Derivatives and Hedging Activities

12 Months Ended

Dec. 31, 2011

Derivatives and Hedging Activities [Abstract]

Derivatives and Hedging Activities

8. Derivatives and Hedging Activities

We are a party to various derivative instruments, mainly through our subsidiary, KeyBank. Derivative instruments are contracts between two or more parties that have a notional amount and an underlying variable, require a small or no net investment, and allow for the net settlement of positions. A derivative’s notional amount serves as the basis for the payment provision of the contract, and takes the form of units, such as shares or dollars. A derivative’s underlying variable is a specified interest rate, security price, commodity price, foreign exchange rate, index or other variable. The interaction between the notional amount and the underlying variable determines the number of units to be exchanged between the parties and influences the fair value of the derivative contract.

The primary derivatives that we use are interest rate swaps, caps, floors and futures; foreign exchange contracts; energy derivatives; credit derivatives; and equity derivatives. Generally, these instruments help us manage exposure to interest rate risk, mitigate the credit risk inherent in the loan portfolio, hedge against changes in foreign currency exchange rates, and meet client financing and hedging needs. As further discussed in this note:

¿ interest rate risk represents the possibility that the EVE or net interest income will be adversely affected by fluctuations in interest rates;

¿ credit risk is the risk of loss arising from an obligor’s inability or failure to meet contractual payment or performance terms; and

¿ foreign exchange risk is the risk that an exchange rate will adversely affect the fair value of a financial instrument.

Derivative assets and liabilities are recorded at fair value on the balance sheet, after taking into account the effects of bilateral collateral and master netting agreements. These agreements allow us to settle all derivative contracts held with a single counterparty on a net basis, and to offset net derivative positions with related collateral, where applicable. As a result, we could have derivative contracts with negative fair values included in derivative assets on the balance sheet and contracts with positive fair values included in derivative liabilities.

At December 31, 2011, after taking into account the effects of bilateral collateral and master netting agreements, we had $213 million of derivative assets and $94 million of derivative liabilities that relate to contracts entered into for hedging purposes. As of the same date, after taking into account the effects of bilateral collateral and master netting agreements and a reserve for potential future losses, we had derivative assets of $732 million and derivative liabilities of $932 million that were not designated as hedging instruments.

The recently enacted Dodd-Frank Act may limit the types of derivatives activities that KeyBank and other insured depository institutions may conduct. As a result, we may not continue to use all of the types of derivatives noted above in the future.

Additional information regarding our accounting policies for derivatives is provided in Note 1 (“Summary of Significant Accounting Policies”) under the heading “Derivatives.”

Derivatives Designated in Hedge Relationships

Net interest income and the EVE change in response to changes in the mix of assets, liabilities and off-balance sheet instruments and associated interest rates tied to each instrument, differences in the repricing and maturity characteristics of interest-earning assets and interest-bearing liabilities and changes in interest rates. We utilize derivatives that have been designated as part of a hedge relationship in accordance with the applicable accounting guidance to minimize the exposure and volatility of net interest income and EVE to interest rate fluctuations. The primary derivative instruments used to manage interest rate risk are interest rate swaps, which convert the contractual interest rate index of agreed-upon amounts of assets and liabilities (i.e., notional amounts) to another interest rate index.

We designate certain “receive fixed/pay variable” interest rate swaps as fair value hedges. These swaps are used primarily to modify our consolidated exposure to changes in interest rates. These contracts convert certain fixed-rate long-term debt into variable-rate obligations. As a result, we receive fixed-rate interest payments in exchange for making variable-rate payments over the lives of the contracts without exchanging the notional amounts.

Similarly, we designate certain “receive fixed/pay variable” interest rate swaps as cash flow hedges. These contracts effectively convert certain floating-rate loans into fixed-rate loans to reduce the potential adverse effect of interest rate decreases on future interest income. Again, we receive fixed-rate interest payments in exchange for making variable-rate payments over the lives of the contracts without exchanging the notional amounts. We also designate certain “pay fixed/receive variable” interest rate swaps as cash flow hedges. These swaps convert certain floating-rate debt into fixed-rate debt.

We also use interest rate swaps to hedge the floating-rate debt that funds fixed-rate leases entered into by our Equipment Finance line of business. These swaps are designated as cash flow hedges to mitigate the interest rate mismatch between the fixed-rate lease cash flows and the floating-rate payments on the debt.

The derivatives used for managing foreign currency exchange risk are cross currency swaps. We have outstanding issuances of medium-term notes that are denominated in foreign currencies. The notes are subject to translation risk, which represents the possibility that the fair value of the foreign-denominated debt will change based on movement of the underlying foreign currency spot rate. It is our practice to hedge against potential fair value volatility caused by changes in foreign currency exchange rates and interest rates. The hedge converts the notes to a variable-rate U.S. currency-denominated debt, which is designated as a fair value hedge of foreign currency exchange risk.

Derivatives Not Designated in Hedge Relationships

On occasion, we enter into interest rate swap contracts to manage economic risks but do not designate the instruments in hedge relationships. The amount of these contracts at December 31, 2011, was not significant.

Like other financial services institutions, we originate loans and extend credit, both of which expose us to credit risk. We actively manage our overall loan portfolio and the associated credit risk in a manner consistent with asset quality objectives. This process entails the use of credit derivatives — primarily credit default swaps. Credit default swaps enable us to transfer to a third party a portion of the credit risk associated with a particular extension of credit, and to manage portfolio concentration and correlation risks. Occasionally, we also provide credit protection to other lenders through the sale of credit default swaps. This objective is accomplished primarily through the use of an investment-grade diversified dealer-traded basket of credit default swaps. These transactions may generate fee income, and diversify and reduce overall portfolio credit risk volatility. Although we use credit default swaps for risk management purposes, they are not treated as hedging instruments.

We also enter into derivative contracts for other purposes, including:

¿ interest rate swap, cap, floor and futures contracts entered into generally to accommodate the needs of commercial loan clients;

¿ energy swap and options contracts entered into to accommodate the needs of clients;

¿ interest rate derivatives and foreign exchange contracts used for proprietary trading purposes;

¿ positions with third parties that are intended to offset or mitigate the interest rate or market risk related to client positions discussed above; and

¿ foreign exchange forward contracts entered into to accommodate the needs of clients.

These contracts are not designated as part of hedge relationships.

Fair Values, Volume of Activity and Gain/Loss Information Related to Derivative Instruments

The following table summarizes the fair values of our derivative instruments on a gross basis as of December 31, 2011, and 2010. The change in the notional amounts of these derivatives by type from December 31, 2010, to December 31, 2011 indicates the volume of our derivative transaction activity during 2011. The notional amounts are not affected by bilateral collateral and master netting agreements. Our derivative instruments are included in “derivative assets” or “derivative liabilities” on the balance sheet, as indicated in the following table:

	2011								2010
			Fair Value								Fair Value
December 31, in millions	Notional Amount		Derivative Assets			Derivative Liabilities			Notional Amount		Derivative Assets			Derivative Liabilities
Derivatives designated as hedging instruments:
Interest rate	$	15,067	$	589		$	27		$	10,586	$	458		$	17
Foreign exchange		554		—			147			1,093		—			240
Total		15,621		589			174			11,679		458			257
Derivatives not designated as hedging instruments:
Interest rate		48,537		1,364			1,371			48,344		1,308			1,319
Foreign exchange		5,549		151			141			5,946		180			164
Energy and commodity		1,610		253			253			1,827		318			335
Credit		3,210		37			62			3,375		39			31
Equity		17		3			3			20		1			1
Total		58,923		1,808			1,830			59,512		1,846			1,850
Netting adjustments (a)		—		(1,452	)		(978	)		—		(1,298	)		(965	)
Total derivatives	$	74,544	$	945		$	1,026		$	71,191	$	1,006		$	1,142

(a) Netting adjustments represent the amounts recorded to convert our derivative assets and liabilities from a gross basis to a net basis in accordance with the applicable accounting guidance. The net basis takes into account the impact of bilateral collateral and master netting agreements that allow us to settle all derivative contracts with a single counterparty on a net basis and to offset the net derivative position with the related collateral.

Fair value hedges.  Instruments designated as fair value hedges are recorded at fair value and included in “derivative assets” or “derivative liabilities” on the balance sheet. The effective portion of a change in the fair value of an instrument designated as a fair value hedge is recorded in earnings at the same time as a change in fair value of the hedged item, resulting in no effect on net income. The ineffective portion of a change in the fair value of such a hedging instrument is recorded in “other income” on the income statement with no corresponding offset. During 2011, we did not exclude any portion of these hedging instruments from the assessment of hedge effectiveness. While there is some ineffectiveness in our hedging relationships, all of our fair value hedges remained “highly effective” as of December 31, 2011.

The following table summarizes the pre-tax net gains (losses) on our fair value hedges for the years ended December 31, 2011, and 2010, and where they are recorded on the income statement.

	Year ended December 31, 2011
in millions	Income Statement Location of Net Gains (Losses) on Derivative	Net Gains (Losses) on Derivative		Hedged Item	Income Statement Location of Net Gains (Losses) on Hedged Item	Net Gains (Losses) on Hedged Item
Interest rate	Other income	$	163	Long-term debt	Other income	$	(158)	(a)
Interest rate	Interest expense – Long-term debt		220
Foreign exchange	Other income		(46)	Long-term debt	Other income		39	(a)
Foreign exchange	Interest expense – Long-term debt		12	Long-term debt	Interest expense – Long-term debt		(16)	(b)
Total		$	349			$	(135)
	Year ended December 31, 2010
in millions	Income Statement Location of Net Gains (Losses) on Derivative	Net Gains (Losses) on Derivative		Hedged Item	Income Statement Location of Net Gains (Losses) on Hedged Item	Net Gains (Losses) on Hedged Item
Interest rate	Other income	$	90	Long-term debt	Other income	$	(88)	(a)
Interest rate	Interest expense – Long-term debt		213
Foreign exchange	Other income		(134)	Long-term debt	Other income		124	(a)
Foreign exchange	Interest expense – Long-term debt		7	Long-term debt	Interest expense – Long-term debt		(14)	(b)
Total		$	176			$	22

(a) Net gains (losses) on hedged items represent the change in fair value caused by fluctuations in interest rates.

(b) Net gains (losses) on hedged items represent the change in fair value caused by fluctuations in foreign currency exchange rates.

Cash flow hedges.    Instruments designated as cash flow hedges are recorded at fair value and included in “derivative assets” or “derivative liabilities” on the balance sheet. Initially, the effective portion of a gain or loss on a cash flow hedge is recorded as a component of AOCI on the balance sheet and is subsequently reclassified into income when the hedged transaction affects earnings (e.g., when we pay variable-rate interest on debt, receive variable-rate interest on commercial loans or sell commercial real estate loans). The ineffective portion of cash flow hedging transactions is included in “other income” on the income statement. During 2011, we did not exclude any portion of these hedging instruments from the assessment of hedge effectiveness. While there is some ineffectiveness in our hedging relationships, the majority of our cash flow hedges remained “highly effective” as of December 31, 2011.

The following table summarizes the pre-tax net gains (losses) on our cash flow hedges for the years ended December 31, 2011, and 2010, and where they are recorded on the income statement. The table includes the effective portion of net gains (losses) recognized in OCI during the period, the effective portion of net gains (losses) reclassified from OCI into income during the current period, and the portion of net gains (losses) recognized directly in income, representing the amount of hedge ineffectiveness.

	Year ended December 31, 2011
in millions	Net Gains (Losses) Recognized in OCI (Effective Portion)			Income Statement Location of Net Gains (Losses) Reclassified From OCI Into Income (Effective Portion)	Net Gains (Losses) Reclassified From OCI Into Income (Effective Portion)			Income Statement Location of Net Gains (Losses) Recognized in Income (Ineffective Portion)		Net Gains (Losses) Recognized in Income (Ineffective Portion)
Interest rate	$	72		Interest income – Loans	$	51			Other income		—
Interest rate		(46	)	Interest expense – Long-term debt		(10	)		Other income		—
Interest rate		—		Net gains (losses) from loan sales		—			Other income		—
Total	$	26			$	41					—

	Year ended December 31, 2010
in millions	Net Gains (Losses) Recognized in OCI (Effective Portion)			Income Statement Location of Net Gains (Losses) Reclassified From OCI Into Income (Effective Portion)	Net Gains (Losses) Reclassified From OCI Into Income (Effective Portion)			Income Statement Location of Net Gains (Losses) Recognized in Income (Ineffective Portion)		Net Gains (Losses) Recognized in Income (Ineffective Portion)
Interest rate	$	42		Interest income – Loans	$	209			Other income		—
Interest rate		(18	)	Interest expense – Long-term debt		(16	)		Other income		—
Interest rate		—		Net gains (losses) from loan sales		—			Other income		—
Total	$	24			$	193					—

The after-tax change in AOCI resulting from cash flow hedges is as follows:

in millions	December 31, 2010		2011 Hedging Activity		Reclassification of Gains to Net Income		December 31, 2011
AOCI resulting from cash flow hedges	$	8	$	16	$	(26)	$	(2)

Considering the interest rates, yield curves and notional amounts as of December 31, 2011, we would expect to reclassify an estimated $11 million of net losses on derivative instruments from AOCI to income during the next twelve months. In addition, we expect to reclassify approximately $11 million of net gains related to terminated cash flow hedges from AOCI to income during the next twelve months. The maximum length of time over which we hedge forecasted transactions is 16 years.

Nonhedging instruments.    Our derivatives that are not designated as hedging instruments are recorded at fair value in “derivative assets” and “derivative liabilities” on the balance sheet. Adjustments to the fair values of these instruments, as well as any premium paid or received, are included in “investment banking and capital markets income (loss)” on the income statement.

The following table summarizes the pre-tax net gains (losses) on our derivatives that are not designated as hedging instruments for the years ended December 31, 2011, and 2010, and where they are recorded on the income statement.

Year ended December 31, in millions	2011			2010
NET GAINS (LOSSES) (a)
Interest rate	$	19		$	16
Foreign exchange		42			44
Energy and commodity		4			5
Credit		(45	)		(22	)
Total net gains (losses)	$	20		$	43

(a) Recorded in “investment banking and capital markets income (loss)” on the income statement.

Counterparty Credit Risk

Like other financial instruments, derivatives contain an element of credit risk. This risk is measured as the expected positive replacement value of the contracts. We use several means to mitigate and manage exposure to credit risk on derivative contracts. We generally enter into bilateral collateral and master netting agreements that provide for the net settlement of all contracts with a single counterparty in the event of default. Additionally, we monitor counterparty credit risk exposure on each contract to determine appropriate limits on our total credit exposure across all product types. We review our collateral positions on a daily basis and exchange collateral with our counterparties in accordance with ISDA and other related agreements. We generally hold collateral in the form of cash and highly rated securities issued by the U.S. Treasury, government-sponsored enterprises or GNMA. The collateral netted against derivative assets on the balance sheet totaled $486 million at December 31, 2011, and $331 million at December 31, 2010. The collateral netted against derivative liabilities totaled $11 million at December 31, 2011 and $2 million at December 31, 2010.

The following table summarizes our largest exposure to an individual counterparty at the dates indicated.

December 31, in millions	2011		2010
Largest gross exposure (derivative asset) to an individual counterparty	$	194	$	168
Collateral posted by this counterparty		64		25
Derivative liability with this counterparty		250		275
Collateral pledged to this counterparty		127		141
Net exposure after netting adjustments and collateral		7		9

The following table summarizes the fair value of our derivative assets by type. These assets represent our gross exposure to potential loss after taking into account the effects of bilateral collateral and master netting agreements and other means used to mitigate risk.

December 31, in millions	2011		2010
Interest rate	$	1,257	$	1,134
Foreign exchange		64		104
Energy and commodity		96		84
Credit		12		14
Equity		2		1
Derivative assets before collateral		1,431		1,337
Less: Related collateral		486		331
Total derivative assets	$	945	$	1,006

We enter into derivative transactions with two primary groups: broker-dealers and banks, and clients. Since these groups have different economic characteristics, we have different methods for managing counterparty credit exposure and credit risk.

We enter into transactions with broker-dealers and banks for various risk management purposes and proprietary trading purposes. These types of transactions generally are high dollar volume. We generally enter into bilateral collateral and master netting agreements with these counterparties. At December 31, 2011, after taking into account the effects of bilateral collateral and master netting agreements, we had gross exposure of $994 million to broker-dealers and banks. We had net exposure of $238 million after the application of master netting agreements and collateral; our net exposure to broker-dealers and banks at December 31, 2011, was reduced to $32 million with $206 million of additional collateral held in the form of securities.

We enter into transactions with clients to accommodate their business needs. These types of transactions generally are low dollar volume. We generally enter into master netting agreements with these counterparties. In addition, we mitigate our overall portfolio exposure and market risk by buying and selling U.S. Treasuries and Eurodollar futures, and entering into offsetting positions and other derivative contracts. Due to the smaller size and magnitude of the individual contracts with clients, collateral generally is not exchanged in connection with these derivative transactions. To address the risk of default associated with the uncollateralized contracts, we have established a default reserve (included in “derivative assets”) in the amount of $22 million at December 31, 2011, which we estimate to be the potential future losses on amounts due from client counterparties in the event of default. At December 31, 2010, the default reserve was $48 million. At December 31, 2011, after taking into account the effects of master netting agreements, we had gross exposure of $791 million to client counterparties. We had net exposure of $707 million on our derivatives with clients after the application of master netting agreements, collateral and the related reserve.

Credit Derivatives

We are both a buyer and seller of credit protection through the credit derivative market. We purchase credit derivatives to manage the credit risk associated with specific commercial lending and swap obligations. We also sell credit derivatives, mainly index credit default swaps, to diversify the concentration risk within our loan portfolio.

The following table summarizes the fair value of our credit derivatives purchased and sold by type. The fair value of credit derivatives presented below does not take into account the effects of bilateral collateral or master netting agreements.

December 31, in millions	2011						2010
	Purchased		Sold		Net		Purchased		Sold		Net
Single name credit default swaps	$	3	$	(1)	$	2	$	(8)	$	9	$	1
Traded credit default swap indices		6		(6)		—		—		2		2
Other		1		(1)		—		5		—		5
Total credit derivatives	$	10	$	(8)	$	2	$	(3)	$	11	$	8

Single name credit default swaps are bilateral contracts whereby the seller agrees, for a premium, to provide protection against the credit risk of a specific entity (the “reference entity”) in connection with a specific debt obligation. The protected credit risk is related to adverse credit events, such as bankruptcy, failure to make payments, and acceleration or restructuring of obligations, identified in the credit derivative contract. As the seller of a single name credit derivative, we would be required to pay the purchaser the difference between the par value and the market price of the debt obligation (cash settlement) or receive the specified referenced asset in exchange for payment of the par value (physical settlement) if the underlying reference entity experiences a predefined credit event. For a single name credit derivative, the notional amount represents the maximum amount that a seller could be required to pay. If we effect a physical settlement and receive our portion of the related debt obligation, we will join other creditors in the liquidation process, which may enable us to recover a portion of the amount paid under the credit default swap contract. We also may purchase offsetting credit derivatives for the same reference entity from third parties that will permit us to recover the amount we pay should a credit event occur.

A traded credit default swap index represents a position on a basket or portfolio of reference entities. As a seller of protection on a credit default swap index, we would be required to pay the purchaser if one or more of the entities in the index had a credit event. For a credit default swap index, the notional amount represents the maximum amount that a seller could be required to pay. Upon a credit event, the amount payable is based on the percentage of the notional amount allocated to the specific defaulting entity.

The majority of transactions represented by the “other” category shown in the above table are risk participation agreements. In these transactions, the lead participant has a swap agreement with a customer. The lead participant (purchaser of protection) then enters into a risk participation agreement with a counterparty (seller of protection), under which the counterparty receives a fee to accept a portion of the lead participant’s credit risk. If the customer defaults on the swap contract, the counterparty to the risk participation agreement must reimburse the lead participant for the counterparty’s percentage of the positive fair value of the customer swap as of the default date. If the customer swap has a negative fair value, the counterparty has no reimbursement requirements. The notional amount represents the maximum amount that the seller could be required to pay. If the customer defaults on the swap contract and the seller fulfills its payment obligations under the risk participation agreement, the seller is entitled to a pro rata share of the lead participant’s claims against the customer under the terms of the swap agreement.

The following table provides information on the types of credit derivatives sold by us and held on the balance sheet at December 31, 2011, and 2010. Except as noted, the payment/performance risk assessment is based on the default probabilities for the underlying reference entities’ debt obligations using a Moody’s credit ratings matrix known as Moody’s “Idealized” Cumulative Default Rates. The payment/performance risk shown in the table represents a weighted-average of the default probabilities for all reference entities in the respective portfolios. These default probabilities are directly correlated to the probability that we will have to make a payment under the credit derivative contracts.

	2011							2010
December 31, dollars in millions	Notional Amount		Average Term (Years)		Payment / Performance Risk			Notional Amount		Average Term (Years)		Payment / Performance Risk
Single name credit default swaps	$	878		2.18		4.98	%	$	942		2.42		3.93	%
Traded credit default swap indices		343		3.20		4.58			369		3.86		6.68
Other		18		5.74		10.89			48		2.00		Low	(a)
Total credit derivatives sold	$	1,239		—		—		$	1,359		—		—

(a) The other credit derivatives were not referenced to an entity’s debt obligation. We determined the payment/performance risk based on the probability that we could be required to pay the maximum amount under the credit derivatives. We have determined that the payment/performance risk associated with the other credit derivatives was low (i.e., less than or equal to 30% probability of payment).

Credit Risk Contingent Features

We have entered into certain derivative contracts that require us to post collateral to the counterparties when these contracts are in a net liability position. The amount of collateral to be posted is based on the amount of the net liability and thresholds generally related to our long-term senior unsecured credit ratings with Moody’s and S&P. Collateral requirements also are based on minimum transfer amounts, which are specific to each Credit Support Annex (a component of the ISDA Master Agreement) that we have signed with the counterparties. In a limited number of instances, counterparties also have the right to terminate their ISDA Master Agreements with us if our ratings fall below a certain level, usually investment-grade level (i.e., “Baa3” for Moody’s and “BBB-” for S&P). At December 31, 2011, KeyBank’s ratings with Moody’s and S&P were “A3” and “A-,” respectively, and KeyCorp’s ratings with Moody’s and S&P were “Baa1” and “BBB+,” respectively. If there were a downgrade of our ratings, we could be required to post additional collateral under those ISDA Master Agreements where we are in a net liability position. As of December 31, 2011, the aggregate fair value of all derivative contracts with credit risk contingent features (i.e., those containing collateral posting or termination provisions based on our ratings) held by KeyBank that were in a net liability position totaled $889 million, which includes $613 million in derivative assets and $1.5 billion in derivative liabilities. We had $879 million in cash and securities collateral posted to cover those positions as of December 31, 2011.

The following table summarizes the additional cash and securities collateral that KeyBank would have been required to deliver had the credit risk contingent features been triggered for the derivative contracts in a net liability position as of December 31, 2011, and 2010. The additional collateral amounts were calculated based on scenarios under which KeyBank’s ratings are downgraded one, two or three ratings as of December 31, 2011, and take into account all collateral already posted. At December 31, 2011, KeyCorp did not have any derivatives in a net liability position that contained credit risk contingent features.

December 31, in millions	2011				2010
	Moody’s		S&P		Moody’s		S&P
KeyBank’s long-term senior
unsecured credit ratings		A3		A-		A3		A-
One rating downgrade	$	11	$	11	$	16	$	16
Two rating downgrades		16		16		27		27
Three rating downgrades		16		16		32		32

KeyBank’s long-term senior unsecured credit rating currently is four ratings above noninvestment grade at Moody’s and S&P. If KeyBank’s ratings had been downgraded below investment grade as of December 31, 2011, payments of up to $18 million would have been required to either terminate the contracts or post additional collateral for those contracts in a net liability position, taking into account all collateral already posted.