Note 7 – Derivatives, Hedging Activities and Interest Expense

Derivative Instruments

Our liabilities consist mainly of fixed and floating rate debt, denominated in U.S. dollars and various other currencies, which we issue in the global capital markets, while our assets consist primarily of U.S. dollar denominated, fixed rate receivables. We enter into interest rate swaps, interest rate floors, interest rate caps and foreign currency swaps to hedge the interest rate and foreign currency risks that result from the different characteristics of our assets and liabilities. Our use of derivative transactions is intended to reduce long-term fluctuations in the fair value of assets and liabilities caused by market movements. All of our derivative activities are authorized and monitored by our management and our Asset Liability Committee which provides a framework for financial controls and governance to manage market risk.

Credit Risk Related Contingent Features

Our derivative contracts are governed by International Swaps and Derivatives Association (“ISDA”) Master Agreements. Substantially all of these ISDA Master Agreements contain reciprocal ratings triggers providing either party with an option to terminate the agreement at market value in the event of a ratings downgrade of the other party below a specified threshold. We have daily valuation and collateral exchange arrangements with all of our counterparties. Our collateral agreements with substantially all our counterparties include a zero threshold, full collateralization arrangement. However, due to the time required to move collateral, there may be a delay of up to one day between the exchange of collateral and the valuation of our derivatives. We would not be required to post additional collateral to the counterparties with whom we were in a net liability position at June 30, 2018, if our credit ratings were to decline, since we fully collateralize without regard to credit ratings with these counterparties.

Note 7 – Derivatives, Hedging Activities and Interest Expense (Continued)

Derivative Activity Impact on Financial Statements

The following tables show the financial statement line item and amount of our derivative assets and liabilities that are reported in our Consolidated Balance Sheets:

	June 30, 2018
	Hedge accounting				Non-hedge
	derivatives				accounting derivatives				Total
			Fair				Fair				Fair
	Notional		value		Notional		value		Notional		value
Other assets:
Interest rate swaps	$	-	$	-	$	67,920	$	915	$	67,920	$	915
Interest rate floors		-		-		847		-		847		-
Foreign currency swaps		26		5		3,742		153		3,768		158
Total	$	26	$	5	$	72,509	$	1,068	$	72,535	$	1,073

Counterparty netting and collateral held												(991	)
Carrying value of derivative contracts – Other assets											$	82

Other liabilities:
Interest rate swaps	$	-	$	-	$	47,220	$	686	$	47,220	$	686
Foreign currency swaps		93		3		9,369		545		9,462		548
Total	$	93	$	3	$	56,589	$	1,231	$	56,682	$	1,234

Counterparty netting and collateral posted												(1,230	)
Carrying value of derivative contracts – Other liabilities											$	4

As of June 30, 2018, we held collateral of $438 million, which offset derivative assets and we posted collateral of $677 million, which offset derivative liabilities. In addition, there was $553 million in counterparty netting included for both derivative assets and derivative liabilities. We also held excess collateral of $2 million, which we did not use to offset derivative assets and was recorded in Other liabilities in our Consolidated Balance Sheets. We posted excess collateral of $71 million which we did not use to offset derivative liabilities and was recorded in Other assets in our Consolidated Balance Sheets.

Note 7 – Derivatives, Hedging Activities and Interest Expense (Continued)

	March 31, 2018
	Hedge accounting				Non-hedge
	derivatives				accounting derivatives				Total
			Fair				Fair				Fair
	Notional		value		Notional		value		Notional		value
Other assets:
Interest rate swaps	$	-	$	-	$	71,464	$	872	$	71,464	$	872
Interest rate floors		-		-		847		1		847		1
Foreign currency swaps		119		8		7,248		477		7,367		485
Total	$	119	$	8	$	79,559	$	1,350	$	79,678	$	1,358

Counterparty netting and collateral held												(1,297	)
Carrying value of derivative contracts – Other assets											$	61

Other liabilities:
Interest rate swaps	$	-	$	-	$	41,513	$	628	$	41,513	$	628
Foreign currency swaps		-		-		5,863		200		5,863		200
Total	$	-	$	-	$	47,376	$	828	$	47,376	$	828

Counterparty netting and collateral posted												(822	)
Carrying value of derivative contracts – Other liabilities											$	6

As of March 31, 2018, we held collateral of $737 million, which offset derivative assets and we posted collateral of $262 million, which offset derivative liabilities. In addition, there was $560 million in counterparty netting included for both derivative assets and derivative liabilities. We also held excess collateral of $11 million, which we did not use to offset derivative assets and was recorded in Other liabilities in our Consolidated Balance Sheets. We posted excess collateral of $3 million, which we did not use to offset derivative liabilities and was recorded in Other assets in our Consolidated Balance Sheets.

Note 7 – Derivatives, Hedging Activities and Interest Expense (Continued)

The following table summarizes the components of interest expense, including the location and amount of gains and losses on derivative instruments and related hedged items, as reported in our Consolidated Statements of Income:

	Three Months Ended
	June 30,
	2018			2017
Interest expense on debt	$	601		$	467
Interest income on derivatives		(25	)		(16	)
Interest expense on debt and derivatives, net		576			451

(Gain) loss on non-hedge accounting debt denominated in foreign currencies		(646	)		650
Loss (gain) on non-hedge accounting foreign currency swaps		683			(650	)
Loss (gain) on U.S. dollar non-hedge accounting interest rate swaps		69			(3	)
Total interest expense	$	682		$	448

Interest expense on debt and derivatives represents net interest settlements and changes in accruals. Gains and losses on hedge accounting derivatives and debt denominated in foreign currencies exclude net interest settlements and changes in accruals. Ineffectiveness related to hedge accounting derivatives was not significant for the three months ended June 30, 2018 and 2017. Cash flows associated with hedge accounting, non-hedge accounting, and de-designated derivatives are reported in Net cash provided by operating activities in our Consolidated Statements of Cash Flows.

The relative fair value allocation of derivative credit value adjustments for counterparty and non-performance credit risk within interest expense was not significant for the three months ended June 30, 2018 and 2017 as we are fully collateralized on substantially all of our derivatives without regard to credit ratings.