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Derivative instruments
3 Months Ended
Mar. 31, 2017
Derivative Instruments and Hedging Activities Disclosure [Abstract]  
Derivative instruments
Derivative instruments

We use derivatives to manage exposure to market risk including interest rate risk, equity price risk and foreign currency risk, as well as credit risk. Our trading activities are focused on acting as a market-maker for our customers and facilitating customer trades in compliance with the Volcker Rule.

The notional amounts for derivative financial instruments express the dollar volume of the transactions; however, credit risk is much smaller. We perform credit reviews and enter into netting agreements and collateral arrangements to minimize the credit risk of derivative financial instruments. We enter into offsetting positions to reduce exposure to foreign currency, interest rate and equity price risk.

Use of derivative financial instruments involves reliance on counterparties. Failure of a counterparty to honor its obligation under a derivative contract is a risk we assume whenever we engage in a derivative contract. There were no counterparty default losses recorded in the first quarter of 2017 or the first quarter of 2016.

Hedging derivatives

We utilize interest rate swap agreements to manage our exposure to interest rate fluctuations. For hedges of available-for-sale investment securities, deposits and long-term debt, the hedge documentation specifies the terms of the hedged items and the interest rate swaps and indicates that the derivative is hedging a fixed rate item and is a fair value hedge, that the hedge exposure is to the changes in the fair value of the hedged item due to changes in benchmark interest rates, and that the strategy is to eliminate fair value variability by converting fixed rate interest payments to LIBOR.
The available-for-sale investment securities hedged consist of U.S. Treasury bonds, agency commercial mortgage-backed securities, sovereign debt and covered bonds that had original maturities of 30 years or less at initial purchase. The swaps on all of these investment securities are not callable. All of these securities are hedged with “pay fixed rate, receive variable rate” swaps of similar maturity, repricing and fixed rate coupon. At March 31, 2017, $10.5 billion face amount of securities were hedged with interest rate swaps that had notional values of $10.5 billion.

The fixed rate long-term debt instruments hedged generally have original maturities of five to 30 years. We issue both callable and non-callable debt. The non-callable debt is hedged with “receive fixed rate, pay variable rate” swaps with similar maturity, repricing and fixed rate coupon. Callable debt is hedged with callable swaps where the call dates of the swaps exactly match the call dates of the debt. At March 31, 2017, $22.2 billion par value of debt was hedged with interest rate swaps that had notional values of $22.2 billion.

In addition, we enter into foreign exchange hedges. We use forward foreign exchange contracts with maturities of nine months or less to hedge our Indian rupee, British pound, Hong Kong dollar, Singapore dollar, euro and Canadian dollar foreign exchange exposure with respect to foreign currency forecasted revenue and expense transactions in entities that have the U.S. dollar as their functional currency. As of March 31, 2017, the hedged forecasted foreign currency transactions and designated forward foreign exchange contract hedges were $341 million (notional), with a pre-tax loss of $8 million recorded in accumulated other comprehensive income. This loss will be reclassified to income or expense over the next nine months.

Forward foreign exchange contracts are also used to hedge the value of our net investments in foreign subsidiaries. These forward foreign exchange contracts have maturities of less than two years. The derivatives employed are designated as hedges of changes in value of our foreign investments due to exchange rates. Changes in the value of the forward foreign exchange contracts offset the changes in value of the foreign investments due to changes in foreign exchange rates. The change in fair market value of these forward foreign exchange contracts is deferred and reported within foreign currency translation adjustments in shareholders’ equity, net of tax. At March 31, 2017, forward foreign exchange contracts with notional amounts totaling $7.3 billion were designated as hedges.

In addition to forward foreign exchange contracts, we also designate non-derivative financial instruments as hedges of our net investments in foreign subsidiaries. Those non-derivative financial instruments designated as hedges of our net investments in foreign subsidiaries were all long-term liabilities of BNY Mellon in various currencies, and, at March 31, 2017, had a combined U.S. dollar equivalent value of $163 million.

Ineffectiveness related to derivatives and hedging relationships was recorded in income as follows:

Ineffectiveness
Quarter ended
(in millions)
March 31, 2017

Dec. 31, 2016

March 31, 2016

Fair value hedges of securities
$
0.6

$
7.0

$
(1.1
)
Fair value hedges of long-term debt
(4.8
)
17.8

(12.5
)
Cash flow hedges



Other (a)



Total
$
(4.2
)
$
24.8

$
(13.6
)
(a)
Includes ineffectiveness recorded on foreign exchange hedges.
The following table summarizes the notional amount and credit exposure of our total derivative portfolio at March 31, 2017 and Dec. 31, 2016.

Impact of derivative instruments on the balance sheet
Notional value
 
Asset derivatives
fair value
 
Liability derivatives
fair value
(in millions)
March 31, 2017

Dec. 31, 2016

 
March 31, 2017

Dec. 31, 2016

 
March 31, 2017

Dec. 31, 2016

Derivatives designated as hedging instruments: (a)
 
 
 
 
 
 
 
 
Interest rate contracts
$
32,749

$
29,683

 
$
327

$
415

 
$
467

$
545

Foreign exchange contracts
7,605

7,796

 
155

369

 
88

52

Total derivatives designated as hedging instruments
 
 
 
$
482

$
784

 
$
555

$
597

Derivatives not designated as hedging instruments: (b)
 
 
 
 
 
 
 
 
Interest rate contracts
$
291,694

$
325,412

 
$
6,888

$
7,587

 
$
6,901

$
7,633

Foreign exchange contracts
564,599

530,729

 
3,119

6,104

 
3,055

6,103

Equity contracts
1,236

1,167

 
51

46

 
118

112

Credit contracts
160

160

 


 
3

3

Total derivatives not designated as hedging instruments
 
 
 
$
10,058

$
13,737

 
$
10,077

$
13,851

Total derivatives fair value (c)
 
 
 
$
10,540

$
14,521

 
$
10,632

$
14,448

Effect of master netting agreements (d)
 
 
 
(7,595
)
(10,257
)
 
(8,228
)
(10,047
)
Fair value after effect of master netting agreements
 
 
 
$
2,945

$
4,264

 
$
2,404

$
4,401


(a)
The fair value of asset derivatives and liability derivatives designated as hedging instruments is recorded as other assets and other liabilities, respectively, on the balance sheet.
(b)
The fair value of asset derivatives and liability derivatives not designated as hedging instruments is recorded as trading assets and trading liabilities, respectively, on the balance sheet.
(c)
Fair values are on a gross basis, before consideration of master netting agreements, as required by ASC 815, Derivatives and Hedging.
(d)
Effect of master netting agreements includes cash collateral received and paid of $752 million and $1,385 million, respectively, at March 31, 2017, and $1,119 million and $909 million, respectively, at Dec. 31, 2016.


The following tables present the impact of derivative instruments used in fair value, cash flow and net investment hedging relationships on the income statement.

Impact of derivative instruments on the income statement
(in millions)
 
 
Derivatives in fair value hedging relationships
Location of gain or
(loss) recognized in income on derivatives
 
Gain or (loss) recognized in income
on derivatives
 
Location of gain or(loss) recognized in income on hedged item
 
Gain or (loss) recognized
in hedged item
1Q17

 
4Q16

 
1Q16

 
1Q17

 
4Q16

 
1Q16

Interest rate contracts
Net interest revenue
 
$
10

 
$
171

 
$
(148
)
 
Net interest revenue
 
$
(14
)
 
$
(147
)
 
$
134


Derivatives in cash flow hedging
relationships
Gain or (loss) recognized
in accumulated
OCI on derivatives (effective portion)
 
Location of gain or
(loss) reclassified
from accumulated
OCI into income
(effective portion)
 
Gain or (loss) reclassified
from accumulated
OCI into income
(effective portion)
 
Location of gain or
(loss) recognized in
income on derivatives
(ineffective portion and
amount excluded from
effectiveness testing)
 
Gain or (loss) recognized in income on derivatives (ineffectiveness portion and amount excluded from effectiveness testing)
1Q17

4Q16

1Q16

 
 
1Q17

4Q16

1Q16

 
 
1Q17

4Q16

1Q16

FX contracts
$

$
(2
)
$
6

 
Net interest revenue
 
$

$
(2
)
$
5

 
Net interest revenue
 
$

$

$

FX contracts



 
Other revenue
 



 
Other revenue
 



FX contracts
3

73

(89
)
 
Trading revenue
 
3

73

(89
)
 
Trading revenue
 



FX contracts
11

(8
)
2

 
Salary expense
 
(4
)
(6
)
(2
)
 
Salary expense
 



Total
$
14

$
63

$
(81
)
 
 
 
$
(1
)
$
65

$
(86
)
 
 
 
$

$

$


Derivatives in net
investment hedging
relationships
Gain or (loss) recognized in accumulated OCI
on derivatives
(effective portion)
 
Location of gain or
(loss) reclassified
from accumulated
OCI into income
(effective portion)
 
Gain or (loss) reclassified
from accumulated
OCI into income
(effective portion)
 
Location of gain or
(loss) recognized in
income on derivatives
(ineffective portion and
amount excluded from
effectiveness testing)
 
Gain or (loss) recognized
in income on derivatives
(ineffectiveness portion and amount excluded from
effectiveness testing)
1Q17

4Q16

1Q16

 
 
1Q17

4Q16

1Q16

 
 
1Q17

4Q16

1Q16

FX contracts
$
(96
)
$
332

$
(58
)
 
Net interest revenue
 
$

$

$

 
Other revenue
 
$

$

$



Trading activities (including trading derivatives)

We manage trading risk through a system of position limits, a VaR methodology based on historical simulation and other market sensitivity measures. Risk is monitored and reported to senior management by a separate unit, independent from trading, on a daily basis. Based on certain assumptions, the VaR methodology is designed to capture the potential overnight pre-tax dollar loss from adverse changes in fair values of all trading positions. The calculation assumes a one-day holding period, utilizes a 99% confidence level and incorporates non-linear product characteristics. The VaR model is one of several statistical models used to develop economic capital results, which is allocated to lines of business for computing risk-adjusted performance.

As the VaR methodology does not evaluate risk attributable to extraordinary financial, economic or other occurrences, the risk assessment process includes a number of stress scenarios based upon the risk factors in the portfolio and management’s assessment of market conditions. Additional stress scenarios based upon historical market events are also performed. Stress tests may incorporate the impact of reduced market liquidity and the breakdown of historically observed correlations and extreme scenarios. VaR and other statistical measures, stress testing and sensitivity analysis are incorporated in other risk management materials.

Revenue from foreign exchange and other trading included the following:

Foreign exchange and other trading revenue
(in millions)
1Q17

4Q16

1Q16

Foreign exchange
$
154

$
175

$
171

Other trading revenue (loss)
10

(14
)
4

Total foreign exchange and other trading revenue
$
164

$
161

$
175



Foreign exchange includes income from purchasing and selling foreign currencies and currency forwards, futures and options. Other trading revenue reflects results from futures and forward contracts, interest rate swaps, structured foreign currency swaps, options, equity derivatives and fixed income and equity securities.

Counterparty credit risk and collateral

We assess credit risk of our counterparties through regular examination of their financial statements, confidential communication with the management of those counterparties and regular monitoring of publicly available credit rating information. This and other information is used to develop proprietary credit rating metrics used to assess credit quality.

Collateral requirements are determined after a comprehensive review of the credit quality of each counterparty. Collateral is generally held or pledged in the form of cash or highly liquid government securities. Collateral requirements are monitored and adjusted daily.

Additional disclosures concerning derivative financial instruments are provided in Note 14 of the Notes to Consolidated Financial Statements.

Disclosure of contingent features in OTC derivative instruments

Certain OTC derivative contracts and/or collateral agreements of The Bank of New York Mellon, our largest banking subsidiary and the subsidiary through which BNY Mellon enters into the substantial majority of its OTC derivative contracts and/or collateral agreements, contain provisions that may require us to take certain actions if The Bank of New York Mellon’s public debt rating fell to a certain level. Early termination provisions, or “close-out” agreements, in those contracts could trigger immediate payment of outstanding contracts that are in net liability positions. Certain collateral agreements would require The Bank of New York Mellon to immediately post additional collateral to cover some or all of The Bank of New York Mellon’s liabilities to a counterparty.

The following table shows the fair value of contracts falling under early termination provisions that were in net liability positions as of March 31, 2017 for three key ratings triggers:

If The Bank of New York Mellon’s rating was changed to (Moody’s/S&P)
Potential close-out exposures (fair value) (a)
 
A3/A-
 
$
26
 million
Baa2/BBB
 
$
540
 million
Ba1/BB+
 
$
1,483
 million
(a)
The amounts represent potential total close-out values if The Bank of New York Mellon’s rating were to immediately drop to the indicated levels.
The aggregated fair value of contracts impacting potential trade close-out amounts and collateral obligations can fluctuate from quarter to quarter due to changes in market conditions, changes in the composition of counterparty trades, new business or changes to the agreement definitions establishing close-out or collateral obligations.

Additionally, if The Bank of New York Mellon’s debt rating had fallen below investment grade on March 31, 2017, existing collateral arrangements would have required us to post an additional $116 million of collateral.

The following tables present derivative instruments and financial instruments that are either subject to an enforceable netting agreement or offset by collateral arrangements. There were no derivative instruments or financial instruments subject to a legally enforceable netting agreement for which we are not currently netting.

Offsetting of derivative assets and financial assets at March 31, 2017
 
 
 
 
 
Gross assets recognized

Gross amounts offset in the balance sheet

 
Net assets recognized on the balance sheet

Gross amounts not offset in the balance sheet
 
(in millions)
(a)
Financial instruments

Cash collateral received

Net amount

Derivatives subject to netting arrangements:
 
 
 
 
 
 
 
Interest rate contracts
$
6,582

$
5,365

 
$
1,217

$
277

$

$
940

Foreign exchange contracts
2,779

2,195

 
584

73


511

Equity and other contracts
51

35

 
16



16

Total derivatives subject to netting arrangements
9,412

7,595

 
1,817

350


1,467

Total derivatives not subject to netting arrangements
1,128


 
1,128



1,128

Total derivatives
10,540

7,595

 
2,945

350


2,595

Reverse repurchase agreements
16,730

502

(b)
16,228

16,228



Securities borrowing
9,548


 
9,548

9,267


281

Total
$
36,818

$
8,097

 
$
28,721

$
25,845

$

$
2,876

(a)
Includes the effect of netting agreements and net cash collateral received. The offset related to the OTC derivatives was allocated to the various types of derivatives based on the net positions.
(b)
Offsetting of reverse repurchase agreements relates to our involvement in the Fixed Income Clearing Corporation, where we settle government securities transactions on a net basis for payment and delivery through the Fedwire system.


Offsetting of derivative assets and financial assets at Dec. 31, 2016
 
 
 
 
 
Gross assets recognized

Gross amounts offset in the balance sheet

 
Net assets recognized
on the
balance sheet

Gross amounts not offset in the balance sheet
 
(in millions)
(a)
Financial instruments

Cash collateral received

Net amount

Derivatives subject to netting arrangements:
 
 
 
 
 
 
 
Interest rate contracts
$
7,205

$
6,047

 
$
1,158

$
321

$

$
837

Foreign exchange contracts
5,265

4,172

 
1,093

202


891

Equity and other contracts
44

38

 
6



6

Total derivatives subject to netting arrangements
12,514

10,257

 
2,257

523


1,734

Total derivatives not subject to netting arrangements
2,007


 
2,007



2,007

Total derivatives
14,521

10,257

 
4,264

523


3,741

Reverse repurchase agreements
17,588

481

(b)
17,107

17,104


3

Securities borrowing
8,694


 
8,694

8,425


269

Total
$
40,803

$
10,738

 
$
30,065

$
26,052

$

$
4,013

(a)
Includes the effect of netting agreements and net cash collateral received. The offset related to the OTC derivatives was allocated to the various types of derivatives based on the net positions.
(b)
Offsetting of reverse repurchase agreements relates to our involvement in the Fixed Income Clearing Corporation, where we settle government securities transactions on a net basis for payment and delivery through the Fedwire system.


Offsetting of derivative liabilities and financial liabilities at March 31, 2017
Net liabilities recognized on the balance sheet

 
 
 
 
Gross liabilities recognized

Gross amounts offset in the balance sheet

 
Gross amounts not offset in the balance sheet
 
(in millions)
(a)
Financial instruments

Cash collateral pledged

Net amount

Derivatives subject to netting arrangements:
 
 
 
 
 
 
 
Interest rate contracts
$
7,328

$
6,529

 
$
799

$
666

$

$
133

Foreign exchange contracts
2,560

1,645

 
915

12


903

Equity and other contracts
112

54

 
58

57


1

Total derivatives subject to netting arrangements
10,000

8,228

 
1,772

735


1,037

Total derivatives not subject to netting arrangements
632


 
632



632

Total derivatives
10,632

8,228

 
2,404

735


1,669

Repurchase agreements
9,777

502

(b)
9,275

9,275



Securities lending
1,501


 
1,501

1,417


84

Total
$
21,910

$
8,730

 
$
13,180

$
11,427

$

$
1,753

(a)
Includes the effect of netting agreements and net cash collateral paid. The offset related to the OTC derivatives was allocated to the various types of derivatives based on the net positions.
(b)
Offsetting of repurchase agreements relates to our involvement in the Fixed Income Clearing Corporation, where we settle government securities transactions on a net basis for payment and delivery through the Fedwire system.


Offsetting of derivative liabilities and financial liabilities at Dec. 31, 2016
Net liabilities recognized
on the
balance sheet

 
 
 
 
Gross liabilities recognized

Gross amounts offset in the balance sheet

 
Gross amounts not offset in the balance sheet
 
(in millions)
(a)
Financial instruments

Cash collateral pledged

Net amount

Derivatives subject to netting arrangements:
 
 
 
 
 
 
 
Interest rate contracts
$
8,116

$
6,634

 
$
1,482

$
1,266

$

$
216

Foreign exchange contracts
4,957

3,363

 
1,594

355


1,239

Equity and other contracts
104

50

 
54

54



Total derivatives subject to netting arrangements
13,177

10,047

 
3,130

1,675


1,455

Total derivatives not subject to netting arrangements
1,271


 
1,271



1,271

Total derivatives
14,448

10,047

 
4,401

1,675


2,726

Repurchase agreements
8,703

481

(b)
8,222

8,222



Securities lending
1,615


 
1,615

1,522


93

Total
$
24,766

$
10,528

 
$
14,238

$
11,419

$

$
2,819

(a)
Includes the effect of netting agreements and net cash collateral paid. The offset related to the OTC derivatives was allocated to the various types of derivatives based on the net positions.
(b)
Offsetting of repurchase agreements relates to our involvement in the Fixed Income Clearing Corporation, where we settle government securities transactions on a net basis for payment and delivery through the Fedwire system.
Secured borrowings

The following tables present the contract value of repurchase agreements and securities lending transactions accounted for as secured borrowings by the type of collateral provided to counterparties.

Repurchase agreements and securities lending transactions accounted for as secured borrowings at March 31, 2017
 
Remaining contractual maturity of the agreements
(in millions)
Overnight and continuous

Up to 30 days

30 days or more

Total

Repurchase agreements:
 
 
 
 
U.S. Treasury
$
3,014

$
13

$

$
3,027

U.S. government agencies
523

64


587

Agency RMBS
2,551

348


2,899

Corporate bonds
428


1,138

1,566

Other debt securities
616


390

1,006

Equity securities
435


257

692

Total
$
7,567

$
425

$
1,785

$
9,777

Securities lending:
 
 
 
 
U.S. government agencies
$
45

$

$

$
45

Other debt securities
389



389

Equity securities
1,067



1,067

Total
$
1,501

$

$

$
1,501

Total borrowings
$
9,068

$
425

$
1,785

$
11,278



Repurchase agreements and securities lending transactions accounted for as secured borrowings at Dec. 31, 2016
 
Remaining contractual maturity of the agreements
(in millions)
Overnight and continuous

Up to 30 days

30 days or more

Total

Repurchase agreements:
 
 
 
 
U.S. Treasury
$
2,488

$
4

$

$
2,492

U.S. government agencies
396

10


406

Agency RMBS
3,294

386


3,680

Corporate bonds
304


694

998

Other debt securities
146


563

709

Equity securities
375


43

418

Total
$
7,003

$
400

$
1,300

$
8,703

Securities lending:
 
 
 
 
U.S. government agencies
$
39

$

$

$
39

Other debt securities
477



477

Equity securities
1,099



1,099

Total
$
1,615

$

$

$
1,615

Total borrowings
$
8,618

$
400

$
1,300

$
10,318



BNY Mellon’s repurchase agreements and securities lending transactions primarily encounter risk associated with liquidity. We are required to pledge collateral based on predetermined terms within the agreements. If we were to experience a decline in the fair value of the collateral pledged for these transactions, we could be required to provide
additional collateral to the counterparty, therefore decreasing the amount of assets available for other liquidity needs that may arise. BNY Mellon also offers tri-party collateral agency services in the tri-party repo market where we are exposed to credit risk. In order to mitigate this risk, we require dealers to fully secure intraday credit.