Fair value measurement

6 Months Ended

Jun. 30, 2022

Fair Value Disclosures

Fair Value Measurement

Note 23 – Fair value measurement

ASC Subtopic 820-10 “Fair Value Measurements and Disclosures” establishes a fair value hierarchy that prioritizes the inputs to valuation techniques used to measure fair value into three levels in order to increase consistency and comparability in fair value measurements and disclosures. The hierarchy is broken down into three levels based on the reliability of inputs as follows:

 Level 1 - Unadjusted quoted prices in active markets for identical assets or liabilities that the Corporation has the ability to access at the measurement date. Valuation on these instruments does not necessitate a significant degree of judgment since valuations are based on quoted prices that are readily available in an active market.

 Level 2 - Quoted prices other than those included in Level 1 that are observable either directly or indirectly. Level 2 inputs include quoted prices for similar assets or liabilities in active markets, quoted prices for identical or similar assets or liabilities in markets that are not active, or other inputs that are observable or that can be corroborated by observable market data for substantially the full term of the financial instrument.

 Level 3 - Inputs are unobservable and significant to the fair value measurement. Unobservable inputs reflect the Corporation’s own judgements about assumptions that market participants would use in pricing the asset or liability.

The Corporation maximizes the use of observable inputs and minimizes the use of unobservable inputs by requiring that the observable inputs be used when available. Fair value is based upon quoted market prices when available. If listed prices or quotes are not available, the Corporation employs internally-developed models that primarily use market-based inputs including yield curves, interest rates, volatilities, and credit curves, among others. Valuation adjustments are limited to those necessary to ensure that the financial instrument’s fair value is adequately representative of the price that would be received or paid in the marketplace. These adjustments include amounts that reflect counterparty credit quality, the Corporation’s credit standing, constraints on liquidity and unobservable parameters that are applied consistently. There have been no changes in the Corporation’s methodologies used to estimate the fair value of assets and liabilities from those disclosed in the 2021 Form 10-K.

The estimated fair value may be subjective in nature and may involve uncertainties and matters of significant judgment for certain financial instruments. Changes in the underlying assumptions used in calculating fair value could significantly affect the results.

Fair Value on a Recurring and Nonrecurring Basis

The following fair value hierarchy tables present information about the Corporation’s assets and liabilities measured at fair value on a recurring basis at June 30, 2022 and December 31, 2021:

At June 30, 2022
(In thousands)	Level 1		Level 2		Level 3		Measured at NAV		Total
RECURRING FAIR VALUE MEASUREMENTS
Assets
Debt securities available-for-sale:
U.S. Treasury securities	$	2,019,437	$	16,821,045	$	-	$	-	$	18,840,482
Obligations of U.S. Government sponsored entities		-		70		-		-		70
Collateralized mortgage obligations - federal agencies		-		172,784		-		-		172,784
Mortgage-backed securities		-		7,251,541		779		-		7,252,320
Other		-		95		500		-		595
Total debt securities available-for-sale	$	2,019,437	$	24,245,535	$	1,279	$	-	$	26,266,251
Trading account debt securities, excluding derivatives:
U.S. Treasury securities	$	16,873	$	-	$	-	$	-	$	16,873
Obligations of Puerto Rico, States and political subdivisions		-		73		-		-		73
Collateralized mortgage obligations		-		51		152		-		203
Mortgage-backed securities		-		14,904		-		-		14,904
Other		-		-		264		-		264
Total trading account debt securities, excluding derivatives	$	16,873	$	15,028	$	416	$	-	$	32,317
Equity securities	$	-	$	28,214	$	-	$	215	$	28,429
Mortgage servicing rights		-		-		129,877		-		129,877
Derivatives		-		17,218		-		-		17,218
Total assets measured at fair value on a recurring basis	$	2,036,310	$	24,305,995	$	131,572	$	215	$	26,474,092
Liabilities
Derivatives	$	-	$	(16,173)	$	-	$	-	$	(16,173)
Contingent consideration		-		-		(9,241)		-		(9,241)
Total liabilities measured at fair value on a recurring basis	$	-	$	(16,173)	$	(9,241)	$	-	$	(25,414)

At December 31, 2021
(In thousands)	Level 1		Level 2		Level 3			Measured at NAV	Total
RECURRING FAIR VALUE MEASUREMENTS
Assets
Debt securities available-for-sale:
U.S. Treasury securities	$	-	$	15,859,030	$	-	$	-	$	15,859,030
Obligations of U.S. Government sponsored entities		-		70		-		-		70
Collateralized mortgage obligations - federal agencies		-		221,265		-		-		221,265
Mortgage-backed securities		-		8,886,950		826		-		8,887,776
Other		-		128		-		-		128
Total debt securities available-for-sale	$	-	$	24,967,443	$	826	$	-	$	24,968,269
Trading account debt securities, excluding derivatives:
U.S. Treasury securities	$	6,530	$	-	$	-	$	-	$	6,530
Obligations of Puerto Rico, States and political subdivisions		-		85		-		-		85
Collateralized mortgage obligations		-		59		198		-		257
Mortgage-backed securities		-		22,559		-		-		22,559
Other		-		-		280		-		280
Total trading account debt securities, excluding derivatives	$	6,530	$	22,703	$	478	$	-	$	29,711
Equity securities	$	-	$	32,429	$	-	$	77	$	32,506
Mortgage servicing rights		-		-		121,570		-		121,570
Derivatives		-		26,093		-		-		26,093
Total assets measured at fair value on a recurring basis	$	6,530	$	25,048,668	$	122,874	$	77	$	25,178,149
Liabilities
Derivatives	$	-	$	(22,878)	$	-	$	-	$	(22,878)
Contingent consideration		-		-		(9,241)		-		(9,241)
Total liabilities measured at fair value on a recurring basis	$	-	$	(22,878)	$	(9,241)	$	-	$	(32,119)

The fair value information included in the following tables is not as of period end, but as of the date that the fair value measurement was recorded during the quarters and six months ended June 30, 2022 and 2021 and excludes nonrecurring fair value measurements of assets no longer outstanding as of the reporting date.

Six months ended June 30, 2022
(In thousands)	Level 1		Level 2		Level 3		Total
NONRECURRING FAIR VALUE MEASUREMENTS
Assets										Write-downs
Loans[1]	$	-	$	-	$	6,694	$	6,694	$	(1,183)
Other real estate owned[2]		-		-		2,161		2,161		(769)
Total assets measured at fair value on a nonrecurring basis	$	-	$	-	$	8,855	$	8,855	$	(1,952)
[1] Relates mainly to certain impaired collateral dependent loans. The impairment was measured based on the fair value of the collateral, which is derived from appraisals that take into consideration prices in observed transactions involving similar assets in similar locations. Costs to sell are excluded from the reported fair value amount.
[2] Represents the fair value of foreclosed real estate and other collateral owned that were written down to their fair value. Costs to sell are excluded from the reported fair value amount.

Six months ended June 30, 2021
(In thousands)	Level 1		Level 2		Level 3		Total
NONRECURRING FAIR VALUE MEASUREMENTS
Assets										Write-downs
Loans[1]	$	-	$	-	$	19,369	$	19,369	$	(2,957)
Loans held-for-sale[2]		-		-		8,700		8,700		(596)
Other real estate owned[3]		-		-		7,942		7,942		(1,503)
Long-lived assets held-for-sale[4]		-		-		2,728		2,728		(303)
Total assets measured at fair value on a nonrecurring basis	$	-	$	-	$	38,739	$	38,739	$	(5,359)
[1] Relates mainly to certain impaired collateral dependent loans. The impairment was measured based on the fair value of the collateral, which is derived from appraisals that take into consideration prices in observed transactions involving similar assets in similar locations. Costs to sell are excluded from the reported fair value amount.
[2] Relates to a quarterly valuation on loans held-for-sale. Costs to sell are excluded from the reported fair value amount.
[3] Represents the fair value of foreclosed real estate and other collateral owned that were written down to their fair value. Costs to sell are excluded from the reported fair value amount.
[4] Represents the fair value of long-lived assets held-for-sale that were written down to their fair value.

The following tables present the changes in Level 3 assets and liabilities measured at fair value on a recurring basis for the quarters and six months ended June 30, 2022 and 2021.

	Quarter ended June 30, 2022
		MBS		Other		CMOs		Other
		classified		securities		classified		securities
		as debt		classified as		as trading		classified
		securities		debt securities		account		as trading		Mortgage
		available-		available-		debt		account debt		servicing		Total		Contingent		Total
(In thousands)		for-sale		for-sale		securities		securities		rights		assets		consideration		liabilities
Balance at March 31, 2022		$	793	$	-	$	174	$	267	$	125,358	$	126,592	$	9,241	$	9,241
Gains (losses) included in earnings			-		-		-		(3)		2,258		2,255		-		-
Gains (losses) included in OCI			11		-		-		-		-		11		-		-
Additions			-		500		-		-		2,261		2,761		-		-
Settlements			(25)		-		(22)		-		-		(47)		-		-
Balance at June 30, 2022		$	779	$	500	$	152	$	264	$	129,877	$	131,572	$	9,241	$	9,241
Changes in unrealized gains (losses) included in earnings relating to assets still held at June 30, 2022		$	-	$	-	$	(1)	$	2	$	5,318	$	5,319	$	-	$	-

	Six months ended June 30, 2022
		MBS		Other				Other
		classified		securities		CMOs		securities
		as investment		classified as		classified		classified
		securities		debt securities		as trading		as trading		Mortgage
		available-		available-		account		account		servicing		Total		Contingent		Total
(In thousands)		for-sale		for-sale		securities		securities		rights		assets		consideration		liabilities
Balance at January 1, 2022		$	826	$	-	$	198	$	280	$	121,570	$	122,874	$	9,241	$	9,241
Gains (losses) included in earnings			-		-		(1)		(16)		3,275		3,258		-		-
Gains (losses) included in OCI			3		-		-		-		-		3		-		-
Additions			-		500		2		-		5,032		5,534		-		-
Settlements			(50)		-		(47)		-		-		(97)		-		-
Balance at June 30, 2022		$	779	$	500	$	152	$	264	$	129,877	$	131,572	$	9,241	$	9,241
Changes in unrealized gains (losses) included in earnings relating to assets still held at June 30, 2022		$	-	$	-	$	(1)	$	7	$	9,571	$	9,577	$	-	$	-

	Quarter ended June 30, 2021
		MBS				Other
		classified		CMOs		securities
		as investment		classified		classified
		securities		as trading		as trading		Mortgage
		available-		account		account		servicing		Total
(In thousands)		for-sale		securities		securities		rights		assets
Balance at March 31, 2021		$	934	$	251	$	372	$	122,543	$	124,100
Gains (losses) included in earnings			-		-		(11)		(6,249)		(6,260)
Gains (losses) included in OCI			4		-		-		-		4
Additions			-		23		-		3,173		3,196
Settlements			-		(24)		-		-		(24)
Balance at June 30, 2021		$	938	$	250	$	361	$	119,467	$	121,016
Changes in unrealized gains (losses) included in earnings relating to assets still held at June 30, 2021		$	-	$	-	$	5	$	(2,036)	$	(2,031)

	Six months ended June 30, 2021
		MBS				Other
		classified		CMOs		securities
		as investment		classified		classified
		securities		as trading		as trading		Mortgage
		available-		account		account		servicing		Total
(In thousands)		for-sale		securities		securities		rights		assets
Balance at January 1, 2021		$	1,014	$	278	$	381	$	118,395	$	120,068
Gains (losses) included in earnings			-		-		(20)		(5,737)		(5,757)
Gains (losses) included in OCI			(1)		-		-		-		(1)
Additions			-		24		-		6,809		6,833
Settlements			(75)		(52)		-		-		(127)
Balance at June 30, 2021		$	938	$	250	$	361	$	119,467	$	121,016
Changes in unrealized gains (losses) included in earnings relating to assets still held at June 30, 2021		$	-	$	-	$	9	$	3,126	$	3,135

Gains and losses (realized and unrealized) included in earnings for the quarters and six months ended June 30, 2022 and 2021 for Level 3 assets and liabilities included in the previous tables are reported in the consolidated statement of operations as follows:

	Quarter ended June 30, 2022				Six months ended June 30, 2022
			Changes in unrealized				Changes in unrealized
	Total gains		gains (losses) relating to		Total gains		gains (losses) relating to
	(losses) included		assets still held at		(losses) included		assets still held at
(In thousands)	in earnings		reporting date		in earnings		reporting date
Mortgage banking activities	$	2,258	$	5,318	$	3,275	$	9,571
Trading account profit (loss)		(3)		1		(17)		6
Total	$	2,255	$	5,319	$	3,258	$	9,577

	Quarter ended June 30, 2021				Six months ended June 30, 2021
			Changes in unrealized				Changes in unrealized
	Total gains		gains (losses) relating to		Total gains		gains (losses) relating to
	(losses) included		assets still held at		(losses) included		assets still held at
(In thousands)	in earnings		reporting date		in earnings		reporting date
Mortgage banking activities	$	(6,249)	$	(2,036)	$	(5,737)	$	3,126
Trading account profit (loss)		(11)		5		(20)		9
Total	$	(6,260)	$	(2,031)	$	(5,757)	$	3,135

The following tables include quantitative information about significant unobservable inputs used to derive the fair value of Level 3 instruments, excluding those instruments for which the unobservable inputs were not developed by the Corporation such as prices of prior transactions and/or unadjusted third-party pricing sources at June 30, 2022 and 2021.

			Fair value at
		June 30,
(In thousands)			2022		Valuation technique	Unobservable inputs	Weighted average (range) [1]
CMO's - trading		$	152		Discounted cash flow model	Weighted average life	0.6 years (0.3 - 0.8 years)
						Yield	4.2% (4.2% - 4.8%)
						Prepayment speed	12.5% (12.0% - 16.3%)
Other - trading		$	264		Discounted cash flow model	Weighted average life	2.9 years
						Yield	12.0%
						Prepayment speed	10.8%
Contingent consideration		$	(9,241)		Probability weighted
					discounted cash flows	Discount rate	2.52%
Loans held-in-portfolio		$	3,779	[2]	External appraisal	Haircut applied on
						external appraisals	12.6%
Other real estate owned		$	76	[3]	External appraisal	Haircut applied on
						external appraisals	5.0%
[1]	Weighted average of significant unobservable inputs used to develop Level 3 fair value measurements were calculated by relative fair value.
[2]	Loans held-in-portfolio in which haircuts were not applied to external appraisals were excluded from this table.
[3]	Other real estate owned in which haircuts were not applied to external appraisals were excluded from this table.

			Fair value at
		June 30,
(In thousands)			2021		Valuation technique	Unobservable inputs	Weighted average (range) [1]
CMO's - trading		$	250		Discounted cash flow model	Weighted average life	1.0 years (0.3 - 1.2 years)
						Yield	3.6% (3.6% - 4.1%)
						Prepayment speed	13.1% (10.2% - 18.1%)
Other - trading		$	361		Discounted cash flow model	Weighted average life	3.6 years
						Yield	12.0%
						Prepayment speed	10.8%
Mortgage servicing rights		$	119,467		Discounted cash flow model	Prepayment speed	6.0% (0.3% - 33.1)%)
						Weighted average life	6.2 years (0.1 - 13.1 years)
						Discount rate	11.1% (9.5% - 14.7%)
Loans held-in-portfolio		$	18,565	[2]	External appraisal	Haircut applied on
						external appraisals	11.1% (10.0% - 30.5%)
Other real estate owned		$	6,672	[3]	External appraisal	Haircut applied on
						external appraisals	20.3% (5.0% - 35.0%)
[1]	Weighted average of significant unobservable inputs used to develop Level 3 fair value measurements were calculated by relative fair value.
[2]	Loans held-in-portfolio in which haircuts were not applied to external appraisals were excluded from this table.
[3]	Other real estate owned in which haircuts were not applied to external appraisals were excluded from this table.

Effective the fourth quarter 2021, the mortgage servicing rights fair value was provided by a third-party valuation specialist. Refer to Note 10 to the Consolidated Financial Statements for additional information on MSRs.

The significant unobservable inputs used in the fair value measurement of the Corporation’s collateralized mortgage obligations and interest-only collateralized mortgage obligation (reported as “other”), which are classified in the “trading” category, are yield, constant prepayment rate, and weighted average life. Significant increases (decreases) in any of those inputs in isolation would result in significantly lower (higher) fair value measurement. Generally, a change in the assumption used for the constant prepayment rate will generate a directionally opposite change in the weighted average life. For example, as the average life is reduced by a higher constant prepayment rate, a lower yield will be realized, and when there is a reduction in the constant prepayment rate, the average life of these collateralized mortgage obligations will extend, thus resulting in a higher yield.

The significant unobservable inputs used in the fair value measurement of the Corporation’s mortgage servicing rights are constant prepayment rates and discount rates. Increases in interest rates may result in lower prepayments. Discount rates vary according to products and / or portfolios depending on the perceived risk. Increases in discount rates result in a lower fair value measurement.