Derivative Financial Instruments

9 Months Ended

Sep. 30, 2012

Derivative Financial Instruments

Derivative Financial Instruments

Note 10. Derivative Financial Instruments

The following table presents the Company's derivative financial instruments, their fair values, and balance sheet location as of September30, 2012 and December31, 2011:

	September30, 2012				December31,2011
Derivative Financial Instruments Not Designated as Hedging Instruments 1 (dollars in thousands)	Asset Derivatives		Liability Derivatives		Asset Derivatives		Liability Derivatives
Interest Rate Lock Commitments	$	13,037	$	-	$	2,344	$	10
Forward Commitments	53		3,331		8		946
Interest Rate Swap Agreements	34,991		35,260		35,503		35,779
Foreign Exchange Contracts	57		58		230		97
Total	$	48,138	$	38,649	$	38,085	$	36,832

1 Asset derivatives are included in other assets and liability derivatives are included in other liabilities in the consolidated statements of condition.

The following table presents the Company's derivative financial instruments and the amount and location of the net gains or losses recognized in the statements of income for the three and nine months ended September30, 2012 and 2011:

	Location of Net Gains	Three Months Ended						Nine Months Ended
Derivative Financial Instruments Not Designated	(Losses) Recognized in the	September30,						September30,
as Hedging Instruments (dollars in thousands)	Statement of Income	2012			2011			2012			2011
Interest Rate Lock Commitments	Mortgage Banking	$	15,219		$	8,809		$	28,286		$	12,197
Forward Commitments	Mortgage Banking	(2,132		)	(4,206		)	(3,894		)	(4,311		)
Interest Rate Swap Agreements	Other Noninterest Income	2			(67		)	7			300
Foreign Exchange Contracts	Other Noninterest Income	852			717			2,432			2,357
Total		$	13,941		$	5,253		$	26,831		$	10,543

Management has received authorization from the Bank's Board of Directors to use derivative financial instruments as an end-user in connection with its risk management activities and to accommodate the needs of its customers. As with any financial instrument, derivative financial instruments have inherent risks. Market risk is defined as the risk of adverse financial impact due to fluctuations in interest rates, foreign exchange rates, and equity prices. Market risks associated with derivative financial instruments are balanced with the expected returns to enhance earnings performance and shareholder value, while limiting the volatility of each. The Company uses various processes to monitor its overall market risk exposure, including sensitivity analysis, value-at-risk calculations, and other methodologies.

Derivative financial instruments are also subject to credit and counterparty risk, which is defined as the risk of financial loss if a borrower or counterparty is either unable or unwilling to repay borrowings or settle a transaction in accordance with the underlying contractual terms. Credit and counterparty risks associated with derivative financial instruments are similar to those relating to traditional financial instruments. The Company manages derivative credit and counterparty risk by evaluating the creditworthiness of each borrower or counterparty, adhering to the same credit approval process used for commercial lending activities.

Derivative financial instruments are required to be carried at their fair value on the Company's consolidated statements of condition. As of September30, 2012 and December31, 2011, the Company did not designate any derivative financial instruments in formal hedging relationships. The Company's free-standing derivative financial instruments have been recorded at fair value on the Company's consolidated statements of condition. These financial instruments have been limited to interest rate lock commitments ("IRLCs"), forward commitments, interest rate swap agreements, and foreign exchange contracts.

The Company enters IRLCs for residential mortgage loans which commit us to lend funds to a potential borrower at a specific interest rate and within a specified period of time. IRLCs that relate to the origination of mortgage loans that will be held for sale are considered derivative financial instruments under applicable accounting guidance. Outstanding IRLCs expose the Company to the risk that the price of the mortgage loans underlying the commitments may decline due to increases in mortgage interest rates from inception of the rate lock to the funding of the loan. To mitigate this risk, the Company utilizes forward commitments as economic hedges against the potential decreases in the values of the loans held for sale. The IRLCs and forward commitments are free-standing derivatives which are carried at fair value with changes recorded in the mortgage banking component of noninterest income in the Company's consolidated statements of income. Changes in the fair value of IRLCs and forward commitments subsequent to inception are based on changes in the fair value of the underlying loan resulting from the fulfillment of the commitment and changes in the probability that the loan will fund within the terms of the commitment, which is affected primarily by changes in interest rates and the passage of time.

The Company enters into interest rate swap agreements to facilitate the risk management strategies of a small number of commercial banking customers. The Company mitigates this risk by entering into equal and offsetting interest rate swap agreements with highly rated third party financial institutions. The interest rate swap agreements are free-standing derivatives which are carried at fair value with changes included in other noninterest income in the Company's consolidated statements of income. The Company is party to master netting arrangements with its institutional counterparties; however, the Company does not offset assets and liabilities under these arrangements for financial statement presentation purposes. Collateral, usually in the form of marketable securities, is posted by the counterparty with liability positions in accordance with contract thresholds. The Company had net liability positions with its financial institution counterparties totaling $35.3million and $35.8 million as of September30, 2012 and December31, 2011, respectively. The collateral posted by the Company for these net liability positions was $3.4million and $3.6 million as of September30, 2012 and December31, 2011, respectively.

The Company's interest rate swap agreements with institutional counterparties contain credit-risk-related contingent features tied to the Company's debt ratings or capitalization levels. Under these provisions, if the Company's debt rating falls below investment grade or if the Company's capitalization levels fall below stipulated thresholds, certain counterparties may require immediate and ongoing collateralization on interest rate swaps in net liability positions, or may require immediate settlement of the contracts. As of September30, 2012, the Company's debt ratings and capital levels were in excess of these minimum requirements.

The Company utilizes foreign exchange contracts to offset risks related to transactions executed on behalf of customers. The foreign exchange contracts are free-standing derivatives which are carried at fair value with changes included in other noninterest income in the Company's consolidated statements of income.