Derivative Financial Instruments

3 Months Ended

Mar. 31, 2024

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. Derivative assets are included in other assets. and derivative liabilities are included in other liabilities in the Unaudited Consolidated Balance Sheets. 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 March 31, 2024 and December 31, 2023, the Corporation had interest rate swap contracts that were designated as cash flow hedges to hedge the interest rate risk associated with short-term borrowings. See Note 9 for additional disclosure on borrowings.

Additionally, the Corporation had an interest rate swap contract that was designated as a cash flow hedge to hedge the interest rate risk associated with a pool of variable rate commercial loans. On March 31, 2023, the Corporation terminated this interest rate swap contract, and the derivative liability was derecognized. The loss on this interest rate swap included in the AOCL component of shareholders’ equity was updated to its termination date fair value of $26.5 million, or $20.1 million after tax. This loss is being amortized into earnings as a reduction of interest income on a straight-line basis over the remaining life of the original interest rate swap term, or through May 1, 2026. At March 31, 2024, the remaining unamortized balance of the loss included in the AOCL component of shareholders’ equity was $17.9 million, or $13.3 million after tax.

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

Loan Related Derivative Contracts

Interest Rate Derivative Contracts with Customers

The Corporation enters into interest rate swap and interest rate cap contracts to help commercial loan borrowers manage their interest rate risk. These interest rate swap contracts allow borrowers to convert variable-rate loan payments to fixed-rate loan payments, while interest rate cap contracts allow borrowers to limit their interest rate exposure in a rising rate environment. When the Corporation enters into an interest rate derivative contract with a commercial loan borrower, it simultaneously enters into a “mirror” interest rate contract with a third party. For interest rate swaps, the third party exchanges the client’s fixed-rate loan payments for variable-rate loan payments. The Corporation’s credit policies with respect to interest rate contracts with commercial borrowers are similar to those used for loans. The Corporation retains the risk that is associated with the potential failure of counterparties and the risk inherent in originating loans. The interest rate contracts with counterparties are generally subject to bilateral collateralization terms. 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.

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 recognized in earnings.

The following table presents the notional amounts and fair values of derivative instruments in the Unaudited Consolidated Balance Sheets:


(Dollars in thousands)	March 31, 2024			December 31, 2023
		Fair Value			Fair Value
	Notional Amounts	Derivative Assets	Derivative Liabilities	Notional Amounts	Derivative Assets	Derivative Liabilities
Derivatives Designated as Cash Flow Hedging Instruments:
Interest rate risk management contracts:

Interest rate swaps (1)	$120,000	$1,970	$132	$120,000	$802	$1,119

Derivatives not Designated as Hedging Instruments:
Loan related derivative contracts:
Interest rate contracts with customers	944,336	3,880	61,806	938,872	6,594	52,102
Mirror contracts with counterparties	944,336	61,570	3,980	938,872	51,859	6,757
Risk participation agreements	325,172	49	1	321,055	66	1

Mortgage loan commitments:
Interest rate lock commitments	40,189	754	3	20,980	504	1
Forward sale commitments	73,330	57	605	50,117	18	711
Gross amounts		68,280	66,527		59,843	60,691
Less: amounts offset (2)		4,112	4,112		7,877	7,877
Derivative balances, net of offset		64,168	62,415		51,966	52,814
Less: collateral pledged (3)		—	—		—	—
Net amounts		$64,168	$62,415		$51,966	$52,814

(1)The fair value of derivative assets includes accrued interest receivable of $233 thousand and $239 thousand, respectively, at March 31, 2024 and December 31, 2023. There was no accrued interest payable included in the fair value of derivative liabilities at March 31, 2024 or at December 31, 2023.

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

(3)Collateral contractually required to be 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 table presents the effect of derivative instruments in the Unaudited Consolidated Statements of Changes in Shareholders’ Equity:


(Dollars in thousands)	Gain Recognized in Other Comprehensive Income (Loss), Net of Tax

Three months ended March 31,	2024	2023
Derivatives Designated as Cash Flow Hedging Instruments:
Interest rate risk management contracts:
Interest rate swaps	$3,205	$2,797


Total	$3,205	$2,797

For derivatives designated as cash flow hedging instruments, see Note 14 for additional disclosure pertaining to the amounts and location of reclassifications from AOCL into earnings.

The following table presents the effect of derivative instruments in the Unaudited Consolidated Statements of Income:


(Dollars in thousands)		Amount of Gain (Loss) Recognized in Noninterest Income

Three months ended March 31,	Statement of Income Location	2024	2023
Derivatives not Designated as Hedging Instruments:
Loan related derivative contracts:
Interest rate contracts with customers	Loan related derivative income	($19,009)	$11,132
Mirror interest rate contracts with counterparties	Loan related derivative income	19,310	(11,171)
Risk participation agreements	Loan related derivative income	(17)	(11)

Mortgage loan commitments:
Interest rate lock commitments	Mortgage banking revenues	248	263
Forward sale commitments	Mortgage banking revenues	66	(124)
Total		$598	$89