10-Q 1 fhlbcinq3201310-q.htm FORM 10-Q FHLB Cin Q3 2013 10-Q

 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 September 30, 2013
or
o
 
TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
For the transition period from __________ to __________.
Commission File No. 000-51399
FEDERAL HOME LOAN BANK OF CINCINNATI
(Exact name of registrant as specified in its charter)
Federally chartered corporation 
 
31-6000228
(State or other jurisdiction of
incorporation or organization) 
 
(I.R.S. Employer
Identification No.)
1000 Atrium Two, P.O. Box 598,
 
 
Cincinnati, Ohio 
 
45201-0598
(Address of principal executive offices) 
 
(Zip Code)
(513) 852-7500
(Registrant's telephone number, including area code)

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 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, or a smaller reporting company. See the definitions of “large accelerated filer,” “accelerated filer” and “smaller reporting company” in Rule 12b-2 of the Exchange Act.
Large accelerated filer o
Accelerated filer o
Non-accelerated filer x
Smaller reporting company o
 
 
(Do not check if a smaller reporting company)
 
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

As of October 31, 2013, the registrant had 48,088,767 shares of capital stock outstanding, which included stock classified as mandatorily redeemable. The capital stock of the registrant is not listed on any securities exchange or quoted on any automated quotation system, only may be owned by members and former members and is transferable only at its par value of $100 per share.


Page 1







Table of Contents
 
PART I - FINANCIAL INFORMATION
 
 
 
 
Item 1.
Financial Statements (Unaudited):
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Item 2.
 
 
 
Item 3.
 
 
 
Item 4.
 
 
 
 
PART II - OTHER INFORMATION
 
 
 
Item 1A.
 
 
 
Item 6.
 
 
 
 

2

PART I – FINANCIAL INFORMATION
Item 1.     Financial Statements
FEDERAL HOME LOAN BANK OF CINCINNATI
STATEMENTS OF CONDITION
(In thousands, except par value)
(Unaudited)
 
September 30, 2013
 
December 31, 2012
ASSETS
 
 
 
Cash and due from banks
$
1,142,524

 
$
16,423

Interest-bearing deposits
185

 
151

Securities purchased under agreements to resell
3,050,000

 
3,800,000

Federal funds sold
2,380,000

 
3,350,000

Investment securities:
 
 
 
Trading securities
1,667

 
1,922

Available-for-sale securities
1,834,972

 
—

Held-to-maturity securities (includes $0 and $0 pledged as collateral at September 30, 2013 and December 31, 2012, respectively, that may be repledged) (a)
15,375,072

 
12,798,448

Total investment securities
17,211,711

 
12,800,370

Advances
65,856,894

 
53,943,961

Mortgage loans held for portfolio:
 
 
 
Mortgage loans held for portfolio
6,835,425

 
7,548,019

Less: allowance for credit losses on mortgage loans
7,680

 
17,907

Mortgage loans held for portfolio, net
6,827,745

 
7,530,112

Accrued interest receivable
83,484

 
83,904

Premises, software, and equipment, net
10,010

 
9,143

Derivative assets
4,049

 
5,877

Other assets
18,957

 
22,209

TOTAL ASSETS
$
96,585,559

 
$
81,562,150

LIABILITIES
 
 
 
Deposits:
 
 
 
Interest bearing
$
884,097

 
$
1,158,252

Non-interest bearing
17,715

 
18,353

Total deposits
901,812

 
1,176,605

Consolidated Obligations, net:
 
 
 
Discount Notes
33,541,681

 
30,840,224

Bonds (includes $3,101,693 and $3,402,366 at fair value under fair value option at September 30, 2013 and December 31, 2012, respectively)
56,251,288

 
44,345,917

Total Consolidated Obligations, net
89,792,969

 
75,186,141

Mandatorily redeemable capital stock
121,162

 
210,828

Accrued interest payable
110,228

 
106,885

Affordable Housing Program payable
88,125

 
82,672

Derivative liabilities
120,311

 
114,888

Other liabilities
156,229

 
147,362

Total liabilities
91,290,836

 
77,025,381

Commitments and contingencies

 

CAPITAL
 
 
 
Capital stock Class B putable ($100 par value); issued and outstanding shares: 47,005 shares at September 30, 2013 and 40,106 shares at December 31, 2012
4,700,503

 
4,010,622

Retained earnings:
 
 
 
Unrestricted
506,437

 
479,253

Restricted
98,037

 
58,628

Total retained earnings
604,474

 
537,881

Accumulated other comprehensive loss
(10,254
)
 
(11,734
)
Total capital
5,294,723

 
4,536,769

TOTAL LIABILITIES AND CAPITAL
$
96,585,559

 
$
81,562,150

(a)
Fair values: $15,304,919 and $13,177,117 at September 30, 2013 and December 31, 2012, respectively.

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

3

FEDERAL HOME LOAN BANK OF CINCINNATI
STATEMENTS OF INCOME
(In thousands)
(Unaudited)
 
Three Months Ended September 30,
 
Nine Months Ended September 30,
 
2013
 
2012
 
2013
 
2012
INTEREST INCOME:
 
 
 
 
 
 
 
Advances
$
79,132

 
$
59,866

 
$
227,778

 
$
177,769

Prepayment fees on Advances, net
165

 
1,861

 
1,391

 
6,938

Interest-bearing deposits
28

 
142

 
157

 
434

Securities purchased under agreements to resell
128

 
1,168

 
1,451

 
2,967

Federal funds sold
1,192

 
2,243

 
4,763

 
4,565

Trading securities
7

 
9,743

 
24

 
31,574

Available-for-sale securities
531

 
136

 
1,077

 
2,741

Held-to-maturity securities
83,603

 
74,467

 
228,100

 
222,721

Mortgage loans held for portfolio
65,747

 
81,934

 
206,650

 
239,759

Loans to other FHLBanks
—

 
1

 
4

 
2

Total interest income
230,533

 
231,561

 
671,395

 
689,470

INTEREST EXPENSE:
 
 
 
 
 
 
 
Consolidated Obligations - Discount Notes
8,440

 
9,156

 
28,948

 
20,032

Consolidated Obligations - Bonds
129,934

 
136,366

 
392,399

 
443,530

Deposits
81

 
105

 
255

 
285

Loans from other FHLBanks
—

 
—

 
5

 
—

Mandatorily redeemable capital stock
1,324

 
2,637

 
4,364

 
8,771

Other borrowings
—

 
—

 
—

 
1

Total interest expense
139,779

 
148,264

 
425,971

 
472,619

NET INTEREST INCOME
90,754

 
83,297

 
245,424

 
216,851

(Reversal) provision for credit losses
(950
)
 
(500
)
 
(7,450
)
 
910

NET INTEREST INCOME AFTER (REVERSAL) PROVISION FOR CREDIT LOSSES
91,704

 
83,797

 
252,874

 
215,941

OTHER NON-INTEREST INCOME (LOSS):
 
 
 
 
 
 
 
Net losses on trading securities
(9
)
 
(8,831
)
 
(13
)
 
(29,049
)
Net realized gains from sale of held-to-maturity securities
—

 
—

 
—

 
29,292

Net (losses) gains on Consolidated Obligation Bonds held under fair value option
(819
)
 
(624
)
 
68

 
1,811

Net gains on derivatives and hedging activities
1,507

 
3,428

 
4,395

 
10,368

Other, net
3,507

 
1,856

 
8,909

 
4,914

Total other non-interest income (loss)
4,186

 
(4,171
)
 
13,359

 
17,336

OTHER EXPENSE:
 
 
 
 
 
 
 
Compensation and benefits
8,608

 
6,884

 
24,801

 
22,833

Other operating
4,439

 
3,624

 
12,639

 
10,544

Finance Agency
1,088

 
1,446

 
3,264

 
4,594

Office of Finance
1,180

 
854

 
3,391

 
2,526

Other
811

 
2,261

 
2,714

 
2,858

Total other expense
16,126

 
15,069

 
46,809

 
43,355

INCOME BEFORE ASSESSMENTS
79,764

 
64,557

 
219,424

 
189,922

Affordable Housing Program assessments
8,109

 
6,719

 
22,379

 
19,869

NET INCOME
$
71,655

 
$
57,838

 
$
197,045

 
$
170,053


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

4

FEDERAL HOME LOAN BANK OF CINCINNATI
STATEMENTS OF COMPREHENSIVE INCOME
(In thousands)
(Unaudited)
 
Three Months Ended September 30,
 
Nine Months Ended September 30,
 
2013
 
2012
 
2013
 
2012
Net income
$
71,655

 
$
57,838

 
$
197,045

 
$
170,053

Other comprehensive income adjustments:
 
 
 
 
 
 
 
Net unrealized (losses) gains on available-for-sale securities
(33
)
 
(54
)
 
(28
)
 
1,014

Pension and postretirement benefits
576

 
30

 
1,508

 
715

Total other comprehensive income adjustments
543

 
(24
)
 
1,480

 
1,729

Total comprehensive income
$
72,198

 
$
57,814

 
$
198,525

 
$
171,782


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


5

FEDERAL HOME LOAN BANK OF CINCINNATI
STATEMENTS OF CAPITAL
(In thousands)
(Unaudited)
 
Capital Stock
Class B - Putable
 
Retained Earnings
 
 
 
 
 
Shares
 
Par Value
 
Unrestricted
Restricted
Total
 
Accumulated Other Comprehensive
Loss
 
Total
Capital
BALANCE, DECEMBER 31, 2011
31,259

 
$
3,125,895

 
$
432,530

$
11,683

$
444,213

 
$
(11,001
)
 
$
3,559,107

Proceeds from sale of capital stock
3,192

 
319,197

 
 
 
 
 
 
 
319,197

Net shares reclassified to mandatorily
   redeemable capital stock
(169
)
 
(16,918
)
 
 
 
 
 
 
 
(16,918
)
Comprehensive income
 
 
 
 
136,042

34,011

170,053

 
1,729

 
171,782

Cash dividends on capital stock
 
 
 
 
(101,607
)
 
(101,607
)
 
 
 
(101,607
)
BALANCE, SEPTEMBER 30, 2012
34,282

 
$
3,428,174

 
$
466,965

$
45,694

$
512,659

 
$
(9,272
)
 
$
3,931,561

 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
BALANCE, DECEMBER 31, 2012
40,106

 
$
4,010,622

 
$
479,253

$
58,628

$
537,881

 
$
(11,734
)
 
$
4,536,769

Proceeds from sale of capital stock
7,093

 
709,336

 
 
 
 
 
 
 
709,336

Net shares reclassified to mandatorily
   redeemable capital stock
(194
)
 
(19,455
)
 
 
 
 
 
 
 
(19,455
)
Comprehensive income
 
 
 
 
157,636

39,409

197,045

 
1,480

 
198,525

Cash dividends on capital stock
 
 
 
 
(130,452
)
 
(130,452
)
 
 
 
(130,452
)
BALANCE, SEPTEMBER 30, 2013
47,005

 
$
4,700,503

 
$
506,437

$
98,037

$
604,474

 
$
(10,254
)
 
$
5,294,723




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


6

FEDERAL HOME LOAN BANK OF CINCINNATI
STATEMENTS OF CASH FLOWS
(In thousands)
(Unaudited)
 
Nine Months Ended September 30,
 
2013
 
2012
OPERATING ACTIVITIES:
 
 
 
Net income
$
197,045

 
$
170,053

Adjustments to reconcile net income to net cash provided by operating activities:
 
 
 
Depreciation and amortization
(116
)
 
50,611

Net change in fair value adjustment on derivative and hedging activities
26,368

 
70,840

Net change in fair value adjustments on trading securities
13

 
29,049

Net change in fair value adjustments on Consolidated Obligation Bonds held at fair value
(68
)
 
(1,811
)
Other adjustments
(7,456
)
 
(28,379
)
Net change in:
 
 
 
Accrued interest receivable
451

 
6,697

Other assets
3,174

 
4,023

Accrued interest payable
2,737

 
(26,120
)
Other liabilities
15,282

 
45,788

Total adjustments
40,385

 
150,698

Net cash provided by operating activities
237,430

 
320,751

 
 
 
 
INVESTING ACTIVITIES:
 
 
 
Net change in:
 
 
 
Interest-bearing deposits
102,208

 
127,107

Securities purchased under agreements to resell
750,000

 
(2,200,000
)
Federal funds sold
970,000

 
(3,270,000
)
Premises, software, and equipment
(2,633
)
 
(1,303
)
Trading securities:
 
 
 
Net decrease in short-term
—

 
929,434

Proceeds from maturities of long-term
243

 
146

Available-for-sale securities:
 
 
 
Net (increase) decrease in short-term
(1,835,000
)
 
4,172,156

Held-to-maturity securities:
 
 
 
Net increase in short-term
(1,239
)
 
(262,290
)
Proceeds from maturities of long-term
2,196,711

 
2,444,740

Proceeds from sale of long-term
—

 
507,531

Purchases of long-term
(4,774,742
)
 
(3,624,218
)
Advances:
 
 
 
Proceeds
537,468,503

 
600,826,079

Made
(549,492,193
)
 
(608,501,418
)
Mortgage loans held for portfolio:
 
 
 
Principal collected
1,629,429

 
1,928,752

Purchases
(944,715
)
 
(1,945,339
)
Net cash used in investing activities
(13,933,428
)
 
(8,868,623
)
 
 
 
 
 
 
 
 
 
 
 
 
The accompanying notes are an integral part of these financial statements.
 
 
 
 
 
 
 

7

 
 
 
 
(continued from previous page)
 
 
 
FEDERAL HOME LOAN BANK OF CINCINNATI
STATEMENTS OF CASH FLOWS
(In thousands)
(Unaudited)
 
Nine Months Ended September 30,
 
2013
 
2012
FINANCING ACTIVITIES:
 
 
 
Net (decrease) increase in deposits and pass-through reserves
$
(265,480
)
 
$
114,484

Net payments on derivative contracts with financing elements
(29,134
)
 
(105,511
)
Net proceeds from issuance of Consolidated Obligations:
 
 
 
Discount Notes
124,097,934

 
184,505,756

Bonds
26,658,742

 
15,461,517

Payments for maturing and retiring Consolidated Obligations:
 
 
 
Discount Notes
(121,398,636
)
 
(179,112,341
)
Bonds
(14,711,090
)
 
(14,482,739
)
Proceeds from issuance of capital stock
709,336

 
319,197

Payments for redemption of mandatorily redeemable capital stock
(109,121
)
 
(72,100
)
Cash dividends paid
(130,452
)
 
(101,607
)
Net cash provided by financing activities
14,822,099

 
6,526,656

Net increase (decrease) in cash and cash equivalents
1,126,101

 
(2,021,216
)
Cash and cash equivalents at beginning of the period
16,423

 
2,033,944

Cash and cash equivalents at end of the period
$
1,142,524

 
$
12,728

Supplemental Disclosures:
 
 
 
Interest paid
$
438,326

 
$
498,099

Affordable Housing Program payments, net
$
16,926

 
$
13,259


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


8

FEDERAL HOME LOAN BANK OF CINCINNATI

NOTES TO UNAUDITED FINANCIAL STATEMENTS


Background Information    

The Federal Home Loan Bank of Cincinnati (the FHLBank), a federally chartered corporation, is one of 12 District Federal Home Loan Banks (FHLBanks). The FHLBanks serve the public by enhancing the availability of credit for residential mortgages and targeted community development. The FHLBank is regulated by the Federal Housing Finance Agency (Finance Agency).


Note 1 - Basis of Presentation

The accompanying interim financial statements of the FHLBank have been prepared in accordance with accounting principles generally accepted in the United States of America (GAAP). The preparation of financial statements in accordance with GAAP requires management to make assumptions and estimates. These assumptions and estimates affect the reported amount of assets and liabilities, the disclosure of contingent assets and liabilities, and the reported amounts of income and expenses. Actual results could differ from these estimates. The interim financial statements presented are unaudited, but they include all adjustments (consisting of only normal recurring adjustments) which are, in the opinion of management, necessary for a fair statement of the financial condition, results of operations, and cash flows for such periods. These financial statements do not include all disclosures associated with annual financial statements and accordingly should be read in conjunction with the audited financial statements and notes included in the FHLBank's annual report on Form 10-K for the year ended December 31, 2012 filed with the Securities and Exchange Commission (SEC). Results for the three and nine months ended September 30, 2013 are not necessarily indicative of operating results for the full year.

The FHLBank presents certain financial instruments, including derivative instruments and securities purchased under agreements to resell, on a net basis when it has a legal right of offset and all other requirements for netting are met (collectively referred to as the netting requirements). For these instruments, the FHLBank has elected to offset its asset and liability positions, as well as cash collateral received or pledged, when it has met the netting requirements. The FHLBank did not have any offsetting liabilities related to its securities purchased under agreements to resell for the periods presented.

The net exposure for these financial instruments can change on a daily basis; therefore, there may be a delay between the time this exposure change is identified and additional collateral is requested, and the time this collateral is received or pledged. Likewise, there may be a delay for excess collateral to be returned. For derivative instruments that meet the requirements for netting, any excess cash collateral received or pledged is recognized as a derivative liability or derivative asset. Additional information regarding these agreements is provided in Note 10. Based on the fair value of the related collateral held, the securities purchased under agreements to resell were fully collateralized for the periods presented. For more information about the FHLBank's investments in securities purchased under agreements to resell, see “Item 8. Financial Statements and Supplementary Data - Note 1 - Summary of Significant Accounting Policies” in the FHLBank's 2012 Form 10-K.

The FHLBank has evaluated subsequent events for potential recognition or disclosure through the issuance of these financial statements and believes there have been no material subsequent events requiring additional disclosure or recognition in these financial statements.


Note 2 - Recently Issued Accounting Standards and Interpretations

Inclusion of the Overnight Index Swap Rate as a Benchmark Interest Rate for Hedge Accounting Purposes. On July 17, 2013, the Financial Accounting Standards Board (FASB) amended existing guidance to include the Fed Funds Effective Swap Rate (also referred to as Overnight Index Swap Rate (OIS)) as a U.S. benchmark interest rate for hedge accounting purposes. The amendments also remove the restriction on using different benchmark interest rates for similar hedges. The amendments apply to all entities that elect to apply hedge accounting of the benchmark interest rate, and were effective prospectively for qualifying new or redesignated hedging relationships entered into on or after July 17, 2013. The adoption of this guidance did not have a material effect on any of the FHLBank's respective hedging strategies.

Joint and Several Liability Arrangements. On February 28, 2013, the FASB issued guidance for recognition, measurement and disclosure of obligations resulting from joint and several liability arrangements for which the total amount of the obligation

9

within the scope of this guidance is fixed at the reporting date. This guidance requires an entity to measure these obligations as the sum of (1) the amount the reporting entity agreed to pay on the basis of its arrangement among its co-obligors and (2) any additional amount the reporting entity expects to pay on behalf of its co-obligors. This guidance is effective for interim and annual periods beginning on or after December 15, 2013 and should be applied retrospectively. This guidance will have no effect on the FHLBank's financial condition, results of operations, or cash flows.

Presentation of Comprehensive Income. On February 5, 2013, the FASB issued guidance to improve the transparency of reporting reclassifications out of accumulated other comprehensive income. This guidance requires the FHLBank to present, either on the face of the financial statement where net income is presented or in the footnotes, significant amounts reclassified out of accumulated other comprehensive income by component. These amounts would be presented only if the amount is required under GAAP to be reclassified to net income in its entirety in the same reporting period. For other amounts that are not required under GAAP to be reclassified in their entirety to net income, the FHLBank is required to cross-reference to other required disclosures that provide additional detail about these other amounts. This guidance became effective for the FHLBank for interim and annual periods beginning on January 1, 2013 and was applied prospectively. The adoption of this guidance resulted in additional financial statement disclosures, and did not affect the FHLBank's financial condition, results of operations, or cash flows.

Disclosures about Offsetting Assets and Liabilities. On December 16, 2011, the FASB and the International Accounting Standards Board issued common disclosure requirements intended to help investors and other financial statement users better assess the effect or potential effect of offsetting arrangements on a company's financial position, whether a company's financial statements are prepared on the basis of GAAP or International Financial Reporting Standards. This guidance was amended on January 31, 2013 by the FASB to clarify that its scope includes only certain financial instruments that are either offset on the balance sheet or are subject to an enforceable master netting arrangement or similar agreement. The FHLBank is required to disclose both gross and net information about derivative, repurchase and security lending instruments that meet these criteria. This guidance, as amended, became effective for interim and annual periods beginning on January 1, 2013 and was applied retrospectively for all comparative periods presented. The adoption of this guidance resulted in additional financial statement disclosures, and did not affect the FHLBank's financial condition, results of operations, or cash flows.

Framework for Adversely Classifying Loans, Other Real Estate Owned, and Other Assets and Listing Assets for Special Mention. On April 9, 2012, the Finance Agency issued an advisory bulletin that establishes a standard and uniform methodology for adverse classification and identification of special mention assets and off-balance sheet credit exposures at the FHLBanks, excluding investment securities. The adverse classification requirements should be implemented by January 1, 2014, and the charge-off requirements should be implemented no later than January 1, 2015. The FHLBank is currently assessing the provisions of this advisory bulletin and has not yet determined the effect, if any, that this guidance will have on the FHLBank's financial condition, results of operations, or cash flows.


Note 3 - Trading Securities

Table 3.1 - Trading Securities by Major Security Types (in thousands)        
 
September 30, 2013
 
December 31, 2012
 
Fair Value
 
Fair Value
Mortgage-backed securities:
 
 
 
Other U.S. obligation residential mortgage-backed securities (1)
$
1,667

 
$
1,922

Total
$
1,667

 
$
1,922

 
(1)
Consists of Government National Mortgage Association (Ginnie Mae) mortgage-backed securities.

Table 3.2 - Net Losses on Trading Securities (in thousands)
 
Nine Months Ended September 30,
 
2013
 
2012
Net losses on trading securities held at period end
$
(13
)
 
$
(14,924
)
Net losses on securities matured during the period
—

 
(14,125
)
Net losses on trading securities
$
(13
)
 
$
(29,049
)


10


Note 4 - Available-for-Sale Securities

Table 4.1 - Available-for-Sale Securities by Major Security Types (in thousands)
 
September 30, 2013
 
Amortized
Cost
 
Gross
Unrealized
Gains
 
Gross
Unrealized
(Losses)
 
Fair
Value
Certificates of deposit
$
1,835,000

 
$
—

 
$
(28
)
 
$
1,834,972

Total
$
1,835,000

 
$
—

 
$
(28
)
 
$
1,834,972


All securities outstanding with gross unrealized losses at September 30, 2013 have been in a continuous unrealized loss position for less than 12 months.

There were no available-for-sale securities outstanding as of December 31, 2012.

Table 4.2 - Available-for-Sale Securities by Contractual Maturity (in thousands)
 
September 30, 2013
Year of Maturity
Amortized
Cost
 
Fair
Value
Due in one year or less
$
1,835,000

 
$
1,834,972


Table 4.3 - Interest Rate Payment Terms of Available-for-Sale Securities (in thousands)
 
September 30, 2013
Amortized cost of available-for-sale securities:
 
Fixed-rate
$
1,835,000


Realized Gains and Losses. The FHLBank had no sales of securities out of its available-for-sale portfolio during the nine months ended September 30, 2013 or 2012.

11


Note 5 - Held-to-Maturity Securities

Table 5.1 - Held-to-Maturity Securities by Major Security Types (in thousands)
 
September 30, 2013
 
Amortized Cost (1)
 
Gross Unrecognized Holding
Gains
 
Gross Unrecognized Holding (Losses)
 
Fair Value
Non-mortgage-backed securities:
 
 
 
 
 
 
 
Government-sponsored enterprises (GSEs) (2)
$
27,478

 
$
5

 
$
—

 
$
27,483

Total non-mortgage-backed securities
27,478

 
5

 
—

 
27,483

Mortgage-backed securities:
 
 
 
 
 
 
 
Other U.S. obligation residential
   mortgage-backed securities (3)
1,271,182

 
4,621

 
(123
)
 
1,275,680

GSE residential mortgage-backed securities (4)
14,076,412

 
169,921

 
(244,577
)
 
14,001,756

Total mortgage-backed securities
15,347,594

 
174,542

 
(244,700
)
 
15,277,436

Total
$
15,375,072

 
$
174,547

 
$
(244,700
)
 
$
15,304,919

 
 
 
 
 
 
 
 
 
December 31, 2012
 
Amortized Cost (1)
 
Gross Unrecognized Holding
Gains
 
Gross Unrecognized Holding (Losses)
 
Fair Value
Non-mortgage-backed securities:
 
 
 
 
 
 
 
GSE (2)
$
26,238

 
$
2

 
$
—

 
$
26,240

Total non-mortgage-backed securities
26,238

 
2

 
—

 
26,240

Mortgage-backed securities:
 
 
 
 
 
 
 
Other U.S. obligation residential
   mortgage-backed securities (3)
1,410,720

 
4,320

 
—

 
1,415,040

GSE residential mortgage-backed securities (4)
11,361,490

 
375,372

 
(1,025
)
 
11,735,837

Total mortgage-backed securities
12,772,210

 
379,692

 
(1,025
)
 
13,150,877

Total
$
12,798,448

 
$
379,694

 
$
(1,025
)
 
$
13,177,117

 
(1)
Carrying value equals amortized cost.
(2)
Consists of debt securities issued and effectively guaranteed by Freddie Mac and/or Fannie Mae, which have the support of the U.S. government, although they are not obligations of the U.S. government.
(3)
Consists of mortgage-backed securities issued or guaranteed by the National Credit Union Administration (NCUA) and the U.S. government.
(4)
Consists of mortgage-backed securities issued and effectively guaranteed by Freddie Mac and/or Fannie Mae, which have the support of the U.S. government, although they are not obligations of the U.S. government.

Table 5.2 - Net Purchased (Discounts) Premiums Included in the Amortized Cost of Mortgage-backed Securities Classified as Held-to-Maturity (in thousands)
 
September 30, 2013
 
December 31, 2012
Premiums
$
35,128

 
$
41,808

Discounts
(46,615
)
 
(24,965
)
Net purchased (discounts) premiums
$
(11,487
)
 
$
16,843



12

Table 5.3 summarizes the held-to-maturity securities with unrealized losses, which are aggregated by major security type and length of time that individual securities have been in a continuous unrealized loss position.

Table 5.3 - Held-to-Maturity Securities in a Continuous Unrealized Loss Position (in thousands)
 
September 30, 2013
 
Less than 12 Months
 
12 Months or more
 
Total
 
Fair Value
 
Gross Unrealized (Losses)
 
Fair Value
 
Gross Unrealized (Losses)
 
Fair Value
 
Gross Unrealized (Losses)
Mortgage-backed securities:
 
 
 
 
 
 
 
 
 
 
 
Other U.S. obligation residential
   mortgage-backed securities (1)
$
134,776

 
$
(123
)
 
$
—

 
$
—

 
$
134,776

 
$
(123
)
GSE residential mortgage-backed securities (2)
7,703,591

 
(242,839
)
 
52,564

 
(1,738
)
 
7,756,155

 
(244,577
)
Total
$
7,838,367

 
$
(242,962
)
 
$
52,564

 
$
(1,738
)
 
$
7,890,931

 
$
(244,700
)
 
 
 
 
 
 
 
 
 
 
 
 
 
December 31, 2012
 
Less than 12 Months
 
12 Months or more
 
Total
 
Fair Value
 
Gross Unrealized (Losses)
 
Fair Value
 
Gross Unrealized (Losses)
 
Fair Value
 
Gross Unrealized (Losses)
Mortgage-backed securities:
 
 
 
 
 
 
 
 
 
 
 
GSE residential mortgage-backed securities (2)
$
90,130

 
$
(1,025
)
 
$
—

 
$
—

 
$
90,130

 
$
(1,025
)
Total
$
90,130

 
$
(1,025
)
 
$
—

 
$
—

 
$
90,130

 
$
(1,025
)
(1)
Consists of mortgage-backed securities issued or guaranteed by the NCUA and the U.S. government.
(2)
Consists of mortgage-backed securities issued and effectively guaranteed by Freddie Mac and/or Fannie Mae, which have the support of the U.S. government, although they are not obligations of the U.S. government.

Table 5.4 - Held-to-Maturity Securities by Contractual Maturity (in thousands)
 
September 30, 2013
 
December 31, 2012
Year of Maturity
Amortized Cost (1)
 
Fair Value
 
Amortized Cost (1)
 
Fair Value
Non-mortgage-backed securities:
 
 
 
 
 
 
 
Due in 1 year or less
$
27,478

 
$
27,483

 
$
26,238

 
$
26,240

Due after 1 year through 5 years
—

 
—

 
—

 
—

Due after 5 years through 10 years
—

 
—

 
—

 
—

Due after 10 years
—

 
—

 
—

 
—

Total non-mortgage-backed securities
27,478

 
27,483

 
26,238

 
26,240

Mortgage-backed securities (2)
15,347,594

 
15,277,436

 
12,772,210

 
13,150,877

Total
$
15,375,072

 
$
15,304,919

 
$
12,798,448

 
$
13,177,117

(1)
Carrying value equals amortized cost.
(2)
Mortgage-backed securities are not presented by contractual maturity because their expected maturities will likely differ from contractual maturities because borrowers may have the right to call or prepay obligations with or without call or prepayment fees.

Table 5.5 - Interest Rate Payment Terms of Held-to-Maturity Securities (in thousands)
 
September 30, 2013
 
December 31, 2012
Amortized cost of non-mortgage-backed securities:
 
 
 
Fixed-rate
$
27,478

 
$
26,238

Total amortized cost of non-mortgage-backed securities
27,478

 
26,238

Amortized cost of mortgage-backed securities:
 
 
 
Fixed-rate
12,229,211

 
9,509,167

Variable-rate
3,118,383

 
3,263,043

Total amortized cost of mortgage-backed securities
15,347,594

 
12,772,210

Total
$
15,375,072

 
$
12,798,448


13


Realized Gains and Losses. The FHLBank sold securities out of its held-to-maturity portfolio during the nine months ended September 30, 2012, each of which had less than 15 percent of the acquired principal outstanding at the time of the sale. These sales are considered maturities for the purposes of security classification.

Table 5.6 - Proceeds and Gross Gains from Sale of Held-to-Maturity Securities (in thousands)
 
Nine Months Ended September 30,
 
2013
 
2012
Proceeds from sale of held-to-maturity securities
$
—

 
$
507,531

Gross gains from sale of held-to-maturity securities
—

 
29,292


The FHLBank did not sell securities out of its held-to-maturity portfolio during the three months ended September 30, 2013 or 2012.


Note 6 - Other-Than-Temporary Impairment Analysis

The FHLBank evaluates its individual available-for-sale and held-to-maturity investment securities holdings in an unrealized loss position for other-than-temporary impairment on a quarterly basis. As part of its evaluation for other-than-temporary impairment, the FHLBank considers its intent to sell each debt security and whether it is more likely than not that the FHLBank will be required to sell the security before its anticipated recovery. If either of these conditions is met, the FHLBank recognizes an other-than-temporary impairment in earnings equal to the entire difference between the security's amortized cost basis and its fair value at the balance sheet date. For securities in unrealized loss positions that meet neither of these conditions, the FHLBank performs analyses to determine if any of these securities are other-than-temporarily impaired.

For its other U.S. obligations and GSE investments (mortgage-backed securities and non-mortgage-backed securities), the FHLBank determined that the strength of the issuers' guarantees through direct obligations or support from the U.S. government is sufficient to protect the FHLBank from losses based on current expectations. As a result, the FHLBank determined that, as of September 30, 2013, all of the gross unrealized losses on these investments were temporary as the declines in market value of these securities were not attributable to credit quality. Furthermore, the FHLBank does not intend to sell the investments, and it is not more likely than not that the FHLBank will be required to sell the investments before recovery of their amortized cost bases. As a result, the FHLBank did not consider any of these investments to be other-than-temporarily impaired at September 30, 2013.

The FHLBank also reviewed its available-for-sale securities that have experienced unrealized losses at September 30, 2013 and determined that the unrealized losses were temporary, based on the creditworthiness of the issuers and the related collateral characteristics, and that the FHLBank will recover its entire amortized cost basis. Additionally, because the FHLBank does not intend to sell these securities, nor is it more likely than not that the FHLBank will be required to sell the securities before recovery, it did not consider the investments to be other-than-temporarily impaired at September 30, 2013.

The FHLBank did not consider any of its investments to be other-than-temporarily impaired at December 31, 2012.


Note 7 - Advances

The FHLBank offers a wide range of fixed- and variable-rate Advance products with different maturities, interest rates, payment characteristics and optionality. At September 30, 2013 and December 31, 2012, the FHLBank had Advances outstanding, including Affordable Housing Program (AHP) Advances (see Note 13), at interest rates ranging from 0.00 percent to 9.20 percent. Advances with interest rates of 0.00 percent are AHP-subsidized Advances.


14

Table 7.1 - Advance Redemption Terms (dollars in thousands)
 
 
September 30, 2013
 
December 31, 2012
Redemption Term
 
Amount
 
Weighted Average Interest
Rate
 
Amount
 
Weighted Average Interest
Rate
 
 
 
 
 
 
 
 
 
Due in 1 year or less
 
$
14,689,127

 
0.42
%
 
$
12,178,645

 
0.48
%
Due after 1 year through 2 years
 
9,400,391

 
0.64

 
5,020,941

 
1.07

Due after 2 years through 3 years
 
8,355,467

 
0.48

 
6,505,107

 
0.73

Due after 3 years through 4 years
 
9,594,124

 
0.95

 
6,171,525

 
0.86

Due after 4 years through 5 years
 
11,297,634

 
0.63

 
9,131,953

 
0.88

Thereafter
 
12,311,986

 
0.73

 
14,612,607

 
0.74

Total par value
 
65,648,729

 
0.63

 
53,620,778

 
0.75

Commitment fees
 
(786
)
 
 
 
(836
)
 
 
Discount on AHP Advances
 
(16,435
)
 
 
 
(19,308
)
 
 
Premiums
 
3,504

 
 
 
3,774

 
 
Discount
 
(14,805
)
 
 
 
(13,578
)
 
 
Hedging adjustments
 
236,687

 
 
 
353,131

 
 
Total
 
$
65,856,894

 
 
 
$
53,943,961

 
 

The FHLBank offers Advances to members that may be prepaid on specified dates (call dates) without incurring prepayment or termination fees (callable Advances). In exchange for receiving the right to call the Advance on a predetermined call schedule, the member typically pays a higher rate for the Advance relative to an equivalent maturity, non-callable Advance. If the call option is exercised, replacement funding may be available. Other Advances may only be prepaid subject to a prepayment fee paid to the FHLBank that makes the FHLBank financially indifferent to the prepayment of the Advance. At September 30, 2013 and December 31, 2012, the FHLBank had callable Advances (in thousands) of $9,740,185 and $12,012,609.

Table 7.2 - Advances by Year of Contractual Maturity or Next Call Date for Callable Advances (in thousands)
Year of Contractual Maturity
or Next Call Date
September 30, 2013
 
December 31, 2012
Due in 1 year or less
$
23,193,227

 
$
20,726,461

Due after 1 year through 2 years
6,927,241

 
3,563,705

Due after 2 years through 3 years
6,485,436

 
4,776,457

Due after 3 years through 4 years
6,666,749

 
3,746,205

Due after 4 years through 5 years
10,690,189

 
6,732,368

Thereafter
11,685,887

 
14,075,582

Total par value
$
65,648,729

 
$
53,620,778


The FHLBank also offers putable Advances. With a putable Advance, the FHLBank effectively purchases put options from the member that allows the FHLBank to terminate the Advance at predetermined dates. The FHLBank normally would exercise its option when interest rates increase relative to contractual rates. At September 30, 2013 and December 31, 2012, the FHLBank had putable Advances, excluding those where the related put options have expired, totaling (in thousands) $2,333,400 and $2,587,250.


15

Table 7.3 - Advances by Year of Contractual Maturity or Next Put/Convert Date for Putable/Convertible Advances (in thousands)
Year of Contractual Maturity
or Next Put/Convert Date
September 30, 2013
 
December 31, 2012
Due in 1 year or less
$
16,935,827

 
$
14,792,295

Due after 1 year through 2 years
8,969,591

 
4,672,041

Due after 2 years through 3 years
8,336,467

 
6,193,507

Due after 3 years through 4 years
8,736,724

 
6,019,525

Due after 4 years through 5 years
10,657,634

 
8,125,303

Thereafter
12,012,486

 
13,818,107

Total par value
$
65,648,729

 
$
53,620,778


Table 7.4 - Advances by Interest Rate Payment Terms (in thousands)                    
Par value of Advances
September 30, 2013
 
December 31, 2012
Fixed-rate (1)
 
 
 
Due in one year or less
$
7,632,408

 
$
9,412,060

Due after one year
8,711,536

 
8,224,609

Total fixed-rate
16,343,944

 
17,636,669

Variable-rate (1)
 
 
 
Due in one year or less
6,637,585

 
2,363,338

Due after one year
42,667,200

 
33,620,771

Total variable-rate
49,304,785

 
35,984,109

Total par value
$
65,648,729

 
$
53,620,778

(1)
Payment terms based on current interest rate terms, which reflect any option exercises or rate conversions that have occurred subsequent to the related Advance issuance.

At September 30, 2013 and December 31, 2012, 23 percent and 24 percent, respectively, of the FHLBank's fixed-rate Advances were swapped to a variable rate.

Table 7.5 - Borrowers Holding Five Percent or more of Total Advances, Including Any Known Affiliates that are Members of the FHLBank (dollars in millions)
September 30, 2013
 
December 31, 2012
 
Principal
 
% of Total
 
 
Principal
 
% of Total
JPMorgan Chase Bank, N.A.
$
42,700

 
65
%
 
JPMorgan Chase Bank, N.A.
$
26,000

 
48
%
U.S. Bank, N.A.
4,584

 
7

 
Fifth Third Bank
4,732

 
9

Total
$
47,284

 
72
%
 
U.S. Bank, N.A.
4,586

 
8

 

 
 
 
PNC Bank, N.A. (1)
2,986

 
6

 
 
 

 
Total
$
38,304

 
71
%
 
(1)
Former member.



16

Note 8 - Mortgage Loans Held for Portfolio

Table 8.1 - Mortgage Loans Held for Portfolio (in thousands)
 
September 30, 2013
 
December 31, 2012
Unpaid principal balance:
 
 
 
Fixed rate medium-term single-family mortgage loans (1)
$
1,484,563

 
$
1,695,018

Fixed rate long-term single-family mortgage loans
5,167,005

 
5,671,123

Total unpaid principal balance
6,651,568

 
7,366,141

Premiums
177,979

 
164,243

Discounts
(3,798
)
 
(3,605
)
Hedging basis adjustments (2)
9,676

 
21,240

Total mortgage loans held for portfolio
$
6,835,425

 
$
7,548,019


(1)
Medium-term is defined as a term of 15 years or less.
(2)
Represents the unamortized balance of the mortgage purchase commitments' market values at the time of settlement. The market value of the commitment is included in the basis of the mortgage loan and amortized accordingly.

Table 8.2 - Mortgage Loans Held for Portfolio by Collateral/Guarantee Type (in thousands)
 
September 30, 2013
 
December 31, 2012
Unpaid principal balance:
 
 
 
Conventional mortgage loans
$
5,869,337

 
$
6,382,835

Government-guaranteed/insured mortgage loans
782,231

 
983,306

Total unpaid principal balance
$
6,651,568

 
$
7,366,141


For information related to the FHLBank's credit risk on mortgage loans and allowance for credit losses, see Note 9.

Table 8.3 - Members, Including Any Known Affiliates that are Members of the FHLBank, and Former Members Selling Five Percent or more of Total Unpaid Principal (dollars in millions)
 
September 30, 2013
 
 
December 31, 2012
 
Principal
 
% of Total
 
 
Principal
 
% of Total
PNC Bank, N.A. (1)
$
1,443

 
22
%
 
Union Savings Bank
$
1,984

 
27
%
Union Savings Bank
1,410

 
21

 
PNC Bank, N.A. (1)
1,818

 
25

Total
$
2,853

 
43
%
 
Guardian Savings Bank FSB
431

 
6

 


 


 
Total 
$
4,233

 
58
%
 
(1)
Former member.    


Note 9 - Allowance for Credit Losses

The FHLBank has established an allowance methodology for each of the FHLBank's portfolio segments: credit products; government-guaranteed or insured mortgage loans held for portfolio; and conventional mortgage loans held for portfolio.

Credit products

The FHLBank manages its credit exposure to credit products through an integrated approach that provides for a credit limit to be established for each borrower, includes an ongoing review of each borrower's financial condition and is coupled with detailed collateral and lending policies to limit risk of loss while balancing borrowers' needs for a reliable source of funding. In addition, the FHLBank lends to financial institutions within its district in accordance with federal statutes, including the Federal Home Loan Bank Act (FHLBank Act), and Finance Agency Regulations, which require the FHLBank to obtain sufficient collateral to fully secure credit products. The estimated value of the collateral required to secure each member's credit products is calculated by applying collateral discounts, or haircuts, to the value of the collateral. The FHLBank accepts certain investment securities, residential mortgage loans, deposits, and other real estate related assets as collateral. In addition, community financial institutions (CFIs) are eligible to utilize expanded statutory collateral provisions for small business and

17

agriculture loans. The FHLBank's capital stock owned by its member borrower is also pledged as collateral. Collateral arrangements and a member’s borrowing capacity vary based on the financial condition and performance of the institution, the types of collateral pledged and the overall quality of those assets. The FHLBank can call for additional or substitute collateral to protect its security interest. Management of the FHLBank believes that these policies effectively manage the FHLBank's credit risk from credit products.

Members experiencing financial difficulties are subject to FHLBank-performed “stress tests” of the impact of poorly performing assets on the member’s capital and loss reserve positions. Depending on the results of these tests and the level of overcollateralization, a member may be allowed to maintain pledged loan assets in its custody, may be required to deliver those loans into the custody of the FHLBank or its agent, and/or may be required to provide details on these loans to facilitate an estimate of their fair value. The FHLBank perfects its security interest in all pledged collateral. The FHLBank Act affords any security interest granted to the FHLBank by a member priority over the claims or rights of any other party except for claims or rights of a third party that would be entitled to priority under otherwise applicable law and that are held by a bona fide purchaser for value or by a secured party holding a prior perfected security interest.

Using a risk-based approach, the FHLBank considers the payment status, collateral mix, and borrower's financial condition to be indicators of credit quality on its credit products. At September 30, 2013 and December 31, 2012, the FHLBank had rights to collateral on a member-by-member basis with an estimated value in excess of its outstanding extensions of credit.

The FHLBank evaluates and makes changes to its collateral guidelines, as necessary, based on current market conditions. At September 30, 2013 and December 31, 2012, the FHLBank did not have any Advances that were past due, in non-accrual status, or impaired. In addition, there were no troubled debt restructurings related to credit products of the FHLBank during the nine months ended September 30, 2013 or 2012.

The FHLBank has not experienced any credit losses on Advances since it was founded in 1932. Based upon the collateral held as security, its credit extension and collateral policies, management's credit analysis and the repayment history on credit products, the FHLBank did not record any credit losses on credit products as of September 30, 2013 or December 31, 2012. Accordingly, the FHLBank did not record any allowance for credit losses on Advances.

At September 30, 2013 and December 31, 2012, no liability to reflect an allowance for credit losses for off-balance sheet credit exposures was recorded. See Note 19 for additional information on the FHLBank's off-balance sheet credit exposure.

Mortgage Loans Held for Portfolio - Government-guaranteed or Insured

The FHLBank invests in government-guaranteed or insured fixed-rate mortgage loans secured by one-to-four family residential properties. Government-guaranteed mortgage loans are mortgage loans guaranteed or insured by the Federal Housing Administration (FHA). Any losses from such loans are expected to be recovered from the FHA. Any losses from such loans that are not recovered from the FHA would be due to a claim rejection by the FHA and, as such, would be recoverable from the selling participating financial institutions (PFIs). Therefore, the FHLBank only has credit risk for these loans if the seller or servicer fails to pay for losses not covered by insurance or guarantees. As a result, the FHLBank did not establish an allowance for credit losses on government-guaranteed or insured mortgage loans. Furthermore, due to the government guarantee or insurance, none of these mortgage loans have been placed on non-accrual status.

Mortgage Loans Held for Portfolio - Conventional Mortgage Purchase Program (MPP)

The allowance for conventional loans is determined by analyses that include consideration of various data observations such as past performance, current performance, loan portfolio characteristics, collateral-related characteristics, industry data, and prevailing economic conditions. The measurement of the allowance for credit losses consists of: (1) collectively evaluating homogeneous pools of residential mortgage loans; (2) reviewing specifically identified loans for impairment; and (3) considering other relevant qualitative factors.

Collectively Evaluated Mortgage Loans. The credit risk analysis of conventional loans evaluated collectively for impairment considers historical delinquency migration, applies estimated loss severities, and incorporates the associated credit enhancements in order to determine the FHLBank's best estimate of probable incurred losses at the reporting date. The credit risk analysis of all conventional mortgage loans is performed at the individual Master Commitment Contract level to properly determine the credit enhancements available to recover losses on loans under each individual Master Commitment Contract. The Master Commitment Contract is an agreement with a member in which the member agrees to make every attempt to sell a specific dollar amount of loans to the FHLBank over a one-year period. Migration analysis is a methodology for determining, through the FHLBank's experience over a historical period, the rate of default on pools of similar loans. The FHLBank applies

18

migration analysis to loans based on payment status categories such as current, 30, 60, and 90 days past due. The FHLBank then estimates, based on historical experience, how many loans in these categories may migrate to a loss realization event and applies a current loss severity to estimate losses. The estimated losses are then reduced by the probable cash flows resulting from credit enhancements available. Any credit enhancement cash flows that are projected and assessed as not probable of receipt do not reduce estimated losses.

Individually Evaluated Mortgage Loans. Conventional mortgage loans that are considered troubled debt restructurings are specifically identified for purposes of calculating the allowance for credit losses. The FHLBank measures impairment of these specifically identified loans by either estimating the present value of expected cash flows, estimating the loan's observable market price, or estimating the fair value of the collateral if the loan is collateral dependent. Specifically identified loans evaluated for impairment are removed from the collectively evaluated mortgage loan population.

Qualitative Factors. The FHLBank also assesses other qualitative factors in its estimation of loan losses for the collectively evaluated population. This amount represents a subjective management judgment, based on facts and circumstances that exist as of the reporting date, that is intended to cover other inherent losses that may not otherwise be captured in the methodology described above.

Rollforward of Allowance for Credit Losses on Mortgage Loans. The following tables present a rollforward of the allowance for credit losses on conventional mortgage loans as well as the recorded investment in mortgage loans by impairment methodology. The recorded investment in a loan is the unpaid principal balance of the loan adjusted for accrued interest, unamortized premiums or discounts, hedging basis adjustments and direct write-downs. The recorded investment is not net of any allowance.

Table 9.1 - Rollforward of Allowance for Credit Losses on Conventional Mortgage Loans (in thousands)
 
Three Months Ended September 30,
Allowance for credit losses:
2013
 
2012
Balance, beginning of period
$
9,176

 
$
19,498

Charge-offs
(546
)
 
(1,091
)
Reversal for credit losses
(950
)
 
(500
)
Balance, end of period
$
7,680

 
$
17,907

 
 
 
 
 
Nine Months Ended September 30,
Allowance for credit losses:
2013
 
2012
Balance, beginning of period
$
17,907

 
$
20,750

Charge-offs
(2,777
)
 
(3,753
)
(Reversal) provision for credit losses
(7,450
)
 
910

Balance, end of period
$
7,680

 
$
17,907


Table 9.2 - Allowance for Credit Losses and Recorded Investment on Conventional Mortgage Loans by Impairment Methodology (in thousands)
Allowance for credit losses, end of period:
September 30, 2013
 
December 31, 2012
Collectively evaluated for impairment
$
7,623

 
$
17,775

Individually evaluated for impairment
$
57

 
$
132

Recorded investment, end of period:
 
 
 
Collectively evaluated for impairment
$
6,056,195

 
$
6,570,856

Individually evaluated for impairment
6,744

 
5,249

Total recorded investment
$
6,062,939

 
$
6,576,105


Credit Enhancements. The conventional mortgage loans under the MPP are supported by some combination of credit enhancements (primary mortgage insurance (PMI), supplemental mortgage insurance (SMI) and the Lender Risk Account (LRA), including pooled LRA for those members participating in an aggregated MPP pool). The amount of credit enhancements needed to protect the FHLBank against credit losses is determined through use of a third-party default model.

19

These credit enhancements apply after a homeowner's equity is exhausted. Beginning in February 2011, the FHLBank discontinued the use of SMI for all new loan purchases and replaced it with expanded use of the LRA. The LRA is funded by the FHLBank as a portion of the purchase proceeds to cover expected losses. Excess funds over required balances are distributed to the member in accordance with a step-down schedule that is established upon execution of a Master Commitment Contract, subject to performance of the related loan pool. The LRA established for a pool of loans is limited to only covering losses of that specific pool of loans.

Table 9.3 - Changes in the LRA (in thousands)
 
Nine Months Ended
 
September 30, 2013
LRA at beginning of year
$
102,680

Additions
14,486

Claims
(3,585
)
Scheduled distributions
(1,191
)
LRA at end of period
$
112,390



20

Credit Quality Indicators. Key credit quality indicators for mortgage loans include the migration of past due loans, non-accrual loans, and loans in process of foreclosure. The table below summarizes the FHLBank's key credit quality indicators for mortgage loans.

Table 9.4 - Recorded Investment in Delinquent Mortgage Loans (dollars in thousands)
 
September 30, 2013
 
Conventional MPP Loans
 
Government-Guaranteed or Insured Loans
 
Total
Past due 30-59 days delinquent
$
45,763

 
$
64,541

 
$
110,304

Past due 60-89 days delinquent
14,811

 
19,773

 
34,584

Past due 90 days or more delinquent
62,272

 
32,008

 
94,280

Total past due
122,846

 
116,322

 
239,168

Total current mortgage loans
5,940,093

 
680,793

 
6,620,886

Total mortgage loans
$
6,062,939

 
$
797,115

 
$
6,860,054

Other delinquency statistics:
 
 
 
 
 
In process of foreclosure, included above (1)
$
49,475

 
$
15,487

 
$
64,962

Serious delinquency rate (2)
1.03
%
 
4.08
%
 
1.38
%
Past due 90 days or more still accruing interest (3)
$
62,089

 
$
32,008

 
$
94,097

Loans on non-accrual status, included above
$
2,850

 
$
—

 
$
2,850

 
 
 
 
 
 
 
December 31, 2012
 
Conventional MPP Loans
 
Government-Guaranteed or Insured Loans
 
Total
Past due 30-59 days delinquent
$
47,189

 
$
60,056

 
$
107,245

Past due 60-89 days delinquent
18,103

 
18,445

 
36,548

Past due 90 days or more delinquent
77,113

 
37,890

 
115,003

Total past due
142,405

 
116,391

 
258,796

Total current mortgage loans
6,433,700

 
883,381

 
7,317,081

Total mortgage loans
$
6,576,105

 
$
999,772

 
$
7,575,877

Other delinquency statistics:
 
 
 
 
 
In process of foreclosure, included above (1)
$
67,016

 
$
15,843

 
$
82,859

Serious delinquency rate (2)
1.17
%
 
3.82
%
 
1.52
%
Past due 90 days or more still accruing interest (3)
$
76,871

 
$
37,890

 
$
114,761

Loans on non-accrual status, included above
$
2,538

 
$
—

 
$
2,538

(1)
Includes loans where the decision of foreclosure or a 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 dependent on their delinquency status.
(2)
Loans that are 90 days or more past due or in the process of foreclosure (including past due or current loans in the process of foreclosure) expressed as a percentage of the total loan portfolio class recorded investment amount.
(3)
Each conventional loan past due 90 days or more still accruing interest is on a schedule/scheduled monthly settlement basis and contains one or more credit enhancements. Loans that are well secured and in the process of collection as a result of remaining credit enhancements and schedule/scheduled settlement are not placed on non-accrual status.

The FHLBank did not have any real estate owned at September 30, 2013 or December 31, 2012.

Troubled Debt Restructurings. A troubled debt restructuring is considered to have occurred when a concession is granted to a borrower for economic or legal reasons related to the borrower's financial difficulties and that concession would not have been considered otherwise. The FHLBank does not consider loans with SMI policies that have been discharged in Chapter 7 bankruptcy to be troubled debt restructurings. The FHLBank's troubled debt restructurings involve both loans where an agreement permits the recapitalization of past due amounts up to the original loan amount and loans without SMI policies discharged in Chapter 7 bankruptcy. Under both types of modification, no other terms of the original loan are modified,

21

including the borrower's original interest rate and contractual maturity. The FHLBank had 35 and 26 modified loans considered troubled debt restructurings at September 30, 2013 and December 31, 2012, respectively.

A loan considered a troubled debt restructuring is individually evaluated for impairment when determining its related allowance for credit losses. Credit loss is measured by factoring in expected cash shortfalls (i.e., loss severity rate) incurred as of the reporting date.

Table 9.5 - Recorded Investment in Troubled Debt Restructurings (in thousands)
Troubled debt restructurings:
September 30, 2013
 
December 31, 2012
Conventional MPP Loans
$
6,744

 
$
5,249


Due to the minimal change in terms of modified loans (i.e., no principal forgiven), the FHLBank's pre-modification recorded investment was not materially different than the post-modification recorded investment in troubled debt restructurings.

Certain conventional MPP loans modified within the previous 12 months and considered troubled debt restructurings experienced a payment default as noted in the table below. A borrower is considered to have defaulted on a troubled debt restructuring if their contractually due principal or interest is 60 days or more past due at any time during the periods presented.

Table 9.6 - Recorded Investment of Financing Receivables Modified within the Previous 12 Months and Considered Troubled Debt Restructurings that Subsequently Defaulted (in thousands)
 
Three Months Ended September 30,
 
Nine Months Ended September 30,
 
2013
 
2012
 
2013
 
2012
Defaulted troubled debt restructurings:
 
 
 
 
 
 
 
Conventional MPP Loans
$
422

 
$
—

 
$
422

 
$
—


Modified loans that subsequently default may recognize a higher probability of loss when calculating the allowance for credit losses.

Individually Evaluated Impaired Loans. At September 30, 2013 and December 31, 2012, only certain conventional MPP loans individually evaluated for impairment required an allowance for credit losses. Table 9.7 presents the recorded investment, unpaid principal balance, and related allowance associated with these loans.

Table 9.7 - Individually Evaluated Impaired Loan Statistics by Product Class Level (in thousands)
 
September 30, 2013
 
December 31, 2012
Conventional MPP loans:
Recorded Investment
 
Unpaid Principal Balance
 
Related Allowance
 
Recorded Investment
 
Unpaid Principal Balance
 
Related Allowance
With no related
allowance
$
4,077

 
$
3,999

 
$
—

 
$
2,798

 
$
2,751

 
$
—

With an allowance
2,667

 
2,634

 
57

 
2,451

 
2,423

 
132

Total
$
6,744

 
$
6,633

 
$
57

 
$
5,249

 
$
5,174

 
$
132



22

Table 9.8 - Average Recorded Investment of Individually Evaluated Impaired Loans and Related Interest Income Recognized (in thousands)
 
Three Months Ended September 30,
 
2013
 
2012
Individually impaired loans:
Average Recorded Investment
 
Interest Income Recognized
 
Average Recorded Investment
 
Interest Income Recognized
Conventional MPP Loans
$
6,757

 
$
90

 
$
4,319

 
$
59

 
 
 
 
 
 
 
 
 
Nine Months Ended September 30,
 
2013
 
2012
Individually impaired loans:
Average Recorded Investment
 
Interest Income Recognized
 
Average Recorded Investment
 
Interest Income Recognized
Conventional MPP Loans
$
6,108

 
$
244

 
$
3,673

 
$
152



Note 10 - Derivatives and Hedging Activities

Nature of Business Activity

The FHLBank is exposed to interest rate risk primarily from the effect of interest rate changes on its interest-earning assets and on the funding sources that finance these assets. The goal of the FHLBank'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 FHLBank has established policies and procedures, which include guidelines on the amount of exposure to interest rate changes it is willing to accept. In addition, the FHLBank monitors the risk to its interest income, net interest margin and average maturity of interest-earning assets and funding sources.

The FHLBank transacts most of its derivatives with large banks and major broker-dealers. Some of these banks and broker-dealers or their affiliates buy, sell, and distribute Consolidated Obligations. Over-the-counter derivative transactions may be either executed with a counterparty (bilateral derivatives) or cleared through a Futures Commission Merchant (i.e., clearing agent), with a Derivative Clearing Organization (cleared derivatives). Once a derivative transaction has been accepted for clearing by a Derivative Clearing Organization (Clearinghouse), the derivative transaction is novated and the executing counterparty is replaced with the Clearinghouse. The Clearinghouse notifies the clearing agent of the required initial and variation margin and the clearing agent notifies the FHLBank of the required initial and variation margin. At September 30, 2013 the FHLBank did not have any transactions cleared through a Clearinghouse. The FHLBank is not a derivatives dealer and does not trade derivatives for short-term profit.

Consistent with Finance Agency Regulations, the FHLBank enters into derivatives to manage the interest rate risk exposures inherent in otherwise unhedged assets and funding positions, to achieve the FHLBank's risk management objectives and to act as an intermediary between its members and counterparties. The use of derivatives is an integral part of the FHLBank's financial management strategy. However, Finance Agency Regulations and the FHLBank's financial management policy prohibit trading in or the speculative use of derivative instruments and limit credit risk arising from them.

The most common ways in which the FHLBank uses derivatives are to:

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

▪
manage embedded options in assets and liabilities;

▪
reduce funding costs by combining a derivative with a Consolidated Obligation Bond, as the cost of a combined funding structure can be lower than the cost of a comparable Consolidated Obligation Bond;

▪
preserve a favorable interest rate spread between the yield of an asset (e.g., an Advance) and the cost of the related liability (e.g., the Consolidated Obligation Bond used to fund the Advance); without the use of derivatives, this interest rate spread could be reduced or eliminated when a change in the interest rate on the Advance does not match a change in the interest rate on the Bond; and

23


▪
protect the value of existing asset or liability positions.

Types of Derivatives

The FHLBank may enter into interest rate swaps (including callable and putable swaps), swaptions, interest rate cap and floor agreements, calls, puts, futures, and forward contracts to manage its exposure to changes in interest rates.

An interest rate swap is an agreement between two entities to exchange cash flows in the future. The agreement sets the dates on which the cash flows will be paid and the manner in which the cash flows will be calculated. One of the simplest forms of an interest rate swap involves the promise by one party to pay cash flows equivalent to the interest on a notional principal amount at a predetermined fixed rate for a given period of time. In return for this promise, this party receives cash flows equivalent to the interest on the same notional principal amount at a variable-rate index for the same period of time. The variable-rate transacted by the FHLBank in its derivatives is the London Interbank Offered Rate (LIBOR).

Application of Interest Rate Swaps

The FHLBank generally uses derivatives as fair value hedges of underlying financial instruments. However, because the FHLBank uses interest rate swaps when they are considered to be the most cost-effective alternative to achieve the FHLBank's financial and risk management objectives, it may enter into interest rate swaps that do not necessarily qualify for hedge accounting (economic hedges). The FHLBank re-evaluates its hedging strategies from time to time and may change the hedging techniques it uses or adopt new strategies.

Types of Hedged Items

The FHLBank documents at inception all relationships between derivatives designated as hedging instruments and the hedged items, its risk management objectives and strategies for undertaking various hedge transactions, and its method of assessing effectiveness. This process includes linking all derivatives that are designated as fair value hedges to assets and liabilities on the Statements of Condition. The FHLBank also formally assesses (both at the hedge's inception and at least quarterly) whether the derivatives that are used in hedging transactions have been effective in offsetting changes in the fair value of the hedged items and whether those derivatives may be expected to remain effective in future periods. The FHLBank currently uses regression analyses to assess the effectiveness of its hedges. The types of assets and liabilities currently hedged with derivatives are:

▪
Consolidated Obligations
▪
Advances
▪
Firm Commitments

Financial Statement Effect and Additional Financial Information

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



24

Table 10.1 summarizes the fair value of derivative instruments. For purposes of this disclosure, the derivative values include the fair value of derivatives and the related accrued interest.

Table 10.1 - Fair Value of Derivative Instruments (in thousands)
 
September 30, 2013
 
Notional Amount of Derivatives
 
Derivative Assets
 
Derivative Liabilities
Derivatives designated as fair value hedging instruments:
 
 
 
 
 
Interest rate swaps
$
5,114,740

 
$
43,147

 
$
250,850

Derivatives not designated as hedging instruments:
 
 
 
 
 
Interest rate swaps
3,233,000

 
1,144

 
8,401

Forward rate agreements
49,000

 
—

 
1,417

Mortgage delivery commitments
71,252

 
919

 
4

Total derivatives not designated as hedging instruments
3,353,252

 
2,063

 
9,822

Total derivatives before netting and collateral adjustments
$
8,467,992

 
45,210

 
260,672

Netting adjustments
 
 
(41,161
)
 
(41,161
)
Cash collateral and related accrued interest
 
 
—

 
(99,200
)
Total collateral and netting adjustments (1)
 
 
(41,161
)
 
(140,361
)
Total derivative assets and total derivative liabilities
 
 
$
4,049

 
$
120,311

 
 
 
 
 
 
 
December 31, 2012
 
Notional Amount of Derivatives
 
Derivative Assets
 
Derivative Liabilities
Derivatives designated as fair value hedging instruments:
 
 
 
 
 
Interest rate swaps
$
8,262,375

 
$
66,836

 
$
372,959

Derivatives not designated as hedging instruments:
 
 
 
 
 
Interest rate swaps
3,774,000

 
2,686

 
15,930

Mortgage delivery commitments
123,588

 
155

 
584

Total derivatives not designated as hedging instruments
3,897,588

 
2,841

 
16,514

Total derivatives before netting and collateral adjustments
$
12,159,963

 
69,677

 
389,473

Netting adjustments
 
 
(61,900
)
 
(61,900
)
Cash collateral and related accrued interest
 
 
(1,900
)
 
(212,685
)
Total collateral and netting adjustments (1)
 
 
(63,800
)
 
(274,585
)
Total derivative assets and total derivative liabilities
 
 
$
5,877

 
$
114,888

 
(1)
Amounts represent the application of the netting requirements that allow the FHLBank to settle positive and negative positions and also cash collateral and related accrued interest held or placed by the FHLBank with the same counterparty.






25

Table 10.2 presents the components of net gains on derivatives and hedging activities as presented in the Statements of Income.

Table 10.2 - Net Gains on Derivatives and Hedging Activities (in thousands)
 
Three Months Ended September 30,
 
2013
 
2012
Derivatives and hedged items in fair value hedging relationships:
 
 
 
Interest rate swaps
$
2,603

 
$
(1,121
)
Derivatives not designated as hedging instruments:
 
 
 
Economic hedges:
 
 
 
Interest rate swaps
682

 
(241
)
Forward rate agreements
(1,401
)
 
(496
)
Net interest settlements
(325
)
 
(397
)
Mortgage delivery commitments
(52
)
 
5,683

Total net (losses) gains related to derivatives not designated as hedging instruments
(1,096
)
 
4,549

Net gains on derivatives and hedging activities
$
1,507

 
$
3,428

 
 
 
 
 
Nine Months Ended September 30,
 
2013
 
2012
Derivatives and hedged items in fair value hedging relationships:
 
 
 
Interest rate swaps
$
7,540

 
$
5,724

Derivatives not designated as hedging instruments:
 
 
 
Economic hedges:
 
 
 
Interest rate swaps
6,728

 
3,480

Forward rate agreements
(1,401
)
 
(8,645
)
Net interest settlements
(155
)
 
(2,421
)
Mortgage delivery commitments
(8,317
)
 
12,230

Total net (losses) gains related to derivatives not designated as hedging instruments
(3,145
)
 
4,644

Net gains on derivatives and hedging activities
$
4,395

 
$
10,368



26

Table 10.3 presents by type of hedged item, the gains (losses) on derivatives and the related hedged items in fair value hedging relationships and the impact of those derivatives on the FHLBank's net interest income.

Table 10.3 - Effect of Fair Value Hedge Related Derivative Instruments (in thousands)
 
Three Months Ended September 30,
2013
Gain/(Loss) on Derivative
 
Gain/(Loss) on Hedged Item
 
Net Fair Value Hedge Ineffectiveness
 
Effect of Derivatives on Net Interest Income(1)
Hedged Item Type:
 
 
 
 
 
 
 
Advances
$
12,258

 
$
(9,827
)
 
$
2,431

 
$
(26,726
)
Consolidated Bonds
(3,630
)
 
3,802

 
172

 
6,134

Total
$
8,628

 
$
(6,025
)
 
$
2,603

 
$
(20,592
)
2012
 
 
 
 
 
 
 
Hedged Item Type:
 
 
 
 
 
 
 
Advances
$
6,931

 
$
(7,285
)
 
$
(354
)
 
$
(50,214
)
Consolidated Bonds
117

 
(884
)
 
(767
)
 
9,347

Total
$
7,048

 
$
(8,169
)
 
$
(1,121
)
 
$
(40,867
)
 
 
 
 
 
 
 
 
 
Nine Months Ended September 30,
2013
Gain/(Loss) on Derivative
 
Gain/(Loss) on Hedged Item
 
Net Fair Value Hedge Ineffectiveness
 
Effect of Derivatives on Net Interest Income(1)
Hedged Item Type:
 
 
 
 
 
 
 
Advances
$
121,037

 
$
(113,984
)
 
$
7,053

 
$
(83,814
)
Consolidated Bonds
(21,684
)
 
22,171

 
487

 
22,144

Total
$
99,353

 
$
(91,813
)
 
$
7,540

 
$
(61,670
)
2012
 
 
 
 
 
 
 
Hedged Item Type:
 
 
 
 
 
 
 
Advances
$
106,351

 
$
(99,761
)
 
$
6,590

 
$
(209,459
)
Consolidated Bonds
(507
)
 
(359
)
 
(866
)
 
27,560

Total
$
105,844

 
$
(100,120
)
 
$
5,724

 
$
(181,899
)
 
(1)
The net interest on derivatives in fair value hedge relationships is included in the interest income/expense line item of the respective hedged item.


27

Offsetting of Derivative Assets and Derivative Liabilities

Where the FHLBank has a legal right of offset, the FHLBank has elected to offset, by counterparty, the gross derivative assets and gross derivative liabilities, and the related cash collateral received or pledged and associated accrued interest.

Table 10.4 presents separately the fair value of derivative instruments meeting or not meeting netting requirements, including the related collateral received from or pledged to counterparties. At September 30, 2013 and December 31, 2012, the FHLBank did not receive or pledge any non-cash collateral. Any overcollateralization at an individual master agreement is not included in the determination of the net unsecured amount.

Table 10.4 - Offsetting of Derivative Assets and Derivative Liabilities (in thousands)
 
September 30, 2013
 
Derivative Assets
 
Derivative Liabilities
Derivative instruments meeting netting requirements:
 
 
 
Gross recognized amount
$
44,291

 
$
259,251

Gross amounts of netting adjustments and cash collateral
(41,161
)
 
(140,361
)
Net amounts after netting adjustments
3,130

 
118,890

Derivative instruments not meeting netting requirements
919

 
1,421

Net unsecured amount
$
4,049

 
$
120,311

 
 
 
 
 
December 31, 2012
 
Derivative Assets
 
Derivative Liabilities
Derivative instruments meeting netting requirements:
 
 
 
Gross recognized amount
$
69,522

 
$
388,889

Gross amounts of netting adjustments and cash collateral
(63,800
)
 
(274,585
)
Net amounts after netting adjustments
5,722

 
114,304

Derivative instruments not meeting netting requirements
155

 
584

Net unsecured amount
$
5,877

 
$
114,888


Managing Credit Risk on Derivatives

The FHLBank is subject to credit risk due to the risk of nonperformance by counterparties to its derivative transactions, and manages credit risk through credit analysis, collateral requirements and adherence to the requirements set forth in its policies, U.S. Commodity Futures Trading Commission regulations, and Finance Agency regulations. For bilateral derivatives, the degree of credit risk depends on the extent to which master netting arrangements are included in the contracts to mitigate the risk. The FHLBank requires collateral agreements with collateral delivery thresholds on the majority of its bilateral derivatives.

Certain of the FHLBank's bilateral interest rate swap contracts contain provisions that require the FHLBank to post additional collateral with its counterparties if there is deterioration in the FHLBank's credit ratings. The aggregate fair value of all bilateral interest rate swaps with credit-risk-related contingent features that were in a liability position at September 30, 2013 was (in thousands) $218,090, for which the FHLBank had posted collateral with a fair value of (in thousands) $99,200 in the normal course of business.

If one of the FHLBank's credit ratings had been lowered to the next lower rating that would have triggered additional collateral to be delivered, the FHLBank would have been required to deliver up to an additional (in thousands) $21,466 of collateral at fair value to its derivatives counterparties at September 30, 2013.


28


Note 11 - Deposits

Table 11.1- Deposits (in thousands)
 
September 30, 2013
 
December 31, 2012
Interest bearing:
 
 
 
Demand and overnight
$
765,164

 
$
1,014,399

Term
113,100

 
118,425

Other
5,833

 
25,428

Total interest bearing
884,097

 
1,158,252

 
 
 
 
Non-interest bearing:
 
 
 
Other
17,715

 
18,353

Total non-interest bearing
17,715

 
18,353

Total deposits
$
901,812

 
$
1,176,605


The average interest rates paid on interest bearing deposits were 0.03 percent and 0.04 percent in the three months ended September 30, 2013 and 2012, respectively, and 0.03 percent in each of the nine-month periods ended September 30, 2013 and 2012.

The aggregate amount of time deposits with a denomination of $100 thousand or more was (in thousands) $113,000 and $118,350 as of September 30, 2013 and December 31, 2012, respectively.


Note 12 - Consolidated Obligations

Table 12.1 - Consolidated Bonds Outstanding by Contractual Maturity (dollars in thousands)
 
 
September 30, 2013
 
December 31, 2012
Year of Contractual Maturity
 
Amount
 
Weighted Average Interest Rate
 
Amount
 
Weighted Average Interest Rate
Due in 1 year or less
 
$
36,539,500

 
0.39
%
 
$
18,656,450

 
0.82
%
Due after 1 year through 2 years
 
2,743,000

 
1.81

 
11,371,500

 
0.83

Due after 2 years through 3 years
 
2,767,000

 
2.32

 
2,566,000

 
1.96

Due after 3 years through 4 years
 
2,951,000

 
1.78

 
2,550,000

 
2.62

Due after 4 years through 5 years
 
3,245,000

 
1.83

 
2,654,000

 
1.81

Thereafter
 
7,847,000

 
2.47

 
6,369,000

 
2.53

Index amortizing notes
 
35,522

 
5.07

 
56,162

 
5.08

Total par value
 
56,128,022

 
1.00

 
44,223,112

 
1.30

Premiums
 
105,128

 
 
 
80,956

 
 
Discounts
 
(19,464
)
 
 
 
(18,851
)
 
 
Hedging adjustments
 
35,909

 
 
 
58,334

 
 
Fair value option valuation adjustment and
   accrued interest
 
1,693

 
 
 
2,366

 
 
Total
 
$
56,251,288

 
 
 
$
44,345,917

 
 


29

Table 12.2 - Consolidated Discount Notes Outstanding (dollars in thousands)
 
Book Value
 
Par Value
 
Weighted Average Interest Rate (1)
September 30, 2013
$
33,541,681

 
$
33,545,915

 
0.07
%
December 31, 2012
$
30,840,224

 
$
30,848,612

 
0.13
%
(1)
Represents an implied rate without consideration of concessions.

Table 12.3 - Consolidated Bonds Outstanding by Features (in thousands)
 
September 30, 2013
 
December 31, 2012
Par value of Consolidated Bonds:
 
 
 
Non-callable
$
46,436,022

 
$
36,724,112

Callable
9,692,000

 
7,499,000

Total par value
$
56,128,022

 
$
44,223,112


Table 12.4 - Consolidated Bonds Outstanding by Contractual Maturity or Next Call Date (in thousands)            
Year of Contractual Maturity or Next Call Date
 
September 30, 2013
 
December 31, 2012
Due in 1 year or less
 
$
42,231,500

 
$
24,370,450

Due after 1 year through 2 years
 
3,228,000

 
11,466,500

Due after 2 years through 3 years
 
2,697,000

 
1,936,000

Due after 3 years through 4 years
 
1,934,000

 
1,860,000

Due after 4 years through 5 years
 
2,130,000

 
1,907,000

Thereafter
 
3,872,000

 
2,627,000

Index amortizing notes
 
35,522

 
56,162

Total par value
 
$
56,128,022

 
$
44,223,112


Table 12.5 - Consolidated Bonds by Interest-rate Payment Type (in thousands)
 
September 30, 2013
 
December 31, 2012
Par value of Consolidated Bonds:
 
 
 
Fixed-rate
$
26,878,022

 
$
29,393,112

Variable-rate
29,250,000

 
14,830,000

Total par value
$
56,128,022

 
$
44,223,112


At September 30, 2013 and December 31, 2012, 17 percent and 26 percent, respectively, of the FHLBank's fixed-rate Consolidated Bonds were swapped to a variable rate.

Concessions on Consolidated Obligations. Unamortized concessions included in other assets were (in thousands) $14,222 and $14,299 at September 30, 2013 and December 31, 2012. The amortization of these concessions is included in Consolidated Obligation interest expense and totaled (in thousands) $1,567 and $7,916 during the three months ended September 30, 2013 and 2012, respectively, and (in thousands) $5,194 and $18,149 during the nine months ended September 30, 2013 and 2012, respectively.


Note 13 - Affordable Housing Program (AHP)

Table 13.1 - Analysis of the FHLBank's AHP Liability (in thousands)
Balance at December 31, 2012
$
82,672

Expense (current year additions)
22,379

Subsidy uses, net
(16,926
)
Balance at September 30, 2013
$
88,125


30



Note 14 - Capital

Table 14.1 - Capital Requirements (dollars in thousands)
 
September 30, 2013
 
December 31, 2012
 
Required
 
Actual
 
Required
 
Actual
 
 
 
 
 
 
 
 
Risk-based capital
$
639,914

 
$
5,426,139

 
$
488,754

 
$
4,759,331

Capital-to-assets ratio (regulatory)
4.00
%
 
5.62
%
 
4.00
%
 
5.84
%
Regulatory capital
$
3,863,422

 
$
5,426,139

 
$
3,262,486

 
$
4,759,331

Leverage capital-to-assets ratio (regulatory)
5.00
%
 
8.43
%
 
5.00
%
 
8.75
%
Leverage capital
$
4,829,278

 
$
8,139,209

 
$
4,078,108

 
$
7,138,997


Restricted Retained Earnings. At September 30, 2013 and December 31, 2012 the FHLBank had (in thousands) $98,037 and $58,628 in restricted retained earnings. These restricted retained earnings are not available to pay dividends but are available to absorb unexpected losses, if any, that the FHLBank may experience.

Table 14.2 - Mandatorily Redeemable Capital Stock Roll Forward (in thousands)
Balance, December 31, 2012
$
210,828

Capital stock subject to mandatory redemption reclassified
   from equity:
 
Withdrawals
15,848

Other redemptions
3,607

Redemption (or other reduction) of mandatorily redeemable
   capital stock:
 
Withdrawals
(105,514
)
Other redemptions
(3,607
)
Balance, September 30, 2013
$
121,162


Table 14.3 - Mandatorily Redeemable Capital Stock by Contractual Year of Redemption (in thousands)
Contractual Year of Redemption
 
September 30, 2013
 
December 31, 2012
Due in 1 year or less
 
$
2,096

 
$
1,750

Due after 1 year through 2 years
 
116,960

 
207,439

Due after 2 years through 3 years
 
—

 
130

Due after 3 years through 4 years
 
—

 
—

Due after 4 years through 5 years
 
863

 
—

Past contractual redemption date due to remaining activity(1)
 
1,243

 
1,509

Total par value
 
$
121,162

 
$
210,828


(1)
Represents mandatorily redeemable capital stock that is past the end of the contractual redemption period because there is activity outstanding to which the mandatorily redeemable capital stock relates.



31

Note 15 - Accumulated Other Comprehensive (Loss) Income

The following tables summarize the changes in accumulated other comprehensive (loss) income for the three and nine months ended September 30, 2013 and 2012.

Table 15.1 - Accumulated Other Comprehensive (Loss) Income (in thousands)
 
Net unrealized gains (losses) on available-for-sale securities
 
Pension and postretirement benefits
 
Total accumulated other comprehensive (loss) income
BALANCE JUNE 30, 2012
$
54

 
$
(9,302
)
 
$
(9,248
)
Other comprehensive income before reclassification:
 
 
 
 
 
Net unrealized losses
(54
)
 
—

 
(54
)
Reclassifications from other comprehensive income to net income:
 
 
 
 
 
Amortization - pension and postretirement benefits
—

 
30

 
30

Net current period other comprehensive income
(54
)
 
30

 
(24
)
BALANCE SEPTEMBER 30, 2012
$
—

 
$
(9,272
)
 
$
(9,272
)
 
 
 
 
 
 
 
 
 
 
 
 
BALANCE JUNE 30, 2013
$
5

 
$
(10,802
)
 
$
(10,797
)
Other comprehensive income before reclassification:
 
 
 
 
 
Net unrealized losses
(33
)
 
—

 
(33
)
Reclassifications from other comprehensive income to net income:
 
 
 
 
 
Amortization - pension and postretirement benefits
—

 
576

 
576

Net current period other comprehensive income
(33
)
 
576

 
543

BALANCE SEPTEMBER 30, 2013
$
(28
)
 
$
(10,226
)
 
$
(10,254
)

 
Net unrealized (losses) gains on available-for-sale securities
 
Pension and postretirement benefits
 
Total accumulated other comprehensive (loss) income
BALANCE, DECEMBER 31, 2011
$
(1,014
)
 
$
(9,987
)
 
$
(11,001
)
Other comprehensive income before reclassification:
 
 
 
 
 
Net unrealized gains
1,014

 
—

 
1,014

Reclassifications from other comprehensive income to net income:
 
 
 
 
 
Amortization - pension and postretirement benefits
—

 
715

 
715

Net current period other comprehensive income
1,014

 
715

 
1,729

BALANCE SEPTEMBER 30, 2012
$
—

 
$
(9,272
)
 
$
(9,272
)
 
 
 
 
 
 
 
 
 
 
 
 
BALANCE, DECEMBER 31, 2012
$
—

 
$
(11,734
)
 
$
(11,734
)
Other comprehensive income before reclassification:
 
 
 
 
 
Net unrealized losses
(28
)
 
—

 
(28
)
Reclassifications from other comprehensive income to net income:
 
 
 
 
 
Amortization - pension and postretirement benefits
—

 
1,508

 
1,508

Net current period other comprehensive income
(28
)
 
1,508

 
1,480

BALANCE SEPTEMBER 30, 2013
$
(28
)
 
$
(10,226
)
 
$
(10,254
)
 


32

Note 16 - Pension and Postretirement Benefit Plans

Qualified Defined Benefit Multi-employer Plan. The FHLBank participates in the Pentegra Defined Benefit Plan for Financial Institutions (Pentegra Defined Benefit Plan), a tax-qualified defined benefit pension plan. Under the Pentegra Defined Benefit Plan, contributions made by one participating employer may be used to provide benefits to employees of other participating employers because assets contributed by an employer are not segregated in a separate account or restricted to provide benefits only to employees of that employer. Also, in the event a participating employer is unable to meet its contribution requirements, the required contributions for the other participating employers could increase proportionately. The Pentegra Defined Benefit Plan covers substantially all officers and employees of the FHLBank who meet certain eligibility requirements. Contributions to the Pentegra Defined Benefit Plan charged to compensation and benefit expense were $1,500,000 and $917,000 in the three months ended September 30, 2013 and 2012, respectively, and $3,958,000 and $3,096,000 in the nine months ended September 30, 2013 and 2012, respectively.

Qualified Defined Contribution Plan. The FHLBank also participates in the Pentegra Defined Contribution Plan for Financial Institutions, a tax-qualified, defined contribution pension plan. The FHLBank contributes a percentage of the participants' compensation by making a matching contribution equal to a percentage of voluntary employee contributions, subject to certain limitations. The FHLBank contributed $191,000 and $186,000 in the three months ended September 30, 2013 and 2012, respectively, and $715,000 and $700,000 in the nine months ended September 30, 2013 and 2012, respectively.

Nonqualified Supplemental Defined Benefit Retirement Plan. The FHLBank maintains a nonqualified, unfunded defined benefit plan. The plan ensures that participants receive the full amount of benefits to which they would have been entitled under the qualified defined benefit plan in the absence of limits on benefit levels imposed by the IRS. There are no funded plan assets. The FHLBank has established a grantor trust to meet future benefit obligations and current payments to beneficiaries.

Postretirement Benefits Plan. The FHLBank also sponsors a postretirement benefits plan that includes health care and life insurance benefits for eligible retirees. Future retirees are eligible for the postretirement benefits plan if they were hired prior to August 1, 1990, are age 55 or older, and their age plus years of continuous service at retirement are greater than or equal to 80. Spouses are covered subject to required contributions. There are no funded plan assets that have been designated to provide postretirement benefits.

Table 16.1 - Net Periodic Benefit Cost (in thousands)
 
Three Months Ended September 30,
 
Defined Benefit
Retirement Plan
 
Postretirement Benefits Plan
 
2013
 
2012
 
2013
 
2012
Net Periodic Benefit Cost
 
 
 
 
 
 
 
Service cost
$
145

 
$
156

 
$
15

 
$
23

Interest cost
240

 
215

 
50

 
37

Amortization of net loss
561

 
27

 
15

 
3

Net periodic benefit cost
$
946

 
$
398

 
$
80

 
$
63

 
 
 
 
 
 
 
 
 
Nine Months Ended September 30,
 
Defined Benefit
Retirement Plan
 
Postretirement Benefits Plan
Net Periodic Benefit Cost
2013
 
2012
 
2013
 
2012
Service cost
$
370

 
$
434

 
$
43

 
$
54

Interest cost
740

 
722

 
149

 
150

Amortization of net loss
1,461

 
698

 
47

 
17

Net periodic benefit cost
$
2,571

 
$
1,854

 
$
239

 
$
221




33

Note 17 - Segment Information

The FHLBank has identified two primary operating segments based on its method of internal reporting: Traditional Member Finance and the MPP. These segments reflect the FHLBank's two primary Mission Asset Activities and the manner in which they are managed from the perspective of development, resource allocation, product delivery, pricing, credit risk and operational administration. The segments identify the principal ways the FHLBank provides services to member stockholders.

Table 17.1 - Financial Performance by Operating Segment (in thousands)
 
Three Months Ended September 30,
 
Traditional Member
Finance
 
MPP
 
Total
2013
 
 
 
 
 
Net interest income
$
65,128

 
$
25,626

 
$
90,754

Reversal for credit losses
—

 
(950
)
 
(950
)
Net interest income after reversal for credit losses
65,128

 
26,576

 
91,704

Other income (loss)
5,638

 
(1,452
)
 
4,186

Other expenses
13,752

 
2,374

 
16,126

Income before assessments
57,014

 
22,750

 
79,764

Affordable Housing Program assessments
5,834

 
2,275

 
8,109

Net income
$
51,180

 
$
20,475

 
$
71,655

Average assets
$
88,916,887

 
$
6,944,511

 
$
95,861,398

Total assets
$
89,732,364

 
$
6,853,195

 
$
96,585,559

 
 
 
 
 
 
2012
 
 
 
 
 
Net interest income
$
52,856

 
$
30,441

 
$
83,297

Reversal for credit losses
—

 
(500
)
 
(500
)
Net interest income after reversal for credit losses
52,856

 
30,941

 
83,797

Other (loss) income
(9,359
)
 
5,188

 
(4,171
)
Other expenses
13,097

 
1,972

 
15,069

Income before assessments
30,400

 
34,157

 
64,557

Affordable Housing Program assessments
3,303

 
3,416

 
6,719

Net income
$
27,097

 
$
30,741

 
$
57,838

Average assets
$
59,428,906

 
$
8,073,916

 
$
67,502,822

Total assets
$
59,292,700

 
$
7,878,311

 
$
67,171,011


34

 
 
 
 
 
 
 
Nine Months Ended September 30,
 
Traditional Member
Finance
 
MPP
 
Total
2013
 
 
 
 
 
Net interest income
$
169,499

 
$
75,925

 
$
245,424

Reversal for credit losses
—

 
(7,450
)
 
(7,450
)
Net interest income after reversal for credit losses
169,499

 
83,375

 
252,874

Other income (loss)
23,074

 
(9,715
)
 
13,359

Other expenses
40,251

 
6,558

 
46,809

Income before assessments
152,322

 
67,102

 
219,424

Affordable Housing Program assessments
15,669

 
6,710

 
22,379

Net income
$
136,653

 
$
60,392

 
$
197,045

Average assets
$
84,254,256

 
$
7,157,521

 
$
91,411,777

Total assets
$
89,732,364

 
$
6,853,195

 
$
96,585,559

 
 
 
 
 
 
2012
 
 
 
 
 
Net interest income
$
145,427

 
$
71,424

 
$
216,851

Provision for credit losses
—

 
910

 
910

Net interest income after provision for credit losses
145,427

 
70,514

 
215,941

Other income
13,747

 
3,589

 
17,336

Other expenses
37,489

 
5,866

 
43,355

Income before assessments
121,685

 
68,237

 
189,922

Affordable Housing Program assessments
13,045

 
6,824

 
19,869

Net income
$
108,640

 
$
61,413

 
$
170,053

Average assets
$
57,009,859

 
$
8,081,309

 
$
65,091,168

Total assets
$
59,292,700

 
$
7,878,311

 
$
67,171,011



Note 18 - Fair Value Disclosures

The fair value amounts recorded on the Statements of Condition and presented in the related note disclosures have been determined by the FHLBank using available market information and the FHLBank's best judgment of appropriate valuation methods. The fair values reflect the FHLBank's judgment of how a market participant would estimate the fair values.

Fair Value Hierarchy. The FHLBank records trading securities, available-for-sale securities, derivative assets, derivative liabilities and certain Consolidated Obligation Bonds at fair value on a recurring basis. The fair value hierarchy requires an entity to maximize the use of observable inputs and minimize the use of unobservable inputs when measuring fair value. The inputs are evaluated and an overall level for the measurement is determined. This overall level is an indication of how market observable the fair value measurement is. An entity must disclose the level within the fair value hierarchy in which the measurements are classified.

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 reporting entity 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: (1) quoted prices for similar assets or liabilities in active markets; (2) quoted prices for identical or similar assets or liabilities in markets that are not active; (3) inputs other than quoted prices that are observable for the asset or liability (e.g., interest rates and yield curves that are observable at commonly quoted intervals, and implied volatilities); and (4) inputs that are derived principally from or corroborated by observable market data by correlation or other means.

35


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

The FHLBank reviews the fair value hierarchy classifications on a quarterly basis. Changes in the observability of the valuation inputs may result in a reclassification of certain financial assets or liabilities. Such reclassifications are reported as transfers in/out at fair value as of the beginning of the quarter in which the changes occur. The FHLBank did not have any transfers of assets or liabilities recorded at fair value on a recurring basis during the nine months ended September 30, 2013 or 2012.

Table 18.1 presents the carrying value, fair value, and fair value hierarchy of financial assets and liabilities of the FHLBank. These values do not represent an estimate of the overall market value of the FHLBank as a going concern, which would take into account future business opportunities and the net profitability of assets versus liabilities.
 
Table 18.1 - Fair Value Summary (in thousands)
 
September 30, 2013
 
 
 
Fair Value
Financial Instruments
Carrying Value
 
Total
 
Level 1
 
Level 2
 
Level 3
 
Netting Adjustments and Cash Collateral (1) 
Assets:
 
 
 
 
 
 
 
 
 
 
 
Cash and due from banks
$
1,142,524

 
$
1,142,524

 
$
1,142,524

 
$
—

 
$
—

 
$
—

Interest-bearing deposits
185

 
185

 
—

 
185

 
—

 
—

Securities purchased under resale
agreements
3,050,000

 
3,050,000

 
—

 
3,050,000

 
—

 
—

Federal funds sold
2,380,000

 
2,380,000

 
—

 
2,380,000

 
—

 
—

Trading securities
1,667

 
1,667

 
—

 
1,667

 
—

 
—

Available-for-sale securities
1,834,972

 
1,834,972

 
—

 
1,834,972

 
—

 
—

Held-to-maturity securities
15,375,072

 
15,304,919

 
—

 
15,304,919

 
—

 
—

Advances
65,856,894

 
65,592,568

 
—

 
65,592,568

 
—

 
—

Mortgage loans held for portfolio,
net
6,827,745

 
6,942,804

 
—

 
6,885,917

 
56,887

 
—

Accrued interest receivable
83,484

 
83,484

 
—

 
83,484

 
—

 
—

Derivative assets
4,049

 
4,049

 
—

 
45,210

 
—

 
(41,161
)
 
 
 
 
 
 
 
 
 
 
 
 
Liabilities:
 
 
 
 
 
 
 
 
 
 
 
Deposits
901,812

 
901,706

 
—

 
901,706

 
—

 
—

Consolidated Obligations:
 
 
 
 
 
 
 
 
 
 
 
Discount Notes
33,541,681

 
33,532,588

 
—

 
33,532,588

 
—

 
—

Bonds (2)
56,251,288

 
56,313,641

 
—

 
56,313,641

 
—

 
—

Mandatorily redeemable capital
stock
121,162

 
121,162

 
121,162

 
—

 
—

 
—

Accrued interest payable
110,228

 
110,228

 
—

 
110,228

 
—

 
—

Derivative liabilities
120,311

 
120,311

 
—

 
260,672

 
—

 
(140,361
)
 
 
 
 
 
 
 
 
 
 
 
 
Other:
 
 
 
 
 
 
 
 
 
 
 
Standby bond purchase agreements
—

 
4,549

 
—

 
4,549

 
—

 
—

(1)
    Amounts represent the application of the netting requirements that allow the FHLBank to settle positive and negative positions and also cash collateral and related accrued interest held or placed by the FHLBank with the same counterparty.
(2)
    Includes (in thousands) $3,101,693 of Consolidated Bonds recorded under the fair value option at September 30, 2013.


36

 
December 31, 2012
 
 
 
Fair Value
Financial Instruments
Carrying Value
 
Total
 
Level 1
 
Level 2
 
Level 3
 
Netting Adjustments and Cash Collateral (1) 
Assets:
 
 
 
 
 
 
 
 
 
 
 
Cash and due from banks
$
16,423

 
$
16,423

 
$
16,423

 
$
—

 
$
—

 
$
—

Interest-bearing deposits
151

 
151

 
—

 
151

 
—

 
—

Securities purchased under resale agreements
3,800,000


3,800,000

 
—

 
3,800,000

 
—

 
—

Federal funds sold
3,350,000

 
3,350,000

 
—

 
3,350,000

 
—

 
—

Trading securities
1,922

 
1,922

 
—

 
1,922

 
—

 
—

Held-to-maturity securities
12,798,448

 
13,177,117

 
—

 
13,177,117

 
—

 
—

Advances
53,943,961

 
54,070,350

 
—

 
54,070,350

 
—

 
—

Mortgage loans held for portfolio, net
7,530,112

 
7,860,090

 
—

 
7,790,290

 
69,800

 
—

Accrued interest receivable
83,904

 
83,904

 
—

 
83,904

 
—

 
—

Derivative assets
5,877

 
5,877

 
—

 
69,677

 
—

 
(63,800
)
 
 
 
 
 
 
 
 
 
 
 
 
Liabilities:
 
 
 
 
 
 
 
 
 
 
 
Deposits
1,176,605

 
1,176,474

 
—

 
1,176,474

 
—

 
—

Consolidated Obligations:
 
 
 
 
 
 
 
 
 
 
 
Discount Notes
30,840,224

 
30,843,064

 
—

 
30,843,064

 
—

 
—

Bonds (2)
44,345,917

 
45,069,294

 
—

 
45,069,294

 
—

 
—

Mandatorily redeemable capital stock
210,828

 
210,828

 
210,828

 
—

 
—

 
—

Accrued interest payable
106,885

 
106,885

 
—

 
106,885

 
—

 
—

Derivative liabilities
114,888

 
114,888

 
—

 
389,473

 
—

 
(274,585
)
 
 
 
 
 
 
 
 
 
 
 
 
Other:
 
 
 
 
 
 
 
 
 
 
 
Standby bond purchase agreements
—

 
1,198

 
—

 
1,198

 
—

 
—

(1)
Amounts represent the application of the netting requirements that allow the FHLBank to settle positive and negative positions and also cash collateral and related accrued interest held or placed by the FHLBank with the same counterparty.
(2)
Includes (in thousands) $3,402,366 of Consolidated Bonds recorded under the fair value option at December 31, 2012.

Summary of Valuation Methodologies and Primary Inputs.

Cash and due from banks: The fair value equals the carrying value.

Interest-bearing deposits: The fair value is determined based on each security's quoted prices, excluding accrued interest, as of the last business day of the period.

Securities purchased under agreements to resell: The fair value approximates the carrying value. Based on the fair value of the related collateral held, the securities purchased under agreements to resell were fully collateralized for the periods presented.

Federal funds sold: The fair value of overnight Federal funds sold approximates the carrying value. The fair value of term Federal funds sold is determined by calculating the present value of the expected future cash flows. The discount rates used in these calculations are the rates for Federal funds with similar terms, as approximated by adding an estimated current spread to the LIBOR Swap Curve for Federal funds with similar terms. The fair value excludes accrued interest.


37

Trading securities: The FHLBank's trading portfolio generally consists of mortgage-backed securities issued by Ginnie Mae. Quoted market prices in active markets are not available for these securities.

To value mortgage-backed security holdings, the FHLBank obtains prices from four designated third-party pricing vendors when available. The pricing vendors use various proprietary models to price mortgage-backed securities. The inputs to those models are derived from various sources including, but not limited to: benchmark yields, reported trades, dealer estimates, issuer spreads, benchmark securities, bids, offers and other market-related data. Because many mortgage-backed securities do not trade on a daily basis, the pricing vendors use available information such as benchmark curves, benchmarking of like securities, sector groupings and matrix pricing to determine the prices for individual securities. Each pricing vendor has an established challenge process in place for all mortgage-backed security valuations, which facilitates resolution of potentially erroneous prices identified by the FHLBank.

The FHLBank has conducted reviews of the pricing methods employed by the third-party vendors, to confirm and further augment its understanding of the vendors' pricing processes, methodologies and control procedures for specific instruments.

The FHLBank's valuation technique first requires the establishment of a “median” price for each security. If four prices are received, the average of the middle two prices is the median price; if three prices are received, the middle price is the median price; if two prices are received, the average of the two prices is the median price; and if one price is received, it is the median price (and also the final price) subject to validation. 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, non-binding dealer estimates, and/or use of an internal model that is deemed most appropriate) 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 is 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.

If all prices received for a security are outside the tolerance threshold level of the median price, then there is no default price, and the final price is determined by an evaluation of all outlier prices as described above.

Four vendor prices were received for most of the FHLBank's mortgage-backed security holdings and the final prices for those securities were computed by averaging the prices received. Based on the FHLBank'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 FHLBank believes its final prices result in reasonable estimates of fair value and further that the fair value measurements are classified appropriately in the fair value hierarchy.

Available-for-sale securities: The FHLBank's available-for-sale portfolio generally consists of certificates of deposit. Quoted market prices in active markets are not available for these securities. Therefore, the fair value is determined based on each security's indicative fair value obtained from a third-party vendor. The FHLBank performs several validation steps in order to verify the accuracy and reasonableness of these fair values. These steps may include, but are not limited to, a detailed review of instruments with significant periodic price changes and a derived fair value from an option-adjusted discounted cash flow methodology using market-observed inputs for the interest rate environment and similar instruments.

Held-to-maturity securities: The FHLBank's held-to-maturity portfolio generally consists of discount notes issued by Freddie Mac and/or Fannie Mae (non-mortgage-backed securities), and mortgage-backed securities. Quoted market prices are not available for these securities. The fair value for each individual mortgage-backed security is determined by using the third-party vendor approach described above. In general, in order to determine the fair value of its non-mortgage backed securities, the FHLBank can use either (a) an income approach based on a market-observable interest rate curve that may be adjusted for a spread, or (b) prices received from third-party pricing vendors. The income approach uses indicative fair values derived from a discounted cash flow methodology. The FHLBank believes that both methodologies result in fair values that are reasonable and similar in all material respects based on the nature of the financial instruments being measured.

For its discount notes issued by Freddie Mac, and/or Fannie Mae, the FHLBank determines the fair value using the income approach. The market-observable interest rate curve used by the FHLBank includes the U.S. Government Agency Fair Value Curve.
 

38

Advances: The FHLBank determines the fair values of Advances by calculating the present value of expected future cash flows from the Advances excluding accrued interest. The discount rates used in these calculations are the replacement rates for Advances with similar terms, as approximated either by adding an estimated current spread to the LIBOR Swap Curve or by using current indicative market yields, as indicated by the FHLBank's pricing methodologies for Advances with similar current terms. Advance pricing is determined based on the FHLBank's rates on Consolidated Obligations. In accordance with Finance Agency Regulations, Advances with a maturity and repricing period greater than six months require a prepayment fee sufficient to make the FHLBank financially indifferent to the borrower's decision to prepay the Advances. Therefore, the fair value of Advances does not assume prepayment risk.

For swapped option-based Advances, the fair value is determined (independently of the related derivative) by the discounted cash flow methodology based on the LIBOR Swap Curve and forward rates at period end adjusted for the estimated current spread on new swapped Advances to the swap curve. For swapped Advances with a conversion option, the conversion option is valued by taking into account the LIBOR Swap Curve and forward rates at period end and the market's expectations of future interest rate volatility implied from current market prices of similar options.

Mortgage loans held for portfolio, net: The fair values of performing mortgage loans are determined based on quoted market prices offered to approved members as indicated by the FHLBank's MPP pricing methodologies for mortgage loans with similar current terms excluding accrued interest. The quoted prices offered to members are based on Fannie Mae price indications on to-be-announced (TBA) mortgage-backed securities and FHA price indications on government-guaranteed loans. The FHLBank then adjusts these indicative prices to account for particular features of the FHLBank's MPP that differ from the Fannie Mae and FHA securities. These features include, but may not be limited to the MPP's credit enhancements, and marketing adjustments that reflect the FHLBank's cooperative business model and preferences for particular kinds of loans and mortgage note rates. These quoted prices, however, can change rapidly based upon market conditions and are highly dependent upon the underlying prepayment assumptions. In order to determine the fair values, the loan amounts are also reduced for the FHLBank's estimate of expected net credit losses. The fair value of non-performing conventional mortgage loans are based on the estimated values of the underlying collateral or the present value of future cash flows and as such are classified as Level 3 in the fair value hierarchy.

Accrued interest receivable and payable: The fair value approximates the carrying value.

Derivative assets/liabilities: The FHLBank's derivative assets/liabilities generally consist of interest rate swaps, TBA mortgage-backed securities (forward rate agreements), and mortgage delivery commitments. The FHLBank's interest rate swaps are not listed on an exchange. Therefore, the FHLBank determines the fair value of each individual interest rate swap using market value models that use readily observable market inputs as their basis (inputs that are actively quoted and can be validated to external sources). The FHLBank uses a mid-market pricing convention as a practical expedient for fair value measurements within a bid-ask spread. These models reflect the contractual terms of the interest rate swaps, including the period to maturity, as well as the significant inputs noted below. The fair value determination uses the standard valuation technique of discounted cash flow analysis.

The FHLBank performs several validation steps to verify the reasonableness of the fair value output generated by the primary market value model. In addition to an annual model validation, the FHLBank prepares a monthly reconciliation of the model's fair values to estimates of fair values provided by the derivative counterparties. The FHLBank believes these processes provide a reasonable basis for it to place continued reliance on the derivative fair values generated by the model.

The fair value of TBA mortgage-backed securities is based on independent indicative and/or quoted prices generated by market transactions involving comparable instruments. The FHLBank determines the fair value of mortgage delivery commitments using market prices from the TBA/mortgage-backed security market or TBA/Ginnie Mae market and adjustments noted below.

The FHLBank's discounted cash flow analysis uses market-observable inputs. Inputs, by class of derivative, are as follows:

Interest-rate swaps:
▪
Forward interest rate assumption. LIBOR Swap Curve;
▪
Discount rate assumption. Overnight Index Swap Curve; and
▪
Volatility assumption. Market-based expectations of future interest rate volatility implied from current market prices for similar options.


39

TBA mortgage-backed securities:
▪
Market-based prices by coupon class and expected term until settlement.

Mortgage delivery commitments:
▪
TBA price. Market-based prices of TBAs by coupon class and expected term until settlement, adjusted to reflect the contractual terms of the mortgage delivery commitments, similar to the mortgage loans held for portfolio process. The adjustments to the market prices are market observable, or can be corroborated with observable market data.

The FHLBank is subject to credit risk in derivatives transactions due to potential nonperformance by its derivatives counterparties, all of which are highly-rated institutions. To mitigate this risk, the FHLBank has entered into master netting agreements with all of its derivative counterparties. In addition, to limit the FHLBank's net unsecured credit exposure to these counterparties, the FHLBank has entered into bilateral security agreements with all active derivatives dealer counterparties that provide for delivery of collateral at specified levels. The FHLBank has evaluated the potential for the fair value of the instruments to be impacted by counterparty credit risk and has determined that no adjustments were significant or necessary to the overall fair value measurements at September 30, 2013 or December 31, 2012.

The fair values of the FHLBank's derivatives 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 counterparty pursuant to the provisions of the FHLBank's master netting agreements. If these netted amounts are positive, they are classified as an asset and if negative, they are classified as a liability.

Deposits: The FHLBank determines the fair values of FHLBank deposits with fixed rates by calculating the present value of expected future cash flows from the deposits and reducing this amount for accrued interest payable. The discount rates used in these calculations are the cost of deposits with similar terms.

Consolidated Obligations: The FHLBank determines the fair values of Discount Notes by calculating the present value of expected future cash flows from the Discount Notes excluding accrued interest. The discount rates used in these calculations are current replacement rates for Discount Notes with similar current terms, as approximated by adding an estimated current spread to the LIBOR Swap Curve. Each month's cash flow is discounted at that month's replacement rate.

The FHLBank determines the fair values of non-callable Consolidated Obligation Bonds (both unswapped and swapped) by calculating the present value of scheduled future cash flows from the bonds excluding accrued interest. Inputs used to determine fair value of these Consolidated Obligation Bonds are as follows:

▪
The discount rates used, which are estimated current market yields, as indicated by the Office of Finance, for bonds with similar current terms. 

The FHLBank determines the fair values of callable Consolidated Obligation Bonds (both unswapped and swapped) by calculating the present value of expected future cash flows from the bonds excluding accrued interest. The fair values are determined by the discounted cash flow methodology based on the following inputs for these Consolidated Obligations:

▪
LIBOR Swap Curve;
▪
Volatility assumption. Market-based expectations of future interest rate volatility implied from current market prices for similar options; and
▪
Spread adjustment. Represents an adjustment to the curve.
 
Adjustments may be necessary to reflect the 12 FHLBanks' credit quality when valuing Consolidated Obligation Bonds measured at fair value. Due to the joint and several liability for Consolidated Obligations, the FHLBank monitors its own creditworthiness and the creditworthiness of the other FHLBanks to determine whether any credit adjustments are necessary in its fair value measurement of Consolidated Obligation Bonds. No adjustments were considered necessary at September 30, 2013 or December 31, 2012.

Mandatorily redeemable capital stock: The fair value of capital stock subject to mandatory redemption is par value for the dates presented, as indicated by member contemporaneous purchases and sales at par value. FHLBank stock can only be acquired by members at par value and redeemed at par value. FHLBank stock is not traded and no market mechanism exists for the exchange of stock outside the cooperative structure. 

40


Commitments: The fair values of standby bond purchase agreements are based on the present value of the estimated fees taking into account the remaining terms of the agreements.

Subjectivity of estimates. Estimates of the fair values of financial assets and liabilities using the methods described above and other methods are highly subjective and require judgments regarding significant matters such as the amount and timing of future cash flows, prepayment speeds, interest rate volatility, distributions of future interest rates used to value options, and discount rates that appropriately reflect market and credit risks. The judgments also include the parameters, methods, and assumptions used in models to value the options. The use of different assumptions could have a material effect on the fair value estimates. Since these estimates are made as of a specific point in time, they are susceptible to material near term changes.

Fair Value Measurements.

Table 18.2 presents the fair value of financial assets and liabilities, which are recorded on a recurring basis at September 30, 2013 or December 31, 2012, by level within the fair value hierarchy.

Table 18.2 - Fair Value Measurements (in thousands)

 
Fair Value Measurements at September 30, 2013
 
Total  
 
Level 1
 
Level 2
 
Level 3
 
Netting Adjustment and Cash Collateral (1)
Recurring Fair Value Measurements - Assets
 
 
 
 
 
 
 
 
 
Trading securities:
 
 
 
 
 
 
 
 
 
Other U.S. obligation residential mortgage-backed securities
$
1,667

 
$
—

 
$
1,667

 
$
—

 
$
—

Available-for-sale securities:
 
 
 
 
 
 
 
 
 
Certificates of deposit
1,834,972

 
—

 
1,834,972

 
—

 
—

Derivative assets:
 
 
 
 
 
 
 
 
 
Interest rate swaps
3,130

 
—

 
44,291

 
—

 
(41,161
)
Mortgage delivery commitments
919

 
—

 
919

 
—

 
—

Total derivative assets
4,049

 
—

 
45,210

 
—

 
(41,161
)
Total assets at fair value
$
1,840,688

 
$
—

 
$
1,881,849

 
$
—

 
$
(41,161
)
 
 
 
 
 
 
 
 
 
 
Recurring Fair Value Measurements - Liabilities
 
 
 
 
 
 
 
 
 
Consolidated Obligation Bonds (2)
$
3,101,693

 
$
—

 
$
3,101,693

 
$
—

 
$
—

Derivative liabilities:
 
 
 
 
 
 
 
 
 
Interest rate swaps
118,890

 
—

 
259,251

 
—

 
(140,361
)
Forward rate agreement
1,417

 
—

 
1,417

 
—

 
—

Mortgage delivery commitments
4

 
—

 
4

 
—

 
—

Total derivative liabilities
120,311

 
—

 
260,672

 
—

 
(140,361
)
Total liabilities at fair value
$
3,222,004

 
$
—

 
$
3,362,365

 
$
—

 
$
(140,361
)
(1)
Amounts represent the application of the netting requirements that allow the FHLBank to settle positive and negative positions and also cash collateral and related accrued interest held or placed by the FHLBank with the same counterparty.
(2)
Represents Consolidated Obligation Bonds recorded under the fair value option.



41

 
Fair Value Measurements at December 31, 2012
 
Total  
 
Level 1
 
Level 2
 
Level 3
 
Netting Adjustment and Cash Collateral (1)
Recurring Fair Value Measurements - Assets
 
 
 
 
 
 
 
 
 
Trading securities:
 
 
 
 
 
 
 
 
 
Other U.S. obligation residential mortgage-backed securities
$
1,922

 
$
—

 
$
1,922

 
$
—

 
$
—

Derivative assets:
 
 
 
 
 
 
 
 
 
Interest rate swaps
5,722

 
—

 
69,522

 
—

 
(63,800
)
Mortgage delivery commitments
155

 
—

 
155

 
—

 
—

Total derivative assets
5,877

 
—

 
69,677

 
—

 
(63,800
)
Total assets at fair value
$
7,799

 
$
—

 
$
71,599

 
$
—

 
$
(63,800
)
 
 
 
 
 
 
 
 
 
 
Recurring Fair Value Measurements - Liabilities
 
 
 
 
 
 
 
 
 
Consolidated Obligation Bonds (2)
$
3,402,366

 
$
—

 
$
3,402,366

 
$
—

 
$
—

Derivative liabilities:
 
 
 
 
 
 
 
 
 
Interest rate swaps
114,304

 
—

 
388,889

 
—

 
(274,585
)
Mortgage delivery commitments
584

 
—

 
584

 
—

 
—

Total derivative liabilities
114,888

 
—

 
389,473

 
—

 
(274,585
)
Total liabilities at fair value
$
3,517,254

 
$
—

 
$
3,791,839

 
$
—

 
$
(274,585
)

(1)
Amounts represent the application of the netting requirements that allow the FHLBank to settle positive and negative positions and also cash collateral and related accrued interest held or placed by the FHLBank with the same counterparty.
(2)
Represents Consolidated Obligation Bonds recorded under the fair value option.

Fair Value Option. The fair value option provides an irrevocable option to elect fair value as an alternative measurement for selected financial assets, financial liabilities, unrecognized firm commitments, and written loan commitments not previously carried at fair value. It requires a company to display the fair value of those assets and liabilities for which it has chosen to use fair value on the face of the Statements of Condition. Fair value is used for both the initial and subsequent measurement of the designated assets, liabilities and commitments, with the changes in fair value recognized in net income. If elected, interest income and interest expense on Advances and Consolidated Bonds carried at fair value are recognized based solely on the contractual amount of interest due or unpaid and any transaction fees or costs are immediately recognized into other non-interest income or other non-interest expense. Additionally, concessions paid on Consolidated Obligations designated under the fair value option are expensed as incurred in other non-interest expense.

The FHLBank has elected the fair value option for certain Consolidated Obligation Bond transactions. The FHLBank elected the fair value option for these transactions so as to mitigate the income statement volatility that can arise when only the corresponding derivatives are marked at fair value in transactions that do not, or may not, meet hedge effectiveness requirements or otherwise qualify for hedge accounting (i.e., economic hedging transactions).


42

Table 18.3 – Fair Value Option Financial Liabilities (in thousands)
 
Three Months Ended September 30,
 
2013
 
2012
 
Consolidated Bonds
 
Consolidated Bonds
Balance at beginning of period
$
(100,109
)
 
$
(4,687,996
)
New transactions elected for fair value option
(3,000,000
)
 
—

Maturities and terminations
—

 
1,435,000

Net losses on instruments held under fair value option
(819
)
 
(624
)
Change in accrued interest
(765
)
 
224

Balance at end of period
$
(3,101,693
)
 
$
(3,253,396
)
 
 
 
 
 
Nine Months Ended September 30,
 
2013
 
2012
 
Consolidated Bonds
 
Consolidated Bonds
Balance at beginning of period
$
(3,402,366
)
 
$
(4,900,296
)
New transactions elected for fair value option
(3,000,000
)
 
(2,365,000
)
Maturities and terminations
3,300,000

 
4,010,000

Net gains on instruments held under fair value option
68

 
1,811

Change in accrued interest
605

 
89

Balance at end of period
$
(3,101,693
)
 
$
(3,253,396
)

Table 18.4 – Changes in Fair Values for Items Measured at Fair Value Pursuant to the Election of the Fair Value Option (in thousands)
 
Three Months Ended September 30,
 
Nine Months Ended September 30,
 
2013
 
2012
 
2013
 
2012
 
Consolidated Bonds
 
Consolidated Bonds
 
Consolidated Bonds
 
Consolidated Bonds
Interest expense
$
(764
)
 
$
(2,264
)
 
$
(2,824
)
 
$
(7,463
)
Net (losses) gains on changes in fair value under fair value option
(819
)
 
(624
)
 
68

 
1,811

Total changes in fair value included in current period earnings
$
(1,583
)
 
$
(2,888
)
 
$
(2,756
)
 
$
(5,652
)

For instruments recorded under the fair value option, the related contractual interest income and contractual interest expense are recorded as part of net interest income on the Statement of Income. The remaining changes in fair value for instruments in which the fair value option has been elected are recorded as “Net (losses) gains on Consolidated Obligation Bonds held under fair value option” in the Statements of Income. The FHLBank has determined that no adjustments to the fair values of its instruments recorded under the fair value option for instrument-specific credit risk were necessary as of September 30, 2013 or December 31, 2012.

43


The following table reflects the difference between the aggregate unpaid principal balance outstanding and the aggregate fair value for Consolidated Bonds for which the fair value option has been elected.

Table 18.5 – Aggregate Unpaid Balance and Aggregate Fair Value (in thousands)
 
September 30, 2013
 
December 31, 2012
 
Aggregate Unpaid Principal Balance
 
Aggregate Fair Value
 
Fair Value Over/(Under) Aggregate Unpaid Principal Balance
 
Aggregate Unpaid Principal Balance
 
Aggregate Fair Value
 
Fair Value Over/(Under) Aggregate Unpaid Principal Balance
Consolidated Bonds
$
3,100,000

 
$
3,101,693

 
$
1,693

 
$
3,400,000

 
$
3,402,366

 
$
2,366


Note 19 - Commitments and Contingencies

Table 19.1 - Off-Balance Sheet Commitments (in thousands)
 
September 30, 2013
 
December 31, 2012
Notional Amount
Expire within one year
 
Expire after one year
 
Total
 
Expire within one year
 
Expire after one year
 
Total
Standby Letters of Credit outstanding
$
13,156,849

 
$
175,059

 
$
13,331,908

 
$
9,958,329

 
$
193,635

 
$
10,151,964

Commitments for standby bond purchases
—

 
289,350

 
289,350

 
313,055

 
66,760

 
379,815

Commitment to purchase mortgage loans
71,252

 
—

 
71,252

 
123,588

 
—

 
123,588

Unsettled Consolidated Bonds, at par (1)
280,000

 
—

 
280,000

 
110,000

 
—

 
110,000

Unsettled Consolidated Discount Notes, at par (1)
18,242

 
—

 
18,242

 
750,000

 
—

 
750,000

(1)
Expiration is based on settlement period rather than underlying contractual maturity of Consolidated Obligations.

Legal Proceedings. The FHLBank is subject to legal proceedings arising in the normal course of business. In March 2010, the FHLBank was advised by representatives of the Lehman Brothers Holdings, Inc. bankruptcy estate that they believed that the FHLBank had been unjustly enriched in connection with the close out of its interest rate swap transactions with Lehman at the time of the Lehman bankruptcy in 2008 and that the bankruptcy estate was entitled to the $43 million difference between the settlement amount the FHLBank paid Lehman in connection with the automatic early termination of those transactions and the market value payment the FHLBank received when replacing the swaps with new swaps transacted with other counterparties. In May 2010, the FHLBank received a Derivatives Alternative Dispute Resolution notice from the Lehman bankruptcy estate with a settlement demand of $65.8 million, plus interest accruing primarily at LIBOR plus 14.5 percent since the bankruptcy filing, based on their view of how the settlement amount should have been calculated. In accordance with the Alternative Dispute Resolution Order of the Bankruptcy Court administering the Lehman estate, senior management of the FHLBank participated in a non-binding mediation in New York in August 2010, and counsel for the FHLBank continued discussions with the court-appointed mediator for several weeks thereafter. The mediation concluded in October 2010 without a settlement of the claims asserted by the Lehman bankruptcy estate. In April 2013 Lehman Brothers Special Financing Inc., through Lehman Brothers Holdings Inc. and the Plan Administrator under the Modified Third Amended Joint Chapter 11 Plan of Lehman Brothers Holdings Inc. and Its Affiliated Debtors, filed an adversary complaint in the United States Bankruptcy Court for the Southern District of New York against the FHLBank seeking (a) a declaratory judgment on the interpretation of certain provisions and the calculation of amounts due under the agreement governing the 2008 swap transactions described above, and (b) additional amounts alleged as due as part of the termination of such transactions. The FHLBank believes that it correctly calculated, and fully satisfied its obligation to Lehman in September 2008, and the FHLBank intends to vigorously defend itself.

The FHLBank also is subject to other legal proceedings arising in the normal course of business. After consultation with legal counsel, management does not anticipate that the ultimate liability, if any, arising out of these matters will have a material effect on the FHLBank's financial condition or results of operations.
 
 
 
 
 
 
 


44

Note 20 - Transactions with Other FHLBanks

The FHLBank notes all transactions with other FHLBanks on the face of its financial statements. Occasionally, the FHLBank loans short-term funds to and borrows short-term funds from other FHLBanks. These loans and borrowings are transacted at then current market rates when traded. There were no such loans or borrowings outstanding at September 30, 2013 or December 31, 2012. The following table details the average daily balance of lending and borrowing between the FHLBank and other FHLBanks for the nine months ended September 30.

Table 20.1 - Lending and Borrowing Between the FHLBank and Other FHLBanks (in thousands)
 
Average Daily Balances for the Nine Months Ended September 30,
 
2013
 
2012
Loans to other FHLBanks
$
4,267

 
$
2,427

Borrowings from other FHLBanks
5,495

 
—


The FHLBank may, from time to time, assume the outstanding primary liability for Consolidated Obligations of another FHLBank (at then current market rates on the day when the transfer is traded) rather than issuing new debt for which the FHLBank is the primary obligor. The FHLBank then becomes the primary obligor on the transferred debt. There were no Consolidated Obligations transferred to the FHLBank during nine months ended September 30, 2013 or 2012. The FHLBank had no Consolidated Obligations transferred to other FHLBanks during these periods.


Note 21 - Transactions with Stockholders

Transactions with Directors' Financial Institutions. In the ordinary course of its business, the FHLBank may provide products and services to members whose officers or directors serve as directors of the FHLBank (Directors' Financial Institutions). Finance Agency Regulations require that transactions with Directors' Financial Institutions be made on the same terms as those with any other member. The following table reflects balances with Directors' Financial Institutions for the items indicated below.

Table 21.1 - Transactions with Directors' Financial Institutions (dollars in millions)
 
September 30, 2013
 
December 31, 2012
 
Balance
 
% of Total (1)
 
Balance
 
% of Total (1)
Advances
$
1,234

 
1.9
%
 
$
948

 
1.8
%
MPP
51

 
0.8

 
41

 
0.6

Mortgage-backed securities
—

 
—

 
—

 
—

Regulatory capital stock
239

 
5.0

 
229

 
5.4

Derivatives
—

 
—

 
—

 
—

(1)
Percentage of total principal (Advances), unpaid principal balance (MPP), principal balance (mortgage-backed securities), regulatory capital stock, and notional balances (derivatives).


45

Concentrations. The following table shows regulatory capital stock balances, outstanding Advance principal balances, and unpaid principal balances of mortgage loans held for portfolio at the dates indicated to stockholders holding five percent or more of regulatory capital stock and include any known affiliates that are members of the FHLBank.

Table 21.2 - Stockholders Holding Five Percent or more of Regulatory Capital Stock (dollars in millions)
 
Regulatory Capital Stock
 
Advance
 
MPP Unpaid
September 30, 2013
Balance
 
% of Total
 
 Principal
 
Principal Balance
JPMorgan Chase Bank, N.A.
$
1,533

 
32
%
 
$
42,700

 
$
—

U.S. Bank, N.A.
592

 
12

 
4,584

 
47

Fifth Third Bank
401

 
8

 
2,131

 
4

Total
$
2,526

 
52
%
 
$
49,415

 
$
51


 
Regulatory Capital Stock
 
Advance
 
MPP Unpaid
December 31, 2012
Balance
 
% of Total
 
Principal
 
Principal Balance
JPMorgan Chase Bank, N.A.
$
865

 
20
%
 
$
26,000

 
$
—

U.S. Bank, N.A.
592

 
14

 
4,586

 
55

Fifth Third Bank
401

 
9

 
4,732

 
6

Total
$
1,858

 
43
%
 
$
35,318

 
$
61


Nonmember Affiliates. The FHLBank has relationships with three nonmember affiliates, the Kentucky Housing Corporation, the Ohio Housing Finance Agency and the Tennessee Housing Development Agency. The FHLBank had no investments in or borrowings extended to any of these nonmember affiliates at September 30, 2013 or December 31, 2012.

46

Item 2.    Management's Discussion and Analysis of Financial Condition and Results of Operations.

This document contains forward-looking statements that describe the objectives, expectations, estimates, and assessments of the Federal Home Loan Bank of Cincinnati (FHLBank). These statements use words such as “anticipates,” “expects,” “believes,” “could,” “estimates,” “may,” and “should.” By their nature, forward-looking statements relate to matters involving risks or uncertainties, some of which we may not be able to know, control, or completely manage. Actual future results could differ materially from those expressed or implied in forward-looking statements or could affect the extent to which we are able to realize an objective, expectation, estimate, or assessment. Some of the risks and uncertainties that could affect our forward-looking statements include the following:

▪
the effects of economic, financial, credit, market, and member conditions on our financial condition and results of operations, including changes in economic growth, general liquidity conditions, inflation and deflation, interest rates, interest rate spreads, interest rate volatility, mortgage originations, prepayment activity, housing prices, asset delinquencies, and members' mergers and consolidations, deposit flows, liquidity needs, and loan demand;

▪
political events, including legislative, regulatory, federal government, judicial or other developments that could affect us, our members, our counterparties, other FHLBanks and other government-sponsored enterprises (GSEs), and/or investors in the Federal Home Loan Bank System's (FHLBank System) debt securities, which are called Consolidated Obligations or Obligations;

▪
competitive forces, including those related to other sources of funding available to members, to purchases of mortgage loans, and to our issuance of Consolidated Obligations;

▪
the financial results and actions of other FHLBanks that could affect our ability, in relation to the FHLBank System's joint and several liability for Consolidated Obligations, to access the capital markets on favorable terms or preserve our profitability, or could alter the regulations and legislation to which we are subject;

▪
changes in ratings assigned to FHLBank System Obligations or our FHLBank that could raise our funding cost;

▪
changes in investor demand for Obligations;

▪
the volatility of market prices, interest rates, credit quality, and other indices that could affect the value of investments and collateral we hold as security for member obligations and/or for counterparty obligations;

▪
the ability to attract and retain skilled management and other key employees;

▪
the ability to develop and support technology and information systems that effectively manage the risks we face;

▪
the risk of loss arising from failures or interruptions in our ongoing business operations, internal controls, information systems or other operating technologies;

▪
the ability to successfully manage new products and services; and

▪
the risk of loss arising from litigation filed against us or one or more other FHLBanks.

We do not undertake any obligation to update any forward-looking statements made in this document.
 



47

EXECUTIVE OVERVIEW

The following table presents selected Statement of Condition data, Statement of Income data and financial ratios for the periods indicated.
(Dollars in millions)
September 30, 2013
 
June 30, 2013
 
March 31, 2013
 
December 31, 2012
 
September 30, 2012
STATEMENT OF CONDITION DATA AT QUARTER END:
 
 
 
 
 
 
 
 
 
Total assets
$
96,586

 
$
95,320

 
$
86,729

 
$
81,562

 
$
67,171

Advances
65,857

 
65,093

 
58,282

 
53,944

 
36,002

Mortgage loans held for portfolio
6,835

 
6,993

 
7,228

 
7,548

 
7,866

Allowance for credit losses on mortgage loans
7

 
9

 
15

 
18

 
18

Investments (1)
22,642

 
23,101

 
20,772

 
19,950

 
23,170

Consolidated Obligations, net:
 
 
 
 
 
 
 
 
 
Discount Notes
33,542

 
38,926

 
34,076

 
30,840

 
31,535

Bonds
56,251

 
49,521

 
45,937

 
44,346

 
29,828

Total Consolidated Obligations, net
89,793

 
88,447

 
80,013

 
75,186

 
61,363

Mandatorily redeemable capital stock
121

 
125

 
134

 
211

 
219

Capital:
 
 
 
 
 
 
 
 
 
Capital stock - putable
4,701

 
4,690

 
4,466

 
4,010

 
3,428

Retained earnings
604

 
582

 
563

 
538

 
513

Accumulated other comprehensive loss
(10
)
 
(11
)
 
(11
)
 
(11
)
 
(9
)
Total capital
5,295

 
5,261

 
5,018

 
4,537

 
3,932

 
 
 
 
 
 
 
 
 
 
STATEMENT OF INCOME DATA FOR THE QUARTER:
 
 
 
 
 
 
 
 
 
Net interest income
$
91

 
$
79

 
$
75

 
$
91

 
$
83

Reversal for credit losses
(1
)
 
(4
)
 
(3
)
 
—

 
(1
)
Other income (loss)
4

 
2

 
8

 
(4
)
 
(4
)
Other expenses
16

 
16

 
15

 
15

 
15

Assessments
8

 
7

 
7

 
7

 
7

Net income
$
72

 
$
62

 
$
64

 
$
65

 
$
58

FINANCIAL RATIOS:
 
 
 
 
 
 
 
 
 
Dividend payout ratio (2)
67.96
%
 
69.98
%
 
60.55
%
 
61.00
%
 
57.67
%
Weighted average dividend rate (3)
4.25

 
4.25

 
4.25

 
4.75

 
4.25

Return on average equity
5.37

 
4.80

 
5.49

 
6.22

 
6.05

Return on average assets
0.30

 
0.26

 
0.31

 
0.36

 
0.34

Net interest margin (4)
0.38

 
0.34

 
0.36

 
0.51

 
0.49

Average equity to average assets
5.53

 
5.51

 
5.56

 
5.79

 
5.64

Regulatory capital ratio (5)
5.62

 
5.66

 
5.95

 
5.84

 
6.19

Operating expense to average assets
0.054

 
0.051

 
0.059

 
0.064

 
0.062

(1)
Investments include interest bearing deposits in banks, securities purchased under agreements to resell, Federal funds sold, trading securities, available-for-sale securities, and held-to-maturity securities.
(2)
Dividend payout ratio is dividends declared in the period as a percentage of net income.
(3)
Weighted average dividend rates are dividends paid in stock and cash divided by the average number of shares of capital stock eligible for dividends.
(4)
Net interest margin is net interest income before (reversal)/provision for credit losses as a percentage of average earning assets.
(5)
Regulatory capital ratio is period-end regulatory capital (capital stock, mandatorily redeemable capital stock and retained earnings) as a percentage of period-end total assets.

48

Financial Condition

Mission Asset Activity
The following table summarizes our financial condition.
 
Ending Balances
 
Average Balances
 
September 30,
 
December 31,
 
Nine Months Ended September 30,
 
Year Ended December 31,
(In millions)
2013
 
2012
 
2012
 
2013
 
2012
 
2012
 
 
 
 
 
 
 
 
 
 
 
 
Total Assets
$
96,586

 
$
67,171

 
$
81,562

 
$
91,412

 
$
65,091

 
$
66,702

Mission Asset Activity:
 
 
 
 
 
 
 
 
 
 
 
Advances (principal)
65,649

 
35,517

 
53,621

 
60,319

 
30,175

 
32,273

Mortgage Purchase Program (MPP):
 
 
 
 
 
 
 
 
 
 
 
Mortgage loans held for portfolio (principal)
6,651

 
7,692

 
7,366

 
6,959

 
7,914

 
7,821

Mandatory Delivery Contracts (notional)
71

 
166

 
124

 
105

 
299

 
260

Total MPP
6,722

 
7,858

 
7,490

 
7,064

 
8,213

 
8,081

Letters of Credit (notional)
13,332

 
3,971

 
10,152

 
12,186

 
4,231

 
4,584

Total Mission Asset Activity
$
85,703

 
$
47,346

 
$
71,263

 
$
79,569

 
$
42,619

 
$
44,938


In the first nine months of 2013, the FHLBank fulfilled its mission by providing readily available and competitively priced wholesale funding to its member financial institutions, supporting its commitment to affordable housing, and paying stockholders a competitive dividend return on their capital investment. As in the last few years, the vast majority of our members had limited demand for new Advance borrowings due to anemic economic growth and significant amounts of liquidity available to members as a result of the actions of the Federal Reserve System. We have, however, experienced substantial Advance growth as a result of borrowings from one newer, large-asset member.

Total assets at September 30, 2013 increased $15.0 billion (18 percent) from year-end 2012, led by Advances. Average asset balances in the first nine months of 2013 were $26.3 billion (40 percent) higher than the same period of 2012, mostly due to the substantial growth in Advances from one large-asset member.

The balance of Mission Asset Activity – comprising Advances, Letters of Credit, and the MPP – was $85.7 billion at September 30, 2013, an increase of $14.4 billion (20 percent) from year-end 2012. The growth was led by a $12.0 billion increase in the principal balance of Advances. Average Advance principal balances in the first nine months of 2013 increased $30.1 billion (100 percent) from the same period of 2012.

The principal balance of mortgage loans held for portfolio at September 30, 2013 fell $0.7 billion (10 percent) from year-end 2012. The decline reflected the principal paydowns and inactivity by several large mortgage sellers. During the first nine months of 2013, the FHLBank purchased $0.9 billion of mortgage loans, while principal paydowns totaled $1.6 billion.

As of September 30, 2013, members funded on average 3.3 percent of their assets with Advances, and the penetration rate was relatively stable over the last year with 65-70 percent of members holding Mission Asset Activity. The number of active sellers and participants in the MPP remained strong with the number of monthly sellers averaging 65 in the first nine months of 2013.

Based on our earnings during the first three quarters of 2013, we contributed $22 million to the Affordable Housing Program pool of funds to be awarded to members in 2014. In addition, the FHLBank continued its voluntary sponsorship of two other housing programs which provide resources to pay for accessibility rehabilitation and emergency repairs for special needs and elderly homeowners and for the replacement or rehabilitation of homes damaged or destroyed as a result of a natural disaster.
 
Investments
The balance of investments at September 30, 2013 was $22.6 billion, an increase of $2.7 billion (13 percent) from year-end 2012. Average investment balances were $23.5 billion in the first nine months of 2013, a decrease of $2.6 billion (10 percent) from the same period in 2012. We maintained an adequate amount of asset liquidity throughout the year under a variety of liquidity measures as discussed in the "Liquidity Risk" section of "Quantitative and Qualitative Disclosures About Risk Management."


49

At September 30, 2013, investments included $15.3 billion of mortgage-backed securities and $7.3 billion of other investments, which are mostly short-term liquidity instruments. Most of the increase in the total investment balance was from purchases of mortgage-backed securities given the increased authority as a result of the larger capital stock balance. All of our mortgage-backed securities held at September 30, 2013 were issued and guaranteed by Fannie Mae, Freddie Mac or a U.S. agency.

Capital
Capital adequacy was strong in the first nine months of 2013, exceeding all minimum regulatory capital requirements. The GAAP capital-to-assets ratio at September 30, 2013 was 5.48 percent, while the regulatory capital-to-assets ratio was 5.62 percent. Both ratios were well above the regulatory required minimum of four percent. Regulatory capital includes mandatorily redeemable capital stock accounted for as a liability under GAAP. The amounts of GAAP and regulatory capital increased $758 million and $667 million, respectively, between year-end 2012 and the end of the third quarter of 2013, primarily resulting from members' capital stock purchases to support Advance growth.

Total retained earnings were $604 million at September 30, 2013, an increase of $66 million (12 percent) from year-end 2012. Retained earnings were comprised of $506 million unrestricted and $98 million restricted.

Results of Operations

The table below summarizes our results of operations.
 
Three Months Ended September 30,
 
Nine Months Ended September 30,
 
Year Ended December 31,
(Dollars in millions)
2013
 
2012
 
2013
 
2012
 
2012
 
 
 
 
 
 
 
 
 
 
Net income
$
72

 
$
58

 
$
197

 
$
170

 
$
235

Affordable Housing Program accrual
8

 
7

 
22

 
20

 
27

Return on average equity (ROE)
5.37
%
 
6.05
%
 
5.21
%
 
6.19
%
 
6.20
%
Return on average assets
0.30

 
0.34

 
0.29

 
0.35

 
0.35

Weighted average dividend rate
4.25

 
4.25

 
4.25

 
4.33

 
4.44

Average 3-month LIBOR
0.26

 
0.42

 
0.28

 
0.47

 
0.43

Average overnight Federal funds effective rate
0.09

 
0.14

 
0.11

 
0.13

 
0.14

ROE spread to 3-month LIBOR
5.11

 
5.63

 
4.93

 
5.72

 
5.77

Dividend rate spread to 3-month LIBOR
3.99

 
3.83

 
3.97

 
3.86

 
4.01

ROE spread to Federal funds effective rate
5.28

 
5.91

 
5.10

 
6.06

 
6.06

Dividend rate spread to Federal funds effective rate
4.16

 
4.11

 
4.14

 
4.20

 
4.30


The spreads between ROE and short-term interest rates, for which we use 3-month LIBOR and Federal funds as a proxy, are market benchmarks we believe stockholders use to assess the competitiveness of the return on their capital investment in our company. Earnings continued to be sufficient to provide competitive returns to stockholders' capital investment.
Consistent with experience over the last several years, ROE was significantly above short-term rates, resulting in the ROE spreads being wider than the historical average spreads.

Using our current balance sheet and operating expense structure, we estimate that the average ROE in a stable market rate, interest rate, and business environment would be in the range of 2.50 to 3.50 percentage points above short-term interest rates. The current elevated trend level of ROE spread to market interest rates, compared to the long-term average, is influenced by the following ongoing factors: 1) the extremely low level of short-term rates, 2) our continued ability to retire a large amount of high-cost Bonds before their final maturities, and 3) relatively muted acceleration of mortgage prepayment speeds.

The overall increase in net income in the 2013 periods compared with the 2012 periods resulted from the following factors:
▪
Net interest income after credit losses increased in the three- and nine-month comparisons by $8 million and $37 million, respectively. This was the result of several favorable factors, most notably higher interest income from growth in Advance balances, lower net amortization, and net reversals of incurred credit losses estimated in the MPP reflecting improvements in the housing market.
Growth in Advance balances supported by new capital stock improved net interest income by an estimated $21 million and $60 million in the three- and nine-month periods, respectively.

50

Net amortization declined $10 million and $42 million, for the three- and nine-month comparisons, respectively. The reversal of credit losses led to an improvement of $9 million in the nine-month comparison.
The favorable factors were substantially offset by several unfavorable factors that affect net interest margin including, among others 1) a reduction in the amount of certain higher-coupon liquidity investments, 2) lower net MPP balances, and 3) narrower spreads, reverting to historical normal levels, on LIBOR-indexed assets to Consolidated Discount Note funding.
▪
Other non-interest income increased $8 million in the three-month comparison primarily due to lower net losses on trading securities. Other non-interest income declined $4 million in the nine-month comparison primarily due to net gains on securities sales in the second quarter of 2012 that did not reoccur in 2013, which were mostly offset by lower losses on trading securities.

ROE fell in both periods because growth in average capital ($1.5 billion and $1.4 billion in the three- and nine-month comparison periods, respectively) to support Advance growth, combined with several factors (both favorable and unfavorable), resulted in a relatively small increase in net income compared to the growth in capital.

Business Outlook and Risk Management

This section summarizes and updates from our 2012 Form 10-K filing our major current risk exposures and current business outlook. “Quantitative and Qualitative Disclosures About Risk Management” provides details on current risk exposures.

Strategic/Business Risk
Advances. We cannot predict the future trend of Advance demand for individual members or the broad membership base. Advance demand depends on, among other things, the state of the economy, conditions in the housing markets, actions of the Federal Reserve to affect liquidity reserves of financial institutions and the money supply, the willingness and ability of financial institutions to expand lending, and regulatory initiatives, all of which are difficult to predict and affect in terms of their impact on demand for our products and services. Our business is cyclical and Mission Asset Activity normally grows slowly, stabilizes, or declines in periods of difficult macro-economic conditions, when financial institutions have ample liquidity, or when there is significant growth in the money supply.

All of these conditions continue to exist. The increase in Advances over the last year has been driven primarily by the borrowings of a large-asset member. We believe the anemic economy and significant amounts of liquidity available to members as a result of the actions of the Federal Reserve have continued to limit many members' demand for Advances. We would expect to see a broad-based increase in Advance demand when the economy experiences a sustained improvement or if changes in Federal Reserve policy reduce other sources of liquidity available to our members. Additionally, there are $1.7 billion of Advances held by former members that will mature over the next several years.

MPP. Our strategy for the MPP continues to emphasize recruiting community financial institution members, increasing the number of regular sellers, and maintaining balances at a prudent amount relative to capital. This strategy is guided by our principle of having a moderate amount of market and low amount of credit risk within our business model.

Balances are influenced primarily by activity from large sellers and a Finance Agency regulation requiring that if purchases in a calendar year exceed $2.5 billion, we must enact additional housing goals. Given the uncertainty of the goal requirements and possible operational and economic impacts, we currently plan to limit our calendar year purchases to less than $2.5 billion until further guidance is provided by the Finance Agency.


51

Regulatory and Legislative Risk
General. The FHLBank System currently faces heightened legislative and regulatory risks and uncertainties, which we believe has affected, and could continue to affect, Mission Asset Activity, capitalization, and results of operations. To date, however, we believe the impacts have been moderate. The "Risk Factors" section of the 2012 Form 10-K provides details of some of the current and recent regulatory and legislative initiatives that could affect our business. We believe that the overall legislative and regulatory environment related to our company has raised our operating costs and, due particularly to the uncertainty around eventual GSE reform, has imparted added uncertainty regarding the business model under which the FHLBanks may operate in the future.

Core Mission Asset Ratios. Of particular current interest to us is the elevated regulatory focus on the FHLBanks' core mission activity of utilizing their GSE status to provide funding and liquidity to support the housing markets. This focus is manifested primarily by an evolving Finance Agency requirement for each FHLBank to develop and submit for approval an amendment to its 2014 strategic business plan that target minimum benchmark levels for identified core mission activities and actions to achieve and maintain such levels. This requirement could affect business strategies such as, but not necessarily limited to, the amount of investments we carry and our product pricing. We are unable at this time to determine if such a requirement will ultimately result in any significant changes to our business model, products or services, financial condition, or results of operations.

Capital Stress Testing Rule. In September 2013, the Finance Agency issued a final rule that requires each FHLBank to assess the potential impact of certain sets of economic and financial conditions (including baseline, adverse and severely adverse scenarios) on its earnings, capital, and other related factors, over a nine-quarter forward horizon based on its balance sheet as of September 30 of the previous year. The rule specifies that the first stress test must be submitted by April 30, 2014. The rule provides that the Finance Agency will annually issue guidance on the scenarios and methodologies to be used in conducting the stress tests. Each FHLBank must publicly disclose the results of its adverse economic conditions stress test. Although we believe that our capital adequacy, including the amount of retained earnings, is sufficient to satisfy the stress tests as we understand the requirements from the final rule, we cannot at this time provide assurance that this will be the case until the Finance Agency provides the further guidance.

Joint Proposed Rule on Credit Risk Retention for ABS. In September 2013, the Finance Agency with other U.S. federal regulators jointly issued a proposed rule that proposes requiring asset-backed security (ABS) sponsors to retain a minimum of five percent economic interest in a portion of the credit risk of the assets collateralizing the ABS, unless all the securitized assets satisfy specified qualifications. The proposed rule specifies criteria for qualified residential mortgage loans (as well as other loan types) that would make them exempt from the risk-retention requirement, based on features believed to make them low risk loans. We are assessing the impact of this proposed rule and have not yet determined the effect, if any, that the rule could have on our financial condition and results of operations.
 
Risk Exposure
We believe our liquidity position remained strong during the first nine months of 2013, as did our overall ability to fund operations through Consolidated Obligation issuances at acceptable interest costs. There were minimal, if any, stresses on our liquidity from the uncertainty surrounding the federal government's recent issues with the debt ceiling and risk of Treasury default (prior to resolution). However, reflecting an abundance of caution, we increased our liquidity beginning in late September. While there can be no assurances, we believe there is only a remote possibility of a funding or liquidity crisis in the FHLBank System that could impair our FHLBank's ability to access the capital markets, service debt or pay competitive dividends.

In July 2013, Moody's affirmed the Aaa ratings on the long-term deposits of each FHLBank and on the long-term Bond rating of the FHLBank System, and updated the outlooks to stable. Moody's also affirmed the short-term ratings at Prime-1 for each FHLBank and the FHLBank System. In June 2013, Standard & Poor's affirmed its issuer credit ratings on each FHLBank and its AA+ ratings on the System's senior debt, and raised the outlooks to stable. The actions of both rating agencies were prompted by similar actions regarding the U.S. sovereign rating.

Market risk exposure remained moderate in the first nine months of the year and well within the FHLBank's policy limits, and consistent with the normal range of long-term historical exposure. We believe that profitability would not become uncompetitive unless long-term rates were to increase immediately and permanently by five percentage points or more combined with short-term rates increasing to at least eight percent. We believe such an extreme stress scenario, although plausible, is unlikely to occur in the next few years.


52

Residual credit risk exposure from offering Advances, purchasing investments, and executing derivative transactions was limited, with no loan loss reserves or impairment recorded for these instruments. We believe policies and procedures related to credit underwriting, Advance collateral management, and transactions with investment and derivative counterparties continue to mitigate these risks. Residual credit risk exposure in the mortgage loan portfolio continued to be moderate and manageable. The allowance for credit losses in the MPP continued to decline and was $7 million at September 30, 2013.

As of September 30, 2013, all of our mortgage-backed securities were issued and guaranteed by Fannie Mae or Freddie Mac (which we believe have the support of the U.S. government), the National Credit Union Administration, or Ginnie Mae. For unsecured liquidity investments, we invest in the debt securities of highly rated, investment-grade institutions, have limits on dollar and maturity exposure to each institution, and have strong credit underwriting practices. We mitigate the credit risk exposure resulting from interest rate swap transactions through collateralization.

The large increase over the prior 12 months in Advance borrowings from one member, JPMorgan Chase Bank, N.A.(JPMorgan), has raised borrower concentration ratios compared with levels of the last several years. We assess concentration risks from business activity, and we believe that the current concentration of Advance activity is consistent with our risk management philosophy. Our business is designed to support significant changes in asset levels without having to undergo material changes in staffing, operations, risk practices, or general resource needs.

Advance concentration has a minor effect on market risk exposure because Advances are largely match funded. We believe the effect on credit risk exposure is minimal because of our application of normal credit risk mitigations, the most important of which is over-collateralization. In the extremely remote possibility that a high concentration member would fail, combined with the Federal Deposit Insurance Corporation's decision not to repay Advances, we would implement our plan to liquidate collateral to recover losses from losing principal and interest on the Advances balances. Finally, the increase in Advance concentration has not affected capital adequacy because the Capital Plan requires the Advance growth from the member to be supported by new purchases of capital stock.

Capital Adequacy
We maintained compliance with our regulatory capital requirements. We believe that the amount of our retained earnings is sufficient to protect against impairment risk of capital stock and to provide the opportunity to stabilize dividends. Our Capital Plan has safeguards to prevent financial leverage from increasing beyond regulatory minimums or below safe levels. We believe members place a high value on their capital investment in our company. Capital ratios at September 30, 2013 were well above the regulatory required minimum of four percent.


CONDITIONS IN THE ECONOMY AND FINANCIAL MARKETS

Effect of Economy and Financial Markets on Mission Asset Activity

The primary external factors that affect our Mission Asset Activity and earnings are the general state and trends of the economy and financial institutions, especially in our Fifth District; conditions in the financial, credit, mortgage, and housing markets; interest rates; and competitive alternatives to our products, such as retail deposits and other sources of wholesale funding.

In the last several years, anemic economic growth has resulted in slow growth in consumer, mortgage and commercial loans across the broad membership both in absolute terms and relative to deposit growth. Other important factors continuing to negatively impact broad-based demand for our credit services are the extremely low levels of interest rates and the Federal Reserve's ongoing actions to provide an extraordinary amount of liquidity to stimulate economic growth, as discussed elsewhere. We believe these trends continue to limit many members' demand for Advances.

The relative balance between loan and deposit growth provides an indication of member Advance demand. From June 30, 2012 to June 30, 2013 (the most recent period for which data are available), aggregate loan portfolios of Fifth District depository institutions grew $36.9 billion (3.2 percent) while their aggregate deposit balances rose $117.3 billion (6.4 percent). The data include the effect of large mergers and acquisitions only when they are available for both comparison dates. Most of the loan growth in this period occurred from our largest members, which is consistent with the concentration of financial activity among large financial institutions.

Excluding the five members with over $50 billion of assets and recent acquisitions, aggregate loans increased $3.9 billion (2.2 percent) in the 12-month period while aggregate deposits grew $3.4 billion (1.6 percent), which provides a possible explanation for the limited broad-based growth in Advance demand. In the third quarter of 2013, there were indications of slower deposit growth.


53

Interest Rates

Trends in market interest rates affect members' demand for Mission Asset Activity, earnings, spreads on assets, funding costs and decisions in managing the tradeoffs in our market risk/return profile. The following table presents key market interest rates (obtained from Bloomberg L.P.).
 
 
 
 
 
 
 
 
 
 
 
 
Nine Months Ended September 30,
 
 
 
 
Quarter 3 2013
 
Quarter 2 2013
 
Quarter 1 2013
 
2013
 
2012
 
Year 2012
 
Ending
 
Average
 
Ending
 
Average
 
Ending
 
Average
 
Average
 
Average
 
Ending
 
Average
Federal funds target
0-0.25%

 
0-0.25%

 
0-0.25%

 
0-0.25%

 
0-0.25%

 
0-0.25%

 
0-0.25%

 
0-0.25%

 
0-0.25%

 
0-0.25%

Federal funds effective
0.06

 
0.09

 
0.07

 
0.12

 
0.09

 
0.14

 
0.11

 
0.13

 
0.09

 
0.14

 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
3-month LIBOR
0.25

 
0.26

 
0.27

 
0.28

 
0.28

 
0.29

 
0.28

 
0.47

 
0.31

 
0.43

2-year LIBOR
0.46

 
0.52

 
0.51

 
0.42

 
0.42

 
0.41

 
0.45

 
0.54

 
0.39

 
0.50

5-year LIBOR
1.54

 
1.67

 
1.57

 
1.09

 
0.95

 
0.96

 
1.24

 
1.04

 
0.86

 
0.98

10-year LIBOR
2.77

 
2.88

 
2.70

 
2.15

 
2.01

 
2.01

 
2.35

 
1.93

 
1.84

 
1.88

 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
2-year U.S. Treasury
0.32

 
0.36

 
0.36

 
0.26

 
0.24

 
0.25

 
0.29

 
0.27

 
0.25

 
0.27

5-year U.S. Treasury
1.38

 
1.50

 
1.40

 
0.91

 
0.77

 
0.81

 
1.07

 
0.78

 
0.72

 
0.75

10-year U.S. Treasury
2.61

 
2.70

 
2.49

 
1.98

 
1.85

 
1.93

 
2.20

 
1.82

 
1.76

 
1.78

 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
15-year mortgage current coupon (1)
2.40

 
2.62

 
2.44

 
1.87

 
1.72

 
1.84

 
2.11

 
1.68

 
1.71

 
1.64

30-year mortgage current coupon (1)
3.31

 
3.52

 
3.34

 
2.77

 
2.65

 
2.57

 
2.96

 
2.67

 
2.22

 
2.54

 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
15-year mortgage note rate (2)
3.55

 
3.71

 
3.55

 
3.06

 
3.02

 
2.97

 
3.26

 
3.02

 
2.86

 
3.15

30-year mortgage note rate (2)
4.49

 
4.66

 
4.46

 
3.87

 
3.79

 
3.72

 
4.10

 
3.76

 
3.52

 
3.84

(1)
Simple average of current coupon rates of Fannie Mae and Freddie Mac par mortgage-backed security indications.
(2)
Simple weekly average of 125 national lenders' mortgage rates for prime borrowers having a 20 percent down payment as surveyed and published by Freddie Mac.
 
 
 
 
 
 
 
 
Short-term rates remained at historic lows in the first nine months of 2013. The Federal Reserve maintained the overnight Federal funds target and effective rates between zero and 0.25 percent, with other short-term rates generally consistent with their historical relationships to Federal funds. The Federal Reserve has indicated that it currently plans to hold certain short-term rates at or near zero until at least mid-2015. This projection could change if actual economic growth or inflation, or its forecast thereof, accelerates.

Future changes in intermediate- and long-term rates are more difficult to predict in part because the Federal Reserve has less control over these rates. These rates rose moderately on an absolute basis in the first and second quarters of the year compared with the levels in 2012. In the third quarter, these rates were relatively stable compared to the second quarter.

These interest rate trends affected our results of operations in the first three quarters of 2013, as discussed in "Executive Overview," "Results of Operations," and "Quantitative and Qualitative Disclosures About Risk Management." The increase in intermediate- and long-term rates during the first nine months of 2013 was moderate and the interest rate environment remained favorable for our results of operations in terms of the spread between our level of profitability (ROE) and the levels of interest rates. The low rate environment continues to be a net benefit to our profitability relative to levels of interest rates, for several reasons:

▪
Reductions in, and low, market interest rates raise ROE compared to market rates to the extent we fund a portion of long-term assets with shorter-term debt.
▪
The low intermediate- and long-term rates have provided us the opportunity to retire many Bonds and replace them with lower cost Obligations, at a pace exceeding mortgage paydowns.

54

▪
Earnings generated from funding assets with interest-free capital have not decreased as much as the reduction in overall interest rates because long-term assets do not reprice immediately to the lower rates.


ANALYSIS OF FINANCIAL CONDITION
    
Credit Services

Credit Activity and Advance Composition
The table below shows trends in Advance balances by major programs and in the notional amount of Letters of Credit.
 
 
 
 
 
 
 
 
(Dollars in millions)
September 30, 2013
 
June 30, 2013
 
March 31, 2013
 
December 31, 2012
 
Balance
Percent(1)
 
Balance
Percent(1)
 
Balance
Percent(1)
 
Balance
Percent(1)
Adjustable/Variable Rate Indexed:
 
 
 
 
 
 
 
 
 
 
 
LIBOR
$
48,981

75
%
 
$
49,277

76
%
 
$
45,280

78
%
 
$
35,578

66
%
Other
324

—

 
288

—

 
196

—

 
406

1

Total
49,305

75

 
49,565

76

 
45,476

78

 
35,984

67

Fixed-Rate:
 
 
 
 
 
 
 
 
 
 
 
REPO
4,345

7

 
3,673

6

 
2,477

4

 
7,655

14

Regular Fixed Rate
6,458

10

 
6,277

10

 
4,928

9

 
4,573

9

Putable (2)
2,333

3

 
2,367

3

 
2,469

4

 
2,587

5

Convertible (2)
28

—

 
63

—

 
63

—

 
63

—

Amortizing/Mortgage Matched
2,503

4

 
2,402

4

 
2,311

4

 
2,353

4

Other
677

1

 
529

1

 
275

1

 
406

1

Total
16,344

25

 
15,311

24

 
12,523

22

 
17,637

33

Total Advances Principal
$
65,649

100
%
 
$
64,876

100
%
 
$
57,999

100
%
 
$
53,621

100
%
 
 
 
 
 
 
 
 
 
 
 
 
Letters of Credit (notional)
$
13,332

 
 
$
13,839

 
 
$
11,683

 
 
$
10,152

 
(1)
As a percentage of total Advances principal.    
(2)
Excludes Putable/Convertible Advances where the related put/conversion options have expired. Such Advances are classified based on their current terms.

The increase in Advance balances during the first nine months of 2013 occurred mostly from borrowings by JPMorgan. Aggregate average Advance balances to other members declined $2.4 billion (10 percent) at September 30, 2013 compared to the end of 2012. Advance growth was comprised primarily of adjustable-rate LIBOR Advances.

Advances to former members declined by $1.9 billion in the first nine months of 2013. Former members hold $1.7 billion in Advances (three percent), of which approximately $1.1 billion are scheduled to mature by the end of 2014. When these are repaid, the former members will not be able to replace them with new Advances.

The following table shows the unweighted average ratio of each member's Advance balance to its most-recently available figures for total assets. Overall Advance usage ratios declined substantially from 2009 to 2012, but have risen moderately in the last two quarters. Most of the increase has occurred from mid-sized members with assets between $250 million and $1.0 billion.
 
September 30, 2013
 
June 30, 2013
 
March 31, 2013
 
December 31, 2012
Average Advances-to-Assets for Members
 
 
 
 
 
 
 
Assets less than $1.0 billion (668 members)
3.32
%
 
3.03
%
 
2.89
%
 
3.12
%
Assets over $1.0 billion (64 members)
3.05
%
 
3.02
%
 
2.70
%
 
2.90
%
All members
3.29
%
 
3.03
%
 
2.87
%
 
3.10
%


55

We do not know if the Advance growth experienced in the last 12 months, primarily from one large-asset member, and the recent growth from mid-sized members will continue or develop into increased demand more broadly. The anemic economic expansion, significant levels of financial institution liquidity as a result of Federal Reserve actions, and robust member deposit levels have limited overall member demand for our funding.
 
 
 
 
 
 
 
 
The following tables present principal balances for our top five Advance borrowers.
(Dollars in millions)
 
 
 
 
 
 
 
 
 
 
September 30, 2013
 
December 31, 2012
Name
 
Par Value of Advances
 
Percent of Total Par Value of Advances
 
Name
 
Par Value of Advances
 
Percent of Total Par Value of Advances
 
 
 
 
 
 
 
 
 
 
 
JPMorgan Chase Bank, N.A.
 
$
42,700

 
65
%
 
JPMorgan Chase Bank, N.A.
 
$
26,000

 
48
%
U.S. Bank, N.A.
 
4,584

 
7

 
Fifth Third Bank
 
4,732

 
9

Fifth Third Bank
 
2,131

 
3

 
U.S. Bank, N.A.
 
4,586

 
8

Western-Southern Life Assurance Co
 
1,235

 
2

 
PNC Bank, N.A. (1)
 
2,986

 
6

PNC Bank, N.A. (1)
 
1,031

 
2

 
Protective Life Insurance Company
 
1,071

 
2

Total of Top 5
 
$
51,681

 
79
%
 
Total of Top 5
 
$
39,375

 
73
%
(1)Former member.

We believe that having large financial institutions who actively use our Mission Asset Activity augments the value of membership to all members because it improves operating efficiency, increases financial leverage and earnings, and may enable us over time to obtain more favorable funding costs and maintain competitively priced Mission Asset Activity.

Members increased their available lines in the Letters of Credit program by $3.2 billion in the first nine months of 2013. The lines rose principally because of more activity from a large member who uses Letters of Credit heavily and whose usage can be volatile. We believe the member increased its usage in response to the year-end 2012 expiration of the government's Transaction Account Guarantee program. We generally earn fees on Letters of Credit based on the actual notional amount of the Letters utilized, which normally is less than the available lines.

Mortgage Loans Held for Portfolio (Mortgage Purchase Program, or "MPP")

Our focus for the MPP continues to be on recruiting community-based members to sell us mortgage loans and on increasing the number of regular sellers. The number of regular sellers remains at a high level compared to historical trends, and a substantial number of other members either are actively interested in joining or are in the process of joining the MPP.

The table below shows principal paydowns and purchases of loans in the MPP for the first nine months of 2013.
(In millions)
MPP Principal
Balance at December 31, 2012
$
7,366

Principal purchases
918

Principal paydowns
(1,633
)
Balance at September 30, 2013
$
6,651


The decline in principal loan balance in the first nine months of 2013 resulted from the moderately fast prepayments and lack of activity from several large sellers. However, the purchases reflected sales by 88 participating financial institutions (PFIs) in the first nine months of the year, with the number of monthly sellers averaging 65.
 
 
 
 
 
 
 
 
 
We closely track the refinancing incentives of our mortgage assets (including those in the MPP and mortgage-backed securities) because the option for homeowners to change their principal payments normally represents a large portion of our market risk exposure. MPP principal paydowns in the first nine months of 2013 equated to a 24 percent annual constant prepayment rate, down from the 29 percent rate for all of 2012.

56


The MPP's composition of balances by loan type, original final maturity, and weighted-average mortgage note rate did not change materially in the first nine months of 2013. The weighted average mortgage note rate fell from 4.74 percent at the end of 2012 to 4.57 percent at September 30, 2013. This decline reflected a continuing trend of prepayments of higher rate mortgages and purchases of lower rate mortgages. MPP yields earned during the first nine months of 2013, relative to funding costs, continued to offer favorable risk-adjusted returns.

Investments

We hold investments in order to provide liquidity, enhance earnings, and help manage market risk. We hold both shorter-term investments, which we refer to as "liquidity investments" because most of them serve to augment asset liquidity, and longer-term mortgage-backed securities. The table below presents the ending and average balances of our investments.
 
Nine Months Ended
 
Year Ended
(In millions)
September 30, 2013
 
December 31, 2012
 
Ending Balance
 
Average Balance
 
Ending Balance
 
Average Balance
Liquidity investments
$
7,293

 
$
9,481

 
$
7,176

 
$
13,943

Mortgage-backed securities
15,349

 
13,884

 
12,774

 
11,375

Other investments (1)
—

 
174

 
—

 
408

Total investments
$
22,642

 
$
23,539

 
$
19,950

 
$
25,726

(1)
The average balance includes the rights or obligations to cash collateral, which are included in the fair value of derivative assets or derivative liabilities on the Statements of Condition at period end.

Liquidity investment levels can vary significantly based on liquidity needs, the availability of acceptable net spreads, the number of eligible counterparties that meet our unsecured credit risk criteria, and changes in the amount of Mission Assets. The decline in the average amount of liquidity investments in the first nine months of 2013 corresponded to the growth in Advances. We continued to maintain an adequate amount of asset liquidity using our liquidity measures.

The investment balances at September 30, 2013 and December 31, 2012 exclude $1,143 million and $16 million, respectively, in funds held in deposits at the Federal Reserve, which are reflected in cash and due from banks on the Statements of Condition.

Our overarching strategy for mortgage-backed securities is to keep our holdings as close as possible to the regulatory maximum of three times regulatory capital, subject to the availability of securities that we believe provide acceptable risk/return tradeoffs. The balance of mortgage-backed securities at September 30, 2013 represented a 2.83 multiple of regulatory capital and consisted of $14.1 billion of securities issued by Fannie Mae or Freddie Mac (of which $1.8 billion were floating-rate securities) and $1.3 billion of floating-rate securities issued by the National Credit Union Administration. We held no private-label mortgage-backed securities at September 30, 2013.
The table below shows principal purchases and paydowns of our mortgage-backed securities for the first nine months of 2013.
(In millions)
Mortgage-backed Securities Principal
Balance at December 31, 2012
$
12,757

Principal purchases
4,801

Principal paydowns
(2,197
)
Balance at September 30, 2013
$
15,361


Principal paydowns in the first three quarters equated to a 19 percent annual constant prepayment rate, down from the 25 percent rate in all of 2012. Purchases during the first nine months were primarily in fixed-rate collateralized mortgage obligations (CMOs) and 20-year pass-through securities, with purchase prices near par or at discounts. Yields earned on new purchases, relative to funding costs, continued to offer acceptable risk-adjusted returns.
 

57

Consolidated Obligations

The table below presents the ending and average balances of our participations in Consolidated Obligations.
 
Nine Months Ended
 
Year Ended
(In millions)
September 30, 2013
 
December 31, 2012
 
Ending Balance
 
Average Balance
 
Ending Balance
 
Average Balance
Discount Notes:
 
 
 
 
 
 
 
Par
$
33,546

 
$
34,658

 
$
30,848

 
$
29,504

Discount
(4
)
 
(8
)
 
(8
)
 
(5
)
Total Discount Notes
33,542

 
34,650

 
30,840

 
29,499

Bonds:
 
 
 
 
 
 
 
Unswapped fixed-rate
22,223

 
22,785

 
21,689

 
18,680

Unswapped adjustable-rate
29,250

 
22,419

 
14,830

 
3,086

Swapped fixed-rate
4,655

 
4,433

 
7,704

 
9,197

Total par Bonds
56,128

 
49,637

 
44,223

 
30,963

Other items (1)
123

 
120

 
123

 
128

Total Bonds
56,251

 
49,757

 
44,346

 
31,091

Total Consolidated Obligations (2)
$
89,793

 
$
84,407

 
$
75,186

 
$
60,590

(1)
Includes unamortized premiums/discounts, fair value option valuation adjustments, hedging and other basis adjustments.
(2)
The 12 FHLBanks have joint and several liability for the par amount of all of the Consolidated Obligations issued on their behalves. The par amount of the outstanding Consolidated Obligations of all 12 FHLBanks was (in millions) $720,725 and $687,902 at September 30, 2013 and December 31, 2012, respectively.

The increase in the ending and average balances of unswapped adjustable-rate Bonds and short-term Discount Notes reflected the growth in Advances and our decision to avoid transacting certain new interest rates swaps (i.e., swapped fixed-rate Bonds) in light of the current unresolved uncertainties with costs, operating and regulatory processes, and credit risks associated with derivatives clearing requirements under the Dodd-Frank Act. The increase in the average balance of unswapped fixed-rate Bonds reflected growth in average mortgage assets and reduction in the average amount of balance sheet short funding in the first nine months of 2013 compared to the 2012 average balance. The relative stability in the ending balance of unswapped fixed-rate Bonds reflected normal rebalancing of market risk exposure via changes in the amount of short funding.

Long-term Bonds normally have an interest cost at a spread above U.S. Treasury securities and below LIBOR. Discount Notes, swapped Bonds, and adjustable-rate Bonds normally have interest costs below LIBOR. The level of these spreads and their volatility in the first nine months of 2013 were comparable to historical ranges.
 
 
 
 
 
 
 
Deposits

Members' deposits with us are normally a relatively minor source of low-cost funding. Total interest bearing deposits at September 30, 2013 were $0.9 billion, a decrease of $0.3 billion (24 percent) from year-end 2012. The average balance of total interest bearing deposits in the first nine months of 2013 was $1.1 billion, a decrease of four percent from the average balance during the same period of 2012.

Derivatives Hedging Activity and Liquidity

Our use of and accounting for derivatives is discussed in the "Effect of the Use of Derivatives on Net Interest Income" section in "Results of Operations." Liquidity is discussed in the "Liquidity Risk" section in “Quantitative and Qualitative Disclosures About Risk Management.” We did not change our strategy of using derivatives solely to manage market risk exposure in the first nine months of 2013.


58

Capital Resources

The following tables present capital amounts and capital-to-assets ratios, on both a GAAP and regulatory basis.
 
Nine Months Ended
 
Year Ended
GAAP and Regulatory Capital
September 30, 2013
 
December 31, 2012
(In millions)
Period End
 
Average
 
Period End
 
Average
GAAP Capital Stock
$
4,701

 
$
4,479

 
$
4,010

 
$
3,297

Mandatorily Redeemable Capital Stock
121

 
146

 
211

 
252

Regulatory Capital Stock
4,822

 
4,625

 
4,221

 
3,549

Retained Earnings
604

 
587

 
538

 
501

Regulatory Capital
$
5,426

 
$
5,212

 
$
4,759

 
$
4,050

 
Nine Months Ended
 
Year Ended
GAAP and Regulatory Capital-to-Assets Ratio
September 30, 2013
 
December 31, 2012
 
Period End
 
Average
 
Period End
 
Average
GAAP
5.48
%
 
5.53
%
 
5.56
%
 
5.68
%
Regulatory
5.62

 
5.70

 
5.84

 
6.07

 
 
 
 
Both the GAAP and regulatory capital-to-assets ratios were well above the regulatory required minimum of four percent.
We consider the regulatory ratio to be a better representation of financial leverage than the GAAP ratio because, although the GAAP ratio treats mandatorily redeemable capital stock as a liability, it protects investors in our debt in the same way that GAAP capital stock and retained earnings do. Financial leverage is defined as the inverse of capital ratios, and therefore increases as capital ratios decline.

In the first nine months of 2013, our capital base increased due mostly to required stock purchases to support Advance growth, while the amount of financial leverage, as represented by a lower regulatory capital-to-assets ratio, was relatively stable.
 
 
 
 
The amount of excess capital stock was $1.2 billion at September 30, 2013. Excess stock provides a base of capital to manage financial leverage at prudent levels, augment loss protections for bondholders, and capitalize a portion of potential growth in new Mission Assets. A Finance Agency Regulation prohibits us from paying stock dividends if the amount of our regulatory excess stock (as defined by the Finance Agency) exceeds one percent of total assets on a dividend payment date. Since the end of 2008, this regulatory threshold has been exceeded and, therefore, we have been required to pay cash dividends.

At September 30, 2013, the total amount of retained earnings were comprised of $506 million unrestricted (an increase of $27 million from year-end 2012) and $98 million restricted (an increase of $39 million), which are not permitted to be distributed as dividends. We believe that the amount of retained earnings is sufficient to protect against impairment risk of capital stock and to provide the opportunity to stabilize dividends if earnings experience exceptional stress. Further discussion is in the "Capital Adequacy" section of "Quantitative and Qualitative Disclosures About Risk Management."

Membership and Stockholders

In the first nine months of 2013, we added three new member stockholders and lost 13 members, ending the third quarter at 732. The 13 lost members included nine that merged with other Fifth District members, one that merged out of the District, and three that failed and were taken into Federal Deposit Insurance Corporation receivership. The impact on our earnings and Mission Asset Activity from the members lost was negligible. We will continue to recruit the remaining institutions eligible for membership in order to maintain and expand our customer base.
 
 
 
 
 
 
 
 
 
 
 
 
 

59

RESULTS OF OPERATIONS

Components of Earnings and Return on Equity

The following table is a summary income statement for the three and nine months ended September 30, 2013 and 2012. Each ROE percentage is computed by dividing income or expense for the category by the average amount of stockholders' equity for the period. Factors determining the level of, and changes in, net income and ROE are explained in the remainder of this section.
 
Three Months Ended September 30,
 
Nine Months Ended September 30,
(Dollars in millions)
2013
 
2012
 
2013
 
2012
 
Amount
 
ROE (a)
 
Amount
 
ROE (a)
 
Amount
 
ROE (a)
 
Amount
 
ROE (a)
Net interest income
$
91

 
6.80
 %
 
$
83

 
8.71
 %
 
$
245

 
6.49
 %
 
$
217

 
7.89
%
(Reversal) provision for credit losses
(1
)
 
(0.07
)
 
(1
)
 
(0.05
)
 
(8
)
 
(0.20
)
 
1

 
0.03

Net interest income after (reversal) provision for credit losses
92

 
6.87

 
84

 
8.76

 
253

 
6.69

 
216

 
7.86

Net gains on derivatives and hedging activities
1

 
0.11

 
4

 
0.36

 
4

 
0.11

 
10

 
0.38

Other non-interest income (loss)
3

 
0.20

 
(8
)
 
(0.80
)
 
9

 
0.24

 
7

 
0.25

Total non-interest income (loss)
4

 
0.31

 
(4
)
 
(0.44
)
 
13

 
0.35

 
17

 
0.63

Total revenue
96

 
7.18

 
80

 
8.32

 
266

 
7.04

 
233

 
8.49

Total other expense
16

 
1.21

 
15

 
1.57

 
47

 
1.24

 
43

 
1.58

Assessments
8

 
0.60

 
7

 
0.70

 
22

 
0.59

 
20

 
0.72

Net income
$
72

 
5.37
 %
 
$
58

 
6.05
 %
 
$
197

 
5.21
 %
 
$
170

 
6.19
%
(a)
The ROE amounts have been computed using dollars in thousands. Accordingly, recalculations based upon the disclosed amounts (millions) in this table may produce nominally different results.

The most significant individual contributors to the higher net income in the first nine months of 2013 were higher Advance balances, lower net amortization, and reversals of credit losses estimated in the MPP. ROE fell in both periods because of growth in average capital ($1.5 billion and $1.4 billion in the three- and nine-month comparison periods, respectively) to support the Advance growth combined with several factors that lowered income, offsetting much of the impact of the favorable factors. The most notable unfavorable factors were changes in income from asset-liability management actions described below, lower MPP balances, lower earnings from deployment of interest-free capital, and net gains on securities sales recognized in 2012 that did not reoccur in the first nine months of 2013.
 


60

Net Interest Income

Components of Net Interest Income
The following table shows the major components of net interest income. Reasons for the variance in net interest income between the comparison periods are discussed below.
 
Three Months Ended September 30,
 
Nine Months Ended September 30,
(Dollars in millions)
2013
 
2012
 
2013
 
2012
 
Amount
Pct of Earning Assets
 
Amount
Pct of Earning Assets
 
Amount
Pct of Earning Assets
 
Amount
Pct of Earning Assets
Components of net interest rate spread:
 
 
 
 
 
 
 
 
 
 
 
Other components of net interest rate spread
$
81

0.33
%
 
$
79

0.47
 %
 
$
216

0.32
%
 
$
217

0.45
 %
Net (amortization)/accretion (1) (2)
1

0.01

 
(9
)
(0.05
)
 
—

—

 
(42
)
(0.09
)
Prepayment fees on Advances, net (2)
—

—

 
2

0.01

 
1

—

 
7

0.02

Total net interest rate spread
82

0.34

 
72

0.43

 
217

0.32

 
182

0.38

Earnings from funding assets with interest-free capital
9

0.04

 
11

0.06

 
28

0.04

 
35

0.07

Total net interest income/net interest margin (3)
$
91

0.38
%
 
$
83

0.49
 %
 
$
245

0.36
%
 
$
217

0.45
 %
(1)
Includes (amortization)/accretion of premiums/discounts on mortgage assets and Consolidated Obligations and deferred transaction costs (concession fees) for Consolidated Obligations.
(2)
These components of net interest rate spread have been segregated here to display their relative impact.
(3)
Net interest margin is net interest income before (reversal)/provision for credit losses as a percentage of average total interest earning assets.

Earnings From Capital. The earnings from funding assets with interest-free capital has become a smaller proportion of net interest income due to the continued extremely low interest rate environment. The earnings from capital fell in each of the two comparison periods due to a reduction in average interest rates.

Net Amortization/Accretion. Net amortization/accretion (generally referred to as "amortization") includes monthly recognition of premiums and discounts paid on purchases of mortgage assets, as well as premiums, discounts and concessions paid on Consolidated Obligations. Periodic amortization adjustments do not necessarily indicate a trend in economic return over the entire life of mortgage assets, although amortization over the entire life is one component of lifetime economic returns.

The amount of net amortization was low and below a normalized level in the three and nine months ended September 30, 2013. The substantial decrease in net amortization in each of the two comparison periods resulted primarily from a decline in actual and projected prepayment speeds due to an increase in mortgage rates in the first nine months of 2013, especially the second and third quarters. A secondary factor was a decline in premium balance discussed below.

At September 30, 2013, the net premium balance of mortgage assets totaled $172 million compared to $199 million at the end of 2012. The decline was mostly due to the purchase of mortgage-backed securities at prices near par or in some cases at slight discounts, compared to the premiums on mortgage assets that paid down. MPP loans continued to be purchased mostly at premium prices in the first nine months of 2013, although at a lower amount compared to the prior year.

Prepayment Fees on Advances. Fees for members' early repayment of certain Advances are designed to make us economically indifferent to whether members hold Advances to maturity or repay them before maturity. Although Advance prepayment fees can be, and in the past have been, significant, they were modest in each of the periods presented.

Other Components of Net Interest Rate Spread. Excluding net amortization and prepayment fees, the total other components of net interest rate spread changed only $2 million in the three-months comparison and $1 million in the nine-months comparison. The following factors, discussed below in estimated approximate order of impact from largest to smallest, accounted for the changes in net interest rate spread due to other components.




61

Nine-Months Comparison
▪
Advance growth-Favorable: The growth in average Advance balances and new capital stock purchased to support the growth improved net interest income by an estimated $60 million. A portion of the gain to net interest income from this factor included leveraging the additional capital with mortgage-backed securities.
▪
Asset-liability management-Unfavorable: Management strategies and actions, along with changes in the market rate environment, related to asset-liability management and market risk exposure lowered earnings on a net basis, for the following reasons:
1)
We decreased the amount of fixed-rate mortgages funded with short-term debt, which lowered earnings by an estimated $22 million.
2)
We normally use short-term Discount Notes to fund a substantial amount of LIBOR-indexed assets. The average spread between LIBOR and Discount Notes was narrower in the first nine months of 2013, lowering net interest income by an estimated $14 million.
3)
We replaced, over the prior 12 months, a substantial amount of high-cost debt (Consolidated Bonds) with issuance of new debt at lower rates. This effect exceeded the impact of paydowns of high-yielding mortgage assets. These two factors combined increased net interest income by an estimated $16 million and partially offset the other two factors for asset-liability management.
We estimate that the overall impact of asset-liability management actions decreased interest income $20 million.

▪
Trading securities-Unfavorable: In the first nine months of 2012, we held a large amount of investments in short-term trading securities (including instruments of the U.S. Treasury and GSEs) in order to enhance asset liquidity and manage counterparty credit risk. No short-term trading securities were held in 2013. Many of the trading securities were purchased with above-market coupon rates, which resulted in an estimated $29 million increase in net interest income in the first nine months of 2012. However, this was offset by earnings reductions in other non-interest income (specifically, net unrealized market value losses on trading securities), with the resulting combined earnings from the trading securities reflecting at-market rates. See "Non-Interest Income and Non-Interest Expense" below for a discussion of the net losses on trading securities.
▪
Lower balances on MPP loans-Unfavorable: The average balance of MPP loans declined $1.0 billion, which reduced net interest income by an estimated $13 million.

Three-Months Comparison
For the three-months comparison, the same factors generally affected the other components of net interest rate spread as in the nine-months comparison and in approximately the same relative magnitude.

62

Average Balance Sheet and Rates
The following tables provide average rates and average balances for major balance sheet accounts, which determine the changes in the net interest rate spread. All data include the impact of interest rate swaps, which we allocate to each asset and liability category according to their designated hedging relationship. The changes in the net interest rate spread and net interest margin between the periods shown occurred mostly from the net impact of the factors discussed above in “Components of Net Interest Income.”
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
(Dollars in millions)
Three Months Ended
 
Three Months Ended
 
September 30, 2013
 
September 30, 2012
 
Average Balance
 
Interest
 
Average Rate (1)
 
Average Balance
 
Interest
 
Average Rate (1)
Assets
 
 
 
 
 
 
 
 
 
 
 
Advances
$
63,966

 
$
79

 
0.49
%
 
$
33,033

 
$
62

 
0.74
%
Mortgage loans held for portfolio (2)
6,926

 
66

 
3.77

 
8,060

 
82

 
4.04

Federal funds sold and securities purchased under resale agreements
7,796

 
1

 
0.07

 
9,576

 
3

 
0.14

Interest-bearing deposits in banks (3) (4) (5)
1,694

 
1

 
0.13

 
606

 
—

 
0.16

Mortgage-backed securities
15,291

 
84

 
2.17

 
11,608

 
73

 
2.52

Other investments (4)
27

 
—

 
0.10

 
4,453

 
11

 
0.96

Loans to other FHLBanks
3

 
—

 
—

 
3

 
—

 
0.12

Total earning assets
95,703

 
231

 
0.96

 
67,339

 
231

 
1.37

Less: allowance for credit losses on mortgage loans
9

 
 
 
 
 
19

 
 
 
 
Other assets
167

 
 
 
 
 
183

 
 
 
 
Total assets
$
95,861

 
 
 
 
 
$
67,503

 
 
 
 
Liabilities and Capital
 
 
 
 
 
 
 
 
 
 
 
Term deposits
$
130

 
—

 
0.16

 
$
125

 
—

 
0.22

Other interest bearing deposits (5)
888

 
—

 
0.01

 
1,032

 
—

 
0.01

Short-term borrowings
34,342

 
9

 
0.10

 
30,498

 
9

 
0.12

Unswapped fixed-rate Consolidated Bonds
22,585

 
119

 
2.08

 
17,695

 
129

 
2.91

Unswapped adjustable-rate Consolidated Bonds
28,450

 
10

 
0.14

 
3,195

 
2

 
0.26

Swapped Consolidated Bonds
3,408

 
1

 
0.13

 
10,003

 
5

 
0.20

Mandatorily redeemable capital stock
123

 
1

 
4.26

 
247

 
3

 
4.26

Total interest-bearing liabilities
89,926

 
140

 
0.62

 
62,795

 
148

 
0.94

Non-interest bearing deposits
19

 
 
 
 
 
18

 
 
 
 
Other liabilities
619

 
 
 
 
 
884

 
 
 
 
Total capital
5,297

 
 
 
 
 
3,806

 
 
 
 
Total liabilities and capital
$
95,861

 
 
 
 
 
$
67,503

 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Net interest rate spread
 
 
 
 
0.34
%
 
 
 
 
 
0.43
%
Net interest income and net interest margin (6)
 
 
$
91

 
0.38
%
 
 
 
$
83

 
0.49
%
Average interest-earning assets to interest-bearing liabilities
 
 
 
 
106.42
%
 
 
 
 
 
107.23
%
(1)
Amounts used to calculate average rates are based on dollars in thousands. Accordingly, recalculations based upon the disclosed amounts (millions) may not produce the same results.
(2)
Non-accrual loans are included in average balances used to determine average rate.
(3)
Includes certificates of deposit and bank notes that are classified as available-for-sale securities.
(4)
Includes available-for-sale securities based on their amortized costs. The yield information does not give effect to changes in fair value that are reflected as a component of stockholders' equity for available-for-sale securities.
(5)
The average balance amounts include the rights or obligations to cash collateral, which are included in the fair value of derivative assets or derivative liabilities on the Statements of Condition at period end.
(6)
Net interest margin is net interest income before (reversal)/provision for credit losses as a percentage of average total interest earning assets.

63

 
 
 
 
 
 
 
 
 
 
 
 
(Dollars in millions)
Nine Months Ended
 
Nine Months Ended
 
September 30, 2013
 
September 30, 2012
 
Average Balance
 
Interest
 
Average Rate (1)
 
Average Balance
 
Interest
 
Average Rate (1)
Assets
 
 
 
 
 
 
 
 
 
 
 
Advances
$
60,579

 
$
229

 
0.51
%
 
$
30,706

 
$
185

 
0.80
%
Mortgage loans held for portfolio (2)
7,143

 
207

 
3.87

 
8,068

 
240

 
3.97

Federal funds sold and securities purchased under resale agreements
8,467

 
6

 
0.10

 
7,563

 
7

 
0.13

Interest-bearing deposits in banks (3) (4) (5)
1,162

 
1

 
0.14

 
2,499

 
3

 
0.16

Mortgage-backed securities
13,884

 
228

 
2.20

 
11,078

 
220

 
2.65

Other investments (4)
26

 
—

 
0.12

 
5,000

 
35

 
0.93

Loans to other FHLBanks
4

 
—

 
0.13

 
2

 
—

 
0.11

Total earning assets
91,265

 
671

 
0.98

 
64,916

 
690

 
1.42

Less: allowance for credit losses on mortgage loans
13

 
 
 
 
 
20

 
 
 
 
Other assets
160

 
 
 
 
 
195

 
 
 
 
Total assets
$
91,412

 
 
 
 
 
$
65,091

 
 
 
 
Liabilities and Capital
 
 
 
 
 
 
 
 
 
 
 
Term deposits
$
126

 
—

 
0.17

 
$
114

 
—

 
0.22

Other interest bearing deposits (5)
992

 
—

 
0.01

 
1,050

 
—

 
0.01

Short-term borrowings
34,650

 
29

 
0.11

 
28,678

 
20

 
0.09

Unswapped fixed-rate Consolidated Bonds
22,858

 
362

 
2.12

 
18,416

 
423

 
3.07

Unswapped adjustable-rate Consolidated Bonds
22,419

 
26

 
0.16

 
2,126

 
4

 
0.27

Swapped Consolidated Bonds
4,480

 
5

 
0.13

 
9,845

 
17

 
0.22

Mandatorily redeemable capital stock
146

 
4

 
4.01

 
263

 
9

 
4.45

Other borrowings
5

 
—

 
0.12

 
1

 
—

 
0.37

Total interest-bearing liabilities
85,676

 
426

 
0.66

 
60,493

 
473

 
1.04

Non-interest bearing deposits
19

 
 
 
 
 
17

 
 
 
 
Other liabilities
661

 
 
 
 
 
910

 
 
 
 
Total capital
5,056

 
 
 
 
 
3,671

 
 
 
 
Total liabilities and capital
$
91,412

 
 
 
 
 
$
65,091

 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Net interest rate spread
 
 
 
 
0.32
%
 
 
 
 
 
0.38
%
Net interest income and net interest margin (6)
 
 
$
245

 
0.36
%
 
 
 
$
217

 
0.45
%
Average interest-earning assets to interest-bearing liabilities
 
 
 
 
106.52
%
 
 
 
 
 
107.31
%
(1)
Amounts used to calculate average rates are based on dollars in thousands. Accordingly, recalculations based upon the disclosed amounts (millions) may not produce the same results.
(2)
Non-accrual loans are included in average balances used to determine average rate.
(3)
Includes certificates of deposit and bank notes that are classified as available-for-sale securities.
(4)
Includes available-for-sale securities based on their amortized costs. The yield information does not give effect to changes in fair value that are reflected as a component of stockholders' equity for available-for-sale securities.
(5)
The average balance amounts include the rights or obligations to cash collateral, which are included in the fair value of derivative assets or derivative liabilities on the Statements of Condition at period end.
(6)
Net interest margin is net interest income before (reversal)/provision for credit losses as a percentage of average total interest earning assets.

The net interest spread and net interest margin decreased in the three- and nine-months comparison due to a significant increase in the composition of Advances to total assets and, secondarily, to the unfavorable earnings factors discussed in the previous section. Although the Advance growth resulted in an overall benefit to net interest income because of a larger asset base, the growth lowered the spread and margin because Advances tend to have lower spreads to funding costs compared to mortgage assets.


64

For both comparison periods, the decline in the average rate on total earning assets resulted from the continued low rate environment and changes in the composition of the balance sheet due to Advance growth and related funding at lower-than-average rates.

Volume/Rate Analysis
Changes in both average balances (volume) and interest rates influence changes in net interest income. The following table summarizes these changes and trends in interest income and interest expense.
(In millions)
Three Months Ended
September 30, 2013 over 2012
 
Nine Months Ended
September 30, 2013 over 2012
 
Volume (1)(3)
 
Rate (2)(3)
 
Total
 
Volume (1)(3)
 
Rate (2)(3)
 
Total
Increase (decrease) in interest income
 
 
 
 
 
 
 
 
 
 
 
Advances
$
43

 
$
(26
)
 
$
17

 
$
131

 
$
(87
)
 
$
44

Mortgage loans held for portfolio
(11
)
 
(5
)
 
(16
)
 
(27
)
 
(6
)
 
(33
)
Federal funds sold and securities purchased under resale agreements
(1
)
 
(1
)
 
(2
)
 
1

 
(2
)
 
(1
)
Interest-bearing deposits in banks
1

 
—

 
1

 
(1
)
 
(1
)
 
(2
)
Mortgage-backed securities
22

 
(11
)
 
11

 
50

 
(42
)
 
8

Other investments
(6
)
 
(5
)
 
(11
)
 
(19
)
 
(16
)
 
(35
)
Loans to other FHLBanks
—

 
—

 
—

 
—

 
—

 
—

Total
48

 
(48
)
 
—

 
135

 
(154
)
 
(19
)
Increase (decrease) in interest expense
 
 
 
 
 
 
 
 
 
 
 
Term deposits
—

 
—

 
—

 
—

 
—

 
—

Other interest-bearing deposits
—

 
—

 
—

 
—

 
—

 
—

Short-term borrowings
2

 
(2
)
 
—

 
5

 
4

 
9

Unswapped fixed-rate Bonds
31

 
(41
)
 
(10
)
 
88

 
(149
)
 
(61
)
Unswapped adjustable-rate Bonds
9

 
(1
)
 
8

 
24

 
(2
)
 
22

Swapped Bonds
(3
)
 
(1
)
 
(4
)
 
(7
)
 
(5
)
 
(12
)
Mandatorily redeemable capital stock
(2
)
 
—

 
(2
)
 
(4
)
 
(1
)
 
(5
)
Other borrowings
—

 
—

 
—

 
—

 
—

 
—

Total
37

 
(45
)
 
(8
)
 
106

 
(153
)
 
(47
)
Increase (decrease) in net interest income
$
11

 
$
(3
)
 
$
8

 
$
29

 
$
(1
)
 
$
28

(1)
Volume changes are calculated as the change in volume multiplied by the prior year rate.
(2)
Rate changes are calculated as the change in rate multiplied by the prior year average balance.
(3)
Changes that are not identifiable as either volume-related or rate-related, but rather are equally attributable to both volume and rate changes, have been allocated to the volume and rate categories based upon the proportion of the absolute value of the volume and rate changes.


65

Effect of the Use of Derivatives on Net Interest Income
The following table shows the effect of using derivatives on net interest income. The table does not show the effect on earnings from the non-interest components of derivatives related to market value adjustments. This is provided in the next section “Non-Interest Income and Non-Interest Expense.”
 
Three Months Ended September 30,
 
Nine Months Ended September 30,
(In millions)
2013
 
2012
 
2013
 
2012
Advances:
 
 
 
 
 
 
 
Amortization/accretion of hedging activities in net interest income
$
(1
)
 
$
(1
)
 
$
(3
)
 
$
(2
)
Net interest settlements included in net interest income
(26
)
 
(49
)
 
(81
)
 
(207
)
Mortgage loans:
 
 
 
 
 
 
 
Amortization of derivative fair value adjustments in net interest income
—

 
—

 
(2
)
 
(3
)
Consolidated Obligation Bonds:
 
 
 
 
 
 
 
Net interest settlements included in net interest income
6

 
9

 
22

 
27

Decrease to net interest income
$
(21
)
 
$
(41
)
 
$
(64
)
 
$
(185
)

Most of our derivatives synthetically convert the intermediate- and long-term fixed interest rates on certain Advances and Bonds to adjustable-coupon rates tied to short-term LIBOR (mostly one- and three-month repricing resets). These adjustable-rate coupons normally carry lower interest rates than the fixed rates. The use of derivatives lowered net interest income in each period primarily because the Advances that were swapped to short-term LIBOR had higher fixed interest rates than the Bonds that were swapped to short-term LIBOR. This reduction in earnings was acceptable because it enabled us, as designed, to significantly lower market risk exposure by creating a much closer match of actual cash flows between assets and liabilities than would occur otherwise. The reduction was significantly smaller in the three- and nine-month periods of 2013 compared to the same periods in 2012 primarily due to a decrease in the notional amount of swaps outstanding.

See the section “Use of Derivatives in Market Risk Management” in “Quantitative and Qualitative Disclosures About Risk Management” for further information on our use of derivatives.

Provision for Credit Losses

In the first nine months of 2013, we recorded a $7.5 million reversal for estimated incurred credit losses in the MPP compared to a provision for credit losses of $0.9 million in the same period of 2012. The change in estimated credit losses was mostly a result of improvements in the housing market as reflected by higher home prices and improved delinquency trends. Further information is in the "Credit Risk - MPP" section in "Quantitative and Qualitative Disclosures About Risk Management" and Note 9 of the Notes to Unaudited Financial Statements.

66

Non-Interest Income and Non-Interest Expense

The following table presents non-interest income and non-interest expense for each of the three and nine months ended September 30, 2013 and 2012.
(Dollars in millions)
Three Months Ended September 30,
 
Nine Months Ended September 30,
 
2013
 
2012
 
2013
 
2012
Other Non-Interest Income
 
 
 
 
 
 
 
Net gains on held-to-maturity securities
$
—

 
$
—

 
$
—

 
$
29

Net gains on derivatives and hedging activities
1

 
4

 
4

 
10

Other non-interest income (loss), net
3

 
(8
)
 
9

 
(22
)
Total other non-interest income (loss)
$
4

 
$
(4
)
 
$
13

 
$
17

 
 
 
 
 
 
 
 
Other Expense
 
 
 
 
 
 
 
Compensation and benefits
$
9

 
$
7

 
$
25

 
$
23

Other operating expense
4

 
4

 
13

 
10

Finance Agency
1

 
1

 
3

 
5

Office of Finance
1

 
1

 
3

 
2

Other
1

 
2

 
3

 
3

Total other expense
$
16

 
$
15

 
$
47

 
$
43

Average total assets
$
95,861

 
$
67,503

 
$
91,412

 
$
65,091

Average regulatory capital
5,431

 
4,062

 
5,212

 
3,944

Total other expense to average total assets (1)
0.07
%
 
0.09
%
 
0.07
%
 
0.09
%
Total other expense to average regulatory capital (1)
1.18

 
1.48

 
1.20

 
1.47

(1)
Amounts used to calculate percentages are based on dollars in thousands. Accordingly, recalculations based upon the disclosed amounts (millions) may not produce the same results.        

The net gains on held-to-maturity securities in 2012 occurred from the sales of mortgage-backed securities. Each of the securities sold had less than 15 percent of the original acquired principal remaining and were sold under our periodic clean-up process.

Other non-interest income (loss), net increased in the 2013 periods due primarily to losses recorded on trading securities in 2012 that were no longer held in 2013. As discussed above in “Components of Net Interest Income,” the losses on the trading securities occurred because these securities had above-market coupon rates and, therefore, were purchased at prices above par. The related premiums paid are recognized as mark-to-market losses to the securities as their fair values approach par at maturity. As noted earlier, the resulting net earnings from the trading securities reflected at-market returns.

Other expenses continued to experience modest increases in 2013. Most of the increase in 2013's other expenses reflected funding of pension programs in the current interest rate environment and an increase in fees for legal services.


67

Effect of Derivatives and Hedging Activities
(In millions)
Three Months Ended September 30,
 
Nine Months Ended September 30,
 
2013
 
2012
 
2013
 
2012
Net gains on derivatives and hedging activities
 
 
 
 
 
 
 
Advances:
 
 
 
 
 
 
 
Gains on fair value hedges
$
2

 
$
—

 
$
7

 
$
7

(Losses) gains on derivatives not receiving hedge accounting
(1
)
 
(2
)
 
5

 
(5
)
Mortgage loans:
 
 
 
 
 
 
 
(Losses) gains on derivatives not receiving hedge accounting
(1
)
 
5

 
(10
)
 
3

Consolidated Obligation Bonds:
 
 
 
 
 
 
 
(Losses) gains on fair value hedges
—

 
(1
)
 
1

 
(1
)
Gains on derivatives not receiving hedge accounting
1

 
2

 
1

 
6

Total net gains on derivatives and hedging activities
1

 
4

 
4

 
10

Net (losses) gains on financial instruments held at fair value (1)
(1
)
 
(1
)
 
—

 
2

Total net effect of derivatives and hedging activities
$
—

 
$
3

 
$
4

 
$
12

(1)
Includes only those gains or losses on financial instruments held at fair value that have an economic derivative "assigned."

The changes in net gains on derivatives and hedging activities represented unrealized market value adjustments. The amounts of income volatility in derivatives and hedging activities were minor compared to the notional principal amounts, well within the range of normal historical fluctuation, and consistent with the close hedging relationships of our derivative transactions. In each of the periods shown, the market value adjustment, as a percentage of the notional amount of derivatives, was less than 0.10 percentage points.

Affordable Housing Program Assessments

In the first nine months of 2013, assessments totaled $22 million and lowered ROE by 0.59 percentage points. In the first nine months of 2012, assessments totaled $20 million and lowered ROE by 0.72 percentage points. The smaller impact of assessments on ROE in the first nine months of 2013 was due primarily to the growth in capital throughout 2012 and the first nine months of 2013.
 
 
 
 
 
 

68

Segment Information

Note 17 of the Notes to Unaudited Financial Statements presents information on our two operating business segments. We manage financial operations and market risk exposure primarily at the macro level, and within the context of the entire balance sheet, rather than exclusively at the level of individual segments. Under this approach, the market risk/return profile of each segment may not match, or possibly even have the same trends as, what would occur if we managed each segment on a stand-alone basis. The tables below summarize each segment's operating results for the periods shown.
(Dollars in millions)
Traditional Member Finance
 
MPP
 
Total
Three Months Ended September 30, 2013
 
 
 
 
 
Net interest income after reversal for credit losses
$
65

 
$
27

 
$
92

Net income
$
51

 
$
21

 
$
72

Average assets
$
88,917

 
$
6,944

 
$
95,861

Assumed average capital allocation
$
4,913

 
$
384

 
$
5,297

Return on Average Assets (1)
0.23
%
 
1.17
%
 
0.30
%
Return on Average Equity (1)
4.13
%
 
21.15
%
 
5.37
%
 
 
 
 
 
 
Three Months Ended September 30, 2012
 
 
 
 
 
Net interest income after reversal for credit losses
$
53

 
$
31

 
$
84

Net income
$
27

 
$
31

 
$
58

Average assets
$
59,429

 
$
8,074

 
$
67,503

Assumed average capital allocation
$
3,351

 
$
455

 
$
3,806

Return on Average Assets (1)
0.18
%
 
1.51
%
 
0.34
%
Return on Average Equity (1)
3.22
%
 
26.86
%
 
6.05
%
(1)
Amounts used to calculate returns are based on numbers in thousands. Accordingly, recalculations based upon the disclosed amounts (millions) may not produce the same results.
 
 
 
 
 
 

69

 
 
 
 
 
 
(Dollars in millions)
Traditional Member Finance
 
MPP
 
Total
Nine Months Ended September 30, 2013
 
 
 
 
 
Net interest income after reversal for credit losses
$
170

 
$
83

 
$
253

Net income
$
137

 
$
60

 
$
197

Average assets
$
84,254

 
$
7,158

 
$
91,412

Assumed average capital allocation
$
4,660

 
$
396

 
$
5,056

Return on Average Assets (1)
0.22
%
 
1.13
%
 
0.29
%
Return on Average Equity (1)
3.92
%
 
20.40
%
 
5.21
%
 
 
 
 
 
 
Nine Months Ended September 30, 2012
 
 
 
 
 
Net interest income after provision for credit losses
$
145

 
$
71

 
$
216

Net income
$
109

 
$
61

 
$
170

Average assets
$
57,010

 
$
8,081

 
$
65,091

Assumed average capital allocation
$
3,215

 
$
456

 
$
3,671

Return on Average Assets (1)
0.25
%
 
1.02
%
 
0.35
%
Return on Average Equity (1)
4.51
%
 
18.00
%
 
6.19
%
(1)
Amounts used to calculate returns are based on numbers in thousands. Accordingly, recalculations based upon the disclosed amounts (millions) may not produce the same results.

Traditional Member Finance Segment
The increase in net interest income in both the three- and nine-month comparison periods reflected the net effect of the factors related to this segment as discussed in "Components of Net Interest Income." Both ROE and net income increased in the three-month comparison because income from Advance growth and lower net amortization more than offset the negative impact of capital growth on ROE.

In the nine-month comparison, ROE decreased even though net income increased because the total increase in income for the nine-month comparison was not enough to offset the increase in average total capital to support Advance growth, which diluted ROE because earnings were spread over a larger capital base. A large portion of the increase in income from Advance growth and lower net amortization was offset by gains from the sale of mortgage-backed securities in the second quarter of 2012 as discussed in "Non-Interest Income and Non-Interest Expense."

MPP Segment
The MPP continued to earn a substantial level of return compared with market interest rates, with a moderate amount of market risk and credit risk. In the first nine months of 2013, the MPP averaged eight percent of total average assets while accounting for 31 percent of earnings.

MPP net income and ROE decreased in the three-month comparison due to lower MPP balances and a decrease in the amount of short-funding allocated to the segment as discussed in "Components of Net Interest Income," in addition to losses on derivatives hedging mortgage loans in 2013 as discussed in "Effect of Derivatives and Hedging Activities."

Net income for the nine-month comparison was relatively unchanged. The stability reflected the factors referenced for the three-month comparison and, in addition, lower net amortization, larger reversals for credit losses, and the replacement of high-cost debt (Consolidated Bonds) with issuance of new debt at lower rates. ROE for the nine-month comparison increased although net income remained relatively constant due to a lower amount of allocated capital as a result of lower MPP balances.

Compared to the Traditional Member Finance segment, the MPP segment can exhibit more earnings volatility relative to short-term interest rates and more credit risk exposure, but also provides the opportunity for enhancing risk-adjusted returns which normally augments earnings. As discussed elsewhere, although mortgage assets are the largest source of our market risk, we believe that we have historically managed the risk prudently and that these assets do not excessively elevate the balance sheet's overall market risk exposure.



70

QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT RISK MANAGEMENT

Market Risk

Market Value of Equity and Duration of Equity - Entire Balance Sheet
Market risk exposure is the risk that net income and the value of stockholders' capital investment in the FHLBank may decrease, and that our profitability may be uncompetitive as a result of changes in the market environment and business conditions. Along with business/strategic risk, market risk is normally one of our largest residual risks. We attempt to maintain a moderate amount of market risk exposure while earning a competitive return on members' capital stock investment.

Two key measures of long-term market risk exposure are the sensitivities of the market value of equity and the duration of equity to changes in interest rates and other variables, as presented in the following tables for various instantaneous and permanent interest rate shocks. Average results are compiled using data for each month end. Given the current very low level of rates, the down rate shocks are nonparallel scenarios, with short-term rates decreasing less than long-term rates so that no rate falls below zero.

Market Value of Equity
(Dollars in millions)
Down 300
 
Down 200
 
Down 100
 
Flat Rates
 
Up 100
 
Up 200
 
Up 300
Average Results
 
 
 
 
 
 
 
 
 
 
 
 
 
2013 Year-to-Date
 
 
 
 
 
 
 
 
 
 
 
 
 
Market Value of Equity
$
5,310

 
$
5,323

 
$
5,272

 
$
5,135

 
$
4,964

 
$
4,780

 
$
4,602

% Change from Flat Case
3.4
 %
 
3.7
 %
 
2.7
 %
 
—

 
(3.3
)%
 
(6.9
)%
 
(10.4
)%
2012 Full Year
 
 
 
 
 
 
 
 
 
 
 
 
 
Market Value of Equity
$
4,281

 
$
4,279

 
$
4,292

 
$
4,330

 
$
4,337

 
$
4,186

 
$
3,955

% Change from Flat Case
(1.1
)%
 
(1.2
)%
 
(0.9
)%
 
—

 
0.2
 %
 
(3.3
)%
 
(8.7
)%
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Month-End Results
 
 
 
 
 
 
 
 
 
 
 
 
 
September 30, 2013
 
 
 
 
 
 
 
 
 
 
 
 
 
Market Value of Equity
$
5,370

 
$
5,424

 
$
5,336

 
$
5,144

 
$
4,925

 
$
4,706

 
$
4,499

% Change from Flat Case
4.4
 %
 
5.4
 %
 
3.7
 %
 
—

 
(4.3
)%
 
(8.5
)%
 
(12.5
)%
December 31, 2012
 
 
 
 
 
 
 
 
 
 
 
 
 
Market Value of Equity
$
4,991

 
$
4,976

 
$
4,947

 
$
4,878

 
$
4,759

 
$
4,585

 
$
4,401

% Change from Flat Case
2.3
 %
 
2.0
 %
 
1.4
 %
 
—

 
(2.4
)%
 
(6.0
)%
 
(9.8
)%

Duration of Equity
 
(In years)
Down 300
 
Down 200
 
Down 100
 
Flat Rates
 
Up 100
 
Up 200
 
Up 300
Average Results
 
 
 
 
 
 
 
 
 
 
 
 
 
2013 Year-to-Date
0.9

 
1.4

 
2.7

 
3.5

 
3.6

 
3.9

 
3.8

2012 Full Year
1.8

 
1.3

 
0.4

 
(1.4
)
 
2.0

 
4.9

 
6.4

 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Month-End Results
 
 
 
 
 
 
 
 
 
 
 
 
 
September 30, 2013
(0.4
)
 
1.6

 
4.4

 
4.2

 
4.6

 
4.6

 
4.5

December 31, 2012
1.8

 
1.8

 
1.8

 
1.9

 
3.2

 
4.1

 
4.1


During the first nine months of 2013, as in 2012, the market risk exposure to changing interest rates was moderate overall, consistent with the normal range of long-term historical exposure, and well within policy limits. Overall market risk and earnings exposure to further reductions in long-term rates continued to benefit from slower mortgage prepayment speeds (given the level of rates and composition of mortgage assets), than would be expected under normal conditions for housing and credit markets. Exposure to higher rates was moderately elevated at September 30, 2013 versus 2012. In October, we began to reduce exposure to the risk of large future interest rate increases.


71

Based on the totality of our market risk analysis, we expect that profitability, defined as the level of ROE compared with short-term market rates, will remain competitive unless interest rates change by extremely large amounts in a short period of time. Decreases in long-term interest rates even up to two percentage points (which would put fixed-rate mortgages at two percent or less) would still result in ROE being above market interest rates.

We believe that profitability would not become uncompetitive in a rising rate environment unless long-term rates were to permanently increase in a short period of time by as much as five percentage points or more combined with short-term rates increasing to at least eight percent. Such large changes in interest rates would not result in negative earnings, unless these rate environments occurred quickly, lasted for a long period of time, and were coupled with very unfavorable changes in other market and business variables for our business model. We believe such a scenario is extremely unlikely to occur. However, our current level of profitability compared to short-term rates could decline quickly (even though it would remain competitive) in a fast rising rate environment. This was part of the basis for reducing market risk exposure to higher rates.

Market Capitalization Ratio
The following table presents the market capitalization ratios for the interest rate environments for which we have policy limits.
 
September 30, 2013
 
December 31, 2012
Market Value of Equity to Par Value of Regulatory Capital Stock
107
%
 
116
%
Market Value of Equity to Par Value of Regulatory Capital Stock - Down Shock of 200 bps
111

 
117

Market Value of Capital to Par Value of Regulatory Capital Stock - Up Shock of 200 bps
98

 
109


In the first nine months of 2013, the market capitalization ratios in the scenarios indicated continued to be well above policy thresholds. However, the ratios declined during this period primarily due to a decline in the amount of mortgage asset leverage due to the increase in our capital base as explained elsewhere in this filing. Contributing factors were moderately lower market prices on mortgage assets, the purchase of new mortgage-backed security investments at discount or near par prices, and higher mortgage rates (which normally lowers the market value of equity).

The market capitalization ratio can be a valuable measure of risk exposure, particularly when the fluctuations observed in the metric are driven by market risk factors. However, the recently observed declines through the first nine months of 2013 were largely due to factors that do not signify an increase in the overall riskiness of our balance sheet. These include the factors referenced above except for the higher mortgage rates.

Even with the recent decline, the ratios remain at favorable levels because retained earnings are currently 13 percent of regulatory capital stock and we have maintained market risk exposure at moderate levels.

Market Risk Exposure of the Mortgage Assets Portfolio
The mortgage assets portfolio normally accounts for almost all of our market risk exposure because of prepayment volatility that we cannot completely hedge while maintaining positive net spreads. Sensitivities of the market value of equity allocated to the mortgage assets portfolio under interest rate shocks (in basis points) are shown below. At September 30, 2013, the mortgage assets portfolio had an assumed par-value equity (capital) allocation of $1.3 billion based on the entire balance sheet's regulatory capital-to-assets ratio. Average results are compiled using data for each month-end. The market value sensitivities are one measure we use to analyze the portfolio's estimated market risk exposure.

% Change in Market Value of Equity-Mortgage Assets Portfolio
 
Down 300
 
Down 200
 
Down 100
 
Flat Rates
 
Up 100
 
Up 200
 
Up 300
Average Results
 
 
 
 
 
 
 
 
 
 
 
 
 
2013 Year-to-Date
7.3
 %
 
10.0
 %
 
8.3
 %
 
—
 
(14.4
)%
 
(29.9
)%
 
(45.4
)%
2012 Full Year
(9.2
)%
 
(8.2
)%
 
(5.4
)%
 
—
 
2.0
 %
 
(8.2
)%
 
(24.7
)%
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Month-End Results
 
 
 
 
 
 
 
 
 
 
 
 
 
September 30, 2013
10.9
 %
 
17.0
 %
 
12.7
 %
 
—
 
(16.7
)%
 
(33.6
)%
 
(49.9
)%
December 31, 2012
3.5
 %
 
3.5
 %
 
3.1
 %
 
—
 
(10.0
)%
 
(24.0
)%
 
(39.1
)%


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The sensitivities indicate that the market risk exposure of the mortgage assets portfolio had similar trends across interest rate shocks as those of the entire balance sheet. The dollar amount of exposure for any individual rate shock can be obtained by multiplying the percentage change by the assumed equity allocation.

The measured risk exposure of our mortgage assets portfolio, on average, increased in the first nine months of 2013 relative to all of 2012. The increase was a result of prepayment modeling enhancements made in the latter part of 2012, increases in mortgage rates, and moderately elevated market risk exposure. We believe the mortgage assets portfolio continues to have an acceptable amount of market risk exposure relative to the inherent market risks of owning mortgages and relative to their actual and expected profitability. We believe this exposure is consistent with our risk philosophy and cooperative business model.

Use of Derivatives in Market Risk Management
In addition to issuing long-term Bonds, we may engage in derivative transactions, primarily interest rate swaps and forward settlement agreements of mortgage-backed securities, to manage market risk exposure. The notional amount of derivatives decreased significantly, by $3.7 billion (30 percent), from the end of 2012 to September 30, 2013, with most of the decrease occurring in swaps associated with Consolidated Bonds that mostly hedge adjustable-rate assets indexed to LIBOR. The reduction was due primarily to our decision to avoid transacting certain new interest rates swaps (i.e., swapped fixed-rate Bonds) in light of the current unresolved uncertainties with costs, operating and regulatory processes, and the credit risks associated with derivatives clearing requirements under the Dodd-Frank Act. The decrease in interest rate swaps did not materially affect our market risk exposure or profitability, although it did raise repricing basis risk between assets indexed to LIBOR and Discount Note Obligations, because the reduction in Bond-related swaps was replaced with short-term Discount Notes and unswapped adjustable-rate Bonds, each of which has a similar interest rate risk profile and interest cost as those resulting from hedging Bonds with interest rate swaps.

Capital Adequacy

Capital Leverage
Prudent risk management practices dictate that we maintain effective financial leverage to minimize risk to our capital stock while preserving profitability and that we hold an adequate amount of retained earnings. We have always complied with each capital requirement. The regulatory capital ratio averaged 5.70 percent in the first nine months of 2013 and at September 30, 2013 was 5.62 percent. The latter metric means that, given the amount of regulatory capital, total assets could increase by approximately $39 billion with no new stock purchases before the capital-to-assets ratio would fall to four percent. This amount of growth in assets is unlikely to occur and, if it did, our Capital Plan would require us to obtain additional amounts of capital well before the four percent policy limit on capitalization would be reached.

See the “Capital Resources” section of “Analysis of Financial Condition” and Note 14 of the Notes to Unaudited Financial Statements for more information on our capital adequacy.

Retained Earnings
Our Board-approved Retained Earnings and Dividend Policy sets forth a range for the amount of retained earnings we believe is needed to mitigate impairment risk and augment dividend stability in light of the risks we face. The current minimum retained earnings requirement is $375 million, based on mitigating quantifiable risks under stress scenarios to at least a 99 percent confidence level. Given the recent financial and regulatory environment, we have been carrying a greater amount of retained earnings in the last several years than required by the Policy. We will continue to bolster capital adequacy over time by allocating a portion of earnings to a separate restricted retained earnings account in accordance with the FHLBank System's Capital Agreement.
 
 
 
 
 
 
Credit Risk

Overview
We assume a substantial amount of inherent credit risk exposure in our dealings with members, purchases of investments, and transactions of derivatives. For the reasons detailed below, we believe we have a minimal overall amount of residual credit risk exposure related to our Credit Services, purchases of investments, and transactions in derivatives and a moderate amount of legacy credit risk exposure related to the MPP.

Credit Services
Overview. We have policies and practices to manage credit risk exposure from our secured lending activities, which include Advances and Letters of Credit. The objective of our credit risk management is to equalize risk exposure across members and

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counterparties to a zero level of expected losses, consistent with our risk management appetite to have no residual credit risk related to member borrowings.

Despite continued, although stabilizing, effects from the deterioration in the credit conditions of many of our members and in the value of some pledged collateral over the last five years, we believe that credit risk exposure in our secured lending activities continued to be minimal in the first nine months of 2013, for the same reasons described in the 2012 Form 10-K. We have never established a loan loss reserve for Advances and expect to collect all amounts due according to the contractual terms of Advances and Letters of Credit.

Collateral. We require each member to provide us a security interest in eligible collateral before it can undertake any secured borrowing. At September 30, 2013, our policy of over-collateralization resulted in total collateral pledged of $217.8 billion to serve members' total borrowing capacity of $167.5 billion. The estimated value of pledged collateral is discounted in order to offset market, credit, and liquidity risks that may affect the collateral's realizable value in the event it must be liquidated. Over-collateralization by one member is not applied to another member.

The table below shows the total pledged collateral (unadjusted for CMRs) on September 30, 2013 and December 31, 2012.
 
September 30, 2013
 
December 31, 2012
(Dollars in billions)
 
 
Percent of Total
 
 
 
Percent of Total
 
Collateral Amount
 
Pledged Collateral
 
Collateral Amount
 
Pledged Collateral
Single family loans
$
119.0

 
55
%
 
$
111.6

 
56
%
Multi-family loans
31.5

 
14

 
17.6

 
9

Commercial real estate
25.3

 
12

 
19.2

 
10

Bond securities
21.1

 
10

 
25.0

 
13

Home equity loans/lines of credit
20.4

 
9

 
24.1

 
12

Farm real estate
0.5

 
(a)

 
0.5

 
(a)

Total
$
217.8

 
100
%
 
$
198.0

 
100
%

(a)
Less than one percent of total pledged collateral.

At September 30, 2013, 64 percent of collateral was related to residential mortgage lending in single family loans and home equity lines. The increase in multi-family loans and commercial real estate during the first nine months of 2013 was due to the collateral pledged by our largest member.

In the third quarter of 2013, we added investment grade municipal securities to the list of eligible collateral types. As of September 30, 2013, no such securities were pledged as collateral. We believe accepting municipal securities will have no impact on residual credit risk due to over-collateralization and the practice of only accepting securities with credit ratings of single-A or above.

Borrowing Capacity/Lendable Value. We determine borrowing capacity against pledged collateral by establishing minimum levels of over-collateralization ("Collateralized Maintenance Requirements" or "CMRs"). CMRs are determined by statistical analysis and certain management assumptions applied to the estimated value of pledged collateral. All securities collateral and loan collateral pledged by certain members is subject to an ongoing market valuation process. CMRs result in a lendable value, or borrowing capacity, that is less than the amount of pledged collateral. CMRs vary based on the financial strength of the member institution, the issuer of bond collateral or the quality of securitized assets, the marketability of the pledged assets, the payment performance of pledged loan collateral, and the quality of loan collateral as reflected in the manner in which it was underwritten and is administered.


74

The table below indicates the range of lendable values remaining after the application of CMRs for each major collateral type pledged at September 30, 2013.
 
Lending Values Applied to Collateral
Blanket Status
 
Prime 1-4 family loans
67-83%
Multi-family loans
51-65%
Prime home equity loans/lines of credit
53-71%
Commercial real estate loans
59-74%
Farm real estate loans
65-80%
Listing Status/Physical Delivery
 
Cash/U.S. Government/U.S. Treasury/U.S. agency securities
78-100%
U.S. agency mortgage-backed securities/CMOs
87-98%
Private-label residential mortgage-backed securities
42-83%
Private-label commercial mortgage-backed securities
31-83%
Small Business Administration certificates
90-93%
1-4 family loans
65-91%
Multi-family loans
57-83%
Home equity loans/lines of credit
57-83%
Commercial real estate loans
65-91%
Farm real estate loans
67-91%

The ranges of lendable values exclude subprime and nontraditional mortgage loan collateral. Loans pledged under a Blanket collateral status generally are discounted more heavily than loans on which we have detailed loan structure and underwriting information. We periodically evaluate the CMRs applied by completing internal evaluations or engaging third-party specialists.

Subprime and Nontraditional Mortgage Loan Collateral. Based on our collateral reviews, we estimate that approximately 20 to 25 percent of pledged residential loan collateral has one or more subprime characteristics and that approximately two to five percent of pledged collateral meets the industry definition of “nontraditional.” We apply significantly higher adjustments to the standard CMRs on almost all collateral identified as subprime and/or nontraditional mortgages. No security known to have more than one-third subprime collateral is eligible for pledge to support additional credit borrowings.

Internal Credit Ratings. We assign all member and nonmember borrowers an internal credit rating, based on a combination of internal credit analysis and consideration of available credit ratings from independent credit rating organizations. The credit ratings are used in conjunction with other measures of the credit risk posed by members and pledged collateral, as described above, in managing credit risk exposure to Advances.

The following tables show the distribution of internal credit ratings we assigned to member and nonmember borrowers, which we use to help manage credit risk exposure. The lower the numerical rating, the higher our assessment of the member's credit quality.
(Dollars in billions)
 
 
 
 
 
 
September 30, 2013
 
December 31, 2012
 
 
Borrowers
 
 
 
Borrowers
 
 
 
 
Collateral-Based
 
 
 
 
 
Collateral-Based
Credit
 
 
 
Borrowing
 
Credit
 
 
 
Borrowing
Rating
 
Number
 
Capacity
 
Rating
 
Number
 
Capacity
1-3
 
502

 
$
99.4

 
1-3
 
485

 
$
67.9

4
 
121

 
62.8

 
4
 
126

 
66.2

5
 
67

 
4.2

 
5
 
71

 
4.3

6
 
28

 
0.7

 
6
 
31

 
0.8

7
 
24

 
0.4

 
7
 
38

 
1.2

Total
 
742

 
$
167.5

 
Total
 
751

 
$
140.4


75


A “4” rating is our assessment of the lowest level of satisfactory performance. Some members continue to be adversely affected by the last recession and the slow economic recovery. The housing market, the primary factor negatively affecting member institutions, has experienced consistent signs of recovery in most regions beginning in mid 2012. As of September 30, 2013, 119 borrowers (16 percent of the total) had credit ratings of "5" through "7," a net decrease of 21 from the end of 2012 and a substantial decline from 2009-2011. These members had $5.3 billion of borrowing capacity at September 30, 2013. There was a net decrease of five members who had a "4" credit rating and a net increase of 17 members with credit ratings of "1," "2," or "3." We believe these trends indicate a general stabilization and improvement in the overall financial condition of our members, although the improvement to date has been most evident among members with already-acceptable "4" credit ratings.

Member Failures, Closures, and Receiverships. There were three member failures in 2013 through the date of this filing. All Advance exposure to these members was fully collateralized by assets held in our custody at the time of failure. These members had $54 million of Advances outstanding, all of which have since been repaid. We had no other outstanding exposure to these members.

Member Concentration. Borrower concentration increased substantially compared with levels over the last several years due to an increase in borrowings from one member, JPMorgan, over the prior 12 months. We believe the effect on credit risk exposure is minimal because of our application of normal credit risk mitigations, the most important of which is over-collateralization. In the remote possibility of failure of a member to whom we lent a large amount Advances, combined with the Federal Deposit Insurance Corporation's decision not to repay Advances, we would implement our member failure plan to liquidate collateral to recover losses from losing principal and interest on the Advances balances.

MPP
Overview. We believe that the residual amount of credit risk exposure to loans in the MPP is moderate and declining, based on the same factors described in the 2012 Form 10-K. Charge-offs totaled $2.8 million in the first nine months of 2013 and $12.5 million program-to-date through September 30, 2013 in relation to $5.9 billion of conventional loans unpaid principal balance at September 30, 2013. In addition to the low program-to-date charge-offs, we believe based on our financial analysis that future credit losses will not harm capital adequacy and will not significantly affect profitability except under the most extreme and unlikely credit conditions.

Portfolio Loan Characteristics. The following table shows Fair Isaac and Company (FICO®) credit scores of homeowners at origination dates for the conventional loan portfolio.
FICO® Score (1)                    
 
September 30, 2013
 
December 31, 2012
< 620
 
—
%
 
—
%
620 to < 660
 
3

 
3

660 to < 700
 
9

 
9

700 to < 740
 
18

 
18

>= 740
 
70

 
70

 
 
 
 
 
Weighted Average
 
757

 
757

(1)
Represents the FICO® score at origination.

There was little change in the distribution of FICO® scores at origination in the first nine months of 2013 compared with 2012. We believe the distribution of FICO® scores at origination is one indication of the portfolio's overall favorable credit quality. At September 30, 2013, 70 percent of the portfolio had scores at an excellent level of 740 or above and 88 percent had scores above 700 which is a threshold generally considered indicative of homeowners' with good credit quality.


76

The following tables show loan-to-value ratios for conventional loans based on values estimated at the origination dates and current values estimated at the noted periods. The estimated current ratios are based on original loan values, principal paydowns that have occurred since origination, and a third-party estimate of changes in historical home prices for the zip code in which each loan resides. Both measures are weighted by current unpaid principal.
 
 
Based on Estimated Origination Value
 
 
 
Based On Estimated Current Value
Loan-to-Value
 
September 30, 2013
 
December 31, 2012
 
Loan-to-Value
 
September 30, 2013
 
December 31, 2012
<= 60%
 
19
%
 
20
%
 
<= 60%
 
34
%
 
27
%
> 60% to 70%
 
17

 
18

 
> 60% to 70%
 
28

 
20

> 70% to 80%
 
53

 
52

 
> 70% to 80%
 
24

 
29

> 80% to 90%
 
7

 
6

 
> 80% to 90%
 
9

 
14

> 90%
 
4

 
4

 
> 90% to 100%
 
3

 
5

 
 
 
 
 
 
> 100%
 
2

 
5

Weighted Average
 
71
%
 
70
%
 
Weighted Average
 
64
%
 
69
%

Overall loan-to-value ratios continue to show positive trends as the overall housing market continues to display strong signs of sustained recovery. At September 30, 2013, 14 percent of loans were estimated to have current loan-to-value ratios above 80 percent, up from 11 percent at origination which indicates that some housing regions are still recovering. However, we estimate the portfolio on aggregate to have a weighted average loan-to-value ratio of 64 percent, which is seven percent lower than what was estimated at origination and five percent lower than at December 31, 2012. We believe the overall trend is consistent with an acceptable credit quality of the portfolio, in light of the significant deterioration in national average housing prices in recent years.

Based on the available data, we believe we have little exposure to loans in the MPP considered to have characteristics of “subprime” or “alternative/nontraditional” loans. Further, we do not knowingly purchase any loan that violates the terms of our Anti-Predatory Lending Policy.
 
 
 
 
 
Lender Risk Account. The Lender Risk Account is one way we mitigate our exposure to credit losses. The Account is a purchase-price holdback that PFIs may receive back from us, starting after five years from the loan purchase date, for managing credit risk to pre-defined acceptable levels of exposure on loan pools they sell to us. The amount of loss claims against the Lender Risk Account in the first nine months of 2013 was approximately $4 million. The Account had balances of $112 million and $103 million at September 30, 2013 and December 31, 2012, respectively. For more information, see Note 9 of the Notes to Unaudited Financial Statements.

Credit Performance. The table below provides an analysis of conventional loans delinquent or in foreclosure, along with the national average serious delinquency rate.
 
Conventional Loan Delinquencies
(Dollars in millions)
September 30, 2013
 
December 31, 2012
Early stage delinquencies - unpaid principal balance (1)
$
59

 
$
64

Serious delinquencies - unpaid principal balance (2)
62

 
76

Early stage delinquency rate (3)
1.0
%
 
1.0
%
Serious delinquency rate (4)
1.1

 
1.2

National average serious delinquency rate (5)
2.8

 
3.7

(1)
Includes conventional loans 30 to 89 days delinquent and not in foreclosure.
(2)
Includes conventional loans that are 90 days or more past due or where the decision of foreclosure or a similar alternative such as pursuit of deed-in-lieu has been reported.
(3)
Early stage delinquencies expressed as a percentage of the total conventional loan portfolio.
(4)
Serious delinquencies expressed as a percentage of the total conventional loan portfolio.
(5)
National average number of fixed-rate prime conventional loans that are 90 days or more past due or in the process of foreclosure is based on the most recent national delinquency data available. The September 30, 2013 rate is based on June 30, 2013 data.


77

The MPP has experienced a moderate amount of delinquencies and foreclosures. These rates continued to be well below national averages and we expect this to continue to be the case. We believe that these data, both early and serious delinquency levels, indicate an improving trend in housing market conditions. We continue to closely monitor these data to evaluate the sustainability of the trend.

We consider a high risk loan as having a current loan-to-value ratio above 100 percent. At September 30, 2013, high risk loans had experienced relatively moderate serious delinquencies (i.e., delinquencies that are 90 days or more past due or in the process of foreclosure). For example, of the $111 million of conventional principal balances with current estimated loan-to-values above 100 percent, only $10 million (nine percent) were seriously delinquent. We believe these data further support our view that the overall portfolio is comprised of high quality loans.

Credit Losses. The following table shows the effects of credit enhancements on the determination of the allowance for credit losses at the noted periods.
(In millions)
September 30, 2013
 
December 31, 2012
Estimated incurred credit losses, before credit enhancements
$
(32
)
 
$
(56
)
Estimated amounts deemed recoverable by:
 
 
 
Primary mortgage insurance
4

 
5

Supplemental mortgage insurance
17

 
25

Lender Risk Account
4

 
8

Allowance for credit losses, after credit enhancements
$
(7
)
 
$
(18
)
 
The data presented above are aggregated information on the health of the overall portfolio. Credit risk exposure depends on the actual and potential credit performance of the loans in each pool compared to the pool's equity (on individual loans) and credit enhancements, including primary mortgage insurance (PMI) (for individual loans), the Lender Risk Account, and supplemental mortgage insurance (SMI).

The reduction in the allowance for credit losses at September 30, 2013 compared to the end of 2012 was driven primarily by improvements in the housing market as reflected by an estimated eight percent growth in national home prices in the first nine months of 2013 and an improving trend of delinquencies. We cannot predict the future course of factors that determine incurred credit losses, including home prices, macro-economic conditions such as unemployment rates, estimated loss severities, the health of mortgage insurance providers, and regulatory or accounting guidance.

In addition to the allowance for credit losses recorded, we regularly analyze, using recognized third-party credit and prepayment models, potential ranges of additional lifetime credit risk exposure for the loans in the MPP. Even under adverse scenarios for either home prices or unemployment rates, we do not expect further credit losses to significantly decrease our overall annual profitability or dividends payable to members, or to materially affect our capital adequacy. For example, for an additional 20 percent decline in all home prices over the next two years, we estimate that our lifetime credit losses, net of the effect of credit enhancements, could increase by approximately $29 million, which would decrease annual ROE by approximately only 0.08 percentage points over the next five years (most of the losses are estimated to occur in the next five years).

Credit Risk Exposure to Insurance Providers.
PMI
Some of our conventional loans carry PMI as a credit enhancement feature. Based on the guidelines of the MPP, we have assessed that we do not have any credit risk exposure to the PMI providers.

SMI
Another credit enhancement feature is SMI purchased from Genworth and MGIC. Beginning February 1, 2011, we discontinued use of SMI as a credit enhancement for new loan purchases; instead, we augment credit enhancements with a greater amount of the purchase proceeds added to the Lender Risk Account. However, at September 30, 2013 we had $2.5 billion of conventional loans purchased prior to February 2011 with outstanding SMI coverage through Genworth and MGIC that are paying down over time.

In a scenario in which home prices do not change and both providers fail to pay their insurance coverage on defaulting loans (with an assumption that we would obtain a 50 percent recovery rate), we estimate at September 30, 2013 our

78

exposure to the providers over the life of the MPP loans was $9 million. In an adverse scenario in which home prices decline an additional 20 percent over the next two years and both providers fail to pay claims (with the same recovery assumption), we estimate exposure to be approximately $19 million.

Based on our most-recent analysis including consulting with a third-party rating agency, we believe it is likely each provider will fulfill its contractual insurance obligations. However, because of the uncertainty of this assessment we concluded, as of September 30, 2013, that payments on a portion of our SMI coverage may not be probable and have incorporated an estimate of such in our loan loss reserve. We estimate that $0.7 million of payments are not probable at September 30, 2013. The estimation of SMI exposure, similar to overall trends of our loan losses, has declined in the last year.

Investments
Liquidity Investments. The following table presents the carrying value of liquidity investments outstanding in relation to the counterparties' lowest long-term credit ratings provided by Standard & Poor's, Moody's, and/or Fitch Advisory Services. For resell agreements, the ratings shown are based on ratings on the associated collateral.
(In millions)
September 30, 2013
 
Long-Term Rating
 
AAA
 
AA
 
A
 
Total
Unsecured Liquidity Investments
 
 
 
 
 
 
 
Federal funds sold
$
—

 
$
755

 
$
1,625

 
$
2,380

Certificates of deposit
—

 
1,400

 
435

 
1,835

Total unsecured liquidity investments
—

 
2,155

 
2,060

 
4,215

Guaranteed/Secured Liquidity Investments
 
 
 
 
 
 
 
Securities purchased under agreements to resell
—

 
3,050

 
—

 
3,050

Government-sponsored enterprises (1)
—

 
28

 
—

 
28

Total guaranteed/secured liquidity investments
—

 
3,078

 
—

 
3,078

Total liquidity investments
$
—

 
$
5,233

 
$
2,060

 
$
7,293

 
December 31, 2012
 
Long-Term Rating
 
AAA
 
AA
 
A
 
Total
Unsecured Liquidity Investments
 
 
 
 
 
 
 
Federal funds sold
$
—

 
$
1,640

 
$
1,710

 
$
3,350

Total unsecured liquidity investments
—

 
1,640

 
1,710

 
3,350

Guaranteed/Secured Liquidity Investments
 
 
 
 
 
 
 
Securities purchased under agreements to resell
—

 
3,800

 
—

 
3,800

Government-sponsored enterprises (1)
—

 
26

 
—

 
26

Total guaranteed/secured liquidity investments
—

 
3,826

 
—

 
3,826

Total liquidity investments
$
—

 
$
5,466

 
$
1,710

 
$
7,176

(1)
Consists of securities that are issued and effectively guaranteed by Fannie Mae and/or Freddie Mac, which have the support of the U.S. government, although they are not obligations of the U.S. government.

We actively monitor our credit exposure and the credit quality of all of our counterparties. This includes ongoing assessments of each counterparty's financial condition, performance, and capital adequacy, sovereign support, the market's current perceptions of the counterparty's market presence and activities, and general macro-economic, political, and market conditions. We believe all of the liquidity investments were purchased from counterparties that have a strong ability to repay principal and interest. We currently limit such investments to counterparties with credit ratings at time of purchase of single-A or above, and we restrict maturities, reduce dollar exposure, and avoid new investments with counterparties we deem to represent elevated credit risk.

At September 30, 2013 and December 31, 2012, a portion of liquidity investments were purchased from counterparties for which the investments are secured with collateral (secured resale agreements). We believe these investments present little or no credit risk exposure to us. Related to the federal government's recent issues with the debt ceiling, we view the potential pledge

79

of U.S. Treasury collateral for resale agreements as a low residual risk, in part because we maintain a two percent collateral haircut on such collateral.

The following table presents credit ratings of our unsecured investment credit exposures by the domicile of the counterparty or the domicile of the counterparty's parent for U.S. branches and agency offices of foreign commercial banks.
(In millions)
 
September 30, 2013
 
 
 
 
Counterparty Rating (1)
 
 
Domicile of Counterparty
 
Sovereign Rating (1)
 
AA
 
A
 
Total
Domestic
 
AA+
 
$
575

 
$
220

 
$
795

U.S. branches and agency offices of foreign commercial banks:
 
 
 
 
 
 
 
 
Canada
 
AAA
 
575

 
870

 
1,445

Netherlands
 
AAA
 
755

 
—

 
755

Norway
 
AAA
 
—

 
485

 
485

United Kingdom
 
AA+
 
—

 
485

 
485

Australia
 
AAA
 
250

 
—

 
250

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

 
1,580

 
1,840

 
3,420

Total unsecured investment credit exposure
 

 
$
2,155

 
$
2,060

 
$
4,215

(1)
Represents the lowest long-term credit rating provided by Standard & Poor's, Moody's, and/or Fitch Advisory Services.

The following table presents the remaining contractual maturity of our unsecured investment credit exposure by the domicile of the counterparty or the domicile of the counterparty's parent for U.S. branches and agency offices of foreign commercial banks.
(In millions)
 
September 30, 2013
Domicile of Counterparty
 
Overnight
 
Due 2 days through 30 days
 
Due 31 days through 90 days
 
Total
Domestic
 
$
220

 
$
—

 
$
575

 
$
795

U.S. branches and agency offices of foreign commercial banks:
 
 
 
 
 
 
 
 
Canada
 
485

 
575

 
385

 
1,445

Netherlands
 
755

 
—

 
—

 
755

Norway
 
485

 
—

 
—

 
485

United Kingdom
 
485

 
—

 
—

 
485

Australia
 
—

 
—

 
250

 
250

Total U.S. branches and agency offices of foreign commercial banks
 
2,210

 
575

 
635

 
3,420

Total unsecured investment credit exposure
 
$
2,430

 
$
575

 
$
1,210

 
$
4,215


At September 30, 2013, all of the $4.2 billion of unsecured liquidity exposure was to counterparties with holding companies domiciled in countries receiving either triple-A or double-A long-term sovereign ratings. Furthermore, the majority of unsecured lending is restricted to overnight maturities, which further limits the risks to these counterparties. By Finance Agency Regulations, all counterparties exposed to non-U.S. countries are required to be domestic U.S. branches of foreign counterparties.

We believe we face minimal exposure in our unsecured investments to counterparties and countries that could have significant direct or indirect exposure to European sovereign debt, especially to those countries currently experiencing financial distress, and we are aggressive in limiting exposure to such counterparties. The exposure to non-U.S. countries at September 30, 2013 was comprised of lending to seven institutions.

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Mortgage-Backed Securities.
 
GSE Mortgage-Backed Securities
Historically, almost all of our mortgage-backed securities have been residential GSE securities issued by Fannie Mae and Freddie Mac, which provide credit safeguards by guaranteeing either timely or ultimate payments of principal and interest. We believe that the conservatorships of Fannie Mae and Freddie Mac lower the chance that they would not be able to fulfill their credit guarantees; we believe the securities issued by these two GSEs are effectively government guaranteed. In addition, based on the data available to us and on our purchase practices, we believe that most of the mortgage loans backing our GSE mortgage-backed securities are of high quality with acceptable credit performance.

Mortgage-Backed Securities Issued by Other Government Agencies
We may also invest in mortgage-backed securities issued and guaranteed by the National Credit Union Administration. These investments totaled $1.3 billion at September 30, 2013. These securities have floating rate coupons tied to one-month LIBOR with interest rate caps ranging from seven to eight percent. We believe that the strength of the issuer's guarantee and backing by the full faith and credit of the U.S. government is sufficient to protect us against credit losses on these securities.

Private Label Mortgage-Backed Securities
The FHLBank held no private-label mortgage-backed securities at September 30, 2013.

Derivatives
Credit Risk Exposure. The table below presents the gross credit risk exposure (i.e., the market value) and net exposure of derivatives outstanding at September 30, 2013. Based on both the gross and net exposures, we had a minimal amount of residual credit risk exposure throughout the first nine months of 2013, totaling $4 million. Gross exposure would likely increase if interest rates rise and could increase if the composition of our derivatives change; however, contractual collateral provisions in these derivatives limit our exposure to acceptable levels.
(In millions)
 
 
 
 
 
 
 
Credit Rating (1)
Total Notional
 
Gross Credit Exposure
 
Cash Collateral Held
 
Credit Exposure Net of Cash Collateral Held
Aaa/AAA
$
—

 
$
—

 
$
—

 
$
—

Aa/AA
611

 
3

 
—

 
3

A
3,440

 
—

 
—

 
—

Baa/BBB
4,346

 
—

 
—

 
—

Member institutions (2)
71

 
1

 
—

 
1

Total
$
8,468

 
$
4

 
$
—

 
$
4


(1)
Each category includes the related plus (+) and minus (-) ratings (i.e., “A” includes “A+” and “A-” ratings).
(2)
Represents Mandatory Delivery Contracts.


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The following table presents counterparties that provided 10 percent or more of the total notional amount of interest rate swap derivatives outstanding.
(In millions)
 
 
 
 
 
 
 
 
 
 
September 30, 2013
 
 
 
 
 
December 31, 2012
 
 
 
 
Counterparty
Credit Rating
Category
Notional
Principal
 
Net Unsecured
Exposure
 
Counterparty
Credit Rating
Category
Notional
Principal
 
Net Unsecured
Exposure
Morgan Stanley Capital Services
Baa/BBB
$
3,564

 
$
—

 
BNP Paribas
A
$
2,181

 
$
—

Royal Bank of
   Scotland PLC
A
1,182

 
—

 
Citigroup Financial Products Inc.
Baa/BBB
1,542

 
—

All others
   (11 counterparties)
Baa/BBB to Aa/AA
3,602

 
3

 
Wells Fargo Bank, N.A.
Aa/AA
1,365

 
4

Total
 
$
8,348

 
$
3

 
Royal Bank of
   Scotland PLC
A
1,324

 
—

 
 


 


 
All others
   (10 counterparties)
Baa/BBB to Aa/AA
5,624

 
2

 
 

 

 
Total
 
$
12,036

 
$
6


Although we cannot predict if we will realize credit risk losses from any of our derivatives counterparties, we do not believe that any of them will be unable to continue making timely interest payments or, more generally, to continue to satisfy the terms and conditions of their derivative contracts with us. Related to the federal government's recent issues with the debt ceiling, at September 30, 2013, and generally as a practice, we did not have any U.S. Treasury securities pledged as collateral for derivatives transactions. However, all of our active derivatives counterparties have the ability to pledge Treasury securities. We employ a minimum of a two percent Treasury securities collateral haircut and view the potential pledge of such collateral as a low residual risk.

As of September 30, 2013, we had $0.2 billion of notional principal of interest rate swaps outstanding to one member, JPMorgan, which also had outstanding credit services with us totaling $42.7 billion. Due to the amount of market value collateralization, we had no outstanding derivatives credit exposure to this counterparty.

Lehman Brothers Derivatives. On September 15, 2008, Lehman Brothers Holdings, Inc. ("Lehman Brothers") filed a petition for bankruptcy protection under Chapter 11 of the U.S. Bankruptcy Code. We had 87 derivative transactions (interest rate swaps) outstanding with a subsidiary of Lehman Brothers, Lehman Brothers Special Financing, Inc. ("LBSF"), with a total notional principal amount of $5.7 billion. Under the provisions of our master agreement with LBSF, all of these swaps automatically terminated immediately prior to the bankruptcy filing by Lehman Brothers. The close-out provisions of the Agreement required us to pay LBSF a net settlement of approximately $189 million, which represented the swaps' total estimated market value at the close of business on Friday, September 12, 2008. We paid LBSF approximately $14 million to settle all of the transactions, comprised of the $189 million market value amount minus the value of collateral we had delivered previously and other interest and expenses. On September 16, 2008, we replaced these swaps with new swaps transacted with other counterparties. The new swaps had the same terms and conditions as the terminated LBSF swaps. The counterparties to the new swaps paid us a net amount of approximately $232 million to enter into these transactions based on the estimated market values at the time we replaced the swaps.

The $43 million difference between the settlement amount we paid Lehman and the market value payment we received on the replacement swaps represented an economic gain to us based on changes in the interest rate environment between the termination date and the replacement date. Although the difference was a gain to us in this instance, because it represented exposure from terminating and replacing derivatives, it could have been a loss if the interest rate environment had been different. We are amortizing the gain into earnings according to the swaps' final maturities, most of which occurred by the end of 2012.

In March 2010, representatives of the Lehman bankruptcy estate advised us that they believed that we had been unjustly enriched and that the bankruptcy estate was entitled to the $43 million difference between the settlement amount we paid Lehman and the market value payment we received on the replacement swaps. In May 2010, we received a Derivatives Alternative Dispute Resolution notice from the Lehman bankruptcy estate with a settlement demand of $65.8 million, plus interest accruing primarily at LIBOR plus 14.5 percent since the bankruptcy filing, based on their view of how the settlement amount should have been calculated. In accordance with the Alternative Dispute Resolution Order of the Bankruptcy Court

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administering the Lehman estate, senior management participated in a non-binding mediation in New York in August 2010, and our legal counsel continued discussions with the court-appointed mediator for several weeks thereafter. The mediation concluded in October 2010 without a settlement of the claims asserted by the Lehman bankruptcy estate. In April 2013 Lehman Brothers Special Financing Inc., through Lehman Brothers Holdings Inc. and the Plan Administrator under the Modified Third Amended Joint Chapter 11 Plan of Lehman Brothers Holdings Inc. and Its Affiliated Debtors, filed an adversary complaint in the United States Bankruptcy Court for the Southern District of New York against us seeking (a) a declaratory judgment on the interpretation of certain provisions and the calculation of amounts due under the agreement governing the 2008 swap transactions described above, and (b) additional amounts alleged as due as part of the termination of such transactions. We believe that we correctly calculated, and fully satisfied, our obligation to Lehman in September 2008, and we intend to vigorously defend ourselves.

Liquidity Risk

Liquidity Overview
Our principal long-term source of funding and liquidity is from cost effective access to the capital markets through participation in the issuance of FHLBank System debt securities (Consolidated Obligations) and through execution of derivative transactions. We also raise liquidity via our liquidity investment portfolio and the ability to sell certain investments without significant accounting consequences. As shown on the Statements of Cash Flows, in the first nine months of 2013, our participations in the System's debt issuances totaled $124.1 billion for Discount Notes and $26.7 billion for Bonds. The System's favorable debt ratings, the implicit U.S. government backing of our debt, and our effective funding management were, and continue to be, instrumental in ensuring satisfactory access to the capital markets.

Our liquidity position remained strong during the first three quarters of 2013 and our overall ability to fund our operations through debt issuances at acceptable interest costs remained sufficient. There were minimal, if any, stresses on our liquidity from the uncertainty surrounding the federal government's recent issues with the debt ceiling and risk of Treasury default (prior to resolution). Although we can make no assurances, we expect this to continue to be the case, and we believe the possibility of a liquidity or funding crisis in the FHLBank System that would impair our FHLBank's ability to participate in issuances of new debt, service outstanding debt, maintain adequate capitalization, or pay competitive dividends is remote.

We must meet both operational and contingency liquidity requirements. We satisfied the operational liquidity requirement both by meeting the contingency liquidity requirement and because we were able to adequately access the capital markets to issue Obligations. In addition, Finance Agency guidance requires us to target at least 15 consecutive days of positive liquidity based on specific assumptions under two scenarios. In practice, we normally hold over 20 days of positive liquidity. The amount of liquidity per the Finance Agency guidance and our internal operational liquidity measures was generally in the range of $8 billion to $15 billion during the first nine months of 2013. We increased liquidity beginning in late September as an abundance of caution with the government's issues referenced above. We held 44 days of positive liquidity on September 30, 2013 and 51 days on October 16, 2013, both above normal levels.

Contingency Liquidity Requirement
Contingency liquidity risk is the potential inability to meet liquidity needs because our access to the capital markets to issue Consolidated Obligations is restricted or suspended for a period of time due to a market disruption, operational failure, or real or perceived credit quality problems. We continued to hold an ample amount of liquidity reserves to protect against contingency liquidity risk.
Contingency Liquidity Requirement (in millions)
September 30, 2013
 
December 31, 2012
Total Contingency Liquidity Reserves (1)
$
22,816

 
$
23,199

Total Requirement (2)
(9,259
)
 
(10,942
)
Excess Contingency Liquidity Available
$
13,557

 
$
12,257


(1)
Includes, among others, cash, overnight Federal funds, overnight deposits, self-liquidating term Federal funds, 95 percent of the market value of available-for-sale negotiable securities, and 75 percent of the market value of certain held-to-maturity obligations, including obligations of the United States, U.S. government agency obligations and mortgage-backed securities.

(2)
Includes net liabilities maturing in the next seven business days, assets traded not yet settled, Advance commitments outstanding, Advances maturing in the next seven business days, and a three percent hypothetical increase in Advances.


83

Deposit Reserve Requirement
To support our member deposits, we also must meet a statutory deposit reserve requirement. The sum of our investments in obligations of the United States, deposits in eligible banks or trust companies, and Advances with a final maturity not exceeding five years must equal or exceed the current amount of member deposits. The following table presents the components of this liquidity requirement.
Deposit Reserve Requirement (in millions)
September 30, 2013
 
December 31, 2012
Total Eligible Deposit Reserves
$
67,120

 
$
54,943

Total Member Deposits
(884
)
 
(1,158
)
Excess Deposit Reserves
$
66,236

 
$
53,785


Contractual Obligations
The following table summarizes our contractual obligations at September 30, 2013. The allocations according to the expiration terms and payment due dates of these obligations were not materially different from those at the end of 2012. Changes reflected normal business variations. We believe that, as in the past, we will continue to have sufficient liquidity, including from access to the debt markets to issue Consolidated Obligations, to satisfy these obligations timely.
(In millions)
< 1 year
 
1<3 years
 
3<5 years
 
> 5 years
 
Total
Contractual Obligations
 
 
 
 
 
 
 
 
 
Long-term debt (Bonds) - par (1)
$
36,539

 
$
5,546

 
$
6,196

 
$
7,847

 
$
56,128

Operating leases (include premises and equipment)
1

 
1

 
2

 
7

 
11

Mandatorily redeemable capital stock
3

 
117

 
1

 
—

 
121

Commitments to fund mortgage loans
71

 
—

 
—

 
—

 
71

Pension and other postretirement benefit obligations
3

 
6

 
4

 
17

 
30

Total Contractual Obligations
$
36,617

 
$
5,670

 
$
6,203

 
$
7,871

 
$
56,361


(1)
Does not include Discount Notes and contractual interest payments related to Bonds. Total is based on contractual maturities; the actual timing of payments could be affected by factors affecting redemptions.

Off-Balance Sheet Arrangements
The following table summarizes our off-balance sheet items at September 30, 2013. The allocations according to the expiration terms and payment due dates of these items were not materially different from those at the end of 2012, and changes reflected normal business variations.
(In millions)
< 1 year
 
1<3 years
 
3<5 years
 
> 5 years
 
Total
Off-balance sheet items (1)
 
 
 
 
 
 
 
 
 
Standby Letters of Credit
$
13,157

 
$
87

 
$
34

 
$
54

 
$
13,332

Standby bond purchase agreements
—

 
289

 
—

 
—

 
289

Consolidated Obligations traded, not yet settled
18

 
—

 
100

 
180

 
298

Total off-balance sheet items
$
13,175

 
$
376

 
$
134

 
$
234

 
$
13,919

(1)
Represents notional amount of off-balance sheet obligations.

Operational Risk

There were no material developments regarding our operational risk exposure during the first nine months of 2013.


Item 3.
Quantitative and Qualitative Disclosures About Market Risk.

Information required by this Item is set forth under the caption “Quantitative and Qualitative Disclosures About Risk Management” in Part I, Item 2, of this filing.



84


Item 4.
Controls and Procedures.


DISCLOSURE CONTROLS AND PROCEDURES

As of September 30, 2013, the FHLBank's management, including its principal executive officer and principal financial officer, evaluated the effectiveness of our disclosure controls and procedures as defined in Rule 13a-15(e) under the Securities Exchange Act of 1934 (the “Exchange Act”). Based upon that evaluation, these two officers each concluded that as of September 30, 2013, the FHLBank maintained effective disclosure controls and procedures to ensure that information required to be disclosed in the reports that it files under the Exchange Act is (1) accumulated and communicated to management as appropriate to allow timely decisions regarding disclosure and (2) recorded, processed, summarized and reported within the time periods specified in the rules and forms of the Securities and Exchange Commission.


CHANGES IN INTERNAL CONTROL OVER FINANCIAL REPORTING

As of September 30, 2013, the FHLBank's management, including its principal executive officer and principal financial officer, evaluated the FHLBank's internal control over financial reporting. Based upon that evaluation, these two officers each concluded that there were no changes in the FHLBank's internal control over financial reporting that occurred during the quarter ended September 30, 2013 that materially affected, or are reasonably likely to materially affect, the FHLBank's internal control over financial reporting.



PART II - OTHER INFORMATION

Item 1A.
Risk Factors.        

Information relating to this Item is set forth under the caption “Business Outlook and Risk Management” in Part I, Item 2, of this filing.


Item 6.
Exhibits.

(a)
Exhibits.

See Index of Exhibits



85


SIGNATURES

Pursuant to the requirements of Section 13 or 15(d) 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, as of the 8th day of November 2013.

FEDERAL HOME LOAN BANK OF CINCINNATI
(Registrant)


By:
  /s/ Andrew S. Howell
 
 
Andrew S. Howell
 
 
President and Chief Executive Officer
(principal executive officer)
 
 
 
 
By:
  /s/ Donald R. Able
 
 
Donald R. Able
 
 
Executive Vice President - Chief Operating Officer (principal financial officer)
 


86

INDEX OF EXHIBITS
Exhibit
Number (1)
 
Description of exhibit
 
Document filed or
furnished, as indicated below
 
 
 
 
 
31.1
 
Rule 13a-14(a)/15d-14(a) Certification of Principal Executive Officer
 
Filed Herewith
 
 
 
 
 
31.2
 
Rule 13a-14(a)/15d-14(a) Certification of Principal Financial Officer
 
Filed Herewith
 
 
 
 
 
32
 
Section 1350 Certifications
 
Furnished Herewith
 
 
 
 
 
101.INS
 
XBRL Instance Document
 
Filed Herewith
 
 
 
 
 
101.SCH
 
XBRL Taxonomy Extension Schema Document
 
Filed Herewith
 
 
 
 
 
101.CAL
 
XBRL Taxonomy Extension Calculation Linkbase Document
 
Filed Herewith
 
 
 
 
 
101.LAB
 
XBRL Taxonomy Extension Label Linkbase Document
 
Filed Herewith
 
 
 
 
 
101.PRE
 
XBRL Taxonomy Extension Presentation Linkbase Document
 
Filed Herewith
 
 
 
 
 
101.DEF
 
XBRL Taxonomy Extension Definition Linkbase Document
 
Filed Herewith
(1)
Numbers coincide with Item 601 of Regulation S-K.


87