Financial Derivatives

12 Months Ended

Dec. 31, 2013

Financial Derivatives [Abstract]

Financial Derivatives

Note 13.  Financial Derivatives

As part of managing interest rate risk, the Bank has entered into interest rate swap agreements as vehicles to partially hedge cash flows associated with interest expense on variable rate deposit accounts.  Under the swap agreements, the Bank receives a variable rate and pays a fixed rate. Such agreements are generally entered into with counterparties that meet established credit standards and most contain collateral provisions protecting the at-risk party.  The Bank considers the credit risk inherent in these contracts to be negligible.  Interest rate swap agreements derive their value from underlying interest rates.  These transactions involve both credit and market risk.  The notional amounts are amounts on which calculations, payments, and the value of the derivative are based.  The notional amounts do not represent direct credit exposures.  Direct credit exposure is limited to the net difference between the calculated amounts to be received and paid, if any.  Such difference, which represents the fair value of the swap, is reflected on the Corporation’s balance sheet.

The Corporation is exposed to credit-related losses in the event of nonperformance by the counterparty to these agreements.  The Corporation controls the credit risk of its financial contracts through credit approvals, limits and monitoring procedures, and does not expect the counterparty to fail its obligations.

The primary focus of the Corporation’s asset/liability management program is to monitor the sensitivity of the Corporation’s net portfolio value and net income under varying interest rate scenarios to take steps to control its risks.  On a quarterly basis, the Corporation simulates the net portfolio value and net interest income expected to be earned over a twelve-month period following the date of simulation.  The simulation is based upon projection of market interest rates at varying levels and estimates the impact of such market rates on the levels of interest-earning assets and interest-bearing liabilities during the measurement period.  Based upon the outcome of the simulation analysis, the Corporation considers the use of derivatives as a means of reducing the volatility of net portfolio value and projected net income within certain ranges of projected changes in interest rates.  The Corporation evaluates the effectiveness of entering into any derivative instrument agreement by measuring the cost of such an agreement in relation to the reduction in net portfolio value and net income volatility within an assumed range of interest rates.

During 2008, the Bank entered into two swap transactions with each swap having a notional amount of $10 million. One swap matured in 2013 and the second swap matures in 2015. According to the terms of each transaction, the Bank pays fixed-rate interest payments and receives floating-rate payments.  The variable rate is indexed to the 91-day Treasury Bill auction (discount) rate and resets weekly. The swaps were entered into in order   to hedge the Corporation’s exposure to changes in cash flows attributable to the effect of interest rate changes on variable-rate liabilities.  At December 31, 2013, the fair value of the swaps was negative $561 thousand and was recognized in accumulated other comprehensive loss, net of tax.  The fair value of assets pledged as collateral for the swaps was $2.2 million at December 31, 2013 and 2012.

Information regarding the interest rate swaps as of December 31, 2013 follows:

(Dollars in thousands)						Amount Expected to
						be Expensed into
Notional		Maturity	Interest Rate			Earnings within the
Amount		Date	Fixed	Variable		next 12 Months
$	10,000	5/30/2015	3.87%	0.07%	$	380

Fair Value of Derivative Instruments in the Consolidated Balance Sheets were as follows as of December 31, 2013:

Fair Value of Derivative Instruments
(Dollars in thousands)		Balance Sheet
Date	Type	Location	Fair Value
December 31, 2013	Interest rate contracts	Other liabilities	$	561
December 31, 2012	Interest rate contracts	Other liabilities	$	1,103

The Effect of Derivative Instruments on the Statement of Income for the years ended December 31, 2013, 2012 and 2011 follows:

Derivatives in ASC Topic 815 Cash Flow Hedging Relationships
(Dollars in thousands)								Amount of Gain
							Location of	or (Loss)
							Gain or (Loss)	Recognized in
							Recognized in	Income on
				Location of	Amount of Gain		Income on	Derivatives
		Amount of Gain		Gain or (Loss)	or (Loss)		Derivative (Ineffective	(Ineffective Portion
		or (Loss)		Reclassified from	Reclassified from		Portion and Amount	and Amount
		Recognized in OCI		Accumulated OCI	Accumulated OCI		Excluded from	Excluded from
		net of tax on Derivative		into Income	into Income		Effectiveness	Effectiveness
Date	Type	(Effective Portion)		(Effective Portion)	(Effective Portion)		Testing)	Testing)
December 31, 2013	Interest rate contracts	$	358	Interest Expense	$	(525)	Other income (expense)	$	-
December 31, 2012	Interest rate contracts	$	420	Interest Expense	$	(736)	Other income (expense)	$	-
December 31, 2011	Interest rate contracts	$	8	Interest Expense	$	(727)	Other income (expense)	$	-