we resumed use of our primary data center at our headquarters; however, staff continue to work from alternative locations. Through the date of this filing, there have been no material disruptions to our operations or our ability to serve our members. We have incurred immaterial expenses during the second quarter of 2017 as a result of the damaged headquarters. While we continue to incur costs, we expect that we will be able to recover the majority of these costs and incur immaterial expenses in the future. For additional information on the water damage, refer to "Note 1 — Basis of Presentation."


53

CONDITIONS IN THE FINANCIAL MARKETS

Economy and Financial Markets

Economic and market data received during the Federal Open Market Committee (FOMC or Committee) meeting in June of 2017 indicates that the labor market has continued to strengthen and that economic activity has been rising moderately so far this year. Job gains have moderated but have been solid, on average, since the beginning of the year, and the unemployment rate has declined. Household spending has picked up in recent months and business fixed investment has continued to expand. On a 12-month basis, overall inflation has declined recently and, like the inflation measure excluding food and energy prices, is running somewhat below two percent. Market-based measures of inflation adjusted compensation remained low and long-term inflation expectations remained stable.

In its June 14, 2017 statement, the FOMC stated it expects that, with gradual adjustments in the stance of monetary policy, economic activity will expand at a moderate pace, labor market conditions will strengthen somewhat further, and inflation will stabilize around two percent over the medium-term. The Committee stated that near-term risks to the economic outlook appear nearly balanced. The FOMC is expected to continue to monitor inflation and global economic and financial developments closely.

Mortgage Markets

The housing market remained strong throughout the second quarter of 2017, as indicated by rising home prices, lower inventories of properties for sale, increased housing construction activity, and increased sales of existing homes. The improvement in the housing market has been partly attributable to the continued strengthening of the economy and partly to the seasonality impact on home sales.

Mortgage rates fell slightly in the second quarter, but are higher than rates observed in the prior year. This has resulted in housing market activity becoming increasingly driven by purchase activity versus refinance activity. The increase in mortgage rates has not slowed down the demand for home purchases thus far as inventories remain limited. However, as prices increase and rates rise further, the pace of purchases may slow.

Interest Rates

The following table shows information on key market interest rates1:
 
Second Quarter 2017 3-Month Average
 
Second Quarter 2016 3-Month Average
 
Second Quarter 2017 6-Month Average
 
Second Quarter 2016 6-Month Average
 
June 30, 2017 Ending Rate
 
December 31, 2016
Ending Rate
Federal funds
0.95
%
 
0.37
%
 
0.83
%
 
0.37
%
 
1.06
%
 
0.55
%
Three-month LIBOR
1.20

 
0.64

 
1.14

 
0.63

 
1.30

 
1.00

2-year U.S. Treasury
1.29

 
0.77

 
1.26

 
0.80

 
1.38

 
1.19

10-year U.S. Treasury
2.26

 
1.75

 
2.35

 
1.83

 
2.31

 
2.45

30-year residential mortgage note
3.99

 
3.60

 
4.09

 
3.68

 
3.88

 
4.32


1
Source is Bloomberg.


54

In its June 2017 meeting, the FOMC increased the Federal Reserve's key target interest rate, the Federal funds rate, to a range of 1.00 to 1.25 percent compared to a range of 0.25 to 0.50 percent for the same period in 2016. The Committee's stance on monetary policy remains accommodative even after this increase, and is expected to support further strengthening in the labor market conditions and a sustained return towards their inflation rate of two percent. The FOMC stated that it will assess realized and expected economic conditions relative to its longer-run goals of maximum employment and a two percent inflation rate. The assessment is expected to take into account measures of labor market conditions, indicators of inflation pressures, inflation expectations, and financial and international developments. The Committee stated that it anticipates economic conditions will evolve in a manner that will warrant gradual increases in the Federal funds rate, which is likely to remain below levels that are expected to prevail in the longer run.

The 10-year U.S. Treasury yields and mortgage rates were higher on average in the second quarter of 2017 when compared to the same period in prior year. Interest rates increased as the FOMC raised their target rate, and economic data remained strong.
 
In its June 14, 2017 statement, the Committee stated it expects to begin implementing a balance sheet normalization program this year, provided that the economy evolves broadly as anticipated. This program would gradually reduce the Federal Reserve's securities holdings by decreasing reinvestment of principal payments from those securities.

Funding Spreads

The following table reflects our funding spreads to LIBOR (basis points)1:
 
Second Quarter 2017
3-Month
Average
 
Second Quarter 2016
3-Month
Average
 
Second Quarter 2017
6-Month
Average
 
Second Quarter 2016
6-Month
Average
 
June 30, 2017
Ending Spread
 
December 31, 2016
Ending Spread
3-month
(25.1
)
 
(25.2
)
 
(33.6
)
 
(23.8
)
 
(23.6
)
 
(42.7
)
2-year
(15.4
)
 
(2.8
)
 
(17.7
)
 
0.7

 
(17.0
)
 
(16.5
)
5-year
3.1

 
17.5

 
3.0

 
20.4

 
0.6

 
9.0

10-year
47.7

 
58.5

 
49.6

 
62.7

 
39.9

 
57.7


1
Source is the Office of Finance.

As a result of our credit quality, we generally have ready access to funding at relatively competitive interest rates. During the second quarter of 2017, our funding spreads were mixed relative to London Interbank Offered Rate (LIBOR). Short-term spreads deteriorated when compared to spreads at December 31, 2016 as LIBOR increased more slowly than our funding spreads, while long-term spreads improved when compared to spreads at December 31, 2016 as longer-term swap spreads widened in recent months. During the first six months of 2017, we utilized step-up, callable, and term fixed and floating rate consolidated obligation bonds in addition to consolidated obligation discount notes to capture attractive funding, match the repricing structures on advances, and meet liquidity requirements.

55

SELECTED FINANCIAL DATA

The following tables present selected financial data for the periods indicated (dollars in millions):
Statements of Condition
June 30,
2017
 
March 31,
2017
 
December 31,
2016
 
September 30,
2016
 
June 30,
2016
Cash and due from banks
$
964

 
$
237

 
$
223

 
$
245

 
$
460

Investments1
37,763

 
41,792

 
41,218

 
42,851

 
44,143

Advances
118,878

 
123,609

 
131,601

 
125,828

 
116,294

Mortgage loans held for portfolio, net2
6,953

 
6,870

 
6,913

 
6,792

 
6,640

Total assets
164,988

 
172,918

 
180,605

 
176,074

 
167,860

Consolidated obligations
 
 
 
 
 
 
 
 
 
Discount notes
66,558

 
72,549

 
80,947

 
84,481

 
92,521

Bonds
89,171

 
90,956

 
89,898

 
82,454

 
66,599

Total consolidated obligations3
155,729

 
163,505

 
170,845

 
166,935

 
159,120

Mandatorily redeemable capital stock
480

 
494

 
664

 
675

 
698

Total liabilities
157,592

 
165,469

 
173,204

 
169,069

 
161,356

Capital stock — Class B putable
5,623

 
5,803

 
5,917

 
5,658

 
5,241

Additional capital from merger
—

 
9

 
52

 
92

 
128

Retained earnings
1,684

 
1,590

 
1,450

 
1,294

 
1,220

Accumulated other comprehensive income (loss)
89

 
47

 
(18
)
 
(39
)
 
(85
)
Total capital
7,396

 
7,449

 
7,401

 
7,005

 
6,504

 
For the Three Months Ended
Statements of Income
June 30,
2017
 
March 31,
2017
 
December 31,
2016
 
September 30,
2016
 
June 30,
2016
Net interest income
$
170

 
$
153

 
$
135

 
$
117

 
$
94

Provision (reversal) for credit losses on mortgage loans
—

 
—

 
1

 
1

 
1

Other income (loss)4
6

 
35

 
77

 
(5
)
 
192

Other expense5
31

 
32

 
36

 
28

 
27

AHP assessments
15

 
16

 
19

 
9

 
26

Net income
130

 
140

 
156

 
74

 
232

Selected Financial Ratios6
 
 
 
 
 
 
 
 
 
Net interest spread7
0.37
%
 
0.31
%
 
0.27
%
 
0.24
%
 
0.21
%
Net interest margin8
0.41

 
0.35

 
0.30

 
0.27

 
0.24

Return on average equity
7.13

 
7.52

 
8.81

 
4.35

 
15.34

Return on average capital stock
9.30

 
9.49

 
10.99

 
5.40

 
19.11

Return on average assets
0.31

 
0.31

 
0.35

 
0.17

 
0.59

Average equity to average assets
4.41

 
4.16

 
4.00

 
3.92

 
3.86

Regulatory capital ratio9
4.72

 
4.57

 
4.48

 
4.38

 
4.34

Dividend payout ratio10
34.53

 
30.74

 
26.01

 
47.85

 
15.24


1
Investments include interest-bearing deposits, securities purchased under agreements to resell, Federal funds sold, trading securities, AFS securities, and held-to-maturity (HTM) securities.

2
Includes an allowance for credit losses of $2 million at June 30, 2017, March 31, 2017, December 31, 2016, and September 30, 2016, and $1 million at June 30, 2016.

3
The total par value of outstanding consolidated obligations of the FHLBanks was $1.0 trillion, $959.3 billion, $989.3 billion, $967.7 billion, and $963.8 billion at June 30, 2017, March 31, 2017, December 31, 2016, September 30, 2016, and June 30, 2016, respectively.

4
Other income (loss) includes, among other things, net gains (losses) on investment securities, net gains (losses) on derivatives and hedging activities, net gains (losses) on the disposal of fixed assets, and gains on litigation settlements, net. During the three months ended March 31, 2017, December 31, 2016, and June 30, 2016, other income (loss) was impacted by net gains on litigation settlements. The Bank did not record any litigation settlements during the three months ended June 30, 2017 and September 30, 2016.

5
Other expense includes, among other things, compensation and benefits, professional fees, contractual services, and gains and losses on real estate owned (REO).

6
Amounts used to calculate selected financial ratios are based on numbers in thousands. Accordingly, recalculations using numbers in millions may not produce the same results.

7
Represents yield on total interest-earning assets minus cost of total interest-bearing liabilities.

8
Represents net interest income expressed as a percentage of average interest-earning assets.

9
Represents period-end regulatory capital expressed as a percentage of period-end total assets. Regulatory capital includes Class B capital stock (including mandatorily redeemable capital stock), and retained earnings. At March 31, 2017, December 31, 2016, September 30, 2016, and June 30, 2016 regulatory capital also included additional capital from merger. The additional capital from merger balance was depleted in May of 2017 following the first quarter dividend payment.

10
Represents dividends declared and paid in the stated period expressed as a percentage of net income in the stated period.

56

RESULTS OF OPERATIONS

Net Income

The following table presents comparative highlights of our net income for the three and six months ended June 30, 2017 and 2016 (dollars in millions). See further discussion of these items in the sections that follow.
 
For the Three Months Ended
 
For the Six Months Ended
 
June 30,
 
June 30,
 
2017
 
2016
 
$ Change
 
% Change
 
2017
 
2016
 
$ Change
 
% Change
Net interest income
$
170

 
$
94

 
$
76

 
81
 %
 
$
323

 
$
197

 
$
126

 
64
 %
Provision (reversal) for credit losses on mortgage loans
—

 
1

 
(1
)
 
(100
)
 
—

 
1

 
(1
)
 
(100
)
Other income (loss)
6

 
192

 
(186
)
 
(97
)
 
41

 
324

 
(283
)
 
(87
)
Other expense
31

 
27

 
4

 
15

 
63

 
54

 
9

 
17

AHP assessments
15

 
26

 
(11
)
 
(42
)
 
31

 
47

 
(16
)
 
(34
)
Net income
$
130

 
$
232

 
$
(102
)
 
(44
)%
 
$
270

 
$
419

 
$
(149
)
 
(36
)%

57

Net Interest Income

Our net interest income is impacted by changes in average interest-earning asset and interest-bearing liability balances, and the related yields. The following table presents average balances and rates of major asset and liability categories (dollars in millions):    
 
For the Three Months Ended June 30,
 
2017
 
2016
 
Average
Balance1
 
Yield/Cost
 
Interest
Income/
Expense
 
Average
Balance1
 
Yield/Cost
 
Interest
Income/
Expense
Interest-earning assets
 
 
 
 
 
 
 
 
 
 
 
Interest-bearing deposits
$
258

 
0.76
%
 
$
1

 
$
884

 
0.35
%
 
$
—

Securities purchased under agreements to resell
3,945

 
0.84

 
8

 
4,759

 
0.35

 
5

Federal funds sold
5,993

 
0.96

 
15

 
4,580

 
0.38

 
4

Mortgage-backed securities2,3
20,361

 
1.61

 
81

 
19,246

 
1.11

 
53

    Other investments2,3,4
9,078

 
1.77

 
40

 
13,164

 
1.11

 
37

Advances3,5
119,283

 
1.28

 
381

 
107,260

 
0.71

 
189

Mortgage loans6
6,901

 
3.44

 
59

 
6,645

 
3.56

 
59

Total interest-earning assets
165,819

 
1.42

 
585

 
156,538

 
0.89

 
347

Non-interest-earning assets
1,088

 
—

 
—

 
503

 
—

 
—

Total assets
$
166,907

 
1.41
%
 
$
585

 
$
157,041

 
0.89
%
 
$
347

Interest-bearing liabilities
 
 
 
 
 
 
 
 
 
 
 
Deposits
$
892

 
0.52
%
 
$
1

 
$
914

 
0.07
%
 
$
—

Consolidated obligations
 
 
 
 
 
 
 

 
 

 
 

Discount notes
64,062

 
0.78

 
124

 
97,877

 
0.46

 
113

Bonds3
92,970

 
1.23

 
286

 
49,888

 
1.09

 
135

Other interest-bearing liabilities7
482

 
3.39

 
4

 
714

 
3.38

 
5

Total interest-bearing liabilities
158,406

 
1.05

 
415

 
149,393

 
0.68

 
253

Non-interest-bearing liabilities
1,148

 
—

 
—

 
1,583

 
—

 
—

Total liabilities
159,554

 
1.04

 
415

 
150,976

 
0.68

 
253

Capital
7,353

 
—

 
—

 
6,065

 
—

 
—

Total liabilities and capital
$
166,907

 
1.00
%
 
$
415

 
$
157,041

 
0.65
%
 
$
253

Net interest income and spread8
 
 
0.37
%
 
$
170

 
 
 
0.21
%
 
$
94

Net interest margin9
 
 
0.41
%
 
 
 
 
 
0.24
%
 
 
Average interest-earning assets to interest-bearing liabilities
 
 
104.68
%
 
 
 
 
 
104.78
%
 
 

1
Average balances are calculated on a daily weighted average basis and do not reflect the effect of derivative master netting arrangements with counterparties and/or clearing agents.

2
The average balance of AFS securities is reflected at amortized cost; therefore the resulting yields do not give effect to changes in fair value.

3
Average balances reflect the impact of fair value hedging adjustments and/or fair value option adjustments.

4
Other investments primarily include other U.S. obligations, government-sponsored enterprise (GSE) obligations and Tennessee Valley Authority obligations, state or local housing agency obligations, taxable municipal bonds, and Private Export Funding Corporation (PEFCO) bonds.

5
Advance interest income includes prepayment fee income of $1 million for the three months ended June 30, 2017 and 2016.

6
Non-accrual loans are included in the average balance used to determine the average yield.

7
Other interest-bearing liabilities consists primarily of mandatorily redeemable capital stock.

8
Represents yield on total interest-earning assets minus yield on total interest-bearing liabilities.

9
Represents net interest income expressed as a percentage of average interest-earning assets.










58

The following table presents average balances and rates of major asset and liability categories (dollars in millions):
 
For the Six Months Ended June 30,
 
2017
 
2016
 
Average
Balance1
 
Yield/Cost
 
Interest
Income/
Expense
 
Average
Balance1
 
Yield/Cost
 
Interest
Income/
Expense
Interest-earning assets
 
 
 
 
 
 
 
 
 
 
 
Interest-bearing deposits
$
253

 
0.64
%
 
$
1

 
$
868

 
0.34
%
 
$
1

Securities purchased under agreements to resell
4,780

 
0.69

 
16

 
4,988

 
0.35

 
9

Federal funds sold
6,506

 
0.83

 
27

 
4,345

 
0.37

 
8

Mortgage-backed securities2,3
20,589

 
1.51

 
154

 
18,983

 
1.13

 
107

    Other investments2,3,4
9,140

 
1.71

 
77

 
13,110

 
1.11

 
72

Advances3,5
124,554

 
1.16

 
714

 
104,435

 
0.70

 
362

Mortgage loans6
6,897

 
3.43

 
117

 
6,674

 
3.61

 
120

     Loans to other FHLBanks
2

 
0.55

 
—

 
—

 
—

 
—

Total interest-earning assets
172,721

 
1.29

 
1,106

 
153,403

 
0.89

 
679

Non-interest-earning assets
1,092

 
—

 
—

 
510

 
—

 
—

Total assets
$
173,813

 
1.28
%
 
$
1,106

 
$
153,913

 
0.89
%
 
$
679

Interest-bearing liabilities
 
 
 
 
 
 
 
 
 
 
 
Deposits
$
932

 
0.38
%
 
$
2

 
$
943

 
0.06
%
 
$
—

Consolidated obligations
 
 
 
 
 
 
 

 
 

 
 

Discount notes
71,142

 
0.66

 
233

 
101,684

 
0.44

 
222

Bonds3
92,597

 
1.17

 
539

 
43,352

 
1.16

 
251

Other interest-bearing liabilities7
516

 
3.39

 
9

 
564

 
3.37

 
9

Total interest-bearing liabilities
165,187

 
0.96

 
783

 
146,543

 
0.66

 
482

Non-interest-bearing liabilities
1,186

 
—

 
—

 
1,422

 
—

 
—

Total liabilities
166,373

 
0.95

 
783

 
147,965

 
0.66

 
482

Capital
7,440

 
—

 
—

 
5,948

 
—

 
—

Total liabilities and capital
$
173,813

 
0.91
%
 
$
783

 
$
153,913

 
0.63
%
 
$
482

Net interest income and spread8
 
 
0.33
%
 
$
323

 
 
 
0.23
%
 
$
197

Net interest margin9
 
 
0.37
%
 
 
 
 
 
0.26
%
 
 
Average interest-earning assets to interest-bearing liabilities
 
 
104.56
%
 
 
 
 
 
104.68
%
 
 

1
Average balances are calculated on a daily weighted average basis and do not reflect the effect of derivative master netting arrangements with counterparties and/or clearing agents.

2
The average balance of AFS securities is reflected at amortized cost; therefore the resulting yields do not give effect to changes in fair value.

3
Average balances reflect the impact of fair value hedging adjustments and/or fair value option adjustments.

4
Other investments primarily include other U.S. obligations, GSE obligations and Tennessee Valley Authority obligations, state or local housing agency obligations, taxable municipal bonds, and PEFCO bonds.

5
Advance interest income includes prepayment fee income of $1 million and $5 million for the six months ended June 30, 2017 and 2016.

6
Non-accrual loans are included in the average balance used to determine the average yield.

7
Other interest-bearing liabilities consists primarily of mandatorily redeemable capital stock.

8
Represents yield on total interest-earning assets minus yield on total interest-bearing liabilities.

9
Represents net interest income expressed as a percentage of average interest-earning assets.


59

The following table presents changes in interest income and interest expense. Changes in interest income and interest expense that are 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 (dollars in millions).
 
Three Months Ended
 
Six Months Ended
 
June 30, 2017 vs. June 30, 2016
 
June 30, 2017 vs. June 30, 2016
 
Total Increase
(Decrease) Due to
 
Total Increase
(Decrease)
 
Total Increase
(Decrease) Due to
 
Total Increase
(Decrease)
 
Volume
 
Rate
 
 
Volume
 
Rate
 
Interest income
 
 
 
 
 
 
 
 
 
 
 
Interest-bearing deposits
$
—

 
$
1

 
$
1

 
$
(1
)
 
$
1

 
$
—

Securities purchased under agreements to resell
(1
)
 
4

 
3

 
—

 
7

 
7

Federal funds sold
2

 
9

 
11

 
5

 
14

 
19

Mortgage-backed securities
3

 
25

 
28

 
9

 
38

 
47

Other investments
(14
)
 
17

 
3

 
(26
)
 
31

 
5

Advances
24

 
168

 
192

 
80

 
272

 
352

Mortgage loans
2

 
(2
)
 
—

 
4

 
(7
)
 
(3
)
Total interest income
16

 
222

 
238

 
71

 
356

 
427

Interest expense
 
 
 
 
 
 
 
 
 
 
 
Deposits
—

 
1

 
1

 
—

 
2

 
2

Consolidated obligations
 
 
 
 
 
 
 
 
 
 
 
Discount notes
(48
)
 
59

 
11

 
(79
)
 
90

 
11

Bonds
131

 
20

 
151

 
286

 
2

 
288

Other interest-bearing liabilities
(1
)
 
—

 
(1
)
 
—

 
—

 
—

Total interest expense
82

 
80

 
162

 
207

 
94

 
301

Net interest income
$
(66
)
 
$
142

 
$
76

 
$
(136
)
 
$
262

 
$
126

    
NET INTEREST SPREAD

Net interest spread equals the yield on total interest-earning assets minus the cost of total interest-bearing liabilities. For the three and six months ended June 30, 2017, our net interest spread was 0.37 percent and 0.33 percent compared to 0.21 percent and 0.23 percent during the same periods in 2016. Our net interest spread during the first half of 2017 was primarily impacted by a higher yield on total interest-earning assets, which was partially offset by a higher cost on total interest-bearing liabilities. The primary components of our interest income and interest expense are discussed below.

Advances

Interest income on advances (including prepayment fees on advances, net) increased during the three and six months ended June 30, 2017 when compared to the same periods in 2016 due primarily to pricing changes made to certain variable rate callable advance products, the higher interest rate environment, and higher average advance balances. While period end advance balances declined from December 31, 2016, average advance balances for the three and six months ended June 30, 2017 increased when compared to the prior year. The increase was due primarily to borrowings from large depository institution members, which was partially offset by a decrease in borrowings from certain captive insurance company members.

Investments

Interest income on investments increased during the three and six months ended June 30, 2017 when compared to the same periods in 2016 due primarily to the higher interest rate environment, partially offset by lower average balances of other investments.


60

Bonds

Interest expense on bonds increased during the three and six months ended June 30, 2017 when compared to the same periods in 2016 due primarily to higher average bond balances and the higher interest rate environment. The increase in average balances was primarily due to our increased utilization of bonds to align our obligations with the advance products outstanding.

Discount Notes

Interest expense on discount notes increased during the three and six months ended June 30, 2017 when compared to the same periods in 2016 primarily due to the higher interest rate environment, partially offset by a decrease in average discount note balances. Average discount note balances decreased primarily due to our increased use of bonds in place of discount notes in response to changes in our advance products outstanding during the first half of the year.

Other Income (Loss)

The following table summarizes the components of other income (loss) (dollars in millions):
 
For the Three Months Ended
 
For the Six Months Ended
 
June 30,
 
June 30,
 
2017
 
2016
 
2017
 
2016
Net gains (losses) on trading securities
$
4

 
$
18

 
$
9

 
$
53

Net gains (losses) on derivatives and hedging activities
(3
)
 
(30
)
 
3

 
(73
)
Gains on litigation settlements, net
—

 
200

 
21

 
337

Other, net
5

 
4

 
8

 
7

Total other income (loss)
$
6

 
$
192

 
$
41

 
$
324

    
Other income (loss) can be volatile from period to period depending on the type of activity recorded. We recorded net gains of $6 million and $41 million during the three and six months ended June 30, 2017 compared to $192 million and $324 million during same periods in 2016. Other income (loss) was primarily impacted by net gains on litigation settlements of $21 million during six months ended June 30, 2017 and $200 million and $337 million during the three and six months ended June 30, 2016 as a result of settlements with certain defendants in our private-label MBS litigation. We did not record any litigation settlements during the three months ended June 30, 2017. Other factors impacting other income (loss) included net gains (losses) on derivatives and hedging activities and net gains (losses) on trading securities, as described below.

During the three and six months ended June 30, 2017, we recorded net losses of $3 million and net gains of $3 million on our derivatives and hedging activities through other income (loss) compared to net losses of $30 million and $73 million during the same periods in 2016. The fair value changes were primarily driven by changes in interest rates. These changes impacted our fair value hedge relationships and interest rate swaps that we utilized to economically hedge our investment securities portfolio. Accounting rules require all derivatives to be recorded at fair value and therefore we may be subject to income statement volatility. Refer to “Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations — Results of Operations — Hedging Activities” for additional discussion on our derivatives and hedging activities, including the net impact of economic hedge relationships.

During the three and six months ended June 30, 2017, we recorded net gains on trading securities of $4 million and $9 million compared to net gains of $18 million and $53 million during the same periods in 2016. These changes in fair value were primarily due to the impact of interest rates and credit spreads on our fixed rate trading securities. Trading securities are recorded at fair value with changes in fair value reflected through other income (loss).


61

Hedging Activities

We use derivatives to manage interest rate risk in our Statements of Condition. Accounting rules affect the timing and recognition of income and expense on derivatives and therefore we may be subject to income statement volatility.

If a hedging activity qualifies for hedge accounting treatment (fair value hedge), we include the periodic cash flow components of the derivative related to interest income or expense in the relevant income statement caption consistent with the hedged asset or liability. We also record the amortization of fair value hedging adjustments from terminated hedges and the amortization of the financing element of our off market derivatives in interest income or expense or other income (loss). Changes in the fair value of both the derivative and the hedged item are recorded as a component of other income (loss) in “Net gains (losses) on derivatives and hedging activities."

If a hedging activity does not qualify for hedge accounting treatment (economic hedge), we record the derivative's components of interest income and expense, together with the effect of changes in fair value as a component of other income (loss) in “Net gains (losses) on derivatives and hedging activities”; however, there is no fair value adjustment for the corresponding asset or liability being hedged unless changes in the fair value of the asset or liability are normally marked to fair value through earnings (i.e., trading securities and fair value option instruments).

The following tables categorize the net effect of hedging activities on net income by product (dollars in millions):
 
 
For the Three Months Ended June 30, 2017
Net Effect of
Hedging Activities
 
Advances
 
Investments
 
Mortgage
Loans
 
Bonds
 
Total
Net interest income:
 
 
 
 
 
 
 
 
 
 
Net amortization/accretion1
 
$
5

 
$
1

 
$
(1
)
 
$
(1
)
 
$
4

Net interest settlements
 
(25
)
 
(26
)
 
—

 
9

 
(42
)
Total impact to net interest income
 
(20
)
 
(25
)
 
(1
)
 
8

 
(38
)
Other income (loss):
 
 
 
 
 
 
 
 
 
 
Net gains (losses) on derivatives and hedging activities:
 
 
 
 
 
 
 
 
 
 
Gains (losses) on fair value hedges
 
1

 
8

 
—

 
(3
)
 
6

Gains (losses) on economic hedges
 
—

 
(9
)
 
—

 
—

 
(9
)
Total net gains (losses) on derivatives and hedging activities
 
1

 
(1
)
 
—

 
(3
)
 
(3
)
Net gains (losses) on trading securities2
 
—

 
5

 
—

 
—

 
5

Total impact to other income (loss)
 
1

 
4

 
—

 
(3
)
 
2

Total net effect of hedging activities3
 
$
(19
)
 
$
(21
)
 
$
(1
)
 
$
5

 
$
(36
)
 
 
For the Three Months Ended June 30, 2016
Net Effect of
Hedging Activities
 
Advances
 
Investments
 
Mortgage
Loans
 
Bonds
 
Total
Net interest income:
 
 
 
 
 
 
 
 
 
 
Net amortization/accretion1
 
$
7

 
$
1

 
$
(1
)
 
$
1

 
$
8

Net interest settlements
 
(46
)
 
(37
)
 
—

 
20

 
(63
)
Total impact to net interest income
 
(39
)
 
(36
)
 
(1
)
 
21

 
(55
)
Other income (loss):
 
 
 
 
 
 
 
 
 
 
Net gains (losses) on derivatives and hedging activities:
 
 
 
 
 
 
 
 
 
 
Gains (losses) on fair value hedges
 
(1
)
 
(8
)
 
—

 
1

 
(8
)
Gains (losses) on economic hedges
 
—

 
(22
)
 
—

 
—

 
(22
)
Total net gains (losses) on derivatives and hedging activities
 
(1
)
 
(30
)
 
—

 
1

 
(30
)
Net gains (losses) on trading securities2
 
—

 
18

 
—

 
—

 
18

Total impact to other income (loss)
 
(1
)
 
(12
)
 
—

 
1

 
(12
)
Total net effect of hedging activities3
 
$
(40
)
 
$
(48
)
 
$
(1
)

$
22

 
$
(67
)

1
Represents the amortization/accretion of fair value hedging adjustments on closed hedge relationships and the amortization of the financing element of off-market derivatives.

2
Represents the net gains (losses) on those trading securities in which we have entered into a corresponding economic derivative to hedge the risk of changes in fair value. As a result, this line item may not agree to the Statements of Income.

3
The hedging activity tables do not include the interest component on the related hedged items or the gross prepayment fee income on terminated advance or investment hedge relationships.


62

The following tables categorize the net effect of hedging activities on net income by product (dollars in millions):
 
 
For the Six Months Ended June 30, 2017
Net Effect of
Hedging Activities
 
Advances
 
Investments
 
Mortgage
Loans
 
Bonds
 
Other
 
Total
Net interest income:
 
 
 
 
 
 
 
 
 
 
 
 
Net amortization/accretion1
 
$
10

 
$
3

 
$
(1
)
 
$
(2
)
 
$
—

 
$
10

Net interest settlements
 
(56
)
 
(56
)
 
—

 
31

 
—

 
(81
)
Total impact to net interest income
 
(46
)
 
(53
)
 
(1
)
 
29

 
—

 
(71
)
Other income (loss):
 
 
 
 
 
 
 
 
 
 
 
 
Net gains (losses) on derivatives and hedging activities:
 
 
 
 
 
 
 
 
 
 
 
 
Gains (losses) on fair value hedges
 
2

 
14

 
—

 
(6
)
 
—

 
10

Gains (losses) on economic hedges
 
—

 
(8
)
 
—

 
—

 
—

 
(8
)
Price alignment amount on derivatives2
 
—

 
—

 
—

 
—

 
1

 
1

Total net gains (losses) on derivatives and hedging activities
 
2

 
6

 
—

 
(6
)
 
1

 
3

Net gains (losses) on trading securities3
 
—

 
10

 
—

 
—

 
—

 
10

Total impact to other income (loss)
 
2

 
16

 
—

 
(6
)
 
1

 
13

Total net effect of hedging activities4
 
$
(44
)
 
$
(37
)
 
$
(1
)
 
$
23

 
$
1

 
$
(58
)

 
 
For the Six Months Ended June 30, 2016
Net Effect of
Hedging Activities
 
Advances
 
Investments
 
Mortgage
Loans
 
Bonds
 
Total
Net interest income:
 
 
 
 
 
 
 
 
 
 
Net amortization/accretion1
 
$
13

 
$
1

 
$
(1
)
 
$
—

 
$
13

Net interest settlements
 
(96
)
 
(77
)
 
—

 
39

 
(134
)
Total impact to net interest income
 
(83
)
 
(76
)
 
(1
)
 
39

 
(121
)
Other income (loss):
 
 
 
 
 
 
 
 
 
 
Net gains (losses) on derivatives and hedging activities:
 
 
 
 
 
 
 
 
 
 
Gains (losses) on fair value hedges
 
1

 
(3
)
 
—

 
(7
)
 
(9
)
Gains (losses) on economic hedges
 
—

 
(64
)
 
—

 
—

 
(64
)
Total net gains (losses) on derivatives and hedging activities
 
1

 
(67
)
 
—

 
(7
)
 
(73
)
Net gains (losses) on trading securities3
 
—

 
51

 
—

 
—

 
51

Total impact to other income (loss)
 
1

 
(16
)
 
—

 
(7
)
 
(22
)
Total net effect of hedging activities4
 
$
(82
)
 
$
(92
)
 
$
(1
)
 
$
32

 
$
(143
)

1
Represents the amortization/accretion of fair value hedging adjustments on closed hedge relationships and the amortization of the financing element of off-market derivatives.

2
Effective January 3, 2017, amount includes the price alignment amount on derivatives for which variation margin is characterized as a daily settled contract.

3
Represents the net gains (losses) on those trading securities in which we have entered into a corresponding economic derivative to hedge the risk of changes in fair value. As a result, this line item may not agree to the Statements of Income.

4
The hedging activity tables do not include the interest component on the related hedged items or the gross prepayment fee income on terminated advance or investment hedge relationships.

NET AMORTIZATION/ACCRETION

Amortization/accretion varies from period to period depending on our hedge relationship termination activities and the maturity, call, or prepayment of assets or liabilities previously in hedge relationships. In addition, amortization is impacted by the financing element of our off market derivatives.

NET INTEREST SETTLEMENTS

Net interest settlements represent the interest component on derivatives that qualify for fair value hedge accounting. These amounts vary from period to period depending on our hedging activities and interest rates and are partially offset by the interest component on the related hedged item within net interest income. The hedging activity tables do not include the impact of the interest component on the related hedged item.


63

GAINS (LOSSES) ON FAIR VALUE HEDGES

Gains (losses) on fair value hedges are driven by hedge ineffectiveness. Hedge ineffectiveness occurs when changes in the fair value of the derivative and the related hedged item do not perfectly offset each other. The factors that affect hedge ineffectiveness include changes in the benchmark interest rate, volatility, and the divergence in the valuation curves used to value our assets, liabilities, and derivatives.

GAINS (LOSSES) ON ECONOMIC HEDGES

We utilize economic derivatives to manage certain risks in our Statements of Condition. Gains and losses on economic derivatives are driven primarily by changes in interest rates and volatility and include interest settlements. Interest settlements represent the interest component on economic derivatives. These amounts vary from period to period depending on our hedging activities and interest rates. The following discussion highlights key items impacting gains and losses on investment economic derivatives.

Investments
 
We utilize interest rate swaps to economically hedge a portion of our trading securities against changes in fair value. Gains and losses on these economic derivatives are due primarily to changes in interest rates. Gains and losses on our trading securities are also due primarily to changes in interest rates and credit spreads.

The following table summarizes gains and losses on these economic derivatives as well as the related trading securities (dollars in millions):
 
For the Three Months Ended
 
For the Six Months Ended
 
June 30,
 
June 30,
 
2017
 
2016
 
2017
 
2016
Gains (losses) on interest rate swaps economically hedging our investments
$
(6
)
 
$
(18
)
 
$
(1
)
 
$
(55
)
Interest settlements
(3
)
 
(4
)
 
(7
)
 
(9
)
Net gains (losses) on investment derivatives
(9
)
 
(22
)
 
(8
)
 
(64
)
Net gains (losses) on related trading securities
5

 
18

 
10

 
51

Net gains (losses) on economic investment hedge relationships
$
(4
)
 
$
(4
)
 
$
2

 
$
(13
)

Other Expense
The following table shows the components of other expense (dollars in millions):
 
For the Three Months Ended June 30,
 
For the Six Months Ended
June 30,
 
2017
 
2016
 
2017
 
2016
Compensation and benefits
$
14

 
$
12

 
$
27

 
$
26

Contractual services
3

 
3

 
6

 
6

Professional fees
5

 
3

 
10

 
4

Other operating expenses
5

 
5

 
10

 
9

Total operating expenses
27

 
23

 
53

 
45

Federal Housing Finance Agency
2

 
2

 
5

 
4

Office of Finance
2

 
1

 
4

 
3

Other, net
—

 
1

 
1

 
2

Total other expense
$
31

 
$
27

 
$
63

 
$
54


Other expense totaled $31 million and $63 million for the three and six months ended June 30, 2017 compared to $27 million and $54 million for the same periods last year. The increase in other expense was primarily due to an increase in professional fees as a result of hiring external resources to assist with improving our internal control environment.


64

STATEMENTS OF CONDITION

Financial Highlights

Our total assets decreased to $165.0 billion at June 30, 2017 from $180.6 billion at December 31, 2016. Our total liabilities decreased to $157.6 billion at June 30, 2017 from $173.2 billion at December 31, 2016. Total capital remained stable at $7.4 billion at June 30, 2017 and December 31, 2016. See further discussion of changes in our financial condition in the appropriate sections that follow.

Cash and Due from Banks

At June 30, 2017, our total cash balance was $964 million compared to $223 million at December 31, 2016. Our cash balance was high at June 30, 2017 due to limited investment opportunities on the last day of the quarter.

Advances

The following table summarizes our advances by type of institution (dollars in millions):
 
June 30,
2017
 
December 31,
2016
Commercial banks
$
84,998

 
$
94,939

Savings institutions
1,480

 
1,376

Credit unions
3,398

 
2,903

Non-captive insurance companies
18,416

 
17,441

Captive insurance companies
9,867

 
14,510

Community development financial institution
2

 
3

Total member advances
118,161

 
131,172

Housing associates
73

 
61

Non-member borrowers
604

 
304

Total par value
$
118,838

 
$
131,537


Our total advance par value decreased $12.7 billion or 10 percent at June 30, 2017 when compared to December 31, 2016. The decrease in total par value was primarily due to the repayment of $14.6 billion in advances held by a large depository institution member and $4.6 billion held by certain captive insurance company members. As a result of the final rule on membership issued by the Finance Agency effective February 19, 2016, the eligibility requirements for FHLBank members were changed rendering captive insurance company members ineligible for FHLBank membership. In accordance with the final rule, captive insurance company members that were admitted as members after September 12, 2014 (the date the Finance Agency proposed this rule) had their memberships terminated on February 17, 2017. Captive insurance company members that were admitted as members prior to September 12, 2014 will also have their memberships terminated no later than February 19, 2021. As of June 30, 2017, captive insurance company members held approximately $9.9 billion in advances.

The following table summarizes our advances by product type (dollars in millions):
 
June 30, 2017
 
December 31, 2016
 
Amount
 
% of Total
 
Amount
 
% of Total
Variable rate
$
81,284

 
69
 
$
104,594

 
80
Fixed rate
35,941

 
30
 
25,453

 
19
Amortizing
1,613

 
1
 
1,490

 
1
Total par value
118,838

 
100
 
131,537

 
100
Premiums
65

 
 
 
83

 
 
Discounts
(5
)
 
 
 
(7
)
 
 
Fair value hedging adjustments
(20
)
 
 
 
(12
)
 
 
Total advances
$
118,878

 
 
 
$
131,601

 
 

Fair value hedging adjustments changed $8 million at June 30, 2017 when compared to December 31, 2016 due to the impact of interest rates on our cumulative fair value adjustments on advances in hedge relationships.


65

At June 30, 2017 and December 31, 2016, 38 and 59 percent of our advances were variable rate callable advances. Callable advances may be prepaid by borrowers on pertinent dates (call dates) and therefore provide borrowers a source of long-term financing with prepayment flexibility. Interest rates on our variable rate callable advances reset at each call date to be consistent with either the underlying LIBOR index or our current offering rate of our underlying cost of funds. In addition, we retain the flexibility to adjust the spread relative to our cost of funds for the majority of these variable rate advances on each reset date. We generally fund our variable rate callable advances with either discount notes, LIBOR indexed debt, or debt swapped to a LIBOR index. During the second quarter, we changed our pricing on certain variable rate callable advance products. As a result, we experienced a decrease in advance balances and a change in the composition of our advance portfolio to a higher percentage of fixed rate advances during the second quarter of 2017. For additional discussion on our funding strategies, refer to "Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations — Liquidity and Capital Resources — Liquidity — Sources of Liquidity.”

At June 30, 2017 and December 31, 2016, advances outstanding to our five largest member borrowers totaled $76.9 billion and $92.2 billion, representing 65 and 70 percent of our total advances outstanding. The following table summarizes advances outstanding to our five largest member borrowers at June 30, 2017 (dollars in millions):
 
Amount
 
% of Total
Wells Fargo Bank, N.A.
$
62,500

 
53

Transamerica Life Insurance Company1
4,145

 
3

Truman Insurance Company2
3,588

 
3

ZB, National Association
3,400

 
3

Principal Life Insurance Company
3,250

 
3

Total par value
$
76,883

 
65


1
Excludes $2 billion of advances with Transamerica Premier Life Insurance Company, an affiliate of Transamerica Life Insurance Company.

2
Represents a captive insurance company member whose membership will terminate within five years of the Finance Agency's final rule on membership that became effective February 19, 2016.


As indicated in the table above, one of our top five largest member borrowers at June 30, 2017 was a captive insurance company member. As of June 30, 2017, we had six captive insurance company members with total advances outstanding of $9.9 billion, which represented eight percent of our total advances outstanding. In accordance with the Finance Agency final rule affecting FHLBank membership, all of our remaining captive insurance company members, including one of our top five largest borrowers, will have their membership terminated on or before February 19, 2021. The magnitude of the impact of the final rule at that date will depend, in part, on our size and profitability at the time of membership termination or maturity of the related advances.

We manage our credit exposure to advances through an approach that provides for an established credit limit for each borrower, ongoing reviews of each borrower's financial condition, and detailed collateral and lending policies to limit risk of loss while balancing borrowers' needs for a reliable source of funding. In addition, we lend to our borrowers in accordance with the Federal Home Loan Bank Act of 1932 (FHLBank Act), Federal Housing Finance Agency (Finance Agency) regulations, and other applicable laws and regulations.

The FHLBank Act requires that we obtain sufficient collateral on advances to protect against losses. We have never experienced a credit loss on an advance to a member or eligible housing associate. Based upon our collateral and lending policies, the collateral held as security, and the repayment history on advances, management has determined that there were no probable credit losses on our advances as of June 30, 2017 and December 31, 2016. Accordingly, we have not recorded any allowance for credit losses on our advances. See additional discussion regarding our collateral requirements in “Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations — Risk Management — Credit Risk — Advances.”


66

Mortgage Loans

The following tables summarize information on our mortgage loans held for portfolio (dollars in millions):
 
June 30, 2017
 
MPF
 
MPP
 
Total
Fixed rate conventional loans
$
6,007

 
$
315

 
$
6,322

Fixed rate government-insured loans
504

 
35

 
539

Total unpaid principal balance
6,511

 
350

 
6,861

Premiums
85

 
11

 
96

Discounts
(7
)
 
—

 
(7
)
Basis adjustments from mortgage loan commitments
5

 
—

 
5

Total mortgage loans held for portfolio
6,594

 
361

 
6,955

Allowance for credit losses
(2
)
 
—

 
(2
)
Total mortgage loans held for portfolio, net
$
6,592

 
$
361

 
$
6,953

 
December 31, 2016
 
MPF
 
MPP
 
Total
Fixed rate conventional loans
$
5,907

 
$
361

 
$
6,268

Fixed rate government-insured loans
513

 
42

 
555

Total unpaid principal balance
6,420

 
403

 
6,823

Premiums
82

 
14

 
96

Discounts
(8
)
 
(1
)
 
(9
)
Basis adjustments from mortgage loan commitments
5

 
—

 
5

Total mortgage loans held for portfolio
6,499

 
416

 
6,915

Allowance for credit losses
(2
)
 
—

 
(2
)
Total mortgage loans held for portfolio, net
$
6,497

 
$
416

 
$
6,913


Our total mortgage loans remained relatively stable at June 30, 2017 when compared to December 31, 2016. The slight increase was primarily due to loan purchases exceeding principal paydowns. For additional discussion on our mortgage loan credit risk, refer to "Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations — Risk Management — Credit Risk — Mortgage Assets."


67

Investments

The following table summarizes the carrying value of our investments (dollars in millions):
 
June 30, 2017
 
December 31, 2016
 
Amount
 
% of Total
 
Amount
 
% of Total
Short-term investments1
 
 
 
 
 
 
 
Interest-bearing deposits
$
1

 
—
 
$
1

 
—
Securities purchased under agreements to resell
3,500

 
9
 
5,925

 
14
Federal funds sold
5,100

 
14
 
5,095

 
12
Total short-term investments
8,601

 
23
 
11,021

 
26
Long-term investments2
 
 
 
 
 
 
 
 Interest-bearing deposits
1

 
—
 
1

 
—
Mortgage-backed securities
 
 
 
 
 
 
 
GSE single-family
4,247

 
12
 
4,804

 
12
GSE multifamily
11,891

 
31
 
12,156

 
30
Other U.S. obligations single-family3
3,966

 
11
 
3,864

 
9
Other U.S. obligations commercial3
3

 
—
 
4

 
—
Private-label residential
14

 
—
 
16

 
—
Total mortgage-backed securities
20,121

 
54
 
20,844

 
51
Non-mortgage-backed securities
 
 
 
 
 
 
 
Other U.S. obligations3
3,530

 
9
 
3,745

 
9
GSE and Tennessee Valley Authority obligations
3,310

 
9
 
3,359

 
8
State or local housing agency obligations
1,643

 
4
 
1,697

 
4
Other
557

 
1
 
551

 
2
Total non-mortgage-backed securities
9,040

 
23
 
9,352

 
23
Total long-term investments
29,162

 
77
 
30,197

 
74
Total investments
$
37,763

 
100
 
$
41,218

 
100

1
Short-term investments have original maturities equal to or less than one year.

2
Long-term investments have original maturities of greater than one year.

3
Represents investment securities backed by the full faith and credit of the U.S. Government.

Our investments decreased $3.5 billion or eight percent at June 30, 2017 when compared to December 31, 2016 due primarily to a reduction in money market investments needed to manage our liquidity position during the quarter.

The Finance Agency limits our investments in MBS by requiring that the total book value of our MBS not exceed three times regulatory capital at the time of purchase. Our ratio of MBS to regulatory capital was 2.58 at both June 30, 2017 and December 31, 2016.

We evaluate AFS and HTM securities in an unrealized loss position for other-than-temporary-impairment (OTTI) on at least a quarterly basis. As part of our OTTI evaluation, we consider our intent to sell each debt security and whether it is more likely than not that we will be required to sell the security before its anticipated recovery. If either of these conditions is met, we will recognize an OTTI charge to earnings equal to the entire difference between the security's amortized cost basis and its fair value at the reporting date. For securities in an unrealized loss position that meet neither of these conditions, we perform analyses to determine if any of these securities are other-than-temporarily impaired. At June 30, 2017 we did not consider any of these securities to be other-than-temporarily-impaired. Refer to “Item 1. Financial Statements — Note 6 — Other-Than-Temporary Impairment” for additional information on our OTTI analysis performed at June 30, 2017.


68

Consolidated Obligations

Consolidated obligations, which include bonds and discount notes, are the primary source of funds to support our advances, mortgage loans, and investments. At June 30, 2017 and December 31, 2016, the carrying value of consolidated obligations for which we are primarily liable totaled $155.7 billion and $170.8 billion.

DISCOUNT NOTES

The following table summarizes our discount notes, all of which are due within one year (dollars in millions):
 
June 30,
2017
 
December 31,
2016
Par value
$
66,668

 
$
81,019

Discounts and concession fees1
(110
)
 
(72
)
Total
$
66,558

 
$
80,947


1
Concessions represent fees paid to dealers in connection with the issuance of certain consolidated obligation discount notes.
    
Our discount notes decreased $14.4 billion or 18 percent at June 30, 2017 when compared to December 31, 2016. The decrease was primarily due to our increased use of bonds in place of discount notes in response to changes in our advance products outstanding during the second quarter. For additional information on our discount notes, refer to “Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations — Liquidity and Capital Resources — Liquidity — Sources of Liquidity.”

BONDS

The following table summarizes information on our bonds (dollars in millions):
 
June 30,
2017
 
December 31,
2016
Total par value
$
89,322

 
$
90,053

Premiums
224

 
254

Discounts and concession fees1
(69
)
 
(79
)
Fair value hedging adjustments
(306
)
 
(330
)
Total bonds
$
89,171

 
$
89,898


1
Concessions represent fees paid to dealers in connection with the issuance of certain consolidated obligation bonds.

Our bonds remained relatively stable at June 30, 2017 when compared to December 31, 2016. The slight decrease was driven by a decline in the amount of consolidated obligations needed to fund the Bank’s assets. Fair value hedging adjustments changed $24 million at June 30, 2017 when compared to December 31, 2016 due to the impact of interest rates on our cumulative fair value adjustments on bonds in hedge relationships.
 
For additional information on our bonds, refer to "Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations — Liquidity and Capital Resources — Liquidity — Sources of Liquidity.”

Deposits

Deposit levels will vary based on member alternatives for short-term investments. Our deposits decreased $149 million or 13 percent at June 30, 2017 when compared to December 31, 2016 due to a decrease in interest-bearing deposits.

Mandatorily Redeemable Capital Stock

We reclassify capital stock subject to redemption from equity to a liability (mandatorily redeemable capital stock) at the time shares meet the definition of a mandatorily redeemable financial instrument. This occurs after a member provides written notice of redemption, gives notice of intention to withdraw from membership, becomes ineligible for continuing membership, or attains non-member status by merger or consolidation, charter termination, or other involuntary termination from membership.


69

Our total mandatorily redeemable capital stock balance decreased $184 million at June 30, 2017 when compared to December 31, 2016 due primarily to the repurchase of $148 million in capital stock outstanding to certain captive insurance company members in the first quarter of 2017. The repurchase was in response to the Finance Agency final rule affecting membership eligibility that became effective February 19, 2016. In accordance with the final rule, on February 17, 2017, we terminated the membership of all captive insurance company members that were admitted as members after September 12, 2014 (the date the Finance Agency proposed this rule) and repurchased outstanding capital stock to these captive insurance company members in the amount of $148 million. Captive insurance company members that were admitted as members prior to September 12, 2014 will also have their memberships terminated no later than February 19, 2021. At June 30, 2017 and December 31, 2016, our mandatorily redeemable capital stock totaled $480 million and $664 million.

Capital

The following table summarizes information on our capital (dollars in millions):
 
June 30,
2017
 
December 31,
2016
Capital stock
$
5,623

 
$
5,917

Additional capital from merger
—

 
52

Retained earnings
1,684

 
1,450

Accumulated other comprehensive income (loss)
89

 
(18
)
Total capital
$
7,396

 
$
7,401


Our capital remained relatively stable at June 30, 2017 when compared to December 31, 2016. The slight decrease was due to a decline in capital stock due to a decrease in member activity and a decline in additional capital from merger driven by dividend payments paid during 2017. As a result of the second quarter dividend payment, the additional capital from merger balance was depleted. These decreases were partially offset by an increase in retained earnings due to net income earned and an increase in AOCI due primarily to unrealized gains on our MBS GSE and agency securities. Refer to “Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations — Liquidity and Capital Resources — Capital — Capital Stock” for additional information on our capital stock activity.

Derivatives

We use derivatives to manage interest rate risk in our Statements of Condition. The notional amount of derivatives serves as a factor in determining periodic interest payments and cash flows received and paid. However, the notional amount of derivatives represents neither the actual amounts exchanged nor our overall exposure to credit and market risk.

The following table categorizes the notional amount of our derivatives by type (dollars in millions):
 
June 30,
2017
 
December 31,
2016
Interest rate swaps
 
 
 
Noncallable
$
49,257

 
$
49,887

Callable by counterparty
2,637

 
3,287

Callable by the Bank
172

 
136

Total interest rate swaps
52,066

 
53,310

Forward settlement agreements (TBAs)
110

 
94

Mortgage delivery commitments
113

 
102

Total notional amount
$
52,289

 
$
53,506

    
The notional amount of our derivative contracts decreased $1.2 billion or 2 percent at June 30, 2017 when compared to December 31, 2016. During 2017, we reduced our use of swapped consolidated obligation bonds in response to market conditions, and increased our utilization of LIBOR indexed debt to capture attractive funding, match repricing structures on advances, and provide additional liquidity.


70

LIQUIDITY AND CAPITAL RESOURCES

Our liquidity and capital positions are actively managed in an effort to preserve stable, reliable, and cost-effective sources of funds to meet current and projected future operating financial commitments, as well as regulatory, liquidity, and capital requirements.

Liquidity

SOURCES OF LIQUIDITY

We utilize several sources of liquidity to carry out our business activities. These include, but are not limited to, proceeds from the issuance of consolidated obligations, payments collected on advances and mortgage loans, proceeds from investment securities, member deposits, the issuance of capital stock, and current period earnings.

Our primary source of liquidity is proceeds from the issuance of consolidated obligations (bonds and discount notes) in the capital markets. During the six months ended June 30, 2017, proceeds from the issuance of bonds and discount notes were $26.8 billion and $118.1 billion compared to $49.4 billion and $143.5 billion for the same period in 2016. We continued to issue shorter-term discount notes as well as term fixed and floating rate, callable, and step-up rate consolidated obligation bonds to capture attractive funding, match repricing structures on advances, and provide additional liquidity.

We maintained continual access to funding and adapted our debt issuance to meet the needs of our members, including demand for variable rate callable advance products that generally favored the issuance of shorter-term debt. Access to short-term debt markets has been reliable as investors have sought the FHLBanks' short-term debt as an asset of choice, which has led to advantageous funding opportunities and increased utilization of consolidated obligation short-term bonds as well as discount notes. However, due to the short-term maturity of the debt, we may be exposed to additional risks associated with refinancing and our ability to access the capital markets.

71

We monitor our debt refinancing risk and continue to enhance our liquidity and funding management. In measuring the level of assets requiring refinancing, we consider the maturity characteristics of our assets and liabilities. The following table presents the composition of our assets and liabilities by maturity (dollars in millions):
 
 
June 30, 2017
 
December 31, 2016
 
 
1 year or less
 
> 1 year
 
Total
 
1 year or less
 
> 1 year
 
Total
Assets
 
 
 
 
 
 
 
 
 
 
 
 
Investments1
 
$
11,957

 
$
25,383

 
$
37,340

 
$
14,265

 
$
26,653

 
$
40,918

Advances2
 
42,783

 
76,055

 
118,838

 
22,533

 
109,004

 
131,537

Mortgage loans held for portfolio3
 
969

 
5,892

 
6,861

 
862

 
5,961

 
6,823

Other interest earning assets4
 
—

 
—

 
—

 
200

 
—

 
200

   Subtotal
 
$
55,709

 
$
107,330

 
163,039

 
$
37,860

 
$
141,618

 
179,478

Other5
 
 
 
 
 
1,949

 
 
 
 
 
1,127

Total assets
 

 

 
$
164,988

 
 
 
 
 
$
180,605

 
 
 
 
 
 
 
 
 
 
 
 
 
Liabilities
 
 
 
 
 
 
 
 
 
 
 
 
Consolidated obligation bonds6
 
$
48,266

 
$
41,056

 
$
89,322

 
$
47,733

 
$
42,320

 
$
90,053

Consolidated obligation discount notes6
 
66,668

 
—

 
66,668

 
81,019

 
—

 
81,019

   Subtotal
 
$
114,934

 
$
41,056

 
155,990

 
$
128,752

 
$
42,320

 
171,072

Other5
 
 
 
 
 
1,602

 
 
 
 
 
2,132

Total liabilities
 

 

 
$
157,592

 
 
 
 
 
$
173,204

Maturity gap
 
$
59,225

 
 
 

 
$
90,892

 
 
 
 
Maturity gap percentage7
 
36
%
 
 
 

 
50
%
 
 
 
 

1
Represents the principal balance of interest-bearing deposits, securities purchased under agreements to resell, Federal funds sold, trading securities, AFS securities, and HTM securities. MBS and asset-backed investments are based on expected maturity, which factors in projected prepayments; all other investments are based on contractual maturity. Certain assumptions are factored into the greater than one year bucket as they are not monitored as part of the maturity gap.

2
Represents the principal balance of advances based on contractual maturity. At June 30, 2017 and December 31, 2016, 38 percent and 60 percent of our advances are callable, many of which have call dates in the next year. For further detail of our advance call dates, refer to "Item 1. Financial Statements — Note 7 — Advances".

3
Represents the principal balance of MPF and MPP mortgage loans based on expected maturity, which factors in projected prepayments. Certain assumptions are factored into the greater than one year bucket as they are not monitored as part of the maturity gap.

4
Represents loans outstanding to other FHLBanks at December 31, 2016. There were no loans outstanding to other FHLBanks at June 30, 2017.

5
Represents all other assets or liabilities reflected in the Bank's Statements of Condition that are not monitored as part of the maturity gap.

6
Represents the principal balance of consolidated obligations based on contractual maturity.

7
The maturity gap percentage is calculated as the maturity gap divided by total assets.

During the first half of 2017, we continued to monitor the maturity gap between our assets and liabilities and made efforts to reduce our maturity gap percentage to reduce the level of refinancing risk that could potentially occur if we could not obtain funding in the capital markets due to an unforeseen event. Our maturity gap objective in the future may vary based on a number of factors, including our member borrowing needs, supply and demand in the debt markets, and other factors.

Our ability to raise funds in the capital markets as well as our cost of borrowing may be affected by our credit ratings. As of July 31, 2017, our consolidated obligations were rated AA+/A-1+ by Standard and Poor's and Aaa/P-1 by Moody's and both ratings had a stable outlook. For further discussion of how credit rating changes and our ability to access the capital markets may impact us in the future, refer to “Item 1A. Risk Factors” in our 2016 Form 10-K.

Although we are primarily liable for the portion of consolidated obligations which are issued on our behalf, we are also jointly and severally liable with the other FHLBanks for the payment of principal and interest on all consolidated obligations issued by the FHLBank System. At June 30, 2017 and December 31, 2016, the total par value of outstanding consolidated obligations for which we are primarily liable was $156.0 billion and $171.1 billion. At June 30, 2017 and December 31, 2016, the total par value of outstanding consolidated obligations issued on behalf of other FHLBanks for which we are jointly and severally liable was approximately $855.5 billion and $818.2 billion.


72

The Office of Finance and FHLBanks have contingency plans in place that prioritize the allocation of proceeds from the issuance of consolidated obligations during periods of financial distress if consolidated obligations cannot be issued in sufficient amounts to satisfy all FHLBank demand. In the event of significant market disruptions or local disasters, our President or his designee is authorized to establish interim borrowing relationships with other FHLBanks. To provide further access to funding, the FHLBank Act also authorizes the U.S. Treasury to directly purchase new issue consolidated obligations of the GSEs, including FHLBanks, up to an aggregate principal amount of $4.0 billion. As of July 31, 2017, no purchases had been made by the U.S. Treasury under this authorization.

USES OF LIQUIDITY

We use our available liquidity, including proceeds from the issuance of consolidated obligations, primarily to repay consolidated obligations, fund advances, and purchase investments. During the six months ended June 30, 2017, repayments of consolidated obligations totaled $160.1 billion compared to $164.2 billion for the same period in 2016. A portion of these payments were due to the call of certain bonds in an effort to better match our projected asset cash flows. During the six months ended June 30, 2017 and 2016, we called bonds with a total par value of $95 million and $1.0 billion.

During the six months ended June 30, 2017, advance disbursements totaled $130.2 billion compared to $117.8 billion for the same period in 2016. During the six months ended June 30, 2017, investment purchases (excluding overnight investments) totaled $48.6 billion compared to $62.6 billion for the same period in 2016. Investment purchases during each period were primarily driven by the purchase of money market investments, including secured resale agreements in an effort to manage our liquidity position.

We also use liquidity to purchase mortgage loans, repay member deposits, pledge collateral to derivative counterparties, redeem or repurchase capital stock, pay expenses, and pay dividends.

LIQUIDITY REQUIREMENTS
Finance Agency regulations mandate three liquidity requirements. First, we are required to maintain contingent liquidity sufficient to meet our liquidity needs, which shall, at a minimum, cover five calendar days of inability to access the consolidated obligation debt markets. Second, we are required to have available at all times an amount greater than or equal to members' current deposits invested in advances with maturities not to exceed five years, deposits in banks or trust companies, and obligations of the U.S. Treasury. Third, we are required to maintain, in the aggregate, unpledged qualifying assets in an amount at least equal to the amount of our participation in total consolidated obligations outstanding. At June 30, 2017 and December 31, 2016, we were in compliance with all three of the Finance Agency liquidity requirements.
In addition to the liquidity measures previously discussed, the Finance Agency has provided us with guidance to maintain sufficient liquidity in an amount at least equal to our anticipated cash outflows under two different scenarios. One scenario (roll-off scenario) assumes that we cannot access the capital markets to issue debt for a period of 10 to 20 days with initial guidance set at 15 days and that during that time members do not renew any maturing, prepaid, and called advances. The second scenario (renew scenario) assumes that we cannot access the capital markets to issue debt for a period of three to seven days with initial guidance set at five days and that during that time we will automatically renew maturing and called advances for all members except very large, highly-rated members. This guidance is designed to protect against temporary disruptions in the debt markets that could lead to a reduction in market liquidity and thus the inability for us to provide advances to our members. At June 30, 2017 and December 31, 2016, we were in compliance with this liquidity guidance.
Capital

CAPITAL REQUIREMENTS

We are subject to three regulatory capital requirements. First, the FHLBank Act requires that we maintain at all times permanent capital greater than or equal to the sum of our credit, market, and operations risk capital requirements, all calculated in accordance with Finance Agency regulations. Only permanent capital, defined as Class B capital stock, (including mandatorily redeemable capital stock), and retained earnings can satisfy this risk-based capital requirement. Second, the FHLBank Act requires a minimum four percent capital-to-asset ratio, which is defined as total regulatory capital divided by total assets. Total regulatory capital includes Class B capital stock (including mandatorily redeemable capital stock), additional capital from merger, and retained earnings. It does not include AOCI. Third, the FHLBank Act imposes a five percent minimum leverage ratio, which is defined as the sum of permanent capital weighted 1.5 times and nonpermanent capital weighted 1.0 times, divided by total assets. Nonpermanent capital includes additional capital from merger. At June 30, 2017 and December 31, 2016, we were in compliance with all three of the Finance Agency's regulatory capital requirements. Refer to "Item 1. Financial Statements — Note 12 — Capital" for additional information.

73


CAPITAL STOCK
Our capital stock has a par value of $100 per share, and all shares are issued, redeemed, and repurchased only at the stated par value. We generally issue a single class of capital stock (Class B stock). We have two subclasses of Class B capital stock: membership and activity-based. Each member must purchase and hold membership capital stock in an amount equal to 0.12 percent of its total assets as of the preceding December 31st, subject to a cap of $10.0 million and a floor of $10,000. Each member is also required to purchase activity-based capital stock equal to 4.00 percent of its advances and mortgage loans outstanding. All Class B capital issued is subject to a five year notice of redemption period.

We reclassify capital stock subject to redemption from equity to a liability (mandatorily redeemable capital stock) when a member provides written notice of redemption, gives notice of intention to withdraw from membership, becomes ineligible for continuing membership, or attains non-member status by merger or consolidation, charter termination, or other involuntary termination from membership.

The capital stock requirements established in our Capital Plan are designed so that we remain adequately capitalized as member activity changes. Our Board of Directors may make adjustments to the capital stock requirements within ranges established in our Capital Plan.

Capital stock owned by members in excess of their investment requirement is deemed excess capital stock. Under our Capital Plan, we, at our discretion and upon 15 days' written notice, may repurchase excess membership capital stock. We, at our discretion, may also repurchase excess activity-based capital stock to the extent that (i) the excess capital stock balance exceeds an operational threshold set forth in the Capital Plan, which is currently set at zero, or (ii) a member submits a notice to redeem all or a portion of the excess activity-based capital stock. At June 30, 2017 and December 31, 2016, we had no excess capital stock outstanding.
        
The following table summarizes our regulatory capital stock by type of member (dollars in millions):
 
June 30,
2017
 
December 31,
2016
Commercial banks
$
4,176

 
$
4,549

Savings institutions
126

 
121

Credit unions
357

 
320

Non-captive insurance companies
531

 
296

Captive insurance companies
433

 
631

Total GAAP capital stock
5,623

 
5,917

Mandatorily redeemable capital stock
480

 
664

Total regulatory capital stock
$
6,103

 
$
6,581


The decrease in regulatory capital stock held at June 30, 2017 when compared to December 31, 2016 was due to a decline in mandatorily redeemable capital stock and in GAAP capital stock. The decline in the mandatorily redeemable capital stock was driven by the repurchase of capital stock held by certain captive insurance company members whose membership was terminated on February 17, 2017 in response to the Finance Agency final rule affecting FHLBank membership. The decrease in GAAP capital stock was due to a decline in member activity.

Additional Capital from Merger

We recognized net assets acquired from the Seattle Bank by recording the par value of capital stock issued in the transaction as capital stock, with the remaining portion of net assets acquired reflected in a capital account captioned “Additional capital from merger.” We treated this additional capital from merger as a component of total capital for regulatory capital purposes. Dividends on capital stock were paid from this account following the Merger until the balance was depleted following the first quarter dividend payment in May 2017.


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Retained Earnings
Our Enterprise Risk Management Policy (ERMP) includes a target level of retained earnings and additional capital from merger based on the amount we believe necessary to protect the redemption value of capital stock, facilitate safe and sound operations, maintain regulatory capital ratios, and support our ability to pay a relatively stable dividend. We monitor our achievement of this target and may utilize tools such as restructuring our balance sheet, generating additional income, reducing our risk exposures, increasing capital stock requirements, or reducing our dividends to enable us to return to our targeted level of retained earnings over time. At June 30, 2017, we exceeded our retained earnings target.
We entered into a Joint Capital Enhancement Agreement (JCE Agreement) with all of the other FHLBanks in February 2011. The JCE Agreement, as amended, is intended to enhance our capital position by allocating the earnings historically paid to satisfy the Resolution Funding Corporation obligation to a separate restricted retained earnings account. Under the JCE Agreement, we allocate 20 percent of our quarterly net income to a restricted retained earnings account until the balance of that account equals at least one percent of our average balance of outstanding consolidated obligations for the previous quarter. The restricted retained earnings are not available to pay dividends and are presented separately in our Statements of Condition. At June 30, 2017 and December 31, 2016, our restricted retained earnings balance totaled $285 million and $231 million. One percent of our average balance of outstanding consolidated obligations for the three months ended March 31, 2017 was $1.7 billion. For more information on our JCE Agreement, refer to "Item 1. Business — Retained Earnings" in our 2016 Form 10-K.

Dividends

Our Board of Directors believes any returns on capital stock above an appropriate benchmark rate that are not retained for capital growth should be returned to members that utilize our product and service offerings. Our current dividend philosophy is to pay a membership capital stock dividend similar to a benchmark rate of interest, such as average three-month LIBOR over time, and an activity-based capital stock dividend, when possible, at a level above the membership capital stock dividend. Our actual dividend is determined quarterly by our Board of Directors, based on policies, regulatory requirements, actual performance, and other considerations.

The following table summarizes dividend-related information (dollars in millions):
 
For the Three Months Ended
 
For the Six Months Ended
 
June 30,
 
June 30,
 
2017
 
2016
 
2017
 
2016
Aggregate cash dividends paid1
$
45

 
$
35

 
$
88

 
$
66

Effective combined annualized dividend rate paid on capital stock
3.10
%
 
2.94
%
 
3.08
%
 
2.88
%
Annualized dividend rate paid on membership capital stock
1.00
%
 
0.50
%
 
0.88
%
 
0.50
%
Annualized dividend rate paid on activity-based capital stock
3.50
%
 
3.50
%
 
3.50
%
 
3.50
%
Average three-month LIBOR
1.20
%
 
0.64
%
 
1.14
%
 
0.63
%

1
Amounts for the three and six months ended June 30, 2017 exclude cash dividends of $4 million and $10 million paid on mandatorily redeemable capital stock, which is recorded as interest expense on the Statements of Income. Amounts for the three and six months ended June 30, 2016 exclude cash dividends of $3 million and $4 million paid on mandatorily redeemable capital stock.

CRITICAL ACCOUNTING POLICIES AND ESTIMATES

For a discussion of our critical accounting policies and estimates, refer to our 2016 Form 10-K. There have been no material changes to our critical accounting policies and estimates during the six months ended June 30, 2017 with the exception of one policy noted below:

Derivatives. All derivatives are recognized on the Statements of Condition at their fair values and reported as either derivative assets or derivative liabilities, net of cash collateral, including initial margin, and accrued interest received from or pledged to clearing agents and/or counterparties. The fair values of derivatives are netted by clearing agent and/or counterparty when the netting requirements have been met. If these netted amounts are positive, they are classified as a derivative asset and, if negative, they are classified as a derivative liability. Cash flows associated with derivatives are reflected as cash flows from operating activities in the Statements of Cash Flows unless the derivative meets the criteria to be a financing derivative.

We utilize one Derivative Clearing Organization (Clearinghouse), CME Clearing, for all cleared derivative transactions. Effective January 3, 2017, CME Clearing made certain amendments to its rulebook changing the legal characterization of variation margin payments to be daily settlement payments, rather than collateral. Initial margin is considered cash collateral.

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LEGISLATIVE AND REGULATORY DEVELOPMENTS

FHLBank Capital Requirements

On July 3, 2017, the Finance Agency published a proposed rule to adopt, with amendments, the regulations of the Federal Housing Finance Board (predecessor to the Finance Agency) pertaining to the capital requirements for the FHLBanks. The proposed rule would carry over most of the existing regulations without material change but would substantively revise the credit risk component of the risk-based capital requirement, as well as the limitations on extensions of unsecured credit. The main revisions would remove requirements that we calculate credit risk capital charges and unsecured credit limits based on ratings issued by a Nationally Recognized Statistical Rating Organization (NRSRO), and instead require that we establish and use their own internal rating methodology. With respect to derivatives, the proposed rule would impose a new capital charge for cleared derivatives, which under the existing rule do not carry a capital charge, to align with the Dodd-Frank Act’s clearing mandate. The proposed rule also would revise the percentages used in the regulation’s tables to calculate credit risk capital charges for advances and for non-mortgage assets. The Finance Agency proposes to retain for now the percentages used in the tables to calculate capital charges for mortgage-related assets, and to address the methodology for residential mortgage assets at a later date. While a March, 2009 regulatory directive pertaining to certain liquidity matters will continue to remain in place, the Finance Agency also proposes to rescind certain minimum regulatory liquidity requirements for the FHLBanks and address these liquidity requirements in a separate rulemaking.

We continue to evaluate the proposed rule but do not expect this rule, if adopted in final form, to materially affect our financial condition or results of operations. Comments on the proposed rule are due by September 1, 2017.

FHLBank Membership for Non-Federally-Insured Credit Unions

On June 5, 2017, the Finance Agency issued a final rule effective July 5, 2017 governing FHLBank membership that would implement statutory amendments to the FHLBank Act authorizing FHLBanks to accept applications for membership from state-chartered credit unions without federal share insurance, provided that certain prerequisites have been met. The new rule generally treats these credit unions the same as other depository institutions with an additional requirement that they obtain: (1) an affirmative statement from their state regulator that they meet the requirements for federal insurance as of the date of their application for FHLBank membership; (2) a written statement from the state regulator that it cannot or will not make any determination regarding eligibility for federal insurance; or (3) if the regulator fails or refuses to respond to the credit union’s request within six months, confirmation of the failure to receive a response.
 
We do not expect this rule to materially affect our financial condition or results of operations.

Minority and Women Inclusion

On July 25, 2017, the Finance Agency published a final rule, effective August 24, 2017, amending its Minority and Women Inclusion regulations to clarify the scope of our obligation to promote diversity and ensure inclusion. The final rule updates the existing Finance Agency regulations aimed at promoting diversity and the inclusion and use of minorities, women, and individuals with disabilities, and the businesses they own (MWDOB) in all Bank business and activities, including management, employment, and contracting. The final rule would:

•
require us to develop stand-alone diversity and inclusion strategic plans or incorporate diversity and inclusion into our existing strategic planning processes and adopt strategies for promoting diversity and ensuring inclusion;

•
encourage us to expand contracting opportunities for minorities, women, and individuals with disabilities through subcontracting arrangements;

•
require us to develop policies that address reasonable accommodations for employees to observe their religious beliefs;

•
require us to provide information in our annual reports to the Finance Agency about our efforts to advance diversity and inclusion through financial transactions, identification of ways in which we might be able to improve business with the Bank by enhancing customer access by MWDOB businesses, including through our affordable housing and community investment programs and strategies for promoting the diversity of supervisors and managers;

•
require us to classify and provide additional data in our annual reports about the number and amounts paid under our contracts with MWDOB.

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We do not expect this final rule to materially affect our financial condition or results of operations, but anticipate that it may result in increased compliance costs and substantially increase the amount of tracking, monitoring, and reporting that would be required.

RISK MANAGEMENT
    
We have risk management policies, established by our Board of Directors, that monitor and control our exposure to market, liquidity, credit, operational, and strategic risk, as well as capital adequacy. Our primary objective is to manage our assets and liabilities in ways that protect the par redemption value of our capital stock. We periodically evaluate our risk management policies in order to respond to changes in our financial position and general market conditions.

Market Risk

We define market risk as the risk that Market Value of Capital Stock (MVCS) or net income will change as a result of changes in market conditions, such as interest rates, spreads, and volatilities. Interest rate risk was our predominant type of market risk exposure during the six months ended June 30, 2017 and 2016. Our general approach toward managing interest rate risk is to acquire and maintain a portfolio of assets, liabilities, and derivatives, which, taken together, limit our expected exposure to interest rate risk. Management regularly reviews our sensitivity to interest rate changes by monitoring our market risk measures in parallel and non-parallel interest rate changes and spread and volatility movements.

Our key risk measures are MVCS Sensitivity and Projected Income Sensitivity.

MARKET VALUE OF CAPITAL STOCK SENSITIVITY
  
We define MVCS as an estimate of the market value of assets minus the market value of liabilities (excluding mandatorily redeemable capital stock) divided by the total shares of capital stock (including mandatorily redeemable capital stock) outstanding. It represents an estimation of the “liquidation value” of one share of our capital stock if all assets and liabilities were liquidated at current market prices. MVCS does not represent our long-term value, as it takes into account short-term market price fluctuations. These fluctuations are often unrelated to the long-term value of the cash flows from our assets and liabilities.

The MVCS calculation uses market prices, as well as interest rates and volatilities, and assumes a run-off balance sheet. The timing and variability of balance sheet cash flows are calculated by an internal model. To ensure the accuracy of the MVCS calculation, we reconcile the computed market prices of complex instruments, such as derivatives and mortgage assets, to market observed prices or dealers' quotes.

Interest rate risk stress tests of MVCS involve instantaneous parallel and non-parallel changes in interest rates. The resulting percentage change in MVCS from the base case value is an indication of longer-term repricing risk and option risk embedded in the balance sheet.

To protect the MVCS from large interest rate swings, we manage the interest rate risk of our balance sheet by using hedging transactions, such as entering into or canceling interest rate swaps, caps, floors, and swaptions and issuing consolidated obligation bonds, including those with step-up, callable, or other structured features.

We monitor and manage to the MVCS policy limits to ensure the stability of the Bank's value. Our policy limits are based on declines from the base case in parallel and non-parallel interest rate change scenarios. Any policy limit breach requires a prompt action to address the measure outside of the policy limit and the breach must be reported to the Enterprise Risk Committee of the Bank and the Risk Committee of the Board of Directors. We were in compliance with the MVCS policy limits at June 30, 2017 and December 31, 2016.

Our down 200 basis point policy limit is suspended when the 10-year swap rate is below 2.50 percent and remains so for five consecutive days. At June 30, 2017 and December 31, 2016, the 10-year swap rate was below 2.50 percent and therefore the associated policy limit was suspended.

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The following tables show our policy limits and base case and change from base case MVCS in dollars per share and percent change respectively, based on outstanding shares of capital stock, including shares classified as mandatorily redeemable, assuming instantaneous parallel changes in interest rates at June 30, 2017 and December 31, 2016:
 
Market Value of Capital Stock (dollars per share)
 
Down 200
 
Down 100
 
Down 50
 
Base Case
 
Up 50
 
Up 100
 
Up 200
June 30, 2017
$
127.1

 
$
128.0

 
$
128.4

 
$
128.0

 
$
127.2

 
$
126.1

 
$
123.3

December 31, 2016
$
119.8

 
$
120.3

 
$
120.0

 
$
119.6

 
$
118.7

 
$
117.6

 
$
114.9

 
% Change from Base Case
 
Down 200
 
Down 100
 
Down 50
 
Base Case
 
Up 50
 
Up 100
 
Up 200
June 30, 2017
(0.8
)%
 
—
%
 
0.3
%
 
—
%
 
(0.7
)%
 
(1.5
)%
 
(3.7
)%
December 31, 2016
0.2
 %
 
0.6
%
 
0.4
%
 
—
%
 
(0.7
)%
 
(1.7
)%
 
(3.9
)%
 
Policy Limits (declines from base case)
 
Down 200
 
Down 100
 
Down 50
 
Base Case
 
Up 50
 
Up 100
 
Up 200
June 30, 2017 and December 31, 2016
(12.0
)%
 
(5.0
)%
 
(2.2
)%
 
—
%
 
(2.2
)%
 
(5.0
)%
 
(12.0
)%

The following tables show our policy limits and base case and change from base case MVCS in dollars per share and percent change respectively, based on outstanding shares of capital stock, including shares classified as mandatorily redeemable, assuming instantaneous non-parallel changes in interest rates at June 30, 2017 and December 31, 2016:
 
Market Value of Capital Stock (dollars per share)
 
Down 200
 
Down 100
 
Down 50
 
Base Case
 
Up 50
 
Up 100
 
Up 200
June 30, 2017
$
128.0

 
$
128.5

 
$
128.5

 
$
128.0

 
$
127.2

 
$
126.0

 
$
123.1

December 31, 2016
$
121.0

 
$
120.9

 
$
120.4

 
$
119.6

 
$
118.3

 
$
117.0

 
$
114.2

 
% Change from Base Case
 
Down 200
 
Down 100
 
Down 50
 
Base Case
 
Up 50
 
Up 100
 
Up 200
June 30, 2017
(0.1
)%
 
0.4
%
 
0.3
%
 
—
%
 
(0.7
)%
 
(1.6
)%
 
(3.9
)%
December 31, 2016
1.2
 %
 
1.1
%
 
0.7
%
 
—
%
 
(1.0
)%
 
(2.1
)%
 
(4.5
)%
 
Policy Limits (declines from base case)
 
Down 200
 
Down 100
 
Down 50
 
Base Case
 
Up 50
 
Up 100
 
Up 200
June 30, 2017 and December 31, 2016
(13.0
)%
 
(5.5
)%
 
(2.5
)%
 
—
%
 
(2.5
)%
 
(5.5
)%
 
(13.0
)%

Our base case MVCS was 128.0 at June 30, 2017 when compared to 119.6 at December 31, 2016. The change was primarily attributable to the following factors:

•
Increase in net income: We recorded net income of $270 million during the six months ended June 30, 2017, which was primarily driven by net interest income of $323 million. Dividend payments for the six months ended June 30, 2017 totaled $88 million. The earnings in excess of dividends paid had a positive impact on the market value of our assets, thereby increasing MVCS.

•
Option-adjusted spread: The spread between mortgage interest rates and LIBOR, adjusted for the mortgage prepayment option, decreased at June 30, 2017 when compared to December 31, 2016. This had a positive impact on MVCS as it increased the value of mortgage-related assets.

•
Decreased shares of activity-based capital stock: During the first half of 2017, our advance activity with members declined, and therefore our activity-based capital stock requirements decreased. As we repurchased this activity-based capital stock back at par, which is below our current MVCS level, our MVCS was positively impacted.


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PROJECTED INCOME SENSITIVITY

We monitor the Bank’s projected 24-month income sensitivity through our review of the projected return on capital stock measure. Projected return on capital stock is computed as an annualized ratio of projected net income over a 24 month period to average projected capital stock over the same period.

We monitor and manage projected 24-month income sensitivity in an effort to limit the short-term earnings volatility of the Bank. The projected 24-month income sensitivity is based on the forward interest rates, business, and risk management assumptions.
Our primary income sensitivity policy limits specify a floor on our projected return on capital stock of no less than 50 percent of average projected 3-month LIBOR over 24 months for the up and down 100 and 200 basis point parallel interest rate change scenarios as well as for the up and down 100 basis point non-parallel interest rate changes for each shock scenario. Any policy limit breach requires a prompt action to address the measure outside of the policy limit. The breach must be reported to the Enterprise Risk Committee of the Bank and the Risk Committee of the Board of Directors. We were in compliance with the projected 24-month income sensitivity policy limits at both June 30, 2017 and December 31, 2016. For more information on our Projected Income Sensitivity, refer to "Item 7. Management's Discussion and Analysis of Financial Condition and Results of Operations — Risk Management — Market Risk — Projected Income Sensitivity" in our 2016 10-K.
Capital Adequacy

An adequate capital position is necessary for providing safe and sound operations of the Bank. Our key capital adequacy measure is MVCS. In addition to MVCS, we maintain capital levels in accordance with Finance Agency regulations and monitor retained earnings and additional capital from merger. For a discussion of our key capital adequacy measure, MVCS, refer to "Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations — Risk Management — Market Risk — Market Value of Capital Stock Sensitivity".

RETAINED EARNINGS AND ADDITIONAL CAPITAL FROM MERGER TARGET LEVEL AND REGULATORY CAPITAL REQUIREMENTS

Our ERMP includes a target level of retained earnings and additional capital from merger based on the amount we believe necessary to protect the redemption value of capital stock, facilitate safe and sound operations, maintain regulatory capital ratios, and support our ability to pay a relatively stable dividend. We are also subject to three regulatory capital requirements. For additional information on our compliance with these requirements, refer to “Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations — Liquidity and Capital Resources".

Liquidity Risk

We define liquidity risk as the risk that we will be unable to meet our obligations as they come due or meet the credit needs of our members and housing associates in a timely and cost efficient manner. To manage this risk, we maintain liquidity in accordance with Finance Agency regulations. For additional information on our compliance with these requirements, refer to “Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations — Liquidity and Capital Resources — Liquidity — Liquidity Requirements".

Credit Risk

We define credit risk as the potential that our borrowers or counterparties will fail to meet their obligations in accordance with agreed upon terms. Our primary credit risks arise from our ongoing lending, investing, and hedging activities. Our overall objective in managing credit risk is to operate a sound credit granting process and to maintain appropriate credit administration, measurement, and monitoring practices.


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ADVANCES

We manage our credit exposure to advances through an approach that provides for an established credit limit for each borrower, ongoing reviews of each borrower's financial condition, and detailed collateral and lending policies to limit risk of loss while balancing borrowers' needs for a reliable source of funding. In addition, we lend to our borrowers in accordance with the FHLBank Act, Finance Agency regulations, and other applicable laws.

We are required by regulation to obtain sufficient collateral to fully secure our advances and other credit products. Eligible collateral includes (i) whole first mortgages on improved residential real property or securities representing a whole interest in such mortgages, (ii) loans and securities issued, insured, or guaranteed by the U.S. Government or any agency thereof, including MBS issued or guaranteed by Fannie Mae, Freddie Mac, or Ginnie Mae and Federal Family Education Loan Program guaranteed student loans, (iii) cash deposited with us, and (iv) other real estate-related collateral acceptable to us provided such collateral has a readily ascertainable value and we can perfect a security interest in such property. Community Financial Institutions (CFIs) may also pledge collateral consisting of secured small business, small agri-business, or small farm loans. As additional security, the FHLBank Act provides that we have a lien on each borrower's capital stock investment; however, capital stock cannot be pledged as collateral to secure credit exposures.

Borrowers may pledge collateral to us by executing a blanket lien, specifically assigning collateral, or placing physical possession of collateral with us or our custodians. We perfect our security interest in all pledged collateral by filing Uniform Commercial Code financing statements or taking possession or control of the collateral. Under the FHLBank Act, any security interest granted to us by our members, or any affiliates of our members, has priority over the claims and rights of any other party (including any receiver, conservator, trustee, or similar party having rights of a lien creditor), unless those claims and rights would be entitled to priority under otherwise applicable law and are held by actual purchasers or by parties that have perfected security interests.

Under a blanket lien, we are granted a security interest in all financial assets of the borrower to fully secure the borrower's obligation. Other than securities and cash deposits, we do not initially take delivery of collateral pledged by blanket lien borrowers. In the event of deterioration in the financial condition of a blanket lien borrower, we have the ability to require delivery of pledged collateral sufficient to secure the borrower's obligation. With respect to non-blanket lien borrowers that are federally insured, we generally require collateral to be specifically assigned. With respect to non-blanket lien borrowers that are not federally insured (typically insurance companies, CDFIs, and housing associates), we generally take control of collateral through the delivery of cash, securities, or loans to us or our custodians.

Although management has policies and procedures in place to manage credit risk, we may be exposed to this risk if our outstanding advance value exceeds the liquidation value of our collateral. We mitigate this risk by applying collateral discounts or haircuts to the unpaid principal balance or market value, if available, of the collateral to determine the advance equivalent value of the collateral securing each borrower's obligation. The amount of these discounts will vary based on the type of collateral and security agreement. We determine these discounts or haircuts using data based upon historical price changes, discounted cash flow analyses, and loan level modeling.
 
At June 30, 2017 and December 31, 2016, borrowers pledged $324.3 billion and $330.4 billion of collateral (net of applicable discounts) to support activity with us, including advances. All of our advances are required to be collateralized at a minimum of 100 percent, net of applicable discounts. Borrowers pledge collateral in excess of their collateral requirement mainly to demonstrate available liquidity and to borrow additional amounts in the future.

Based upon our collateral and lending policies, the collateral held as security, and the repayment history on credit products, management has determined that there were no probable credit losses on our credit products as of June 30, 2017 and December 31, 2016. Accordingly, we have not recorded any allowance for credit losses on our credit products.

MORTGAGE LOANS

We are exposed to credit risk through our participation in the MPF program and MPP. Mortgage loan credit risk is the risk that we will not receive timely payments of principal and interest due from mortgage borrowers because of borrower defaults. Credit risk on mortgage loans is affected by a number of factors, including loan type, borrower's credit history, and other factors such as home price fluctuations, unemployment levels, and other economic factors in the local market or nationwide.


80

Through our participation in the MPF program, we invest in conventional and government-insured residential mortgage loans that are acquired through or purchased from a participating financial institution (PFI). In addition, MPF Xtra, MPF Direct, and MPF Government MBS are off-balance sheet loan products that are passed through to a third-party investor and are not maintained in our Statements of Condition.

Effective May 31, 2015, as part of the Merger, we acquired mortgage loans previously purchased by the Seattle Bank under the MPP. This program involved investment by the Seattle Bank in single-family mortgage loans that were purchased directly from MPP PFIs. Similar to the MPF program, MPP PFIs generally originated, serviced, and credit enhanced the mortgage loans sold to the Seattle Bank. In 2005, the Seattle Bank ceased entering into new MPP master commitment contracts and therefore all MPP loans acquired were originated prior to 2006. We currently do not purchase mortgage loans under this program.

The following table presents the unpaid principal balance of our MPF and MPP portfolios by product type (dollars in millions):
Product Type
 
June 30,
2017
 
December 31,
2016
MPF Conventional
 
$
6,007

 
$
5,907

MPF Government
 
504

 
513

Total MPF
 
6,511

 
6,420

 
 
 
 
 
MPP Conventional
 
315

 
361

MPP Government
 
35

 
42

Total MPP
 
350

 
403

Total mortgage loan unpaid principal balance
 
$
6,861

 
$
6,823


We manage the credit risk on mortgage loans acquired in the MPF program and MPP by (i) adhering to our underwriting standards, (ii) using agreements to establish credit risk sharing responsibilities with our PFIs, (iii) monitoring the performance of the mortgage loan portfolio and creditworthiness of PFIs, and (iv) establishing an allowance for credit losses to reflect management's estimate of probable credit losses inherent in the portfolio.

Government-Insured Mortgage Loans. For our government-insured mortgage loans, our loss protection consists of the loan guarantee, the ability of the loan servicer to repurchase any government-insured loan once it reaches 90 days delinquent, and the contractual obligation of the loan servicer to liquidate a government-insured loan in full upon sale of the REO property if not repurchased previously. Therefore, we have not recorded any allowance for credit losses on government-insured mortgage loans.
                                                                                                                                            
Conventional Mortgage Loans. For our conventional mortgage loans, we have several layers of legal loss protection that are defined in agreements among us and our PFIs. For our MPF loans, these loss layers may vary depending on the MPF product alternatives selected and consist of (i) homeowner equity, (ii) primary mortgage insurance (PMI), (iii) a first loss account (FLA), and (iv) a credit enhancement obligation of the PFI. For our MPP loans, these loss layers consist of (i) homeowner equity and (ii) PMI. For a detailed discussion of these loss layers, refer to “Item 1. Financial Statements — Note 9 — Allowance for Credit Losses.”

Allowance for Credit Losses. We utilize an allowance for credit losses to reserve for estimated losses in our conventional MPF and MPP mortgage loan portfolios at the balance sheet date. The measurement of our MPF and MPP allowance for credit losses is determined by (i) reviewing similar conventional mortgage loans for impairment on a collective basis, (ii) reviewing conventional mortgage loans for impairment on an individual basis, and (iii) estimating additional credit losses in the conventional mortgage loan portfolio. The allowance for credit losses on our conventional MPF mortgage loans was $2 million at June 30, 2017 and December 31, 2016. The allowance for credit losses on our conventional MPP mortgage loans was less than $1 million at both June 30, 2017 and December 31, 2016.

Refer to “Item 1. Financial Statements — Note 9 — Allowance for Credit Losses” for additional information on our allowance for credit losses.


81

Non-Accrual Loans and Delinquencies. We place a conventional mortgage loan on non-accrual status if it is determined that either the collection of interest or principal is doubtful or interest or principal is 90 days or more past due. We do not place a government-insured mortgage loan on non-accrual status due to the U.S. Government guarantee of the loan and contractual obligation of the loan servicer to repurchase the loan when certain criteria are met. Refer to “Item 1. Financial Statements — Note 9 — Allowance for Credit Losses” for a summary of our non-accrual loans and mortgage loan delinquencies.

INVESTMENTS

We maintain an investment portfolio primarily to provide investment income and liquidity. Our primary credit risk on investments is the counterparties' ability to meet repayment terms. We mitigate this credit risk by purchasing investment quality securities. We define investment quality as a security with adequate financial backings so that full and timely payment of principal and interest on such security is expected and there is minimal risk that the timely payment of principal and interest would not occur because of adverse changes in economic and financial conditions during the projected life of the security. We consider a variety of credit quality factors when analyzing potential investments, including collateral performance, marketability, asset class or sector considerations, local and regional economic conditions, NRSRO credit ratings, and/or the financial health of the underlying issuer.

Finance Agency regulations limit the type of investments we may purchase. We are prohibited 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, unless otherwise approved by the Finance Agency. Our unsecured credit exposures to U.S. branches and agency offices of foreign commercial banks include the risk that, as a result of political or economic conditions in a country, the counterparty may be unable to meet their contractual repayment obligations. Our unsecured credit exposures to domestic counterparties and U.S. subsidiaries of foreign commercial banks include the risk that these counterparties have extended credit to foreign counterparties. At June 30, 2017, we were in compliance with the above 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, and those approved by the Finance Agency.

Finance Agency regulations also include limits on the amount of unsecured credit we may extend to a counterparty or to a group of affiliated counterparties. This limit is based on a percentage of eligible regulatory capital and the counterparty's overall credit rating. Under these regulations, the level of eligible regulatory capital is determined as the lesser of our total regulatory capital or the eligible amount of regulatory capital of the counterparty. The eligible amount of regulatory capital is then multiplied by a stated percentage. The percentage that we may offer for term extensions of unsecured credit ranges from three to 15 percent based on the counterparty's credit rating. Our total overnight unsecured exposure to a counterparty may not exceed twice the regulatory limit for term exposures, or a total of six to 30 percent of the eligible amount of regulatory capital, based on the counterparty's credit rating. At June 30, 2017, we were in compliance with the regulatory limits established for unsecured credit.

Our short-term portfolio may include, but is not limited to, interest-bearing deposits, Federal funds sold, securities purchased under agreements to resell, certificates of deposit, commercial paper, and U.S. Treasury bill obligations. Our long-term portfolio may include, but is not limited to, other U.S. obligations, GSE and Tennessee Valley Authority obligations, state or local housing agency obligations, taxable municipal bonds, and MBS. We face credit risk from unsecured exposures primarily within our short-term portfolio. We consider investments issued or guaranteed by the U.S. Government, an agency or instrumentality of the U.S. Government, or the FDIC to be of the highest credit quality and therefore those exposures are not monitored with other unsecured investments.

We generally limit unsecured credit exposure to the following overnight investment types:

•
Federal funds sold. Unsecured loans of reserve balances at the Federal Reserve Banks between financial institutions.

•
Commercial paper. Unsecured debt issued by corporations, typically for the financing of accounts receivable, inventories, and meeting short-term liabilities.


82

At June 30, 2017, our unsecured investment exposure consisted of overnight Federal funds sold. The following table presents our unsecured investment exposure by counterparty credit rating and domicile at June 30, 2017 (excluding accrued interest receivable) (dollars in millions):
 
 
Credit Rating1,2
Domicile of Counterparty
 
AA
 
A
 
BBB
 
Total
Domestic
 
$
—

 
$
—

 
$
450

 
$
450

U.S subsidiaries of foreign commercial banks
 
—

 
100

 
—

 
100

Total domestic and U.S. subsidiaries of foreign commercial banks
 
—

 
100

 
450

 
550

U.S. branches and agency offices of foreign commercial banks
 
 
 
 
 
 
 

Canada
 
—

 
600

 
—

 
600

France
 
—

 
900

 
—

 
900

Japan
 
—

 
600

 
—

 
600

Netherlands
 
—

 
650

 
—

 
650

Norway
 
—

 
600

 
—

 
600

Sweden
 
1,200

 
—

 
—

 
1,200

Total U.S. branches and agency offices of foreign commercial banks
 
1,200

 
3,350

 
—

 
4,550

Total unsecured investment exposure
 
$
1,200

 
$
3,450

 
$
450

 
$
5,100


1
Represents the lowest credit rating available for each investment based on an NRSRO. In instances where an NRSRO rating is not available for the investment, the issuer rating is applied.

2
Table excludes investments issued or guaranteed by the U.S. Government, an agency or instrumentality of the U.S. Government, or the FDIC.

Investment Ratings

The following table summarizes the carrying value of our investments by credit rating (dollars in millions):
 
June 30, 2017
 
Credit Rating1
 
AAA
 
AA
 
A
 
BBB
 
BB or Lower
 
Total
Interest-bearing deposits2
$
—

 
$
2

 
$
—

 
$
—

 
$
—

 
$
2

Securities purchased under agreements to resell
500

 
250

 
—

 
2,750

 
—

 
3,500

Federal funds sold
—

 
1,200

 
3,450

 
450

 
—

 
5,100

Investment securities:
 
 
 
 
 
 
 
 
 
 
 
Mortgage-backed securities
 
 
 
 
 
 
 
 
 
 
 
GSE single-family
—

 
4,247

 
—

 
—

 
—

 
4,247

GSE multifamily
—

 
11,891

 
—

 
—

 
—

 
11,891

Other U.S. obligations single-family3
—

 
3,966

 
—

 
—

 
—

 
3,966

Other U.S. obligations commercial3
—

 
3

 
—

 
—

 
—

 
3

Private-label residential
—

 
5

 
—

 
8

 
1

 
14

Total mortgage-backed securities
—

 
20,112

 
—

 
8

 
1

 
20,121

Non-mortgage-backed securities
 
 
 
 
 
 
 
 
 
 
 
Other U.S. obligations3
—

 
3,530

 
—

 
—

 
—

 
3,530

GSE and Tennessee Valley Authority obligations
—

 
3,311

 
—

 
—

 
—

 
3,311

State or local housing agency obligations
1,205

 
438

 
—

 
—

 
—

 
1,643

Other
455

 
101

 
—

 
—

 
—

 
556

Total non-mortgage-backed securities
1,660

 
7,380

 
—

 
—

 
—

 
9,040

Total investments4
$
2,160

 
$
28,944

 
$
3,450

 
$
3,208

 
$
1

 
$
37,763


1
Represents the lowest credit rating available for each investment based on an NRSRO. In instances where an NRSRO rating is not available for the investment, the issuer rating is applied.

2
Interest bearing deposits are rated AA because they are guaranteed by the FDIC up to $250,000.

3
Represents investment securities backed by the full faith and credit of the U.S. Government.

4
At June 30, 2017, fourteen percent of our total investments were unsecured.

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The following table summarizes the carrying value of our investments by credit rating (dollars in millions):
 
December 31, 2016
 
Credit Rating1
 
AAA
 
AA
 
A
 
BBB
 
BB or Lower
 
Total
Interest-bearing deposits2
$
—

 
$
2

 
$
—

 
$
—

 
$
—

 
$
2

Securities purchased under agreements to resell
1,425

 
250

 
500

 
3,750

 
—

 
5,925

Federal funds sold
—

 
200

 
4,050

 
845

 
—

 
5,095

Investment securities:
 
 
 
 
 
 
 
 
 
 
 
Mortgage-backed securities
 
 
 
 
 
 
 
 
 
 
 
GSE single-family
—

 
4,804

 
—

 
—

 
—

 
4,804

GSE multifamily
—

 
12,156

 
—

 
—

 
—

 
12,156

Other U.S. obligations single-family3
—

 
3,864

 
—

 
—

 
—

 
3,864

Other U.S. obligations commercial3
—

 
4

 
—

 
—

 
—

 
4

Private-label residential
—

 
—

 
5

 
9

 
2

 
16

Total mortgage-backed securities
—

 
20,828

 
5

 
9

 
2

 
20,844

Non-mortgage-backed securities
 
 
 
 
 
 
 
 
 
 
 
Other U.S. obligations3
—

 
3,745

 
—

 
—

 
—

 
3,745

GSE and Tennessee Valley Authority obligations
—

 
3,359

 
—

 
—

 
—

 
3,359

State or local housing agency obligations
1,242

 
455

 
—

 
—

 
—

 
1,697

Other
449

 
102

 
—

 
—

 
—

 
551

Total non-mortgage-backed securities
1,691

 
7,661

 
—

 
—

 
—

 
9,352

Total investments4
$
3,116

 
$
28,941

 
$
4,555

 
$
4,604

 
$
2

 
$
41,218


1
Represents the lowest credit rating available for each investment based on an NRSRO. In instances where an NRSRO rating is not available for the investment, the issuer rating is applied.

2
Interest bearing deposits are rated AA because they are guaranteed by the FDIC up to $250,000.

3
Represents investment securities backed by the full faith and credit of the U.S. Government.

4
At December 31, 2016, twelve percent of our total investments were unsecured.

Our total investments decreased at June 30, 2017 when compared to December 31, 2016 due primarily to a reduction in money market investments needed to manage our liquidity position during the quarter.

At June 30, 2017 and December 31, 2016, we did not consider any of our investments to be other-than-temporarily impaired. For more information on our evaluation of OTTI, refer to “Item 1. Financial Statements — Note 6 — Other-Than-Temporary Impairment.”

Mortgage-Backed Securities

We are exposed to mortgage asset credit risk through our investments in MBS. Mortgage asset credit risk is the risk that we will not receive timely payments of principal and interest due from mortgage borrowers because of borrower defaults. Credit risk on mortgage assets is affected by a number of factors, including the strength and ability to guarantee the payments from the agency that created the structure, underlying loan performance, and other economic factors in the local market or nationwide.

We limit our investments in MBS to those guaranteed by the U.S. Government or issued by a GSE. Further, our ERMP prohibits new purchases of private-label MBS. We perform ongoing analysis on these investments to determine potential credit issues. At June 30, 2017 and December 31, 2016, we owned $20.1 billion and $20.8 billion of MBS, of which approximately 99.9 percent were guaranteed by the U.S. Government or issued by GSEs and 0.1 percent were private-label MBS at each period end.

DERIVATIVES

We execute most of our derivative transactions with large banks and major broker-dealers. Over-the-counter derivative transactions may be either executed directly with a counterparty (uncleared derivatives) or cleared through a Futures Commission Merchant (i.e., clearing agent), with a Derivative Clearing Organization (cleared derivatives).


84

We are subject to credit risk due to the risk of nonperformance by counterparties to our derivative agreements. The amount of credit risk on derivatives depends on the extent to which netting procedures and collateral requirements are used and are effective in mitigating the risk. We manage credit risk through credit analyses, collateral requirements, and adherence to the requirements set forth in our policies and Finance Agency regulations.

Uncleared Derivatives. Due to risk of nonperformance by the counterparties to our derivative agreements, we generally require collateral on uncleared derivative agreements. The amount of net unsecured credit exposure that is permissible with respect to each counterparty depends on the credit rating of that counterparty. A counterparty generally must deliver collateral to us if the total market value of our exposure to that counterparty rises above a specific trigger point. As a result of these risk mitigation initiatives, we do not anticipate any credit losses on our uncleared derivative agreements.

Cleared Derivatives. For cleared derivatives, the Derivative Clearing Organization (Clearinghouse) is our counterparty. We are subject to risk of nonperformance by the Clearinghouse and clearing agent. The requirement that we post initial and variation margin through the clearing agent, to the Clearinghouse, exposes us to institutional credit risk in the event that the clearing agent or the Clearinghouse fails to meet its obligations. However, the use of cleared derivatives is intended to mitigate credit risk exposure because a central counterparty is substituted for individual counterparties and collateral/payments is posted daily, through a clearing agent, for changes in the fair value of cleared derivatives. We do not anticipate any credit losses on our cleared derivatives.

The contractual or notional amount of derivatives reflects our involvement in the various classes of financial instruments. Our maximum credit risk is the estimated cost of replacing derivatives if there is a default, minus the value of any related collateral, including initial margin. In determining maximum credit risk, we consider accrued interest receivables and payables as well as our ability to net settle positive and negative positions with the same counterparty and/or clearing agent when netting requirements are met.

The following table shows our derivative counterparty credit exposure (dollars in millions):
 
 
June 30, 2017
Credit Rating1
 
Notional Amount
 
Net Derivatives
Fair Value Before Collateral and Variation Margin for Daily Settled Contracts
 
Cash Collateral Pledged
To (From) Counterparty and Variation Margin for Daily Settled Contracts2
 
Net Credit Exposure
 to Counterparties
Non-member counterparties:
 
 
 
 
 
 
 
 
Asset positions with credit exposure
 
 
 
 
 
 
 
 
Uncleared derivatives
 
 
 
 
 
 
 
 
A
 
$
2,419

 
$
2

 
$
—

 
$
2

Liability positions with credit exposure
 
 
 
 
 
 
 
 
Uncleared derivatives
 
 
 
 
 
 
 
 
A
 
6,666

 
(84
)
 
91

 
7

AA
 
555

 
(27
)
 
28

 
1

BBB
 
1,841

 
(12
)
 
13

 
1

Cleared derivatives2, 3
 
40,364

 
(343
)
 
471

 
128

Total derivative positions with credit exposure to non-member counterparties
 
51,845

 
(464
)
 
603

 
139

Member institutions4,5
 
105

 
—

 
—

 
—

Total
 
51,950

 
$
(464
)
 
$
603

 
$
139

Derivative positions without credit exposure
 
339

 
 
 
 
 
 
Total notional
 
$
52,289

 
 
 
 
 
 

1
Represents the lowest credit rating available for each counterparty based on an NRSRO.

2
Includes variation margin for daily unsettled contracts of $339 million at June 30, 2017.

3
Represents derivative transactions cleared with CME Clearing, our clearinghouse, who is not rated. CME Clearing's parent, CME Group Inc. was rated Aa3 by Moody's and AA- by Standard and Poor's at June 30, 2017.

4
Net credit exposure is less than $1 million.

5
Represents mortgage delivery commitments with our member institutions.


85


The following table shows our derivative counterparty credit exposure (dollars in millions):

 
 
December 31, 2016
Credit Rating1
 
Notional Amount
 
Net Derivatives
Fair Value Before Collateral
 
Cash Collateral Pledged
To (From) Counterparty
 
Net Credit Exposure
to Counterparties
Non-member counterparties:
 
 
 
 
 
 
 
 
Asset positions with credit exposure
 
 
 
 
 
 
 
 
Uncleared derivatives
 
 
 
 
 
 
 
 
   A
 
$
94

 
$
1

 
$
—

 
$
1

Liability positions with credit exposure
 
 
 
 
 
 
 


Uncleared derivatives
 
 
 
 
 
 
 
 
BBB
 
736

 
(8
)
 
9

 
1

Cleared derivatives2
 
40,678

 
(374
)
 
563

 
189

Total derivative positions with credit exposure to non-member counterparties
 
41,508

 
(381
)
 
572

 
191

Member institutions3,4
 
49

 
—

 
—

 
—

Total
 
41,557

 
$
(381
)
 
$
572

 
$
191

Derivative positions without credit exposure
 
11,949

 
 
 
 
 


Total notional
 
$
53,506

 


 


 



1
Represents the lowest credit rating available for each counterparty based on an NRSRO.

2
Represents derivative transactions cleared with CME Clearing, our clearinghouse, who is not rated. CME Clearing's parent, CME Group Inc. was rated Aa3 by Moody's and AA- by Standard and Poor's at December 31, 2016.

3
Net credit exposure is less than $1 million.

4
Represents mortgage delivery commitments with our member institutions.

Operational Risk

We define operational risk as the risk of loss or harm from inadequate or failed processes, people, and/or systems, including those emanating from external sources. Operational risk is inherent in all of our business activities and processes. Management has established policies and procedures to reduce the likelihood of operational risk and designed our annual risk assessment process to provide ongoing identification, measurement, and monitoring of operational risk. Due to the manual nature of many of our processes, our operational risk exposure is elevated. To mitigate this risk, we continue to focus on process and control improvements, system upgrades, and adding staff to lead and support critical business functions. In addition, we continue to strengthen the execution of controls surrounding spreadsheets by streamlining and eliminating spreadsheets through automation.

As a result of the storm drain pipe break and water damage to our headquarters on June 22, 2017, we utilized our back-up data center, and employees worked out of a business recovery center located in Urbandale, Iowa, additional leased space in downtown Des Moines, and remotely from June 23 through July 14 of this year. During this time, our operational risk profile was further elevated. On July 17, 2017 we resumed use of our primary data center at our headquarters. No known material disruptions in member services or material impacts to our financial condition and results of operations have been experienced due to the disruption.

Strategic Risk

We define strategic risk as the risk of an adverse impact on our mission, financial condition, or current and future profitability resulting from external factors that may occur in both the short- and long-term. Strategic risk includes political, reputation, regulatory, and/or environmental factors, many of which are beyond our control. From time to time, proposals are made, or legislative and regulatory changes are considered, which could affect our cost of doing business or other aspects of our business. We mitigate strategic risk through strategic business planning and monitoring of our external environment. For additional information on some of the more important risks we face, refer to "Item 1A. Risk Factors" in our 2016 Form 10-K.


86

ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK

See “Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations — Risk Management — Market Risk” and the sections referenced therein for quantitative and qualitative disclosures about market risk.

ITEM 4. CONTROLS AND PROCEDURES

Disclosure Controls and Procedures
Management is responsible for establishing and maintaining disclosure controls and procedures designed to ensure that information required to be disclosed in reports we file or submit under the Securities Exchange Act of 1934, as amended (the Exchange Act) is (i) recorded, processed, summarized, and reported within the time periods specified in SEC rules and forms; and (ii) accumulated and communicated to our management, including our President and chief executive officer (CEO), and chief financial officer (CFO), as appropriate, to allow timely decisions regarding required disclosure.
Management, with the participation of our President and CEO, and CFO, has evaluated the effectiveness of the design and operation of our disclosure controls and procedures (as defined in Rules 13a-15(e) and 15d-15(e) under the Exchange Act) as of the end of the quarterly period covered by this report. Based on that evaluation, and management's previous identification of the material weakness in our internal control over financial reporting at December 31, 2016, our President and CEO, and CFO have concluded that our disclosure controls and procedures were not effective as of June 30, 2017.
As previously disclosed in our 2016 Form 10-K, management identified one material weakness in our internal control over financial reporting. A material weakness is a deficiency, or a combination of deficiencies, in internal control over financial reporting, such that there is a reasonable possibility that a material misstatement of the company's annual or interim financial statements will not be prevented or detected on a timely basis.
Management identified the following material weakness in our internal control over financial reporting: We did not maintain effective controls over spreadsheets used in our financial close and reporting process. Specifically, we identified multiple failures with the operating effectiveness of controls over key spreadsheets used in our financial close and reporting process. There were no material misstatements identified in our annual and interim financial statements as a result of this material weakness. However, this material weakness could result in misstatements of various account balances or disclosures given its pervasive nature that would result in a material misstatement to the annual or interim consolidated financial statements that would not be prevented or detected.
Remediation of Material Weakness in Internal Control over Financial Reporting
Management is committed to improving our overall system of internal control over financial reporting and we continue to take steps to remediate the remaining material weakness related to spreadsheet controls. These steps include streamlining certain spreadsheets, training our personnel, risk assessment of key controls and mapping to spreadsheets, and reducing our reliance on spreadsheets. These actions are subject to ongoing review by our senior management, as well as oversight by the audit committee of our board of directors. We have placed a high priority on the remediation process and are allocating the necessary resources to the remediation efforts.
Changes in Internal Control over Financial Reporting

Other than the actions described above, there were no changes in our internal control over financial reporting that occurred during the quarter ended June 30, 2017 that have materially affected, or are reasonably likely to materially affect, our internal control over financial reporting.



87

PART II - OTHER INFORMATION

ITEM 1. LEGAL PROCEEDINGS
    
As a result of the Merger, the Bank has been involved in certain legal proceedings initiated by the Seattle Bank against various entities relating to its purchases and subsequent impairments of certain private-label MBS, as described below. Although the Seattle Bank sold all private-label MBS during the first quarter of 2015 and all of the lawsuits have been either settled or dismissed, the Bank has appealed certain claims dismissed by the court against three defendants. The private-label MBS litigation is described below. After consultation with legal counsel, other than the private-label MBS litigation, we do not believe any legal proceedings to which we are a party could have a material impact on our financial condition, results of operations, or cash flows.

Private-Label MBS Litigation

As the Seattle Bank previously reported, in December of 2009, it filed 11 complaints in the Superior Court of Washington for King County relating to private-label MBS that it 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 requested rescission of its purchases of the securities and repurchases of the securities by the defendants for the original purchase prices plus eight percent per annum (plus related costs), minus distributions on the securities received by the Seattle Bank. The Seattle Bank asserted that the defendants made untrue statements and omitted important information in connection with their sales of the securities to the Seattle Bank.

Of the 11 cases initially filed, one has been dismissed, and ten have been settled in whole or in part, the remaining portions of which are under appeal. The appeal covers the claims related to five certificates across three different cases. The aggregate consideration paid for the private-label MBS currently on appeal is $767 million.

Litigation Settlement Gains

Litigation settlement gains are considered realized and recorded when we receive cash or assets that are readily convertible to known amounts of cash or claims to cash. In addition, litigation settlement gains are considered realizable and recorded when we enter into a signed agreement that is not subject to appeal, where the counterparty has the ability to pay, and the amount to be received can be reasonably estimated. Prior to being realized or realizable, we consider potential litigation settlement gains to be gain contingencies, and therefore they are not recorded in the Statements of Income.
We record legal expenses related to litigation settlements as incurred in other expenses in the Statements of Income with the exception of certain legal expenses related to litigation settlement awards that are contingent based fees for the attorneys representing the Bank. We incur and recognize these contingent based legal fees only when litigation settlement awards are realized, at which time these fees are netted against the gains recognized on the litigation settlement. 
During the three months ended June 30, 2017 we did not settle any private-label MBS claims. During the six months ended June 30, 2017, we settled a private-label MBS claim and recognized $21 million in net gains on litigation settlements. During the three and six months ended June 30, 2016, we recognized $200 million and $337 million in net gains on litigation settlements.



88

ITEM 1A. RISK FACTORS

For a discussion of our risk factors, refer to our 2016 Form 10-K. There have been no material changes to our risk factors during the six months ended June 30, 2017, except as follows:
FAILURES OR INTERRUPTIONS IN INTERNAL CONTROLS, INFORMATION SYSTEMS, AND OTHER OPERATING TECHNOLOGIES COULD HARM OUR FINANCIAL CONDITION, RESULTS OF OPERATIONS, REPUTATION, AND RELATIONS WITH MEMBERS
Control failures, including failures in our controls over financial reporting, or business interruptions with members, vendors, or counterparties, could result from human error, fraud, breakdowns in information and computer systems, lapses in operating processes, or natural or man-made disasters. If a significant control failure or business interruption were to occur, it could materially damage our financial condition and results of operations. We may not be able to foresee, prevent, mitigate, reverse, or repair the negative effects of such failures or interruptions.
Moreover, we rely heavily upon information systems and other operating technologies to conduct and manage our business. To the extent that we, our members, vendors, or counterparties experience a technical failure or interruption in any of these systems or other operating technologies, including any "cyberattacks" or other breaches of technical security, we may be unable to conduct and manage our business effectively. Although we have implemented our disaster recovery and business continuity plans, there can be no assurance that it will be able to prevent, timely and adequately address, or mitigate the negative effects of any technical failure or interruption. Any technical failure or interruption could harm our customer relations, risk management, and profitability, and could adversely impact our financial condition and results of operations.
During 2016, we identified certain control deficiencies in our internal control over financial reporting. These control deficiencies were evaluated, individually and in the aggregate, and as a result, we determined one material weakness in our internal control over financial reporting remained from the previous year which related to our failure to maintain effective controls over spreadsheets used in our financial close and reporting process. This material weakness is described more fully in “Item 4. Controls and Procedures”. These control deficiencies could result in a misstatement of any of our financial statement accounts and disclosures that could in turn result in a material misstatement of the annual or interim financial statements that would not be prevented or detected. Accordingly, management has concluded that these control deficiencies constitute a material weakness. In addition, other material weaknesses or deficiencies may be identified in the future.
If we are unable to correct the material weakness or deficiencies in internal control over financial reporting in a timely manner, our ability to record, process, summarize, and report financial information accurately and within the time periods specified in the rules and forms of the SEC could be adversely affected. This failure could cause our members to lose confidence in our reported financial information, subject us to government enforcement actions, and generally, materially, and adversely impact our business and financial condition.
On June 22, 2017, a storm drain pipe broke at our headquarters causing significant water damage to our office space and rendering it totally uninhabitable. From June 23 through July 14 of this year, we utilized our back-up data center, and employees worked out of a business recovery center located in Urbandale, Iowa, additional leased space in downtown Des Moines, and remotely. On July 17, 2017, we resumed use of our primary data center at our headquarters; however, staff continue to work from alternative locations. Through the time of this filing we have not experienced material disruptions in member services or material impacts to our financial condition and results of operations; however, there can be no assurance that future technical failures or interruption will not take place. Any technical failure or interruption could harm our customer relations, risk management, and profitability, and could adversely impact our financial condition and results of operations.

ITEM 2. UNREGISTERED SALES OF EQUITY SECURITIES AND USE OF PROCEEDS
 
Not applicable.

ITEM 3. DEFAULTS UPON SENIOR SECURITIES

None.

ITEM 4. MINE SAFETY DISCLOSURES

Not applicable.


89

ITEM 5. OTHER INFORMATION

There were no material changes to the disclosure related to the Rule 2-01 (c)(1)(ii)(A) of SEC Regulation S-X (the Loan Rule) included in our 2016 10-K. Refer to " Part II. Item 9B - Other Information " in our 2016 Form 10-K for additional information.


90

ITEM 6. EXHIBITS
3.1
Organization Certificate of the Federal Home Loan Bank of Des Moines, as amended and restated effective May 31, 20151 
3.2
Bylaws of the Federal Home Loan Bank of Des Moines, as amended and restated effective February 10, 20162
4.1
Federal Home Loan Bank of Des Moines Capital Plan, as amended and approved by the Federal Housing Finance Agency on May 31, 20151
10.1
2017 Director Fee Policy, effective January 1, 20173
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 Executive Vice President and Chief Financial Officer pursuant to Section 302 of the Sarbanes-Oxley Act of 2002
32.1
Certification of the President and Chief Executive Officer pursuant to Section 906 of the Sarbanes-Oxley Act of 2002
32.2
Certification of the Executive Vice President and Chief Financial Officer 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

1
Incorporated by reference to our Form 8-K filed with the SEC on June 1, 2015 (Commission File No. 000-51999).

2
Incorporated by reference to our Form 8-K filed with the SEC on February 17, 2016 (Commission File No. 000-51999).

3
Incorporated by reference to our Form 10-K filed with the SEC on March 21, 2017 (Commission File No. 000-51999).








91

SIGNATURES

Pursuant to the requirements of 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 DES MOINES
 
 
(Registrant)
 
 
 
 
 
 
 
Date:
 
August 9, 2017
 
 
 
 
 
 
 
 
 
 
 
 
By:
 
/s/ Michael L. Wilson
 
 
 
 
Michael L. Wilson
President and Chief Executive Officer
 
 
 
 
 
 
 
By:
 
/s/ Ardis E. Kelley
 
 
 
 
Ardis E. Kelley
Senior Vice President and Chief Accounting Officer and Chief Strategic Planning Officer (Principal Accounting Officer)
 
 
 


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