Note 4. Investments

The investment portfolio serves as a mechanism to invest funds if funding sources out pace lending activity, provide liquidity for lending and operations, and provide collateral for deposits and borrowings. The Corporation and Bank invest in taxable and tax-free debt securities and equity securities as part of its investment strategy. The mix of taxable and tax-free debt securities are determined by the Bank's Investment Committee and investing decisions are made as a component of balance sheet management. Debt securities include U.S. Government Agencies, U.S. Government Agency mortgage-backed securities, private label mortgage-backed securities (PLMBS), state and municipal government bonds and corporate debt, including trust preferred securities. The equity portfolio consists of bank stocks only and is considered to be longer-term with a focus on capital appreciation. All securities are classified as available for sale and all investment balances refer to fair value.

Equities: The equity portfolio is comprised entirely of bank stocks with the Bank and the Corporation each holding separate portfolios. The stocks held in the portfolio range from community banks to large national banks. In 2011, other-than-temporary impairment charges of $185 thousand were recorded against the equity portfolio.

Municipal Bonds: The Bank's municipal bond portfolio is well diversified geographically and is comprised primarily of general obligation bonds (72% of the portfolio). The portfolio holds ninety-four separate issues within twenty-six states. The largest dollar exposure is to issuers in the state of Texas ($8.3 million / 18.4%) and Pennsylvania ($6.4 million / 14.3%). The majority of the bonds have either private bond insurance or have some type of other credit enhancement. The portfolio contains 4 taxable municipal bonds with a fair value of $3.7 million. When purchasing municipal bonds, the Bank looks primarily to the underlying credit of the issuer as a sign of credit quality and then to any credit enhancement. Approximately $31 million of the portfolio is rated A or higher by Moody. The Bank owns five issues for $2.1 million that are not rated by a nationally recognized rating agency.

Corporate Bonds: There are 3 issuers that comprise the holdings in the corporate bond portfolio, all in the financial services sector. These bonds are both fixed and floating rate bonds and have Moody ratings ranging from A3 to B2.

Trust Preferred Bonds: The Bank holds 7 single-issue trust-preferred securities at a cost of $5.9 million and a fair value of $4.6 million. Trust preferred securities are typically issued by a subsidiary grantor trust of a bank holding company, which uses the proceeds of the equity issuance to purchase deeply subordinated debt issued by the bank holding company. Trust-preferred securities can reflect single entity issues or a group of entities (pooled trust preferred). Pooled trust preferred securities have been the subject of significant write-downs due in some cases from the default of one issuer in the pool that then impairs the entire pool. Because of recent financial conditions, most trust preferred securities have realized a significant decline in value, but market prices continue to improve slowly. All of the Bank's issues are single issuer, variable rate notes with long final maturities (2027 – 2028) that continue to pay dividends.

Mortgage-backed Securities: The largest sector of the portfolio continues to be held in mortgage-backed securities (MBS) with $58.2 million or 46% of the total portfolio. The majority of this sector ($55.3 million) is comprised of U.S. Government Agency MBS. In addition, the Bank holds 7 private label mortgage-backed securities (PLMBS) with a fair value of $2.9 million and an amortized cost of $3.4 million. These PLMBS bonds paid down by more than $1 million in 2011.

The Bank's PLMBS portfolio is comprised primarily of Alt-A loans. Alt-A loans are first-lien residential mortgages that generally conform to traditional "prime" credit guidelines; however, loan factors such as the loan-to-value ratio, loan documentation, occupancy status or property type cause these loans not to qualify for standard underwriting programs. The Alt-A product in the Bank's portfolio is comprised of fixed-rate product that was originated between 2003 and 2006 and all were originally rated AAA. The bonds issued in 2006 are experiencing the highest delinquency and loss rates. All of these bonds originally had some type of credit support tranche to absorb any loss prior to losses at the senior tranche held by the Bank, but this has eroded completely on some bonds as they have started to experience losses. The Bank recorded other-than-temporary impairment charges of $55 thousand on two PLMBS bonds in 2011. Based on the performance of some the PLMBS, it appears as if the underwriting standards that were represented in the offering, and resulted in the AAA rating, were not followed. As a result, the Bank purchased some securities based on these misrepresentations, and it is most likely that these securities would not have been purchased had all the information been reported correctly. The Bank is participating in a lawsuit against certain issuers related to these misrepresentations.

The amortized cost and estimated fair value of investment securities available for sale as of December 31, 2011 and 2010 is as follows:

(Amounts in thousands)
2011

Amortized
cost

Gross
unrealized
gains

Gross
unrealized
losses

Estimated
Fair
value

Equity securities

2,105

(357)

1,759

Obligations of U.S. Government agencies

13,159

(5)

13,229

Obligations of state and political subdivisions

42,490

2,598

(7)

45,081

Corporate debt securities

2,484

(119)

2,414

Trust preferred securities

5,890

—

(1,272)

4,618

Agency mortgage-backed securities

54,314

1,159

(188)

55,285

Private-label mortgage-backed securities

3,366

(500)

2,867

Asset-backed securities

—

(18)

123,874

3,893

(2,466)

125,301


(Amounts in thousands) 2010	Amortized cost		Gross unrealized gains		Gross unrealized losses			Estimated Fair value
Equity securities	$	4,126	$	50	$	(538	)	$	3,638
Obligations of U.S. Government agencies		14,780		61		(56	)		14,785
Obligations of state and political subdivisions		39,477		894		(419	)		39,952
Corporate debt securities		2,647		64		(46	)		2,665
Trust preferred securities		5,875		—		(1,678	)		4,197
Agency mortgage-backed securities		47,239		1,104		(46	)		48,297
Private-label mortgage-backed securities		4,424		20		(415	)		4,029
Asset-backed securities		74		—		(21	)		53
	$	118,642	$	2,193	$	(3,219	)	$	117,616

At December 31, 2011 and 2010, the amortized cost of investment securities pledged to secure public funds, trust balances, repurchase agreements, deposit and other obligations totaled $112.1 million and $108.7 million, respectively.

The amortized cost and estimated fair value of debt securities at December 31, 2011, by contractual maturity are shown below. Actual maturities may differ from contractual maturities because of prepayment or call options embedded in the securities.


(Amounts in thousands)	Amortized cost		Estimated fair value
Due in one year or less	$	5,105	$	5,088
Due after one year through five years		12,705		13,234
Due after five years through ten years		16,112		17,107
Due after ten years		30,167		29,961
		64,089		65,390
Mortgage-backed securities		57,680		58,152
	$	121,769	$	123,542

The composition of the net realized securities gains (losses) for the years ended December 31, 2011, 2010 and 2009 is as follows:


(Amounts in thousands)	2011		2010			2009
Gross gains realized	$	195	$	846		$	66
Gross losses realized		(38)		(173	)		(588	)
Net gains (losses) realized	$	157	$	673		$	(522	)
Tax provision (benefits) applicable to net securities gains (losses)	$	53	$	229		$	(177	)

Impairment:

At December 31, 2011, the investment portfolio contained 58 temporarily impaired securities with a fair value of $32.1 million and $2.5 million in unrealized losses. The unrealized loss position has improved from year-end 2010 when there were 85 temporarily impaired securities with an unrealized loss of $3.2 million. The sectors showing the largest improvement in unrealized loss are state and municipal bonds, and trust preferred securities. Despite the improvement in the value of trust preferred securities, they continue to represent 52% of the total portfolio unrealized loss.

For securities with an unrealized loss, Management applies a systematic methodology in order to perform an assessment of the potential for other-than-temporary impairment. In the case of debt securities, investments considered for other-than-temporary impairment: (1) had a specified maturity or repricing date; (2) were generally expected to be redeemed at par, and (3) were expected to achieve a recovery in market value within a reasonable period of time. In addition, the Bank considers whether it intends to sell these securities or whether it will be forced to sell these securities before the earlier of amortized cost recovery or maturity. Equity securities are assessed for other-than-temporary impairment based on the length of time of impairment, dollar amount of the impairment and general market and financial conditions relating to specific issues. The impairment identified on debt and equity securities, and subject to assessment at December 31, 2011, was deemed to be temporary and required no further adjustments to the financial statements, unless otherwise noted.

The following table reflects temporary impairment in the investment portfolio (excluding restricted stock), aggregated by investment category, length of time that individual securities have been in a continuous unrealized loss position and the number of securities in each category as of December 31, 2011 and 2010:


	December 31, 2011
	Less than 12 months						12 months or more						Total
(Amounts in thousands)	Fair Value		Unrealized Losses		Count		Fair Value		Unrealized Losses		Count		Fair Value		Unrealized Losses		Count
Equity securities	$	394	$	(111)		3	$	864	$	(246)		13	$	1,258	$	(357)		16
Obligations of U.S. Government agencies		6,068		(3)		5		1,321		(2)		5		7,389		(5)		10
Obligations of state and political subdivisions		579		(7)		1		—		—		—		579		(7)		1
Corporate debt securities		—		—		—		1,889		(119)		2		1,889		(119)		2
Trust preferred securities		—		—		—		4,618		(1,272)		7		4,618		(1,272)		7
Agency mortgage-backed securities		12,452		(156)		12		1,174		(32)		1		13,626		(188)		13
Private-label mortgage-backed securities		1,057		(36)		2		1,636		(464)		4		2,693		(500)		6
Asset-backed securities		—		—		—		48		(18)		3		48		(18)		3
Total temporarily impaired securities	$	20,550	$	(313)		23	$	11,550	$	(2,153)		35	$	32,100	$	(2,466)		58


	December 31, 2010
	Less than 12 months							12 months or more							Total
(Amounts in thousands)	Fair Value		Unrealized Losses			Count		Fair Value		Unrealized Losses			Count		Fair Value		Unrealized Losses			Count
Equity securities	$	1	$	(1	)		1	$	3,261	$	(537	)		20	$	3,262	$	(538	)		21
Obligations of U.S. Government agencies		3,476		(17	)		2		6,433		(39	)		14		9,909		(56	)		16
Obligations of state and political subdivisions		11,861		(405	)		24		292		(14	)		1		12,153		(419	)		25
Corporate debt securities		—		—			—		1,968		(46	)		2		1,968		(46	)		2
Trust preferred securities		—		—			—		4,196		(1,678	)		7		4,196		(1,678	)		7
Agency mortgage-backed securities		9,859		(46	)		6		—		—			—		9,859		(46	)		6
Private-label mortgage-backed securities		—		—			—		2,676		(415	)		5		2,676		(415	)		5
Asset-backed securities		—		—			—		53		(21	)		3		53		(21	)		3
Total temporarily impaired securities	$	25,197	$	(469	)		33	$	18,879	$	(2,750	)		52	$	44,076	$	(3,219	)		85

The unrealized loss in the equity portfolio was $357 thousand on 16 issues at year-end, an improvement over the unrealized loss of $538 thousand at year-end 2010. Contributing to this improvement was an other-than-temporary impairment charge of $185 thousand on equities that was recorded in 2011. The impairment identified on these securities was deemed to be temporary and no adjustments to the financial statements was required.

The unrealized loss in the trust preferred sector was $1.3 million at year-end compared to $1.7 million one-year prior. Due to the affect that the recent recession had on the financial performance of many financial institutions, most trust preferred securities realized a significant decline in value. However, market prices continued to show improvement during 2011. All of the Bank's trust preferred securities are variable rate notes with long maturities (2027 – 2028) from companies that received money (and in some cases paid back) from the Troubled Asset Relief Program (TARP), continue to pay dividends and have raised capital. The credit ratings on this portfolio range from B to Baa1 and no bonds have missed or suspended any payments. The Bank reviews the financial performance of each issuer as part of its impairment analysis. At December 31, 2011, the Bank believes it will be able to collect all interest and principal due on these bonds and no other-than-temporary-impairment charges were recorded.

The following table provides additional detail about the Bank's trust preferred securities at December 31, 2011.

Trust Preferred Securities


(Dollars in thousands) Deal Name	Single Issuer or Pooled		Class		Amortized Cost		Fair Value		Gross Unrealized Gain (Loss)			Lowest Credit Rating Assigned		Number of Banks Currently Performing		Deferrals and Defaults as % of Original Collateral		Expected Deferral/ Defaults as a Percentage of Remaining Performing Collateral
Huntington Cap Trust		Single		Preferred Stock	$	930	$	784	$	(146	)		B		1		None		None
Huntington Cap Trust II		Single		Preferred Stock		876		759		(117	)		B		1		None		None
BankAmerica Cap III		Single		Preferred Stock		957		699		(258	)		BB		1		None		None
Wachovia Cap Trust II		Single		Preferred Stock		273		227		(46	)		Baa2		1		None		None
Corestates Captl Tr II		Single		Preferred Stock		925		752		(173	)		Baa1		1		None		None
Chase Cap VI JPM		Single		Preferred Stock		957		694		(263	)		BBB		1		None		None
Fleet Cap Tr V		Single		Preferred Stock		972		703		(269	)		BB		1		None		None
					$	5,890	$	4,618	$	(1,272	)

The PLMBS sector continues to show an unrealized loss of $500 thousand on 6 securities. The majority of this sector is comprised of "Alt-A" PLMBS. These bonds were all rated AAA at time of purchase but have since experienced rating declines. Some have experienced increased delinquencies and defaults, while others have seen the credit support increase as the bonds paid-down. The Bank monitors the performance of the Alt-A investments on a regular basis and reviews delinquencies, default rates, credit support levels and various cash flow stress test scenarios. In determining the credit related loss, Management considers all principal past due 60 days or more as a loss. If additional principal moves beyond 60 days past due, it will also be considered a loss. As a result of the analysis on PLMBS it was determined that two bonds contained losses that were considered other-than-temporary. Management determined $55 thousand was credit related and therefore, recorded an impairment charge of $55 thousand against earnings in 2011. The market for PLMBS continues to be weak and Management believes that this factor accounts for a portion of the unrealized losses that is not attributable to credit issues. Management continues to monitor these securities and it is possible that additional write-downs may occur if current loss trends continue.

The following table provides additional detail about the Bank's PLMBS at December 31, 2011.

Private Label Mortgage Backed Securities


(Dollars in thousands) Description	Origination Date		Amortized Cost		Fair Value		Gross Unrealized Gain (Loss)			Collateral Type		Lowest Credit Rating Assigned		Credit Support %		Cumulative OTTI Charges
RALI 2003-QS15 A1		8/1/2003	$	174	$	175	$	1			ALT A		A1		11.23	$	—
RALI 2004-QS4 A7		3/1/2004		452		451		(1	)		ALT A		AA		12.28		—
MALT 2004-6 7A1		6/1/2004		642		606		(36	)		ALT A		B		11.20		—
RALI 2005-QS2 A1		2/1/2005		547		496		(51	)		ALT A		CCC		7.24		—
RALI 2006-QS4 A2		4/1/2006		836		538		(298	)		ALT A		D		—		218
GSR 2006-5F 2A1		5/1/2006		275		271		(4	)		Prime		C		2.87		—
RALI 2006-QS8 A1		7/28/2006		440		330		(110	)		ALT A		D		—		172
			$	3,366	$	2,867	$	(499	)							$	390

The following table represents the cumulative credit losses on securities recognized in earnings as of December 31, 2011.


(Dollars in thousands)	Twelve Months Ended December 31, 2011
Balance of cumulative credit losses on securities, January 1, 2011	$	335
Additions for credit losses recorded which were not previously recognized as components of earnings		55
Balance of cumulative credit losses on securities, December 31, 2011	$	390

The Bank held $5.0 million of restricted stock at the end of 2011. The restricted stock is comprised primarily of an investment in the Federal Home Loan Bank of Pittsburgh (FHLB). FHLB stock is carried at a cost of $100 per share. In 2008, FHLB announced a capital restoration plan that resulted in it discontinuing paying dividends and repurchasing excess capital stock from its members. Therefore, the Bank's investment in FHLB is a non-earning asset at this time. It is not known if or when FHLB will be able to restore its dividend or repurchase its stock. However, during 2011, FHLB repurchased $1.1 million in stock as part of special repurchases. As of December 31, 2011, the Bank held $1.4 million in FHLB stock in excess of what it would have been required to hold prior to the suspension of the stock repurchase plan. FHLB stock is evaluated for impairment primarily based on an assessment of the ultimate recoverability of its cost. As a government sponsored entity, FHLB has the ability to raise funding through the U.S. Treasury that can be used to support it operations. There is not a public market for FHLB stock and the benefits of FHLB membership (e.g., liquidity and low cost funding) add value to the stock beyond purely financial measures. If FHLB stock were deemed to be impaired, the write-down for the Bank could be significant. Management intends to remain a member of the FHLB and believes that it will be able to fully recover the cost basis of this investment. In February 2012, FHLB declared a .10 percent annualized dividend and repurchased $250 thousand of the Bank's excess capital stock investment in FHLB.