Derivative Financial Instruments

12 Months Ended

Dec. 31, 2019

Derivative Instruments and Hedging Activities Disclosure [Abstract]

The Corporation’s derivative financial instruments are used to manage differences in the amount, timing and duration of the Corporation’s known or expected cash receipts and its known or expected cash payments principally to manage the Corporation’s interest rate risk. Additionally, the Corporation enters into interest rate derivatives to accommodate the business requirements of its customers. All derivatives are recognized as either assets or liabilities on the balance sheet and are measured at fair value. The accounting for changes in the fair value of derivatives depends on the intended use of the derivative and resulting designation.

Interest Rate Risk Management Agreements

Interest rate risk management agreements, such as caps, swaps, and floors, are used from time to time as part of the Corporation’s interest rate risk management strategy. Interest rate swaps are agreements in which the Corporation and another party agree to exchange interest payments (e.g., fixed-rate for variable-rate payments) computed on a notional principal amount. Interest rate caps and floors represent options purchased by the Corporation to manage the interest rate paid throughout the term of the option contract. The credit risk associated with these transactions is the risk of default by the counterparty. To minimize this risk, the Corporation enters into interest rate agreements only with highly rated counterparties that management believes to be creditworthy. The notional amounts of these agreements do not represent amounts exchanged by the parties and, thus, are not a measure of the potential loss exposure.

Cash Flow Hedging Instruments

As of December 31, 2019 and 2018, the Bancorp had two interest rate caps with a total notional amount of $22.7 million that were designated as cash flow hedges to hedge the interest rate risk associated with our variable rate junior subordinated debentures. For both interest rate caps, the Bancorp obtained the right to receive the difference between 3-month LIBOR and a 4.5% strike. The caps mature in 2020.

As of December 31, 2019 and 2018, the Bank had two interest rate swap contracts with a total notional amount of $60.0 million that were designated as cash flow hedges to hedge the interest rate risk associated with short-term variable rate FHLB advances. The interest rate swaps mature in 2021 and 2023.

As of December 31, 2019 and 2018, the Bank had three interest rate floor contracts with a total notional amount of $300.0 million that were designated as cash flow hedges to hedge the interest rate risk associated with a pool of variable rate commercial loans. The Bank obtained the right to receive the difference between 1-month LIBOR and a 1.0% strike for each of the interest rate floors. The floors mature in 2020.

The changes in fair value of derivatives designated as cash flow hedges are recorded in other comprehensive income and subsequently reclassified to earnings when gains or losses are realized.

Loan Related Derivative Contracts

Interest Rate Swap Contracts with Customers

The Corporation has entered into interest rate swap contracts to help commercial loan borrowers manage their interest rate risk. The interest rate swap contracts with commercial loan borrowers allow them to convert variable-rate loan payments to fixed-rate loan payments. When we enter into an interest rate swap contract with a commercial loan borrower, we simultaneously enter into a “mirror” swap contract with a third party. The third party exchanges the client’s fixed-rate loan payments for variable-rate loan payments. We retain the risk that is associated with the potential failure of counterparties and the risk inherent in originating loans. As of December 31, 2019 and 2018, Washington Trust had interest rate swap contracts with commercial loan borrowers with notional amounts of $813.5 million and $648.0 million, respectively, and equal amounts of “mirror” swap contracts with third-party financial institutions. These derivatives are not designated as hedges and therefore, changes in fair value are recognized in earnings.

Risk Participation Agreements

The Corporation has entered into risk participation agreements with other banks in commercial loan arrangements. Participating banks guarantee the performance on borrower-related interest rate swap contracts. These derivatives are not designated as hedges and therefore, changes in fair value are recognized in earnings.

Under a risk participation-out agreement, a derivative asset, the Corporation participates out a portion of the credit risk associated with the interest rate swap position executed with the commercial borrower for a fee paid to the participating bank. Under a risk participation-in agreement, a derivative liability, the Corporation assumes, or participates in, a portion of the credit risk associated with the interest rate swap position with the commercial borrower for a fee received from the other bank.

As of December 31, 2019, the notional amounts of the risk participation-out agreements and risk participation-in agreements were $61.2 million and $72.9 million, respectively, compared to $57.3 million and $46.5 million, respectively, as of December 31, 2018.

Foreign Exchange Contracts

Foreign exchange contracts represent contractual commitments to buy or sell a foreign currency on a future date at a specified price. As of December 31, 2019, the Corporation did not have any foreign exchange contracts. As of December 31, 2018, the notional amount of foreign exchange contracts was $2.8 million. The Corporation used foreign exchange contracts on a limited basis to reduce its exposure to fluctuations in currency exchange rates associated with a commercial loan denominated in a foreign currency. Foreign exchange contracts are not designated as hedges and therefore changes in fair value are recognized in earnings. The changes in fair value on the foreign exchange contracts substantially offset the foreign currency translation gains and losses on the related commercial loan.

Mortgage Loan Commitments

Interest rate lock commitments are extended to borrowers and relate to the origination of mortgage loans held for sale. To mitigate the interest rate risk and pricing risk associated with rate locks and mortgage loans held for sale, the Corporation enters into forward sale commitments. Forward sale commitments are contracts for delayed delivery or net settlement of the underlying instrument, such as a residential real estate mortgage loan, where the seller agrees to deliver on a specified future date, either a specified instrument at a specified price or yield or the net cash equivalent of an underlying instrument. Both interest rate lock commitments and forward sale commitments are derivative financial instruments, but do not meet criteria for hedge accounting and therefore, the changes in fair value of these commitments are reflected in earnings.

As of December 31, 2019, the notional amounts of interest rate lock commitments and forward sale commitments were $51.4 million and $94.8 million, respectively, compared to $30.8 million and $62.0 million, respectively, as of December 31, 2018.

The following table presents the fair values of derivative instruments in the Corporation’s Consolidated Balance Sheets:



(Dollars in thousands)	Asset Derivatives					Liability Derivatives
		Fair Value					Fair Value
	Balance Sheet Location	Dec 31, 2019		Dec 31, 2018		Balance Sheet Location	Dec 31, 2019		Dec 31, 2018
Derivatives Designated as Cash Flow Hedging Instruments:
Interest rate risk management contracts:
Interest rate caps	Other assets		$—		$20	Other liabilities		$—		$—
Interest rate swaps	Other assets	—		903		Other liabilities	730		—
Interest rate floors	Other assets	3		37		Other liabilities	—		—
Derivatives not Designated as Hedging Instruments:
Loan related derivative contracts:
Interest rate swaps with customers	Other assets	27,736		5,340		Other liabilities	358		7,719
Mirror swaps with counterparties	Other assets	351		7,592		Other liabilities	27,819		5,392
Risk participation agreements	Other assets	1		—		Other liabilities	1		—
Foreign exchange contracts	Other assets	—		—		Other liabilities	—		7
Mortgage loan commitments:
Interest rate lock commitments	Other assets	1,097		806		Other liabilities	—		—
Forward sale commitments	Other assets	30		—		Other liabilities	827		816
Gross amounts		29,218		14,698			29,735		13,934
Less amounts offset in Consolidated Balance Sheets (1)		354		10,732			354		10,732
Net amounts presented in Consolidated Balance Sheets		28,864		3,966			29,381		3,202
Less collateral pledged (2)		—		—			27,105		1,460
Net amounts			$28,864		$3,966			$2,276		$1,742


(1)	Interest rate risk management contracts and loan related derivative contracts with counterparties are subject to master netting arrangements.


(2)	Collateral pledged to derivative counterparties is in the form of cash. Washington Trust may need to post additional collateral in the future in proportion to potential increases in unrealized loss positions.

The following tables present the effect of derivative instruments in the Corporation’s Consolidated Statements of Changes in Shareholders’ Equity and Consolidated Statements of Income:



(Dollars in thousands)	Gain (Loss) Recognized in Other Comprehensive Income, Net of Tax
Years ended December 31,	2019			2018		2017
Derivatives Designated as Cash Flow Hedging Instruments:
Interest rate risk management contracts:
Interest rate caps		$52			$30		($64	)
Interest rate swaps	(1,232		)	515		358
Interest rate floors	196			74		(346		)
Total		($984	)		$619		($52	)



(Dollars in thousands)		Amount of Gain (Loss) Recognized in Income on Derivatives
Years ended December 31,	Statement of Income Location	2019			2018			2017
Derivatives not Designated as Hedging Instruments:
Loan related derivative contracts:
Interest rate swaps with customers	Loan related derivative income		$29,910			($290	)		$2,243
Mirror swaps with counterparties	Loan related derivative income	(26,043		)	2,709			1,198
Risk participation agreements	Loan related derivative income	97			(27		)	(233		)
Foreign exchange contracts	Loan related derivative income	28			69			6
Mortgage loan commitments:
Interest rate lock commitments	Mortgage banking revenues	290			(139		)	(100		)
Forward sale commitments	Mortgage banking revenues	(1,818		)	997			(328		)
Total			$2,464			$3,319			$2,786