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DERIVATIVE INSTRUMENTS

9 Months Ended

Aug. 02, 2020

(18) Derivative Instruments

It is the Company’s policy that derivative transactions are executed only to manage exposures arising in the normal course of business and not for the purpose of creating speculative positions or trading. The Company’s financial services operations manage the relationship of the types and amounts of their funding sources to their receivable and lease portfolio in an effort to diminish risk due to interest rate and foreign currency fluctuations, while responding to favorable financing opportunities. The Company also has foreign currency exposures at some of its foreign and domestic operations related to buying, selling, and financing in currencies other than the functional currencies. In addition, the Company has interest rate exposure at certain equipment operations units for below market retail financing programs that are used as sales incentives and are offered for extended periods.

All derivatives are recorded at fair value on the balance sheet. Cash collateral received or paid is not offset against the derivative fair values on the balance sheet. Each derivative is designated as a cash flow hedge, a fair value hedge, or remains undesignated. All designated hedges are formally documented as to the relationship with the hedged item as well as the risk-management strategy. Both at inception and on an ongoing basis the hedging instrument is assessed as to its effectiveness. If and when a derivative is determined not to be highly effective as a hedge, the underlying hedged transaction is no longer likely to occur, the hedge designation is removed, or the derivative is terminated, hedge accounting is discontinued.

Cash Flow Hedges

Certain interest rate contracts (swaps) were designated as hedges of future cash flows from borrowings. The total notional amounts of the receive-variable/pay-fixed interest rate contracts at August 2, 2020, November 3, 2019, and July 28, 2019 were $1,900 million, $3,150 million, and $2,750 million, respectively. Fair value gains or losses on cash flow hedges were recorded in OCI and are subsequently reclassified into interest expense in the same periods during which the hedged transactions affected earnings. These amounts offset the effects of interest rate changes on the related borrowings. The cash flows from these contracts were recorded in operating activities in the statement of consolidated cash flows.

The amount of loss recorded in OCI at August 2, 2020 that is expected to be reclassified to interest expense or other operating expenses in the next twelve months if interest rates or exchange rates remain unchanged is approximately $14 million after-tax. No gains or losses were reclassified from OCI to earnings based on the probability that the original forecasted transaction would not occur.

Fair Value Hedges

Certain interest rate contracts (swaps) were designated as fair value hedges of borrowings. The total notional amounts of the receive-fixed/pay-variable interest rate contracts at August 2, 2020, November 3, 2019, and July 28, 2019 were $8,850 million, $8,717 million, and $9,245 million, respectively. The fair value gains or losses on these contracts were generally offset by fair value gains or losses on the hedged items (fixed-rate borrowings) with both items recorded in interest expense.

The amounts recorded in the consolidated balance sheet related to borrowings designated in fair value hedging relationships in millions of dollars follow:


			Cumulative Increase (Decrease) of Fair
			Value Hedging Adjustments Included in
			the Carrying Amount
	Carrying		Active
	Amount of		Hedging		Discontinued
	Hedged Item		Relationships		Relationships		Total
August 2, 2020
Long-term borrowings due within one year*	$	480	$	6	$	2	$	8
Long-term borrowings		9,140		754		40		794

November 3, 2019
Long-term borrowings due within one year*	$	412	$	(1)	$	(4)	$	(5)
Long-term borrowings		8,532		295		(32)		263

July 28, 2019
Long-term borrowings due within one year*	$	187	$	1	$	(5)	$	(4)
Long-term borrowings		9,154		184		(50)		134

* Presented in short-term borrowings

Derivatives not designated as hedging instruments

The Company has certain interest rate contracts (swaps), foreign exchange contracts (futures, forwards, and swaps), and cross-currency interest rate contracts (swaps), which were not formally designated as hedges. These derivatives were held as economic hedges for underlying interest rate or foreign currency exposures, primarily for certain borrowings, purchases or sales of inventory, and below market retail financing programs. The total notional amounts of these interest rate swaps at August 2, 2020, November 3, 2019, and July 28, 2019 were $7,522 million, $9,166 million, and $7,607 million, the foreign exchange contracts were $4,790 million, $4,962 million, and $6,362 million, and the cross-currency interest rate contracts were $125 million, $92 million, and $90 million, respectively. The fair value gains or losses from the interest rate contracts were recognized currently in interest expense and the gains or losses from foreign exchange contracts in cost of sales or other operating expenses, generally offsetting over time the expenses on the exposures being hedged. The cash flows from these non-designated contracts were recorded in operating activities in the statement of consolidated cash flows.

Fair values of derivative instruments in the condensed consolidated balance sheet in millions of dollars follow:


	August 2		November 3		July 28
Other Assets	2020		2019		2019
Designated as hedging instruments:
Interest rate contracts	$	806	$	332	$	232
Total designated		806		332		232

Not designated as hedging instruments:
Interest rate contracts		89		31		33
Foreign exchange contracts		57		20		53
Cross-currency interest rate contracts		9		1		2
Total not designated		155		52		88

Total derivative assets	$	961	$	384	$	320

Accounts Payable and Accrued Expenses
Designated as hedging instruments:
Interest rate contracts	$	24	$	28	$	55
Total designated		24		28		55

Not designated as hedging instruments:
Interest rate contracts		91		37		44
Foreign exchange contracts		55		71		45
Cross-currency interest rate contracts				3		2
Total not designated		146		111		91

Total derivative liabilities	$	170	$	139	$	146

The classification and gains (losses) including accrued interest expense related to derivative instruments on the statement of consolidated income consisted of the following in millions of dollars:


	Three Months Ended				Nine Months Ended
	August 2		July 28		August 2		July 28
	2020		2019		2020		2019
Fair Value Hedges:
Interest rate contracts - Interest expense	$	78	$	193	$	589	$	468

Cash Flow Hedges:
Recognized in OCI
Interest rate contracts - OCI (pretax)		(1)		(27)		(18)		(42)

Reclassified from OCI
Interest rate contracts - Interest expense		(7)		1		(13)		6

Not Designated as Hedges:
Interest rate contracts - Net sales	$	(2)	$	(6)	$	(26)	$	(23)
Interest rate contracts - Interest expense *		(1)		(7)		2		(25)
Foreign exchange contracts - Cost of sales		(28)		(8)		64		(1)
Foreign exchange contracts - Other operating *		(49)		(12)		125		88
Total not designated	$	(80)	$	(33)	$	165	$	39

* Includes interest and foreign exchange gains (losses) from cross-currency interest rate contracts.

Counterparty Risk and Collateral

Derivative instruments are subject to significant concentrations of credit risk to the banking sector. The Company manages individual counterparty exposure by setting limits that consider the credit rating of the counterparty, the credit default swap spread of the counterparty, and other financial commitments and exposures between the Company and the counterparty banks. All interest rate derivatives are transacted under International Swaps and Derivatives Association (ISDA) documentation.

Some of these agreements include credit support provisions. Each master agreement permits the net settlement of amounts owed in the event of default or termination.

Certain of the Company’s derivative agreements contain credit support provisions that may require the Company to post or receive collateral based on the size of the net liability or net asset positions, credit ratings, and market conventions. The aggregate fair value of all derivatives with credit-risk-related contingent features that were in a net liability position at August 2, 2020, November 3, 2019, and July 28, 2019, was $115 million, $68 million, and $101 million, respectively. Based on net asset positions and in accordance with the limits established in these agreements, the Company received $332 million in cash collateral at August 2, 2020. No cash collateral was posted or received at November 3, 2019 or July 28, 2019. In addition, the Company paid $8 million of collateral that was outstanding at August 2, 2020 to participate in an international futures market to hedge currency exposure, which is not included in the table below.

Derivatives are recorded without offsetting for netting arrangements or collateral. The impact on the derivative assets and liabilities related to netting arrangements and any collateral received or paid in millions of dollars follows:


	Gross Amounts		Netting		Collateral
August 2, 2020	Recognized		Arrangements		Received		Net Amount
Assets	$	961	$	(120)	$	(332)	$	509
Liabilities		170		(120)				50


	Gross Amounts		Netting		Collateral
November 3, 2019	Recognized		Arrangements		Received	Net Amount
Assets	$	384	$	(70)		$	314
Liabilities		139		(70)			69


	Gross Amounts		Netting		Collateral
July 28, 2019	Recognized		Arrangements		Received	Net Amount
Assets	$	320	$	(70)		$	250
Liabilities		146		(70)			76