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Officer
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Officer
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Registrant’s telephone number, including area code:
i(214)
i441-8500
Securities
registered pursuant to Section 12(b) of the Act:
Title of each class
Trading symbol(s)
Name of each exchange on which registered
Securities registered pursuant to Section 12(g) of the Act: Class B Capital Stock, $100 par value per share
Indicate by check mark if the
registrant is a well-known seasoned issuer, as defined in Rule 405 of the Securities Act. Yes oiNoþ
Indicate by check mark if the registrant is not required to file reports pursuant to Section 13 or Section 15(d) of the Act. Yes oiNoþ
Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. iYesþ No o
Indicate
by check mark whether the registrant has submitted electronically every Interactive Data File required to be submitted pursuant to Rule 405 of Regulation S-T during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files). iYesþ No o
Indicate by check mark whether the
registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, a smaller reporting company or an emerging growth company. See the definitions of “large accelerated filer,”“accelerated filer,”“smaller reporting company” and "emerging growth company" in Rule 12b-2 of the Exchange Act:
Large accelerated
filer
☐
Accelerated filer
☐
iNon-accelerated filer
þ
Smaller
reporting company
i☐
Emerging growth company
i☐
If
an emerging growth company, indicate by check mark if the registrant has elected not to use the extended transition period for complying with any new or revised financial accounting standards provided pursuant to Section 13(a) of the Exchange Act.o
Indicate by check mark whether the registrant has filed a report on and attestation to its management’s assessment of the effectiveness of its internal control over financial reporting under Section 404(b) of the Sarbanes-Oxley Act (15 U.S.C. 7262(b)) by the registered public accounting firm that prepared or issued its audit report. iþ
Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Act). Yes oiNoþ
The registrant’s capital stock is not publicly traded and is only issued to members of the registrant. Such stock
is issued and redeemed at par value ($100 per share), subject to certain regulatory and statutory requirements. At March 4, 2021, the registrant had i20,960,557 shares of its capital stock outstanding. As of June 30, 2020 (the last business day of the registrant’s most recently
completed second fiscal quarter), the aggregate par value of the registrant’s capital stock outstanding was approximately $i2.481 billion
The Federal Home Loan Bank of Dallas (the “Bank”) is one of 11 Federal Home Loan Banks (each individually a “FHLBank” and collectively the “FHLBanks,” and, together with the Office of Finance, a joint office of the FHLBanks, the “FHLBank System,” or the “System”). The FHLBanks were created by the Federal Home Loan Bank Act of 1932, as amended (the “FHLB Act”). Each of the 11 FHLBanks is a member-owned cooperative that operates as a separate federally chartered corporation with its own management, employees and board of directors. Each FHLBank helps finance housing, community lending, and community development needs
in the specified states in its respective district. Federally insured commercial banks, savings banks, savings and loan associations, and federally or privately insured credit unions, as well as insurance companies and Community Development Financial Institutions that are certified under the Community Development Banking and Financial Institutions Act of 1994, are all eligible for membership in the FHLBank of the district in which the institution’s principal place of business is located. Housing associates, including state and local housing authorities, that meet certain statutory and regulatory criteria may also borrow from the FHLBanks.
The public purpose of the Bank is to promote housing, jobs and general prosperity through products and services that assist its members in providing affordable credit in their communities. The Bank’s primary business is to serve as a financial intermediary between the capital markets and its
members. In its most basic form, this intermediation process involves raising funds by issuing debt in the capital markets and lending the proceeds to member institutions (in the form of loans known as advances) at rates that are slightly higher than the cost of the debt. The interest spread between the cost of the Bank’s liabilities and the yield on its assets, combined with the earnings on its invested capital, are the Bank’s primary sources of earnings. The Bank endeavors to manage its assets and liabilities in such a way that its net interest spread is consistent across a wide range of interest rate environments. The intermediation of its members’ credit needs with the investment requirements of the Bank’s creditors is made possible by the extensive use of interest rate exchange agreements. These agreements, commonly referred to as derivatives or derivative instruments, are discussed below in the section entitled “Use of Interest Rate Exchange Agreements.”
The
Bank’s principal source of funds is debt issued in the capital markets. All 11 FHLBanks issue debt in the form of consolidated obligations through the Office of Finance as their agent, and each FHLBank uses these funds to make loans to its members, invest in debt securities, or for other business purposes. Generally, consolidated obligations are traded in the over-the-counter market. All 11 FHLBanks are jointly and severally liable for the repayment of all consolidated obligations. Although consolidated obligations are not obligations of or guaranteed by the U.S. government, FHLBanks are considered to be government-sponsored enterprises (“GSEs”) and thus have historically been able to borrow at the more favorable rates generally available to GSEs. Consolidated obligations are currently rated Aaa/P-1 by Moody’s Investors Service (“Moody’s”) and AA+/A-1+ by S&P Global Ratings (“S&P”). In the application of S&P's Government Related Entities
criteria, the ratings of the FHLBanks are constrained by the long-term sovereign credit rating of the United States. These ratings indicate that each of these nationally recognized statistical rating organizations ("NRSROs") has concluded that the FHLBanks have a very strong capacity to meet their financial commitments on consolidated obligations. The ratings also reflect the FHLBank System’s status as a GSE. Historically, the FHLBanks' GSE status and very high credit ratings on consolidated obligations have provided the FHLBanks with excellent capital markets access. Deposits, other borrowings and the proceeds from the issuance of capital stock to members are also sources of funds for the Bank.
In addition to the ratings on the FHLBanks’ consolidated obligations, each FHLBank is rated individually by both S&P and Moody’s. These individual FHLBank ratings apply to the individual obligations of the respective FHLBanks,
such as interest rate derivatives, deposits, and letters of credit. As of December 31, 2020, Moody’s had assigned a deposit rating of Aaa/P-1 to each of the FHLBanks and S&P had rated each of the FHLBanks AA+/A-1+.
Current and prospective shareholders and debtholders should understand that these credit ratings are not a recommendation to buy, hold or sell securities and they may be revised or withdrawn at any time by the NRSRO. The ratings from each of the NRSROs should be evaluated independently.
All members of the Bank are required to purchase capital stock in the Bank as a condition of membership and in proportion to their asset size and borrowing activity with the Bank. The Bank’s capital stock is not publicly traded and all stock is owned by members of the Bank, by non-member institutions that acquire stock by virtue of acquiring
member institutions, by a federal or state agency or insurer acting as a receiver of a closed institution, or by former members of the Bank that retain capital stock to support advances or other obligations that remain outstanding or until any applicable stock redemption or withdrawal notice period expires.
The Federal Housing Finance Agency (“Finance Agency”), an independent agency in the executive branch of the U.S. government, is responsible for supervising and regulating the FHLBanks and the Office of Finance. The Finance Agency’s
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stated mission is to ensure that the housing GSEs, including the FHLBanks, operate in a safe and sound manner so that they serve as a reliable source of liquidity and funding for housing
finance and community investment. Consistent with this mission, the Finance Agency establishes policies and regulations covering the operations of the FHLBanks.
The Bank’s debt and equity securities are exempt from registration under the Securities Act of 1933 and are “exempted securities” under the Securities Exchange Act of 1934 (the “Exchange Act”). As required by the Housing and Economic Recovery Act of 2008 (the “HER Act”), each FHLBank has voluntarily registered a class of its equity securities with the Securities and Exchange Commission (“SEC”) under Section 12(g) of the Exchange Act. As a registrant, the Bank is subject to the periodic reporting and disclosure regime as administered and interpreted by the SEC. The SEC maintains an Internet site (https://www.sec.gov) that contains reports and other information filed with the SEC. Reports and other information that the Bank files with the
SEC are also available free of charge through the Bank’s website at www.fhlb.com. To access these reports and other information through the Bank’s website, click on "About Us," then “Investor Relations,” and then “SEC” under the heading SEC Filings. The information on the Bank's website is not, and shall not be deemed to be, a part hereof or incorporated into this or any of the Bank's other filings with the SEC.
Membership
The
Bank’s members are financial institutions with their principal place of business in the Ninth Federal Home Loan Bank District, which consists of Arkansas, Louisiana, Mississippi, New Mexico and Texas (the "Ninth District"). The following table summarizes the Bank’s membership, by type of institution, as of December 31, 2020, 2019 and 2018.
(1)The figures presented above reflect the number of members that were CFIs as of December 31, 2020, 2019 and 2018 based upon the definitions of CFIs that applied as of those dates.
As of December 31, 2020, approximately 67 percent of the Bank’s members were Community Financial Institutions
("CFIs"). CFIs are defined by the FHLB Act (as amended by the HER Act) to include all institutions insured by the Federal Deposit Insurance Corporation (“FDIC”) with average total assets over the three-year period preceding measurement of less than $1.0 billion, as adjusted annually for inflation. For 2020, CFIs were FDIC-insured institutions with average total assets as of December 31, 2019, 2018 and 2017 of less than $1.224 billion. For 2019 and 2018, the asset cap was $1.199 billion and $1.173 billion, respectively. For 2021, the asset cap is $1.239 billion.
As of December 31, 2020, 2019 and 2018, approximately 44.2 percent,
48.2 percent and 52.8 percent, respectively, of the Bank’s members had outstanding advances from the Bank. These usage rates are calculated excluding housing associates and non-member borrowers. While eligible to borrow, housing associates are not members of the Bank and, as such, are not required to hold capital stock. Non-member borrowers consist of institutions that have acquired former members and assumed the advances and/or other extensions of credit of those former members and former members who have withdrawn from membership but that continue to have advances and/or other extensions of credit outstanding. Non-member borrowers are required to hold capital stock to support outstanding advances or other extensions of credit until the time when those advances have been repaid or the extensions of credit have expired, as applicable. During the period that their obligations remain outstanding, non-member borrowers may not request new extensions of credit, nor are they
permitted to extend or renew the assumed advances.
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As of December 31, 2017, the Bank had 821 members. The decline in the Bank's membership during the three years ended December 31, 2020 occurred primarily in 2019 and 2018 and was largely attributable to intra-district merger activity.
The Bank’s membership currently includes the majority of commercial banks and savings institutions in its district that are eligible to become members. Eligible non-members are primarily insurance companies, credit unions and smaller commercial banks that have thus far elected not to join the Bank. While the Bank anticipates that some number of these
eligible non-member institutions will apply for membership each year, the Bank also anticipates that some number of its existing members will be acquired or merge with other institutions and it does not currently anticipate a substantial increase in the number of member institutions.
As a cooperative, the Bank is managed with the primary objectives of enhancing the value of membership for member institutions and fulfilling its public purpose. The value of membership includes access to readily available credit and other services from the Bank, the value of the cost differential between Bank advances and other potential sources of funds, and the dividends paid on members’ investments in the Bank’s capital stock.
Business Segments
The Bank manages its operations as one business segment. Management and the Bank’s Board of Directors review enterprise-wide
financial information in order to make operating decisions and assess performance. All of the Bank’s revenues are derived from U.S. operations.
Interest Income
The Bank’s interest income is derived from advances, investment activities and mortgage loans held for portfolio. Each of these revenue sources is more fully described below. During the years ended December 31, 2020, 2019 and 2018, interest income derived from each of these sources (expressed as a percentage of the Bank’s total interest income) was as follows:
Substantially
all of the Bank’s interest income from advances is derived from financial institutions domiciled in the Bank’s five-state district.
Products and Services
Advances. The Bank’s primary function is to provide its members with a reliable source of secured credit in the form of loans known as advances. The Bank offers advances to its members with a wide variety of terms designed to meet members’ business and risk management needs. Standard offerings include the following types of advances:
Fixed-rate, fixed-term advances. The Bank offers fixed-rate, fixed-term advances with maturities ranging from overnight to 20 years, and with maturities as long as 30 years for Community Investment advances. Interest is generally paid monthly and principal repaid at maturity for fixed-rate,
fixed-term advances.
Fixed-rate, amortizing advances. The Bank offers fixed-rate advances with a variety of final maturities and fixed amortization schedules. Standard advances offerings include fully amortizing advances with final maturities of 5, 7, 10, 15 or 20 years, and advances with amortization schedules based on those maturities but with shorter final maturities accompanied by balloon payments of the remaining outstanding principal balance. Borrowers may also request alternative amortization schedules and maturities. Amortizing Community Investment advances can have maturities as long as 40 years. Interest is generally paid monthly and principal is repaid in accordance with the specified amortization schedule. Although these advances have fixed amortization schedules, borrowers may elect to pay a higher interest rate and have an option to prepay the advance without a fee
after a specified lockout period (typically five years). Otherwise, early repayments are subject to the Bank’s standard prepayment fees.
Variable-rate advances. The Bank offers term variable-rate advances with maturities between one and ten years. Historically, standard offerings included variable-rate advances indexed to either one-month LIBOR or three-month LIBOR that were priced at a constant spread to the relevant index. In December 2018, the Bank stopped offering variable-rate advances indexed to LIBOR with maturities beyond December 31, 2021. In November 2020, the Bank stopped offering all variable-rate advances
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indexed to LIBOR. The Bank offers variable-rate
advances indexed to discount notes that reset every 8, 13 or 26 weeks based on the results of the FHLBank System's discount note auctions that typically occur twice every week. In addition, the Bank offers short term variable-rate advances (maturities of 30 days or less) indexed to the daily federal funds rate or that adjust daily based on the prevailing discount note market. Further, beginning in December 2019, the Bank offers variable-rate advances indexed to the daily Secured Overnight Financing Rate ("SOFR") for terms ranging from 3 months to 18 months. Variable-rate advances may also include an embedded cap.
Putable advances. The Bank also makes advances that include a put feature that allows the Bank to terminate the advance at specified points in time. If the Bank exercises its option to terminate the putable advance, the Bank offers replacement funding to the member for a period selected
by the member up to the remaining term to maturity of the putable advance, provided the Bank determines that the member is able to satisfy the normal credit and collateral requirements of the Bank for the replacement funding requested.
Symmetrical prepayment advances. The Bank also offers fixed-rate, fixed-term or amortizing advances that include a symmetrical prepayment feature which allows a member to prepay an advance at the lower of par value or fair value plus a make-whole amount, thus allowing the member to realize a portion of the decrease in fair value that would arise if interest rates have increased since the advance was originated.
Expander advances. The Bank also offers fixed-rate, fixed-term, non-amortizing advances that provide the member with a one-time option to increase the principal amount of the advance up to twice
the amount of the original advance at the original interest rate for the remaining term of the advance.
Fixed-rate, fixed-term advances, including Community Investment Program and Economic Development Program advances, can be forward-starting, which allows a member to lock in a rate for an advance that will settle at a future date. Amortizing advances and certain advances containing the symmetrical prepayment feature are also available on a forward-starting basis.
Finance Agency regulations require the Bank to establish a formula for and to charge, if necessary, a prepayment fee on an advance that is repaid prior to maturity in an amount sufficient to make the Bank financially indifferent to the borrower’s decision to repay the advance prior to its scheduled maturity date. Currently, these fees are generally calculated as the present value of the difference (if positive) between
the interest rate on the prepaid advance and the rate derived from the FHLBank System consolidated obligations curve for the remaining term to maturity of the repaid advance.
Members are required by statute and regulation to use the proceeds of advances with an original term to maturity of greater than five years to purchase or fund new or existing residential housing finance assets which, for CFIs, are defined by statute and regulation to include small business, small farm and small agribusiness loans, loans for community development activities (subject to the Finance Agency’s requirements as described below) and securities representing a whole interest in such loans. Community Investment Cash Advances (described below) are exempt from these requirements.
The Bank prices its credit products with the objective of providing benefits of membership that are greatest for those members
that use the Bank’s products most actively, while maintaining sufficient profitability to pay dividends at a rate that makes members financially indifferent to holding the Bank’s capital stock and that will allow the Bank to increase its retained earnings over time. Generally, that set of objectives results in small mark-ups over the Bank’s cost of funds for its advances. In keeping with its cooperative philosophy, the Bank provides the same pricing for advances to all similarly situated members regardless of asset or transaction size, charter type, or geographic location.
The Bank is required by the FHLB Act to obtain collateral that is sufficient, in the judgment of the Bank, to fully secure advances and other extensions of credit to members/borrowers. The Bank has not suffered any credit losses on advances since it was established in 1932. In accordance with the Bank’s Capital Plan, members and former members must hold Class B-2
capital stock in proportion to their outstanding advances. In addition, members must hold Class B-1 capital stock to meet their membership investment requirement. Pursuant to the FHLB Act, the Bank has a lien upon and holds the Bank’s Class B-1 and Class B-2 capital stock owned by each of its shareholders as additional collateral for all of the respective shareholder’s obligations to the Bank.
In order to comply with the requirement to fully secure advances and other extensions of credit, the Bank and each of its members/borrowers execute a written security agreement that establishes the Bank’s security interest in a variety of the members’/borrowers’ assets. The Bank, pursuant to the FHLB Act and Finance Agency regulations, originates, renews, or extends advances only if it has obtained and is maintaining a security interest in sufficient eligible collateral at the time such advance is made, renewed, or extended. Eligible
collateral includes whole first mortgages on improved residential real property (not more than 90 days delinquent) or securities representing an undivided interest in such mortgages; securities issued, insured, or guaranteed by the U.S. government or any of its agencies, including mortgage-backed and other debt securities issued or guaranteed by the Federal National Mortgage Association (“Fannie Mae”), the Federal Home Loan Mortgage Corporation (“Freddie Mac”), or the Government National Mortgage Association; term deposits in the Bank; and other real estate-related
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collateral acceptable to the Bank, provided that such collateral has a readily ascertainable value and the Bank can perfect a security interest in such assets.
In
the case of CFIs, the Bank may also accept as eligible collateral secured small business, small farm, and small agribusiness loans, secured loans for community development activities, and securities representing a whole interest in such loans, provided the Bank can perfect a security interest in such collateral and the collateral (i) has a readily ascertainable value, (ii) can be reliably discounted to account for liquidation, and (iii) can be liquidated in due course.
The HER Act added secured loans for community development activities as a new type of eligible collateral for CFIs. To date, the Bank has not been requested to accept secured loans for community development activities as collateral.
Except as set forth in the next sentence, the FHLB Act affords any security interest granted to the Bank by any member/borrower of the Bank, or any affiliate of any such member/borrower,
priority over the claims and rights of any party, including any receiver, conservator, trustee, or similar party having rights of a lien creditor. The Bank’s security interest is not entitled to priority over the claims and rights of a party that (i) would be entitled to priority under otherwise applicable law and (ii) is an actual bona fide purchaser for value or is a secured party who has a perfected security interest in such collateral in accordance with applicable law (e.g., a prior perfected security interest under the Uniform Commercial Code or other applicable law). For example, as discussed further below, the Bank usually perfects its security interest in collateral by filing a Uniform Commercial Code financing statement against the borrower. If another secured party, without knowledge of the Bank's lien, perfected its security interest in that same collateral by taking possession of the collateral, rather than or in addition to filing a Uniform Commercial Code
financing statement against the borrower, then that secured party’s security interest that was perfected by possession may be entitled to priority over the Bank’s security interest that was perfected by filing a Uniform Commercial Code financing statement.
From time to time, the Bank agrees to subordinate its security interest in certain assets or categories of assets granted by a member/borrower of the Bank to the security interest of another creditor (typically, a Federal Reserve Bank or another FHLBank). If the Bank agrees to subordinate its security interest in certain assets or categories of assets granted by a member/borrower of the Bank to the security interest of another creditor, the Bank will not extend credit against those assets or categories of assets.
As stated above, each member/borrower of the Bank executes a security agreement pursuant to which such member/borrower
grants a security interest in favor of the Bank in certain assets of such member/borrower. The assets in which a member grants a security interest fall into one of two general structures. In the first structure, the member grants a security interest in all of its assets that are included in the eligible collateral categories, as described above, which the Bank refers to as a “blanket lien.” A member may request that its blanket lien be modified, such that the member grants in favor of the Bank a security interest limited to certain of the eligible collateral categories (i.e., whole first residential mortgages, securities, term deposits in the Bank and other real estate-related collateral). In the second structure, the member grants a security interest in specifically identified assets rather than in the broad categories of eligible collateral covered by the blanket lien and the Bank identifies those members as being on “specific collateral only status.”
The
basis upon which the Bank will lend to a member that has granted the Bank a blanket lien depends on numerous factors, including, among others, that member’s financial condition and general creditworthiness. Generally, and subject to certain limitations, a member that has granted the Bank a blanket lien may borrow up to a specified percentage of the value of eligible collateral categories, as determined from that member’s financial reports filed with its federal regulator, without specifically identifying each item of collateral or delivering the collateral to the Bank. Under certain circumstances, including, among others, a deterioration of a member’s financial condition or general creditworthiness, the amount a member may borrow is determined only on the basis of the collateral that such member delivers to the Bank or a third-party custodian approved by the Bank. Under these circumstances, the Bank places the member on “custody status.” In addition, members on
blanket lien status may choose to deliver some or all of the collateral to the Bank.
The members/borrowers that are granted specific collateral only status by the Bank are typically either insurance companies or members/borrowers with an investment grade credit rating from at least two NRSROs that have requested this type of structure. Insurance companies are permitted to borrow only against the eligible collateral that is delivered to the Bank, and insurance companies generally grant a security interest only in collateral they have delivered. Members/borrowers with an investment grade credit rating from at least two NRSROs may grant a security interest in, and would be permitted to borrow only against, delivered eligible securities and specifically identified, eligible first-lien mortgage loans. Such loans must be delivered to the Bank or a third-party custodian approved by the Bank, or the Bank and the member/borrower must
otherwise take actions that ensure the priority of the Bank’s security interest in the loans. Investment grade rated members/borrowers that choose this option are subject to fewer provisions that allow the Bank to demand additional collateral or exercise other remedies based on the Bank’s discretion.
As of December 31, 2020, 668 of the Bank’s borrowers/potential borrowers with a total of $24.4 billion in outstanding advances were on blanket lien status, 24 borrowers/potential borrowers with $3.1 billion in outstanding advances were on
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specific collateral only status and 117 borrowers/potential borrowers with $4.4 billion in outstanding advances were on custody status.
The
Bank perfects its security interest in members'/borrowers’ collateral in a number of ways. The Bank usually perfects its security interest in collateral by filing a Uniform Commercial Code financing statement against the relevant assets of the member/borrower. In the case of certain borrowers, the Bank perfects its security interest by taking possession or control of the collateral, which may be in addition to the filing of a financing statement. In these cases, the Bank also generally takes assignments of most of the mortgages and deeds of trust that are designated as collateral. Instead of requiring delivery of the collateral to the Bank, the Bank may allow certain borrowers to deliver specific collateral to a third-party custodian approved by the Bank or otherwise take actions that ensure the priority of the Bank’s security interest in such collateral.
On at least a quarterly basis, the Bank obtains updated information relating
to collateral pledged to the Bank by depository institution members/borrowers, including those on blanket lien status. This information is either obtained directly from the member/borrower or obtained by the Bank from appropriate regulatory filings. In addition, on a monthly basis or as otherwise requested by the Bank, members/borrowers on custody status and members/borrowers on specific collateral only status must update information relating to collateral pledged to the Bank. Bank personnel regularly verify the existence and eligibility of collateral securing advances to members/borrowers on blanket lien status and members/borrowers on specific collateral only status with respect to any collateral not delivered to the Bank. The frequency and the extent of these collateral verifications depend on the average amount by which a member's/borrower’s outstanding obligations to the Bank during the year exceed the collateral value of its securities, loans and term deposits
held by the Bank. Collateral verifications are not required for members/borrowers that have had no, or only a de minimis amount of, outstanding obligations to the Bank secured by a blanket lien during the prior 12-month period ending on November 30, are on custody status, or are on blanket lien status but at all times have delivered to the Bank or an approved custodian eligible loans, securities and term deposits with a collateral value in excess of the advances and other extensions of credit to the member/borrower.
As of December 31, 2020, the Bank’s outstanding advances (at par value) totaled $31.9 billion. As of that date, advances outstanding to the Bank’s five largest borrowers represented 38.6 percent of the Bank’s total outstanding advances. Advances to the Bank’s two largest borrowers (American General Life Insurance Company
and Texas Capital Bank, National Association) represented 9.9 percent and 9.4 percent, respectively, of the Bank’s total outstanding advances as of December 31, 2020. For additional information regarding the composition and concentration of the Bank’s advances, see Item 7. Management’s Discussion and Analysis of Financial Condition and Results of Operations — Financial Condition — Advances.
Community Investment Offerings. The Bank offers a Community Investment Cash Advances (“CICA”) program (which includes a Community Investment Program, an Economic Development Program and a Disaster Relief Program) as authorized by Finance Agency regulations. Advances made under the CICA program benefit low- to moderate-income households by providing funds for housing or economic development projects or projects that promote recovery efforts in communities that
have been declared disaster areas by the Federal Emergency Management Agency ("FEMA"). CICA advances are made at rates below the rates the Bank charges on standard advances. CICA advances are provided separately from and do not count toward the Bank’s statutory obligations under the Affordable Housing Program, through which the Bank provides grants to support projects that benefit low- and very low-income households as further described below. As of December 31, 2020, the par value of advances outstanding under the CICA program totaled approximately $380.7 million, representing approximately 1.2 percent of the Bank’s total advances outstanding as of that date.
Prior to 2019, if a member institution was approved for an Economic Development Program ("EDP") advance, the member's customer could then be eligible for an accompanying EDP Plus grant. In 2018, a total of
$750,000 in EDP Plus grants were available to members' customers. Beginning in January 2019, the Bank launched a Small Business Boost ("SBB") Program, which is designed to provide recoverable assistance to small businesses in their first few years of operation. SBB funds awarded to small businesses are disbursed through member institutions. With the launch of the SBB Program, the Bank no longer offers EDP Plus grants. In each of the SBB Program's first two years (2019 and 2020), the Bank made available $3 million for SBB loans. At December 31, 2020, $5.9 million of SBB loans were outstanding.
The Bank also offers an Affordable Housing Program (“AHP”) as required by the FHLB Act and in accordance with Finance Agency regulations. The Bank sets aside 10 percent of each year’s earnings (as adjusted for interest expense on mandatorily redeemable capital stock) for
its AHP, which provides grants for projects that facilitate development of rental and owner-occupied housing for low- and very low-income households. Each year, a portion of the amount set aside is typically allocated specifically for the Bank's Homebuyer Equity Leverage Partnership ("HELP") program, its Special Needs Assistance Program ("SNAP") and its Disaster Rebuilding Assistance ("DRA") program. HELP provides grant funds for down payment and closing cost assistance for eligible first-time homebuyers. SNAP provides grant funds to special needs homeowners for rehabilitation costs. The DRA program provides grant funds (for repair and construction costs that are not covered by insurance or federal or state emergency assistance) to low- and very low-income households in the Bank's member communities that have been declared disaster areas eligible for individual assistance by FEMA. For 2020, the Bank set aside from its 2019 AHP funds $4.5 million,
$2.5 million and $0.4 million for HELP, SNAP and the DRA program, respectively. The calculation of the amount to
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be set aside for the Bank's AHP is further discussed below in the section entitled “AHP Assessments.” Each year, the Bank conducts a competitive application process to allocate the AHP funds set aside from the prior year’s earnings. Applications submitted by Bank members and their community partners are scored in accordance with Finance Agency regulations and the Bank’s AHP Implementation Plan. The highest scoring proposals are approved to receive funds, which are disbursed upon receipt of documentation that the projects are progressing as specified in the original applications or in approved modifications thereto.
In
addition, the Bank offers a Housing Assistance for Veterans ("HAVEN") program that is designed to provide grants to households of veterans or active service members who were disabled as a result of an injury during their active military service since September 11, 2001. For 2020, the Bank made available $300,000 for the HAVEN program.
Further, the Bank offers a Partnership Grant Program ("PGP") which provides funding for the operational needs of community-based organizations ("CBOs"). CBOs include non-profit organizations involved in affordable housing, local community development funds and small business technical assistance providers. For 2020, the Bank made available $2.3 million for the PGP, including $2.0 million in additional funds that were made available in response to the COVID-19 pandemic.
For 2021, the
Bank has set aside from its 2020 AHP funds $4.5 million, $2.5 million and $0.5 million for HELP, SNAP and the DRA program, respectively. Funds available in 2021 for SBB, HAVEN and PGP are $3.0 million, $0.3 million and $0.4 million, respectively.
Letters of Credit. The Bank’s credit services also include letters of credit issued or confirmed on behalf of members to facilitate business transactions with third parties that support residential housing finance, community lending, or asset/liability management or to provide liquidity to members. Letters of credit are also issued on behalf of members to secure the deposits of public entities that are held by such members. All letters of credit must be fully collateralized as though they were funded advances. At December 31, 2020 and 2019, outstanding letters
of credit totaled $22.4 billion and $21.8 billion, respectively, of which $0.2 billion and $0.3 billion, respectively, had been issued or confirmed under the Bank’s CICA program as of those dates.
Correspondent Banking and Collateral Services. The Bank provides its members with a variety of correspondent banking and collateral services. These services include overnight and term deposit accounts, wire transfer services, securities safekeeping, and securities pledging services.
SecureConnect. The Bank provides secure online access to many of its products, services and reports through SecureConnect, a proprietary, secure online product delivery system. A substantial portion of the Bank’s advances and wire transfers are initiated by members through SecureConnect. In addition, a large proportion of account statements and other reports are
made available through SecureConnect. Further, members may participate in auctions for Bank advances and deposits through SecureConnect.
Interest Rate Swaps, Caps and Floors. The Bank offers interest rate swaps, caps and floors to its member institutions. In these transactions, the Bank acts as an intermediary for its members by entering into an interest rate exchange agreement with a member and then entering into an offsetting interest rate exchange agreement with one of the Bank’s approved derivative counterparties which, if required, will be a third-party central clearinghouse. In order to be eligible, a member must have executed a master swap agreement with the Bank. The Bank requires the member to post eligible collateral in an amount equal to the sum of the net market value of the member’s derivative transactions with the Bank (if the value is positive to the Bank) plus a percentage of the notional
amount of any interest rate swaps, with market values determined on at least a monthly basis. At December 31, 2020 and 2019, the total notional amount of interest rate exchange agreements with members totaled $103 million and $461 million, respectively.
Standby Bond Purchase Agreements. The Bank offers standby bond purchase services to state housing finance agencies within its district. In these transactions, in order to enhance the liquidity of bonds issued by a state housing finance agency, the Bank, for a fee, agrees to stand ready to purchase, in certain circumstances specified in the standby agreement, a state housing finance agency’s bonds that the remarketing agent for the bonds is unable to sell. The specific terms for any bonds purchased by the Bank are specified in the standby bond purchase agreement
entered into by the Bank and the state housing finance agency. The Bank reserves the right to sell any bonds it purchases at any time, subject to any conditions the Bank agrees to in the standby bond purchase agreement. In November 2017, June 2018, December 2019 and January 2020, the Bank entered into standby bond purchase agreements with a state housing finance agency located within its district. At December 31, 2020, the Bank had outstanding standby bond purchase agreements with this state housing finance agency totaling $709 million. To date, the Bank has never been required to purchase any bonds under these agreements. The Bank was not a party to any standby bond purchase agreements prior to 2017.
MPF Xtra. The Bank offers MPF Xtra® to its members. MPF Xtra is offered under the Mortgage Partnership Finance®
(“MPF”®) program administered by the FHLBank of Chicago, which is discussed on pages 9-10 of this report (“Mortgage Partnership Finance,”“MPF,” and "MPF Xtra" are registered trademarks of the FHLBank of Chicago). MPF Xtra provides members that participate in the MPF program (known as participating financial institutions or "PFIs") an opportunity to sell
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certain fixed-rate, conforming mortgage loans into the secondary market. Under this program, loans are sold to the FHLBank of Chicago and are concurrently sold to Fannie Mae as a third-party investor. These loans are not held by the Bank, nor are they recorded on the Bank's balance sheet. Unlike other products offered under the MPF program,
PFIs are not required to provide credit enhancement and do not receive credit enhancement fees when using the MPF Xtra product. Under the MPF Xtra program, the Bank receives a fee for any loans sold by its PFIs. During 2020, 2019 and 2018, $338.8 million, $46.2 million and $40.2 million, respectively, of loans were sold through the MPF Xtra program and the fees earned on the sale of these loans totaled $237,000, $32,000 and $28,000, respectively.
Investment Activities
The Bank maintains a portfolio of investments to enhance interest income and meet liquidity needs, including certain regulatory liquidity requirements, as discussed in Item 7. Management’s Discussion and Analysis of Financial Condition and Results of Operations — Liquidity and Capital Resources. To ensure the availability of funds to meet members’ credit needs, the Bank’s operating needs, and its other general and
regulatory liquidity requirements, the Bank maintains a portfolio of short-term investments typically consisting of overnight federal funds issued by highly rated domestic banks and U.S. branches of foreign financial institutions, overnight reverse repurchase agreements, overnight interest-bearing deposits with highly rated domestic banks and U.S. Treasury Bills and Notes. At December 31, 2020, the Bank’s short-term investments were comprised of $3.3 billion of U.S. Treasury Bills, $3.1 billion of excess cash held at the Federal Reserve, $1.9 billion of U.S. Treasury Notes, $1.0 billion of overnight reverse repurchase agreements, $0.9 billion of overnight federal funds sold and $0.8 billion of overnight interest-bearing deposits.
To enhance net interest income, the Bank maintains a long-term investment portfolio, which currently includes mortgage-backed securities ("MBS")
issued by U.S. government-sponsored enterprises (i.e., Fannie Mae and Freddie Mac); non-agency (i.e., private label) residential MBS; non-MBS debt instruments issued or guaranteed by the U.S. government or secured by U.S. government guaranteed obligations; non-MBS debt instruments issued by U.S. government-sponsored enterprises (i.e., Fannie Mae, Freddie Mac and the Farm Credit System); and state housing agency obligations. The interest rate and, in the case of MBS, prepayment risk inherent in the securities is managed through a variety of debt and interest rate derivative instruments. As of December 31, 2020, 2019 and 2018, the composition of the Bank’s long-term investment portfolio was as follows (dollars in millions):
The
Bank is precluded from purchasing additional MBS if such purchase would cause the aggregate amortized historical cost of its MBS holdings to exceed an amount equal to 300 percent of its total regulatory capital at the time of purchase. At December 31, 2020, the Bank's MBS holdings (at amortized cost as defined by U.S. GAAP) represented 340 percent of its total regulatory capital. Historically, there had been some ambiguity with regard to the definition of "amortized historical cost" as such term is used in the applicable regulation. To resolve this ambiguity, the Finance Agency, by letter dated October 1, 2020, specified that "amortized historical cost" for purposes of calculating a FHLBank's MBS investment authority shall mean the sum of the initial investment, less the amount of cash collected that reduces principal, less write-downs
plus yield accreted to date, and shall not include hedge basis adjustments (which, for investment securities, are included in the U.S. GAAP definition of amortized cost basis). Using this definition, the Bank's MBS ratio was 311 percent as of December 31, 2020.
The Bank has historically attempted to maintain its investments in MBS close to the regulatory dollar limit. While the Finance Agency has established limits with respect to the types and structural characteristics of the FHLBanks’ MBS investments, the Bank has generally adhered to a more conservative set of guidelines.
Prior to January 1, 2020, the Bank was permitted to invest in the non-MBS debt obligations of any GSE provided such investments in any single GSE did not exceed the lesser of the Bank’s total regulatory capital
or that GSE's total capital (taking into account the financial support provided by the U.S. Department of the Treasury, if applicable) at the time new investments
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were made. The Bank's authority to invest in the non-MBS debt obligations of GSEs that are not operating with capital support or some other form of direct financial assistance from the U.S. government was reduced beginning January 1, 2020. The Bank's investments in the non-MBS debt obligations of Fannie Mae and Freddie Mac are each currently limited to an amount equal to 100 percent of the Bank's total regulatory capital while investments in the non-MBS debt obligations of the Farm Credit System are now limited to an amount equal to 15 percent of the Bank's total
regulatory capital. Although the Bank's holdings of Farm Credit System debentures exceeded this new limit on January 1, 2020, the Bank was not required to sell or otherwise reduce any of these investments. Instead, the Bank is precluded from purchasing any additional Farm Credit System debentures until such time as its holdings are reduced to an amount that is less than 15 percent of the Bank's total regulatory capital.
For additional constraints relating to the Bank's long-term investment portfolio, see the section below entitled "Core Mission Achievement."
In accordance with Finance Agency policy and regulations, total capital for purposes of determining the Bank’s MBS and non-MBS investment limitations excludes accumulated other comprehensive income (loss) and includes all amounts paid in for the Bank’s capital stock regardless
of accounting classification (see Item 7. Management’s Discussion and Analysis of Financial Condition and Results of Operations). The Bank is not required to sell or otherwise reduce any investments that exceed these regulatory limits due to reductions in capital or changes in value after the investments are made, but it is precluded from making additional investments that exceed these limits.
Finance Agency regulations include a variety of restrictions and limitations on the FHLBanks’ investment activities, including limits on the types, amounts, and maturities of unsecured investments in private issuers. Finance Agency rules and regulations also prohibit the Bank from investing in certain types of securities, including:
•instruments, such as common stock, that represent an ownership interest in an entity, other than stock in small business investment companies,
or certain investments targeted to low-income persons or communities;
•instruments issued by non-United States entities, other than those issued by United States branches and agency offices of foreign commercial banks;
•debt instruments that are not investment quality, other than certain investments targeted to low-income persons or communities and instruments that became non-investment quality after purchase by the Bank;
•whole mortgages or other whole loans, other than 1) those acquired by the Bank through a duly authorized Acquired Member Assets program such as the Mortgage Partnership Finance program discussed below; 2) certain investments targeted to low-income persons or communities; 3) certain marketable direct obligations of state, local, or tribal government
units or agencies that are investment quality; 4) MBS or asset-backed securities backed by manufactured housing loans or home equity loans; and 5) certain foreign housing loans authorized under Section 12(b) of the FHLB Act;
•non-U.S. dollar denominated securities;
•interest-only or principal-only stripped MBS;
•residual-interest or interest-accrual classes of collateralized mortgage obligations and real estate mortgage investment conduits; and
•fixed-rate MBS or floating-rate MBS that, on trade date, are at rates equal to their contractual cap and that have average lives that vary by more than six years under an assumed instantaneous interest rate change of 300 basis points.
Beginning
January 1, 2020, the Bank is also prohibited, pursuant to a Finance Agency directive, from purchasing LIBOR-indexed investments that mature after December 31, 2021. For further information, see the Legislative and Regulatory Developments section beginning on page 17 of this report.
Acquired Member Assets ("AMA")
Through the MPF program, the Bank currently invests in conventional residential mortgage loans originated by its PFIs. The Bank previously purchased conventional mortgage loans and government-guaranteed/insured mortgage loans (i.e., those insured or guaranteed by the Federal Housing Administration or the Department of Veterans Affairs) during the period from 1998 to mid-2003, and resumed acquiring conventional mortgage loans under this program in early 2016. All of the
mortgage loans acquired during the period from 2016 to 2020 were originated by certain of the Bank's PFIs and the Bank acquired a 100 percent interest in such loans. For the loans that were acquired from its members during the period from 1998 to mid-2003, the Bank retained title to the mortgage loans, subject to any participation interest in such loans that was sold to the FHLBank of Chicago; the interest in the loans retained by the Bank ranged from 1 percent to 49 percent. Additionally, during the period from 1998 to 2000, the Bank also acquired from the FHLBank of Chicago a percentage interest (ranging up to 75 percent) in certain MPF loans originated by PFIs of other FHLBanks. Substantially all of the $3.4 billion (unpaid principal balance) of mortgage loans on the Bank's balance sheet at December 31, 2020 were conventional loans acquired during the period from 2016 through 2020.
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The
Bank manages the liquidity, interest rate and prepayment risk of these loans, while the PFIs or their designees retain the servicing activities. The Bank and the PFIs share in the credit risk of the loans with the Bank assuming a limited first loss obligation defined as the First Loss Account (“FLA”), and the PFIs assuming credit losses in excess of the FLA, up to the amount of the required credit enhancement obligation ("CE Obligation") as specified in the master agreement (“Second Loss Credit Enhancement”). Depending on the MPF product structure, the FLA is either a memo account calculated as the cumulative amount of a specified portion of the monthly interest payments on the MPF loans (e.g., 4 basis points, annualized, per month), or a specified percentage amount of MPF loans outstanding (e.g., 35 basis points of the principal amount of the loans). In the first case, the Bank’s first loss obligation is limited to the accumulated amount of the
FLA, while in the second case the Bank’s first loss obligation is limited to the specified percentage of the loans outstanding, subject to recovery from future credit enhancement fees otherwise payable to the PFI as described below.
The CE Obligation is the amount of credit enhancement needed for a pool of loans delivered under a master commitment to be considered “AMA investment grade,” which is defined in the Finance Agency's regulations as sufficient credit enhancement such that the Bank expects to be “paid principal and interest in all material respects, even under reasonably likely adverse changes to expected economic conditions.” Prior to December 2016, credit enhancements were required to be established such that each master commitment would have an estimated rating equivalent to an investment grade rated MBS and to be set by the Bank using an NRSRO model. Prior to December
22, 2016, the Bank set the credit enhancement level at a double-A equivalent. For loans delivered on and after that date, the credit enhancement level has been set at a triple-B equivalent, which the Bank has determined is sufficient to meet the AMA investment grade standard. The Bank assumes all losses in excess of the Second Loss Credit Enhancement. As further described below, the PFIs are paid a fee by the Bank for assuming a portion of the credit risk of the loans.
The PFI’s CE Obligation arises under its PFI Agreement while the amount and nature of the obligation are determined with respect to each master commitment. Under the Finance Agency’s Acquired Member Asset regulation (12 C.F.R. part 1268) (“AMA Regulation”), the PFI must “bear the economic consequences” of certain credit losses with respect to a master commitment based upon the MPF product and other criteria. Under the MPF program, the PFI’s
credit enhancement protection may take the form of the CE Obligation, which represents the direct liability to pay credit losses incurred with respect to that master commitment, or may require the PFI to obtain and pay for a supplemental mortgage insurance (“SMI”) policy insuring the Bank for a portion of the credit losses arising from the master commitment, and/or the PFI may contract for a contingent performance-based credit enhancement fee whereby such fees are reduced by losses up to a certain amount arising under the master commitment. The credit risk-sharing structures utilized by the Bank during the period from 2016 through 2020 did not include SMI. Under the AMA Regulation, any portion of the CE Obligation that is a PFI’s direct liability must be collateralized by the PFI in the same way that advances are collateralized. The PFI Agreement provides that the PFI’s
obligations under the PFI Agreement are secured along with other obligations of the PFI under its regular advances agreement with the Bank and, further, that the Bank may request additional collateral to secure the PFI’s obligations. PFIs are paid a credit enhancement fee (“CE fee”) as an incentive to minimize credit losses, to share in the risk of loss on MPF loans and to pay for SMI (if applicable), rather than paying a guaranty fee to other secondary market purchasers. CE fees are paid monthly and are determined based on the remaining unpaid principal balance of the MPF loans. The required CE Obligation may vary depending on the MPF product alternatives selected. The Bank also pays performance-based CE fees that are based on the actual performance of the pool of MPF loans under each individual master commitment. To the extent that losses incurred by the Bank as part of its first loss obligation in the current month exceed accrued performance-based CE fees,
the remaining losses may be recovered from future performance-based CE fees payable to the PFI.
PFIs must comply with the requirements of the PFI agreement, MPF guides, applicable law and the terms of mortgage documents. If a PFI fails to comply with any of these requirements, it may be required to repurchase the MPF loans that are impacted by such failure. The reasons that a PFI could be required to repurchase an MPF loan include, but are not limited to, the failure of the loan to meet underwriting standards, the PFI’s failure to deliver a qualifying promissory note and certain other relevant documents to an approved custodian, a servicing breach, fraud or other misrepresentations by the PFI. In addition, a PFI may, under the terms of the MPF servicing guide, elect to repurchase any government-guaranteed/insured loan for an amount equal to the loan’s then current scheduled principal balance and accrued interest thereon, provided
no payment has been made by the borrower for three consecutive months. This policy allows PFIs to comply with loss mitigation requirements of the applicable government agency in order to preserve the insurance guaranty coverage.
As of December 31, 2020 and 2019, MPF loans held for portfolio (net of allowance for credit losses) were $3.423 billion and $4.075 billion, respectively, representing approximately 5.3 percent and 5.4 percent, respectively, of the Bank’s total assets at each of those dates. Over time, the Bank expects to increase the balance of its mortgage loan portfolio to an amount that approximates 10 percent to 15 percent of its total assets. Currently, the Bank intends to continue to acquire a 100 percent interest in the mortgage loans that it purchases from its PFIs.
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Core
Mission Achievement
On July 14, 2015, the Finance Agency issued an Advisory Bulletin ("AB 2015-05") that provides guidance to the FHLBanks regarding core mission achievement. As stipulated in AB 2015-05, the Finance Agency assesses each FHLBank’s core mission achievement by calculating the ratio of a FHLBank's primary mission assets (defined for this purpose as advances and mortgage loans held for portfolio) relative to its consolidated obligations (hereinafter referred to as the core mission asset or "CMA" ratio). On August 23, 2018, the Finance Agency issued an Advisory Bulletin that, among other things, allows each FHLBank (beginning January 1, 2019) to adjust its CMA ratio (as defined in AB 2015-05) by deducting from the ratio's denominator the average par value
of the FHLBank's holdings of U.S. Treasury securities with a remaining maturity no greater than 10 years that are classified as trading or available-for-sale. The CMA ratio is calculated for each calendar year using annual average par values.
AB 2015-05 also provides the Finance Agency’s expectations for each FHLBank’s strategic plan based on the FHLBank's CMA ratio, which are:
•when the CMA ratio is 70 percent or higher, the strategic plan should include an assessment of the FHLBank’s prospects for maintaining that level of core mission achievement;
•when the CMA ratio is at least 55 percent but less than 70 percent, the strategic plan should explain the FHLBank’s plans to increase its mission focus; and
•when the CMA ratio
is below 55 percent, the strategic plan should include a robust explanation of the circumstances that caused the CMA ratio to be below that level, as well as a detailed description of the FHLBank's plans to increase the ratio. The Advisory Bulletin provides that if a FHLBank has a CMA ratio below 55 percent over the course of several consecutive reviews, then the FHLBank’s board of directors should consider possible strategic alternatives as part of its strategic planning.
Currently, the Bank's core mission assets are comprised primarily of advances. For the years ended December 31, 2020, 2019 and 2018, the Bank's CMA ratio was 67.7 percent, 65.7 percent and 64.7 percent, respectively. As noted previously in the Acquired Member Assets section (and for reasons unrelated to AB
2015-05), the Bank began to purchase mortgage loans through the MPF Program in early 2016. Over time, mortgage loan purchases are expected to further increase the Bank's core mission assets. With the recent declines in its advances and mortgage loans held for portfolio (see Item 7. Management's Discussion and Analysis of Financial Condition and Results of Operations for further discussion), the Bank's goal is to maintain a CMA ratio at or above 65 percent for 2021.
Notwithstanding the negative impact that holding higher amounts of liquidity has on its CMA ratio, the Bank has at times maintained, and may continue from time to time to maintain higher balances of liquidity if short-term debt markets are volatile (as they were at times in 2020 due to the outbreak of the novel coronavirus known as COVID-19) or if, in management's judgment, they are expected to become more volatile. Since late 2018, the Bank has used and it will
likely continue to use more U.S Treasury securities to meet its liquidity requirements given the favorable treatment afforded such investments in the Bank's CMA ratio relative to other short-term investment alternatives. While difficult to achieve in the current economic environment, the Bank intends to continue to focus its efforts on growing its advances and mortgage loans held for portfolio to increase its CMA ratio. The current elevated levels of liquidity in the financial markets stemming from COVID-19 relief measures taken by the U.S. government have significantly dampened demand for the Bank's advances while significant refinancing activity (due to historically low mortgage rates) and less competitive mortgage pricing have contributed to a decline in the Bank's mortgage loans held for portfolio. If necessary, the Bank could elect to reduce the size of its long-term investment portfolio by selling assets (which would have the effect of increasing the Bank's CMA
ratio but at the same time reducing its future earnings). While the Bank does not currently plan to sell any long-term investments, it could elect to do so at some point in the future.
Irrespective of its capacity from time to time to purchase long-term investments as discussed in the section above entitled "Investment Activities," the Bank does not intend to purchase any such investments (i.e., MBS or non-MBS debt instruments) unless it has achieved, and is reasonably confident that it can maintain, a CMA ratio of 70 percent.
Funding Sources
General. The principal funding source for the Bank is consolidated obligations issued in the capital markets through the Office of Finance. Member deposits and the proceeds from the issuance of capital stock are also funding sources for the Bank. Consolidated obligations
consist of consolidated obligation bonds and consolidated obligation discount notes. Discount notes are consolidated obligations with maturities of one year or less, and consolidated obligation bonds typically have maturities in excess of one year.
The Bank determines its participation in the issuance of consolidated obligations based upon, among other things, its own funding and operating requirements and the amounts, maturities, rates of interest and other terms available in the marketplace. The issuance terms for consolidated obligations are established by the Office of Finance, subject to policies established by its
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board of directors and the regulations of the Finance Agency. In addition, the Government Corporation Control
Act provides that, before a government corporation issues and offers obligations to the public, the U.S. Secretary of the Treasury shall prescribe the form, denomination, maturity, interest rate, and conditions of the obligations, the way and time issued, and the selling price.
Consolidated obligation bonds generally satisfy long-term funding needs. Typically, the maturities of these securities range from 1 to 20 years, but their maturities are not subject to any statutory or regulatory limit. Consolidated obligation bonds can be fixed-rate or variable-rate and may be callable or non-callable.
Consolidated obligation bonds are issued and distributed through negotiated or competitively bid transactions with underwriters or bidding group members. The Bank receives 100 percent of the proceeds of bonds issued through direct negotiation with underwriters of System debt when it is the sole
primary obligor on consolidated obligation bonds. When the Bank and one or more other FHLBanks jointly agree to the issuance of bonds directly negotiated with underwriters, the Bank receives the portion of the proceeds of the bonds agreed upon with the other FHLBanks; in those cases, the Bank is the primary obligor for a pro rata portion of the bonds based on the proceeds it receives. In these cases, the Bank records on its balance sheet only that portion of the bonds for which it is the primary obligor. The majority of the Bank’s consolidated obligation bond issuance has been conducted through direct negotiation with underwriters of System debt, and a majority of that issuance has been without participation by the other FHLBanks.
The Bank may also request that specific amounts of specific bonds be offered by the Office of Finance for sale through competitive auction conducted with underwriters that are bidding group members.
One or more other FHLBanks may also request that amounts of these same bonds be offered for sale for their benefit through the same auction. The Bank may receive from zero to 100 percent of the proceeds of the bonds issued through competitive auction depending on the amounts and costs for the bonds bid by underwriters, the maximum costs the Bank or other FHLBanks, if any, participating in the same issue are willing to pay for the bonds, and Office of Finance guidelines for allocation of bond proceeds among multiple participating FHLBanks.
Consolidated obligation discount notes are a significant funding source for money market instruments and for advances with short-term maturities or repricing frequencies of less than one year, or advances for which the interest rate is indexed to discount notes. Discount notes are generally sold at a discount and mature at par, and are offered daily through a consolidated obligation discount
notes selling group and through other authorized securities dealers.
On a daily basis, the Bank may request that specific amounts of consolidated obligation discount notes with specific maturity dates be offered by the Office of Finance at a specific cost for sale to securities dealers in the discount note selling group. One or more other FHLBanks may also request that amounts of discount notes with the same maturities be offered for sale for their benefit on the same day. The Office of Finance commits to issue discount notes on behalf of the participating FHLBanks when securities dealers in the selling group submit orders for the specific discount notes offered for sale. The Bank may receive from zero to 100 percent of the proceeds of the discount notes issued through this sales process depending on the maximum costs the Bank or other FHLBanks, if any, participating in the same discount notes are willing to pay for the discount
notes, the amounts of orders for the discount notes submitted by securities dealers, and Office of Finance guidelines for allocation of discount note proceeds among multiple participating FHLBanks. Under the Office of Finance guidelines, FHLBanks generally receive funding on a first-come-first-served basis subject to threshold limits within each category of discount notes. For overnight discount notes, sales are allocated to the FHLBanks in lots of $250 million for identical commitments. For all other discount note maturities, sales are allocated in lots of $50 million. Within each category of discount notes, the allocation process is repeated until all orders are filled or canceled.
Twice weekly, the Bank may also request that specific amounts of consolidated obligation discount notes with fixed maturity dates ranging from 4 to 26 weeks be offered by the Office of Finance through competitive auctions conducted through securities
dealers in the discount note selling group. One or more other FHLBanks may also request that amounts of those same discount notes be offered for sale for their benefit through the same auction. The discount notes offered for sale through competitive auction are not subject to a limit on the maximum costs the FHLBanks are willing to pay. The FHLBanks receive funding at a single price based on a Dutch auction format. If the bids submitted are less than the total of the FHLBanks’ requests, the Bank receives funding based on the ratio of the Bank’s regulatory capital (defined on page 37 of this report) relative to the regulatory capital of the other FHLBanks offering discount notes. The majority of the Bank’s discount note issuance in maturities of 4 weeks or longer is conducted through the auction process. Regardless of the method of issuance, as with consolidated obligation bonds, the Bank is the primary obligor for the portion of discount notes issued for which it has
received the proceeds.
On occasion, and as an alternative to issuing new debt, the Bank may assume the outstanding consolidated obligations for which other FHLBanks are the original primary obligors. This occurs in cases where the original primary obligor may have participated in a large consolidated obligation issue to an extent that exceeded its immediate funding needs in order to facilitate better market execution for the issue. The original primary obligor might then warehouse the funds until they were needed, or
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make the funds available to other FHLBanks. Transfers may also occur when the original primary obligor’s funding needs change, and that FHLBank offers to transfer debt that is no longer needed to other FHLBanks.
Transferred debt is typically fixed-rate, fixed-term, non-callable debt, and may be in the form of discount notes or bonds. In connection with these transactions, the Bank becomes the primary obligor for the transferred debt.
The Bank participates in such transfers of funding from other FHLBanks when the transfer represents favorable pricing relative to a new issue of consolidated obligations with similar features. The Bank did not assume any consolidated obligations from other FHLBanks during the years ended December 31, 2020, 2019 or 2018.
In addition, the Bank occasionally transfers debt that it no longer needs to other FHLBanks. The Bank did not transfer any consolidated obligations to other FHLBanks during the years ended December 31,
2020, 2019 or 2018.
Joint and Several Liability. Although the Bank is primarily liable only for its portion of consolidated obligations (i.e., those consolidated obligations issued on its behalf and those that have been assumed from other FHLBanks), it is also jointly and severally liable with the other FHLBanks for the payment of principal and interest on all of the consolidated obligations issued by the FHLBanks. The Finance Agency, in its discretion, may require any FHLBank to make principal or interest payments due on any consolidated obligation, regardless of whether there has been a default by a FHLBank having primary liability. To the extent that a FHLBank makes any payment on a consolidated obligation on behalf of another FHLBank, the paying FHLBank shall be entitled to reimbursement from the FHLBank with primary liability. The FHLBank with
primary liability would have a corresponding liability to reimburse the FHLBank providing assistance to the extent of such payment and other associated costs (including interest to be determined by the Finance Agency). However, if the Finance Agency determines that the primarily liable FHLBank is unable to satisfy its obligations, then the Finance Agency may allocate the outstanding liability among the remaining FHLBanks on a pro rata basis in proportion to each FHLBank’s participation in all consolidated obligations outstanding, or on any other basis that the Finance Agency may determine. No FHLBank has ever failed to make any payment on a consolidated obligation for which it was the primary obligor; as a result, the regulatory provisions for directing other FHLBanks to make payments on behalf of another FHLBank or allocating the liability among other FHLBanks have never been invoked. Consequently, the Bank has no means to determine how the Finance Agency might allocate
the obligations of a FHLBank that is unable to pay consolidated obligations for which such FHLBank is primarily liable. If principal of or interest on any consolidated obligation issued by the FHLBank System is not paid in full when due, the Bank may not pay dividends to, or repurchase shares of stock from, any shareholder of the Bank.
The FHLBanks and the Office of Finance are parties to the Amended and Restated Federal Home Loan Banks P&I Funding and Contingency Plan Agreement which is designed to facilitate the timely funding of principal and interest payments on FHLBank System consolidated obligations in the event that a FHLBank is not able to meet its funding obligations in a timely manner. For additional information regarding this agreement, see Item 7. Management’s Discussion and Analysis of Financial Condition and Results of Operations — Liquidity and Capital Resources.
According
to the Office of Finance, the 11 FHLBanks had (at par value) approximately $747 billion and $1.026 trillion in consolidated obligations outstanding at December 31, 2020 and 2019, respectively. The Bank was the primary obligor on $59.2 billion and $70.1 billion (at par value), respectively, of these consolidated obligations.
Certification and Reporting Obligations. Under Finance Agency regulations, before the end of each calendar quarter and before paying any dividends for that quarter, the President and Chief Executive Officer of the Bank must certify to the Finance Agency that, based upon known current facts and financial information, the Bank will remain in compliance with its depository and liquidity requirements and will remain capable of making full and timely payment of all current obligations (which
includes the Bank’s obligation to pay principal of and interest on consolidated obligations) coming due during the next quarter. The Bank is required to provide notice to the Finance Agency if it (i) is unable to provide the required certification, (ii) projects at any time that it will fail to comply with its liquidity requirements or will be unable to meet all of its current obligations due during the quarter, (iii) actually fails to comply with its liquidity requirements or to meet all of its current obligations due during the quarter, or (iv) negotiates to enter into or enters into an agreement with one or more other FHLBanks to obtain financial assistance to meet its current obligations due during the quarter. The Bank has been in compliance with the applicable reporting requirements at all times since they became effective in 1999.
A FHLBank must file a consolidated obligation payment plan for the Finance Agency’s approval
if (i) the FHLBank becomes a non-complying FHLBank as a result of failing to provide the required certification, (ii) the FHLBank becomes a non-complying FHLBank as a result of being required to provide the notice described above to the Finance Agency, except in the case of a failure to make a payment on a consolidated obligation caused solely by an external event such as a power failure, or (iii) the Finance Agency determines that the FHLBank will cease to be in compliance with its liquidity requirements or will lack the capacity to meet all of its current obligations due during the quarter.
A non-complying FHLBank is permitted to continue to incur and pay normal operating expenses in the regular course of business, but may not incur or pay any extraordinary expenses, or declare or pay dividends, or redeem any capital stock, until
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such
time as the Finance Agency has approved the FHLBank’s consolidated obligation payment plan or inter-FHLBank assistance agreement, or ordered another remedy, and all of the non-complying FHLBank’s direct obligations have been paid.
Negative Pledge Requirements. Each FHLBank must maintain specified assets free from any lien or pledge in an amount at least equal to its participation in outstanding consolidated obligations. Eligible assets for this purpose include (i) cash; (ii) obligations of, or fully guaranteed by, the U.S. government; (iii) secured advances; (iv) mortgages having any guaranty, insurance, or commitment from the U.S. government or any related agency; and (v) investments described in Section 16(a) of the FHLB Act, which, among other items, include securities that a fiduciary or trust fund may purchase under the laws of the state in which the FHLBank is located. At December
31, 2020 and 2019, the Bank had eligible assets free from pledge of $64.1 billion and $74.4 billion, respectively, compared to its participation in outstanding consolidated obligations of $59.2 billion and $70.1 billion, respectively. In addition, the Bank was in compliance with its negative pledge requirements at all times during the years ended December 31, 2020, 2019 and 2018.
Office of Finance. The Office of Finance (“OF”) is a joint office of the 11 FHLBanks that executes the issuance of consolidated obligations, as agent, on behalf of the FHLBanks. The OF also services all outstanding consolidated obligation debt, serves as a source of information for the FHLBanks on capital market developments,
manages the FHLBank System’s relationship with rating agencies as it pertains to the consolidated obligations, and prepares and distributes the annual and quarterly combined financial reports for the FHLBanks.
The OF’s board of directors is comprised of 16 directors: the 11 FHLBank presidents, who serve ex officio, and 5 independent directors, who each serve five-year terms that are staggered so that not more than one independent directorship is scheduled to become vacant in any one year. Independent directors are limited to two consecutive full terms. Independent directors must be United States citizens. As a group, the independent directors must have substantial experience in financial and accounting matters and they must not have any material relationship with any FHLBank or the OF.
One of the responsibilities of the board of directors
of the OF is to establish policies regarding consolidated obligations to ensure that, among other things, such obligations are issued efficiently and at the lowest all-in funding costs for the FHLBanks over time consistent with prudent risk management practices and other market and regulatory factors.
The Finance Agency has regulatory oversight and enforcement authority over the OF and its directors and officers generally to the same extent as it has such authority over a FHLBank and its respective directors and officers. The FHLBanks are responsible for jointly funding the expenses of the OF, which are shared on a pro rata basis with two-thirds based on each FHLBank’s total consolidated obligations outstanding (as of each month end) and one-third divided equally among all of the FHLBanks.
Use of Interest Rate Exchange Agreements
Finance
Agency regulations authorize and establish general guidelines for the FHLBanks’ use of derivative instruments, and the Bank’s Enterprise Market Risk Management Policy establishes specific guidelines for their use. The Bank can use interest rate swaps, swaptions, cap and floor agreements, calls, puts, and futures and forward contracts as part of its interest rate risk management and funding strategies. Regulations prohibit derivative instruments that do not qualify as hedging instruments pursuant to U.S. generally accepted accounting principles unless a non-speculative use is documented.
In general, the Bank uses interest rate exchange agreements in three ways: (1) by designating the agreement as a fair value hedge of a specific financial instrument or firm commitment; (2) by designating the agreement as a cash flow hedge of a forecasted
transaction; or (3) by designating the agreement as a hedge of some defined risk in the course of its balance sheet management. For example, the Bank uses interest rate exchange agreements in its overall interest rate risk management activities to adjust the interest rate sensitivity of consolidated obligations to approximate more closely the interest rate sensitivity of its assets, including advances and investments, and/or to adjust the interest rate sensitivity of advances and investments to approximate more closely the interest rate sensitivity of its liabilities. In addition to using interest rate exchange agreements to manage mismatches between the coupon features of its assets and liabilities, the Bank uses interest rate exchange agreements to manage embedded options in assets and liabilities, to preserve the market value of existing assets and liabilities and to reduce funding costs.
The Bank frequently enters into
interest rate exchange agreements concurrently with the issuance of consolidated obligation bonds and it simultaneously designates the agreement as a fair value hedge. This strategy of issuing bonds while simultaneously entering into interest rate exchange agreements enables the Bank to offer a wider range of attractively priced advances to its members. The attractiveness of such debt generally depends on yield relationships between the consolidated obligation bond and interest rate exchange markets. As conditions in these markets change, the Bank may alter the types or terms of the consolidated obligations that it issues.
To a lesser extent, the Bank uses interest rate exchange agreements to hedge the variability of cash flows associated with the forecasted issuances of consolidated obligation discount notes.
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In
addition, as discussed in the section above entitled “Products and Services,” the Bank offers interest rate swaps, caps and floors to its member institutions. In these transactions, the Bank acts as an intermediary for its members by entering into an interest rate exchange agreement with a member and then entering into an offsetting interest rate exchange agreement with one of the Bank’s approved derivative counterparties.
For further discussion of interest rate exchange agreements, see Item 7. Management’s Discussion and Analysis of Financial Condition and Results of Operations — Financial Condition — Derivatives and Hedging Activities and the audited financial statements accompanying this report.
Competition
Demand for the Bank’s advances is affected by, among other things, the cost of other available sources of funds for its members,
including deposits. The Bank competes with other suppliers of wholesale funding, both secured and unsecured, including investment banking concerns, commercial banks and, in certain circumstances, other FHLBanks. Historically, sources of wholesale funds for its members have included unsecured long-term debt, unsecured short-term debt such as federal funds, repurchase agreements and deposits issued into the brokered certificate of deposit market. The availability of funds through these wholesale funding sources can vary from time to time as a result of a variety of factors including, among others, market conditions, members’ creditworthiness and availability of collateral. The availability of these alternative private funding sources could significantly influence the demand for the Bank’s advances. The Bank competes against other financing sources on the basis of cost, the relative ease by which the members can access the various sources of funds, collateral requirements,
and the flexibility desired by the member when structuring the liability.
As a debt issuer, the Bank competes with Fannie Mae, Freddie Mac and other GSEs, as well as corporate, sovereign and supranational entities for funds raised in the national and global debt markets. Increases in the supply of competing debt products could, in the absence of increases in demand, result in higher debt costs for the FHLBanks. Although investor demand for FHLBank debt has historically been sufficient to meet the Bank’s funding needs, there can be no assurance that this will always be the case.
Capital
The Bank’s capital consists of capital stock owned by its members (and, in some cases, non-member borrowers or former members as described below), plus retained earnings and accumulated other comprehensive income (loss). Consistent with the FHLB Act and the
Finance Agency's regulations, the Bank’s Capital Plan requires each member to own Class B stock (redeemable with five years’ written notice subject to certain restrictions) in an amount equal to the sum of a membership investment requirement and an activity-based investment requirement. Specifically, the Bank’s Capital Plan requires members to hold capital stock in proportion to their total asset size and borrowing activity with the Bank. Beginning April 19, 2021, members will also be required to hold capital stock for letters of credit that are issued or renewed on and after that date.
The Bank’s capital stock is not publicly traded and it may be issued, repurchased, redeemed and, with the prior approval of the Bank, transferred only at its par value. In addition, the Bank’s capital stock may only be held by members of the Bank, by non-member institutions that acquire stock
by virtue of acquiring member institutions, by a federal or state agency or insurer acting as a receiver of a closed institution, or by former members of the Bank that retain capital stock to support advances or other obligations that remain outstanding or until any applicable stock redemption or withdrawal notice period expires.
The Bank has two sub-classes of Class B Stock. Class B-1 Stock is used to meet the membership investment requirement and Class B-2 Stock is used to meet the activity-based investment requirement. Subject to the limitations in the Capital Plan, the Bank converts shares of one sub-class of Class B Stock to the other sub-class of Class B Stock under the following circumstances: (i) shares of Class B-2 Stock held by a shareholder in excess of its activity-based investment requirement are converted into Class B-1 Stock, if necessary, to meet that shareholder’s membership investment requirement and (ii)
shares of Class B-1 Stock held by a shareholder in excess of the amount required to meet its membership investment requirement are converted into Class B-2 Stock as needed in order to satisfy that shareholder’s activity-based investment requirement. All excess stock is held as Class B-1 Stock at all times.
For more information about the Bank’s minimum capital requirements, see Item 7. Management’s Discussion and Analysis of Financial Condition and Results of Operations — Risk-Based Capital Rules and Other Capital Requirements.
Retained Earnings. The Bank has a retained earnings policy that calls for the Bank to maintain retained earnings in an amount at least sufficient to protect the par value of the Bank's capital stock against potential economic losses that could arise from a variety of designated risk factors. The Bank updates its retained earnings target
calculations quarterly under an analytic framework that takes into account the potential losses for each risk factor generally at the 99 percent confidence stress level, or a stress scenario that approximates the 99th percentile. The Board of Directors reviews the Bank's retained earnings policy annually and revises the methodology as appropriate. The Bank’s current retained earnings policy target is described in Item 5. Market for Registrant's Common Equity, Related Stockholder Matters and Issuer Purchases of Equity Securities.
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On February 28, 2011, the Bank entered into a Joint Capital Enhancement Agreement (the “JCE Agreement”) with the other FHLBanks. Effective August
5, 2011, the FHLBanks amended the JCE Agreement (the "Amended JCE Agreement"), and the Finance Agency approved an amendment to the Bank's Capital Plan to incorporate its provisions on that same date. The Amended JCE Agreement provides that the Bank (and each of the other FHLBanks) will, on a quarterly basis, allocate at least 20 percent of its net income to a separate restricted retained earnings account (“RRE Account”). Pursuant to the provisions of the Amended JCE Agreement, the Bank is required to build its RRE Account to an amount equal to one percent of its total outstanding consolidated obligations, which for this purpose is based on the most recent quarter’s average carrying value of all consolidated obligations, excluding hedging adjustments (“Total Consolidated Obligations”).
The Amended JCE Agreement provides that any quarterly net losses incurred by the Bank may be netted against its net
income, if any, for other quarters during the same calendar year to determine the minimum required year-to-date or annual allocation to its RRE Account. In the event the Bank incurs a net loss for a cumulative year-to-date or annual period, the Bank may decrease the amount of its RRE Account such that the cumulative year-to-date or annual addition to its RRE Account is zero and the Bank shall apply any remaining portion of the net loss first to reduce retained earnings that are not restricted retained earnings until such retained earnings are reduced to zero, and thereafter may apply any remaining portion of the net loss to reduce its RRE Account. For any subsequent calendar quarter in the same calendar year, the Bank may decrease the amount of its quarterly allocation to its RRE Account in that subsequent calendar quarter such that the cumulative year-to-date addition to the RRE Account is equal to 20 percent of the amount of such cumulative year-to-date net income.
In the event the Bank sustains a net loss for a calendar year, any such net loss first shall be applied to reduce retained earnings that are not restricted retained earnings until such retained earnings are reduced to zero, and thereafter any remaining portion of the net loss for the calendar year may be applied to reduce the Bank’s RRE Account. If during a period in which the Bank’s RRE Account is less than one percent of its Total Consolidated Obligations, the Bank incurs a net loss for a cumulative year-to-date or annual period that results in a decrease to the balance of its RRE Account as of the beginning of that calendar year, the Bank’s quarterly allocation requirement shall thereafter increase to 50 percent of quarterly net income until the cumulative difference between the allocations made at the 50 percent rate and the allocations that would have been made at the regular 20 percent rate is equal to the amount of the decrease to the balance of its RRE Account
at the beginning of that calendar year.
The Amended JCE Agreement provides that if the Bank’s RRE Account exceeds 1.5 percent of its Total Consolidated Obligations, the Bank may transfer amounts from its RRE Account to its unrestricted retained earnings account, but only to the extent that the balance of its RRE Account remains at least equal to 1.5 percent of the Bank’s Total Consolidated Obligations immediately following such transfer.
The Amended JCE Agreement further provides that the Bank may not pay dividends out of its RRE Account, nor may it reallocate or transfer amounts out of its RRE Account except as described above. In addition, during periods in which the Bank’s RRE Account is less than one percent of its Total Consolidated Obligations, the Bank may not pay dividends out of the amount of its quarterly net income that is required to be allocated to its RRE Account.
Dividends. Subject to the FHLB Act, Finance Agency regulations and other Finance Agency directives, the Bank pays dividends to holders of its capital stock quarterly or as otherwise determined by its Board of Directors. The Board of Directors may declare dividends at the same rate for all shares of Class B Stock, or at different rates for Class B-1 Stock and Class B-2 Stock, provided that in no event can the dividend rate on Class B-2 Stock be lower than the dividend rate on Class B-1 Stock. Dividends may be paid in the form of cash, additional shares of either, or both, sub-classes of Class B Stock, or a combination thereof as determined by the Bank’s Board of Directors. The dividend rates on Class B-1 Stock and Class B-2 Stock are paid on all shares of Class B-1 Stock and Class B-2 Stock, respectively, regardless of their classification for accounting purposes. The Bank is permitted by statute and
regulation to pay dividends only from previously retained earnings or current net earnings, and the payment of dividends is also subject to the terms of the Amended JCE Agreement.
Because the Bank’s returns from net interest income generally track short-term interest rates, the Bank benchmarks the dividend rate that it pays on capital stock to a short-term index (currently, the index that is used for this purpose is one-month LIBOR). While there can be no assurances about future dividends or future dividend rates, the current target for quarterly dividends on Class B-1 Stock is an annualized rate that approximates the average one-month LIBOR rate for the immediately preceding quarter. The current target range for quarterly dividends on Class B-2 Stock is an annualized rate that approximates the average one-month LIBOR rate for the immediately preceding quarter plus 0.5 – 1.0 percent.
The
Bank generally pays dividends in the form of capital stock. When dividends are paid, capital stock is issued in full shares and any fractional shares are paid in cash. For a more detailed discussion of the Bank’s dividend policy and the restrictions relating to its payment of dividends, see Item 5. Market for Registrant’s Common Equity, Related Stockholder Matters and Issuer Purchases of Equity Securities.
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Legislative and Regulatory Developments
Coronavirus Aid, Relief, and Economic Security (“CARES”) Act
The CARES Act was signed into law on March 27, 2020. The $2.2 trillion package is
the largest stimulus bill in U.S. history and was undertaken in response to the COVID-19 crisis impacting the country. The CARES Act followed previous relief legislation that was enacted earlier in the same month. The CARES Act:
•Provided assistance to businesses, states, and municipalities.
•Created a loan program for small businesses, non-profits and physician practices that can be forgiven through employee retention incentives (known as the Paycheck Protection Program or “PPP”).
•Authorized the U.S. Treasury Secretary to make loans or loan guarantees to states, municipalities, and eligible businesses and loosens some regulations imposed by the Dodd-Frank Wall Street Reform and Consumer Protection Act (the "Dodd-Frank
Act").
•Provided direct payments to eligible taxpayers and their families.
•Expanded eligibility for unemployment insurance and increased benefit amounts.
•Included mortgage forbearance provisions and a foreclosure moratorium.
Funding for the PPP was increased with the enactment of subsequent laws, most recently by the Consolidated Appropriations Act, 2021 on December 27, 2020. While some provisions of the CARES Act have expired, others have been extended by regulatory or legislative action. The Bank is continuing to monitor the potential impact of this legislation on its business and its mortgage loans held for portfolio as well as the mortgages held by the Bank’s members
and that the Bank accepts as collateral.
Finance Agency Supervisory Letter Regarding PPP Loans as Collateral for Advances
On April 23, 2020, the Finance Agency issued a Supervisory Letter (the “PPP Supervisory Letter”) permitting the FHLBanks to accept loans made through the PPP as collateral for advances given the Small Business Administration’s 100 percent guarantee of the unpaid principal balance of the loans. On April 20, 2020, the Small Business Administration published its third interim final rule related to PPP loans which, among other things, explicitly waived certain regulatory requirements that must be satisfied before a member could pledge PPP loans to the FHLBanks as collateral. The PPP Supervisory Letter establishes a series of conditions under which the FHLBanks
may accept PPP loans as collateral. These conditions focus on the financial condition of members, collateral discounts that must be applied to PPP loans, caps on the percentage of a member’s lendable pledged collateral that PPP loans can constitute, and pledge dollar limits.
On April 27, 2020, the Bank began accepting PPP loans as eligible collateral. The Bank does not expect its acceptance of PPP loans as collateral to materially affect its financial condition or results of operations.
American Rescue Plan ("ARP") Act
The ARP Act was signed into law on March 11, 2021. The $1.9 trillion package is intended to provide additional COVID-19 relief. Among other things, the ARP Act:
•Provides
direct payments to eligible taxpayers and their families.
•Extends enhanced federal unemployment benefit amounts.
•Provides funds for small businesses, COVID-19 vaccination and testing, K-12 schools and colleges and universities, and state and local governments.
The Bank is evaluating the potential impact of the ARP Act on its business, including its impact to the U.S. economy, which is currently difficult to predict.
Additional COVID-19 Developments
In response to the COVID-19 pandemic, President Biden and, before him, President Trump (through executive orders), governmental agencies (including the SEC, Office of the Comptroller of the Currency ("OCC"), Federal Reserve Board ("FRB"), FDIC,
National Credit Union Administration, Commodity Futures Trading Commission ("CFTC") and the Finance Agency), as well as state governments and agencies, have taken, and may continue to take, actions to provide various forms of relief from, and guidance regarding, the financial, operational, credit, market and other effects arising from the pandemic, some of which may have a direct or indirect impact on the Bank and/or its members. Many of these actions are temporary in nature. The Bank continues to monitor these actions and guidance as they evolve and to evaluate their potential impact on the Bank.
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Final Rule on FHLBank Capital Requirements
On February 20, 2019, the Finance
Agency published a final rule that adopted, with amendments, the regulations of the Federal Housing Finance Board pertaining to the capital requirements for the FHLBanks. The rule, which became effective on January 1, 2020, carries over most of the then-existing regulations without material change but substantively revises the credit risk component of the risk-based capital requirement, as well as the limitations on certain extensions of unsecured credit.
The revisions removed the requirements that the FHLBanks calculate credit risk capital charges and unsecured credit limits based on ratings issued by an NRSRO, and instead require that the FHLBanks establish and use their own internal rating methodology. The rule imposes a new credit risk capital charge for cleared derivatives. The rule also revises the percentages used in the regulation’s tables to calculate credit risk capital
charges for advances and non-mortgage assets. These changes did not materially impact the Bank's risk-based capital requirement.
The rule also reduces the amount of unsecured credit that the Bank can extend to GSEs that are not operating with capital support or some other form of direct financial assistance from the U.S. government ("Non-supported GSEs"), which could adversely impact the Bank's future operating results by limiting the amount of its long-term investments. At the time the rule became effective, the Bank was not required to sell Non-supported GSE investments that exceeded the new exposure limit, but it is now precluded from purchasing additional Non-supported GSE investments until such time that its unsecured exposure falls below that limit.
Finally, the rule rescinds certain contingency liquidity requirements set forth in existing regulations, as the Finance
Agency's liquidity requirements are now addressed in an Advisory Bulletin that was issued in August 2018 (for additional discussion regarding the liquidity requirements stipulated in the Advisory Bulletin, see the section entitled Liquidity and Capital Resources on page 68 of this report).
Advisory Bulletin Regarding Capital Stock Management
On August 14, 2019, the Finance Agency issued an Advisory Bulletin that augments existing statutory and regulatory capital requirements to require each FHLBank to maintain a capital stock-to-assets ratio of at least two percent, as measured on a daily average basis at each month end.
This Advisory Bulletin, which became effective in February 2020, has not had nor is it expected to have an impact on the Bank's capital management practices, financial
condition or results of operations.
Finance Agency Supervisory Letter Regarding LIBOR Phase-Out
On September 27, 2019, the Finance Agency issued a supervisory letter to the FHLBanks relating to their preparations for the phase-out of LIBOR. Under the supervisory letter, with limited exceptions, the FHLBanks were directed, by December 31, 2019, to no longer purchase LIBOR-indexed investments which mature after December 31, 2021 and, by March 31, 2020, to no longer issue, make, purchase or otherwise enter into financial liabilities, derivatives or other assets that reference LIBOR and which mature after December 31, 2021. The foregoing
includes, among other financial instruments, LIBOR-indexed advances and other structured advance products for which a LIBOR-indexed derivative is used to hedge the advance. While these phase-out dates do not apply to collateral accepted by the FHLBanks, the supervisory letter directed the FHLBanks to update their pledged collateral certification reporting requirements by March 31, 2020 in an effort to encourage members to distinguish LIBOR-linked collateral maturing after December 31, 2021.
In light of the market volatility caused by the COVID-19 outbreak, the Finance Agency (on March 16, 2020) extended the date after which the FHLBanks could no longer issue, make, purchase or otherwise enter into financial liabilities, derivatives or other assets that reference LIBOR and which
mature after December 31, 2021 from March 31, 2020 to June 30, 2020, except for option-embedded products. This directive did not in any way modify the previous guidance relating to investments. On March 20, 2020, the Finance Agency extended the date by which the FHLBanks should update their pledged collateral certification reporting requirements from March 31, 2020 to September 30, 2020.
Since January 1, 2020, the Bank has not purchased any LIBOR-indexed investments which mature after December 31, 2021, nor has it purchased any fixed
rate investments that were hedged with LIBOR-indexed derivatives maturing after December 31, 2021. On and after April 1, 2020 or July 1, 2020 (as the case may be), the Bank has not issued, made, purchased or otherwise entered into financial liabilities, derivatives or other assets that reference LIBOR and which mature after December 31, 2021.
To date, these restrictions have not had a significant impact on the Bank's financial condition or results of operations. In the future, the Bank's inability to use LIBOR-indexed swaps and swaptions could make it more difficult to hedge the interest rate risk associated with the Bank's mortgage loans held for portfolio. Further, while not likely, it is possible that the guidance provided by
the supervisory letter could have an effect on the Bank's advance product offerings.
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For recent developments regarding the cessation of LIBOR, see Risk Factors beginning on page 24 of this report. For additional discussion and the maturities of the Bank's LIBOR-indexed financial instruments, see Item 7. Management's Discussion and Analysis of Financial Condition and Results of Operations - Financial Condition - LIBOR Phase-Out on page 60 of this report.
Activity-Based Capital Stock Requirement for Letters of Credit
On December 23, 2019, the Finance Agency directed the Bank to amend its Capital Plan for the purpose of including an activity-based
capital stock investment requirement for letters of credit. Prior to receipt of this directive, the Bank’s Capital Plan did not provide for an activity-based investment requirement related to its letters of credit. Other FHLBanks that similarly did not have an activity-based investment requirement associated with letters of credit received the same directive. The directive instructed the Bank to submit an amendment to its Capital Plan, which amendment first required approval by the Bank’s Board of Directors. The directive stipulated that the Bank’s activity-based capital stock investment requirement shall be no less than 10 basis points for letters of credit issued on and after January 1, 2021. If needed to accommodate information technology changes, the implementation date could be extended, but in no event could it be extended beyond June 30, 2021.
The
Board of Directors adopted the required amendment to the Bank's Capital Plan on August 3, 2020 and the Finance Agency approved the Capital Plan inclusive of this change on November 4, 2020. On March 17, 2021, the Bank gave notice to its members that the amended Capital Plan will be implemented on April 19, 2021.
As authorized by the Board of Directors, the Bank will implement an activity-based capital stock investment requirement in an amount equal to 0.10 percent of the notional amount of letters of credit that are issued or renewed on and after April 19, 2021. The implementation of this activity-based capital stock investment requirement could reduce demand for the Bank’s letters
of credit which, in turn, could reduce the Bank’s future profitability.
Advisory Bulletin Regarding AMA Risk Management
On January 31, 2020, the Finance Agency issued an Advisory Bulletin that provides guidance to the FHLBanks regarding their risk management of AMA (the “AMA AB”). The AMA AB requires each FHLBank to have board-established limits for its AMA portfolio and, in support of those limits, management thresholds that are set at levels sufficiently below the board-established limits so that management would have adequate time to address any relevant developments that might otherwise result in a breach of a board-established limit.
To manage the risks associated with a FHLBank’s AMA holdings, the Finance Agency expected each FHLBank to have, at a minimum, the following in
place by December 31, 2020: (1) portfolio limits; (2) loan concentration limits; (3) third-party loan origination limits; and (4) pricing limits. For portfolio limits, the Finance Agency expects each FHLBank to have limits with respect to (i) maximum holdings of AMA, (ii) growth in AMA over defined periods of time (e.g., during a calendar year), and (iii) annual purchases from any single PFI. Among other things, PFI limits should provide reasonable assurance that a FHLBank’s smaller members (which, as compared to larger members, may not have the same capacity or access to sell loans in the secondary mortgage market) will be able to continue to sell AMA to the FHLBank during any given year, regardless of the amount of AMA purchased from that FHLBank’s larger members. Loan concentration limits should include, at a minimum, geographic area concentration and high-balance loan concentration.
It
is possible that the limits established by the Bank in response to the AMA AB could over time have an effect on its ability to purchase mortgage loans from individual PFIs and in aggregate. If its mortgage loan acquisitions are ultimately limited by the AMA AB, the Bank’s financial condition and results of operations could be adversely impacted.
FHLBank Membership Request for Input
On February 24, 2020, the Finance Agency issued a Request for Input on FHLBank membership (the "Membership RFI"). The Membership RFI, as part of a holistic review of FHLBank membership, seeks public input on whether the Finance Agency's existing regulation on FHLBank membership remains adequate to ensure: (i) the FHLBank System remains safe and sound and able to provide liquidity to members in a variety of conditions and (ii) the advancement of the
FHLBanks' housing finance and community development mission. The Finance Agency sought input on several broad questions relating to FHLBank membership requirements, as well as on certain more specific questions related to the implementation of the current membership regulation. Responses were due by no later than June 23, 2020.
Rulemaking actions, if any, that are taken by the Finance Agency as a result of the Membership RFI could impact membership eligibility and/or requirements, and ultimately the Bank's business and its business prospects.
Amendments to Stress Test Rule
On March 24, 2020, the Finance Agency published a final rule that amends its stress testing rule, consistent with section 401 of the Economic Growth,
Regulatory Relief, and Consumer Protection Act of 2018 (the "EGRRCP Act"), to: (i) raise the minimum threshold for conducting periodic stress tests for entities regulated by the Finance Agency from those with
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consolidated assets greater than $10 billion to those with consolidated assets greater than $250 billion and (ii) remove the adverse scenario from the list of required scenarios. Under the final rule, none of the FHLBanks will be required to conduct periodic stress tests. However, the Finance Agency retains under its general supervisory powers the discretion to require stress testing by the FHLBanks if the Finance Agency determines that such testing would be useful. The amendments align the Finance Agency’s stress testing rule with rules adopted by other financial
institution regulators that implement the Dodd-Frank Act stress testing requirements, as amended by the EGRRCP Act.
Finance Agency Final Rule on FHLBank Housing Goals Amendments
On June 3, 2020, the Finance Agency issued a final rule which amends the FHLBank housing goals regulation. Enforcement of the final rule, which became effective on August 24, 2020, will phase in over three years. The final rule replaces the four existing retrospective housing goals with a single prospective mortgage purchase housing goal target in which 20 percent of any mortgage loans that are purchased in a calendar year must be comprised of loans to low-income or very low-income families, or to families in low-income areas. The final rule also establishes a separate small member
participation housing goal. Under this provision of the final rule, a target level of 50 percent of a FHLBank’s members that are selling mortgage loans to the FHLBank in a calendar year must be small members. The final rule provides that a FHLBank may request Finance Agency approval of alternative target levels for either or both of the goals. The final rule also establishes that housing goals apply to each FHLBank that acquires any mortgage loans during a calendar year, eliminating the existing $2.5 billion volume threshold that previously triggered the application of housing goals for each FHLBank.
The Bank is still evaluating the impact that this rule could have on its future purchase volumes.
Margin and Capital Requirements for Covered Swap Entities
On July 1, 2020, the OCC, FRB,
FDIC, Farm Credit Administration, and the Finance Agency (collectively, the “Prudential Banking Regulators”) jointly published a final rule, which became effective on August 31, 2020, that amends regulations establishing minimum margin and capital requirements for non-cleared derivatives for covered swap entities under the jurisdiction of the Prudential Banking Regulators (the “Prudential Margin Rules”). In addition to other changes, the final rule: (1) allows non-cleared derivatives entered into by a covered swap entity prior to an applicable compliance date to retain their legacy status and not become subject to the Prudential Margin Rules in the event that such legacy derivatives are amended to replace an interbank offered rate (such as LIBOR) or another discontinued rate, or are otherwise modified due to other technical amendments such as reductions of notional amounts or portfolio compression exercises;
(2) introduces a new Phase 6 compliance date for initial margin requirements for covered swap entities and their counterparties with an average daily aggregate notional amount ("ADANA") of non-cleared derivatives between $8 billion and $50 billion, and limits Phase 5 compliance to covered swap entities and their counterparties with an ADANA of non-cleared derivatives between $50 billion and $750 billion; and (3) clarifies that initial margin trading documentation does not need to be executed prior to a counterparty reaching the initial margin threshold.
On the same date, the Prudential Banking Regulators issued an interim final rule, effective September 1, 2020, extending the initial margin compliance date for Phase 5 counterparties to September 1, 2021 and extending the initial margin compliance date for Phase 6 counterparties
to September 1, 2022. On November 9, 2020, the CFTC published a final rule to amend the minimum margin and capital requirements for non-cleared derivatives under the jurisdiction of the CFTC. The CFTC’s final rule extends the initial margin compliance dates for Phase 5 and Phase 6 counterparties to September 1, 2021 and September 1, 2022, thereby aligning its rules with those of the Prudential Banking Regulators.
Further, on January 5, 2021, the CFTC published a final rule, effective February 4, 2021, that primarily amends the minimum margin and capital requirements for non-cleared derivatives under the jurisdiction
of the CFTC (the “CFTC Margin Rules”) by requiring covered entities to use a revised ADANA calculation beginning September 1, 2022. Among other things, the amendments require entities subject to the CFTC’s jurisdiction to calculate the ADANA for non-cleared derivatives during March, April and May of the current year, based on an average of month-end dates, as opposed to the previous rule which required the calculation of ADANA during June, July and August of the prior year, based on daily calculations. Parties will continue to be expected to exchange initial margin based on the ADANA totals as of September 1 of the current year. These amendments align with the recommendations of the Basel Committee on Banking Supervision and the Board of the International Organization of Securities Commissions. Separately, on January
25, 2021, the CFTC published a final rule, effective February 24, 2021, that amends the CFTC Margin Rules to permit covered swap entities to, among other things, maintain separate minimum transfer amounts (“MTA”) for initial margin and variation margin for each derivative counterparty, provided the combined MTA does not exceed $500,000.
While the Bank is not a covered swap entity under the Prudential Margin Rules, it transacts its non-cleared derivatives with covered swap entities and it is likely that it will have an aggregate notional amount of non-cleared derivatives between $8 billion and $50 billion when the initial margin requirements become effective on September 1, 2022 (at December 31, 2020, the aggregate notional balance of the Bank's non-cleared derivatives
was $10.8 billion). If the Bank's aggregate notional balance of its non-cleared derivatives is between $8 billion and $50 billion on September 1, 2022, its obligation to post initial margin
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would occur when its unmargined exposure (excluding legacy derivatives) exceeds $50 million on a counterparty-by-counterparty basis. If the Bank is ultimately required to post initial margin, it anticipates that its costs of engaging in non-cleared derivatives may increase.
Amendment to the Preferred Stock Purchase Agreement (“PSPA”) Between the U.S. Treasury and Fannie Mae
On January 14, 2021,
the U.S. Treasury and Fannie Mae entered into a letter agreement that amends the terms of their PSPA, which could impact PFIs that participate in the MPF Xtra program. Under the PSPA, the U.S. Treasury provides liquidity to Fannie Mae in exchange for senior preferred stock. Under the amendment, which becomes effective on January 1, 2022, the Finance Agency (acting as conservator for Fannie Mae) and the U.S. Treasury agreed to limit the dollar volume of loans that Fannie Mae could purchase from a single seller through Fannie Mae’s cash window to $1.5 billion per year. MPF Xtra loans sold by the FHLBank of Chicago to Fannie Mae utilize this cash window process. Based on MPF Xtra volumes across the FHLBank System in 2020, the PSPA amendment would significantly curtail MPF Xtra cash window sales. While the amendment will negatively impact PFI’s ability to sell loans through the program unless a solution is developed, reduced
volumes (and the resulting reduction in fees) would not be expected to have a significant impact on the Bank’s financial condition or results of operations.
FDIC Brokered Deposit Restrictions
On January 22, 2021, the FDIC published a final rule, which becomes effective on April 1, 2021, that amends its brokered deposit regulations that apply to less than well-capitalized insured depository institutions. The FDIC stated that the amendments are intended to modernize and clarify its brokered deposit regulations and establish a new framework for analyzing the deposit broker definition, which determines whether deposits placed through deposit placement arrangements qualify as brokered deposits. These deposit placement arrangements include those between insured depository institutions and
third parties, such as financial technology companies, for a variety of business purposes, including access to deposits. Among other things, the amendments to the brokered deposit regulations clarify what it means to be engaged in the business of facilitating the placement of deposits and expand the scope of the primary purpose exception. The amendments are expected to have the effect of narrowing the definition of deposit broker and excluding more deposits from treatment as brokered deposits. The amendments also establish an application and reporting process with respect to the primary purpose exception for businesses that do not meet one of several bright-line tests, and they affirm the FDIC’s position that the brokering of certificates of deposit constitutes deposit brokering.
This rule could adversely affect demand for the Bank’s advances, but the extent to which advances demand could be impacted is uncertain.
Regulatory
Oversight
As discussed above, the Finance Agency supervises and regulates the FHLBanks and the OF. The Finance Agency has a statutory responsibility and corresponding authority to ensure that the FHLBanks operate in a safe and sound manner. Consistent with that duty, the Finance Agency has an additional responsibility to ensure the FHLBanks carry out their housing and community development finance mission. In order to carry out those responsibilities, the Finance Agency establishes regulations governing the entire range of operations of the FHLBanks, conducts ongoing off-site monitoring and supervisory reviews, performs annual on-site examinations and periodic interim on-site reviews, and requires the FHLBanks to submit monthly and quarterly information regarding their financial condition, results of operations and risk metrics.
The Comptroller General of the United States (the “Comptroller
General”) has authority under the FHLB Act to audit or examine the Finance Agency and the Bank and to decide the extent to which they fairly and effectively fulfill the purposes of the FHLB Act. Furthermore, the Government Corporation Control Act provides that the Comptroller General may review any audit of a FHLBank’s financial statements conducted by an independent registered public accounting firm. If the Comptroller General conducts such a review, then he or she must report the results and provide his or her recommendations to Congress, the Office of Management and Budget, and the FHLBank in question. The Comptroller General may also conduct his or her own audit of the financial statements of any FHLBank.
As an SEC registrant, the Bank is subject to the periodic reporting and disclosure regime as administered and interpreted by the SEC. The Bank must also submit annual management reports to Congress, the President of
the United States, the Office of Management and Budget, and the Comptroller General; these reports are required to include a statement of financial condition, a statement of operations, a statement of cash flows, a statement of internal accounting and administrative control systems, and the report of the independent registered public accounting firm on the financial statements. In addition, the Treasury receives the Finance Agency’s annual report to Congress and other reports reflecting the operations of the FHLBanks.
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Human Capital Resources
The Bank’s human capital is a significant contributor to the success of its strategic business objectives. In managing its human capital, the Bank
focuses on its workforce profile and the various programs and philosophies described below.
Workforce Profile. The Bank’s workforce is comprised almost entirely of corporate employees, all but one of whom is located in one office in Irving, Texas. As of December 31, 2020, the Bank had 201 full-time employees and 2 part-time employees, of which 57 percent were male and 43 percent were female. At that date, 54 percent of the Bank’s workforce was minority and 46 percent was non-minority. The Bank is leanly staffed and its workforce has historically included a number of longer-tenured employees. The Bank strives to develop talent from within the organization and to supplement those efforts with external hires. The Bank believes that developing talent internally contributes to institutional strength and continuity and promotes loyalty and commitment among
its employees, which furthers the Bank’s success. At the same time, adding new employees contributes to new ideas, continuous improvement, and the Bank’s goal of having a diverse and inclusive workforce. As of December 31, 2020, the average tenure of the Bank’s employees was 9 years. None of the Bank’s employees are subject to a collective bargaining agreement.
Total Rewards. The Bank seeks to attract, develop and retain talented employees to achieve its strategic business initiatives, enhance business performance and increase shareholder value. The Bank effects these objectives through a combination of benefits and employee wellness and development programs and by recognizing and rewarding performance. Specifically, the Bank’s programs include:
•Cash compensation that includes competitive
salary and performance-based incentives
•Benefits – health insurance (including medical, dental, vision and prescription drug benefits), Teladoc Health services, health and dependent care flexible spending accounts, healthcare savings accounts with employer contribution, life and accidental death and dismemberment insurance, supplemental life insurance, short- and long-term disability, 401(k) retirement savings plan with employer match and, for a group of eligible employees, defined benefit pension benefits
•Wellness program – employee assistance program, exercise classes, onsite gym, smoothie and coffee bars
•Time away from work – time off for vacation, illness, personal, holiday and volunteer opportunities
•Culture
– various employee resource/affinity groups, multiple cultural and inclusion initiatives, employee lounge with small meeting rooms, and outdoor meeting space with recreation activities
•Work/life balance – time off with full pay for bereavement, jury duty and court appearances; tuition reimbursement assistance for employees and their dependents and dependent tutoring through the Princeton Review
•Development programs and training – focused on leadership development, employee engagement, employee knowledge sharing, English as a Second Language, competency-based training and personal development programs, as well as a mentoring program, summer internship program, and fee reimbursement for external training programs.
The Bank’s Performance Management
Program includes the use of Objectives and Key Results (“OKRs”) as well as annual performance reviews and quarterly discussions between managers and employees. The focus of the Performance Management Program is to encourage open dialogue between managers and employees to ensure that employees have the tools and training needed to do their best work.
The Bank is committed to the health, safety and wellness of its employees. In response to the COVID-19 pandemic, the Bank implemented significant operating environment changes, including safety protocols and procedures that it determined were in the best interests of the Bank’s employees. To that end, nearly all of the Bank’s employees have been working remotely since March 2020. For the few employees that have continued to work onsite, additional safety measures were put in place. Over the past 12 months, the Bank has conducted several employee surveys and numerous outreach
activities to better understand employee needs and concerns. While working remotely, the Bank has held weekly townhall meetings to share information and provide educational opportunities for employees, among other things.
Diversity and Inclusion Program. Diversity and inclusion is a strategic business priority for the Bank. The Bank’s diversity and inclusion officer is a member of the executive management team who reports to the President and Chief Executive Officer and serves as a liaison to the Board of Directors. The Bank recognizes that diversity increases the capacity for innovation and creativity and that inclusion allows the Bank to: (i) leverage the unique perspectives of all employees and (ii) strengthen the Bank’s retention efforts. The Bank operationalizes its commitment to diversity and inclusion through the development and execution of a 3-year diversity and inclusion strategic plan that
includes quantifiable metrics that are used to measure its performance. These performance metrics are regularly reported to executive management and the Board of Directors. The Bank offers various opportunities for its employees to connect and grow personally and professionally through its employee resource/affinity groups and it annually holds one or more diversity and inclusion events which, through various means, focus attention on diversity and inclusion topics. The Bank considers learning to be an important component of its diversity and inclusion
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strategy and, as such, it regularly offers related educational opportunities to its employees. The Bank evaluates inclusive behaviors as part of its annual employee performance reviews and it also includes diversity and
inclusion as a key component of its annual incentive program to ensure organizational focus and accountability.
AHP Assessments
Although the Bank is exempt from all federal, state, and local income taxes, the FHLB Act requires each FHLBank to establish and fund an AHP. Annually, the FHLBanks must collectively set aside for the AHP the greater of $100 million or 10 percent of their current year’s income before AHP expenses. Interest expense on capital stock that is classified as a liability (i.e., mandatorily redeemable capital stock) is added back to income for purposes of computing the Bank’s AHP assessment.
Business Strategy and Outlook
The Bank maintains a Strategic Business Plan that provides the framework for its future business direction. The goals and strategies for the Bank’s major
business activities are encompassed in this plan, which is updated and approved by the Board of Directors at least annually and at any other time that revisions are deemed necessary.
As described in its Strategic Business Plan, the Bank operates under a cooperative business model that is intended to maximize the overall value of membership in the Bank. This business model envisions that the Bank will limit and carefully manage its risk profile while generating sufficient profitability to maintain an appropriate level of retained earnings, to pay dividends on members' capital stock at rates at least sufficient to make members financially indifferent to holding the Bank's capital stock, and to absorb periodic earnings volatility related to hedging and derivatives or other external shocks. Consistent with this business model, the Bank places the highest priority on being able to meet its members’ liquidity and funding needs in
all market environments.
The Bank intends to continue to operate under its cooperative business model for the foreseeable future. All other things being equal, the Bank’s earnings are typically expected to rise and fall with the general level of market interest rates, particularly short-term money market rates, and the Bank's total capital and asset size. Other factors that could have an effect on the Bank’s future earnings include the level, volatility of and relationships between short-term money market rates such as federal funds, SOFR and one-month and three-month LIBOR; the availability and cost of the Bank’s short- and long-term debt relative to benchmark rates such as federal funds, SOFR, one- and three-month LIBOR, and long-term fixed mortgage rates; the availability of interest rate exchange agreements at competitive prices; whether the Bank’s larger borrowers continue to be members of the Bank and the level at which
they maintain their borrowing activity; the extent to which the Bank's members continue to sell mortgage loans to the Bank; and the impact of uncertain economic conditions and excess liquidity in the financial markets on the longer-term demand for the Bank’s credit products.
Demand for advances increased markedly in March and the first half of April 2020 in response to the COVID-19 outbreak. During the latter part of April, the Bank's advances began to decline and continued to do so throughout the remainder of 2020 and the beginning of 2021. During this time, the level of liquidity in the financial markets was significantly elevated due in large part to various initiatives that were undertaken by the Federal Reserve in response to the pandemic, which in turn dampened demand for the Bank's advances. Meanwhile, the Bank’s mortgage loan purchases declined significantly and are not expected to increase meaningfully until the Federal
Reserve's current stimulus efforts are curtailed. It is possible that the Bank's advances could continue to fall if the level of liquidity in the financial markets remains elevated. Additional U.S. government stimulus in response to the ongoing COVID-19 pandemic, such as the recently enacted American Rescue Plan Act, could further increase the already elevated level of liquidity which could, in turn, diminish even further the current subdued demand for the Bank's advances. In addition, the future level of advances and the volume of the Bank's mortgage loan purchases could be adversely impacted depending upon the duration and severity of the current economic downturn resulting from the COVID-19 pandemic.
Notwithstanding the uncertain economic outlook, sustained long-term growth in both advances and mortgage loans held for portfolio continue to be strategic priorities for the Bank as these assets contribute to the value the
Bank provides its members, as well as the Bank's earnings, core mission assets and, correspondingly, its CMA ratio.
While the Bank's primary focus will continue to be ensuring its ability to meet the liquidity and funding needs of its members, in order to become a more valuable resource to its members, the Bank will also continue to consider ways in which it can enhance its product and/or service offerings. The FHLB Act and Finance Agency regulations limit the products and services that the Bank can offer to its members and govern many of the terms of the products and services that the Bank offers. The Bank is also required by regulation to file New Business Activity notices with the Finance Agency for any new products or services that would constitute new business activities under the regulation and, therefore, it will have to assess any potential new products or services offerings in light of these statutory and regulatory
restrictions.
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ITEM 1A. RISK FACTORS
General Economic Conditions
The COVID-19 pandemic and related developments have created substantial economic and financial disruptions and uncertainties, as well as operational challenges, which could increase our risk and adversely affect our business, financial condition, and results of operations.
The novel coronavirus known as COVID-19 was declared a global pandemic in March 2020. COVID-19, and the government and public actions taken in response
to the pandemic, have caused significant economic and financial turmoil both in the U.S. and around the world, and have created substantial uncertainty about the future economic environment.In addition, the COVID-19 pandemic and related developments resulted in substantial disruptions in the financial markets, including dramatic increases in market volatility.
The ultimate impact of the pandemic, including the depth of the economic downturn and the timing and shape of the economic recovery, is highly uncertain. A prolonged economic downturn, or periods of significant economic and financial disruptions and uncertainties resulting from the COVID-19 pandemic could adversely affect the livelihood of MPF borrowers or members’ customers. Significant borrower defaults on loans made by our members could occur and these defaults could cause members to fail. If one or more member institutions
fail, and if the value of the collateral pledged to secure advances and/or other extensions of credit from us has declined below the amount borrowed, we could incur a credit loss that would adversely affect our financial condition and results of operations. A decline in the local economies in which our members operate could reduce members’ needs for funding, which could reduce demand for our advances. We could be adversely impacted by the reduction in business volume that would arise either from the failure of one or more of our members or from a decline in member funding needs. Our financial condition and results of operations could also be adversely impacted if one or more of the major financial institutions with whom we conduct business were to fail as a result of the ongoing dislocation in the financial markets.
In addition, we have implemented temporary relief provisions for certain MPF borrowers that are experiencing
an economic hardship as a result of the COVID-19 pandemic, including temporary moratoriums on foreclosures and evictions as well as temporary alternative underwriting procedures for new MPF loans, which may result in increased credit risk. The protections we have in place for our MPF loans may not be sufficient to prevent us from incurring losses on loans to borrowers who are no longer able to make payments due to a decline in or loss of income as a result of the economic fallout from the pandemic.
In response to the pandemic, the Federal Reserve took a number of emergency actions to help facilitate liquidity and support stability in the fixed-income markets, resulting in substantial deposit growth for some of our members and reduced demand for our advances. It is possible that our advances could continue to fall if the level of liquidity in the financial markets remains elevated.
Additional U.S. government stimulus in response to the ongoing COVID-19 pandemic, if any, could further increase the already elevated level of liquidity which could, in turn, diminish even further the current subdued demand for our advances.
During a portion of 2020, our access to the market for consolidated obligations was adversely impacted as a result of reduced demand for our longer-term debt. The disruptions to interest rates, credit spreads, and the availability of funds in the fixed income market in connection with the COVID-19 pandemic adversely affected our cost of funding, as well as the valuation of and the yields on our assets. The future effects of the COVID-19 pandemic on the financial markets is uncertain. Any negative changes in our cost of funding and the yields on our assets, combined with our need to maintain sufficient liquidity in order to meet member demand and regulatory requirements, could cause compression
in our net interest income and net interest margin. Further, to the extent interest rates continue to be low or if they become negative, our business and profitability could be adversely affected.
Further, actions such as shelter-in-place, stay-at-home or similar orders, travel restrictions, and business shutdowns as a result of the COVID-19 pandemic have led to substantial changes in normal business practices, such as the implementation of work-from-home arrangements for our employees, as well as many of our members, counterparties and third-party service providers. These actions, together with the direct and indirect impact of COVID-19 infections, have resulted in, and may continue to result in operational challenges, including increased risk of operational errors, lost business opportunities and/or higher costs, all of which could adversely impact our financial condition and results of operations.
The extent to which the COVID-19 pandemic may continue to impact our business, financial condition and results of operations will depend on many factors that remain highly uncertain and difficult to predict, including, but not limited to: the duration, spread, and severity of the pandemic; additional fiscal stimulus and other measures taken in response to the pandemic; the actions taken to contain the pandemic, including the effectiveness of related vaccines and treatments; and how quickly and to what extend normal economic and operating conditions can resume.
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Interest Rate Risk
Our profitability is vulnerable to interest rate fluctuations.
We
are subject to significant risks from changes in interest rates because most of our assets and liabilities are financial instruments. Our profitability depends significantly on our net interest income and is impacted by changes in the fair value of interest rate derivatives and any associated hedged items. Changes in interest rates can impact our net interest income as well as the values of our derivatives and certain other assets and liabilities. Changes in overall market interest rates, changes in the relationships between short-term and long-term market interest rates, changes in the relationship between different interest rate indices, or differences in the timing of rate resets for assets and liabilities or related interest rate derivatives with interest rates tied to those indices, can affect the interest rates received from our interest-earning assets differently than those paid on our interest-bearing liabilities. This difference could result in an increase in
interest expense relative to interest income, which would result in a decrease in our net interest spread, or a net decrease in earnings related to the relationship between changes in the valuation of our derivatives and any associated hedged items.
Our profitability may be adversely affected if we are not successful in managing our interest rate risk.
Like most financial institutions, our results of operations are significantly affected by our ability to manage interest rate risk. We use a number of tools to monitor and manage interest rate risk, including income simulations and duration/market value sensitivity analyses. Given the unpredictability of the financial markets, capturing all potential outcomes in these analyses is extremely difficult. Key assumptions used in our market value sensitivity analyses include interest rate volatility, mortgage prepayment projections and the
future direction of interest rates, among other factors. Key assumptions used in our income simulations include projections of advances volumes and pricing, MPF volumes and pricing, market conditions for our debt, prepayment speeds and cash flows on mortgage-related assets, the level of short-term interest rates, and other factors. These assumptions are inherently uncertain and, as a result, the measures cannot precisely estimate net interest income or the market value of our equity nor can they precisely predict the effect of higher or lower interest rates or changes in other market factors on net interest income or the market value of our equity. Actual results will most likely differ from simulated results due to the timing, magnitude, and frequency of interest rate changes and changes in market conditions and management strategies, among other factors. Our ability to maintain a positive spread between the interest earned on our earning assets and the interest paid
on our interest-bearing liabilities may be affected by the unpredictability of changes in interest rates.
Our business operations, financial condition and profitability could be adversely affected if LIBOR is discontinued.
In July 2017, the United Kingdom’s Financial Conduct Authority ("FCA") announced that it intended to stop persuading or compelling banks to voluntarily submit LIBOR rates after 2021, and that the FCA would support the LIBOR indices through 2021 to allow for an orderly transition to an alternative reference rate (or rates). On March 5, 2021, the FCA announced the dates that panel bank submissions for all LIBOR settings will cease, after which representative LIBOR rates will no longer be available. While the FCA confirmed that many LIBOR settings will either cease to be provided by any administrator or no longer
be representative immediately after December 31, 2021, one-month and three-month U.S. dollar LIBOR, the settings that apply to our LIBOR-indexed financial instruments, will either cease to be provided by any administrator or no longer be representative immediately after June 30, 2023. Although the FCA does not expect one-month and three-month U.S. dollar LIBOR to become unrepresentative before June 30, 2023 and it intends to consult on requiring the administrator of LIBOR to continue publishing one-month and three-month U.S. dollar LIBOR on a non-representative, synthetic basis for a period after June 30, 2023, there is no assurance that these LIBOR rates will continue to be published or be representative through any particular date.
As
noted throughout this report, many of our assets and liabilities are indexed to LIBOR. As of December 31, 2020, we had $28.7 billion (par/notional value) of financial instruments that are indexed to LIBOR and which mature after June 30, 2023. The vast majority of these instruments were derivatives.
Financial services regulators and industry groups, including the International Swaps and Derivatives Association ("ISDA"), have been evaluating and are continuing to evaluate the phase-out of LIBOR and the development of alternative interest rate indices or reference rates. In 2017, the Alternative Reference Rates Committee (“ARRC”) selected the Secured Overnight Financing Rate ("SOFR"), a broad measure of overnight Treasury financing transactions, as a replacement for U.S. dollar LIBOR. In 2018, the Federal Reserve
Bank of New York began publishing SOFR rates and several market participants, including the FHLBank System, began issuing variable-rate debt securities indexed to SOFR. Since that time, market activity in SOFR-linked financial instruments has continued to increase. In 2020, our two derivative clearinghouse counterparties converted to SOFR discounting for purposes of valuing derivative positions and determining daily settlement amounts. In addition, ISDA published its Interbank Offered Rate ("IBOR") Fallbacks Protocol, which contains standardized contractual language to help the users of derivatives automatically transition from LIBOR to SOFR. All of our bilateral derivative counterparties have adopted ISDA's LIBOR protocol and our clearinghouse counterparties have incorporated this language into their rulebooks. In January 2021, the clearinghouses opened consultations regarding the possibility of terminating a substantial portion of their LIBOR-based derivatives
prior to the cessation date and replacing them with SOFR-linked derivatives.
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The market transition from LIBOR to SOFR is expected to be complicated, including the development of term SOFR rates and credit adjustments to accommodate differences between LIBOR and SOFR. During the transition period, LIBOR may exhibit increased volatility or become less representative, and the overnight Treasury repurchase market underlying SOFR may also experience disruptions from time to time, which may result in unexpected fluctuations in SOFR. The use of an alternative reference rate such as SOFR (and the transition to that rate) will likely create challenges for us with respect to our asset liability management activities including, but not limited to, managing the transition-related
basis risk. While market activity in SOFR-linked financial instruments has continued to increase, there can be no assurance that SOFR-linked products will be available to meet our needs in a timely manner. Due to these uncertainties, we are unable to predict at this time the impact the transition from LIBOR to an alternative reference rate (or rates) could have on our business, risk management practices (including, but not limited to, our hedging activities), financial condition and results of operations.
Credit Risk
Exposure to credit risk from our customers could have a negative impact on our profitability and financial condition.
We are subject to credit risk from advances and other extensions of credit to members, non-member borrowers and housing associates (collectively, our customers). Other extensions of credit include letters
of credit issued or confirmed on behalf of customers, customers’ credit enhancement obligations associated with MPF loans held in portfolio, and interest rate exchange agreements we enter into with our customers.
We require that all outstanding advances and other extensions of credit to our customers be fully collateralized. We evaluate the types of collateral pledged by our customers and assign a borrowing capacity to the collateral, generally based on either a percentage of its book value or estimated market value. The vast majority of the collateral is assigned a borrowing capacity based on its estimated market value. During economic downturns, the number of our member institutions exhibiting significant financial stress generally increases. If member institutions fail, and if the FDIC (or other receiver, conservator or acquiror) does not promptly repay all of the failed institution’s obligations to us or assume the outstanding
extensions of credit, we might be required to liquidate the collateral pledged by the failed institution in order to satisfy its obligations to us. A devaluation of or our inability to liquidate collateral in a timely manner in the event of a default by the obligor could cause us to incur a credit loss and adversely affect our financial condition or results of operations.
Exposure to credit risk on our investments and MPF loans could have a negative impact on our profitability and financial condition.
We are exposed to credit risk from our MPF loans held in portfolio and our secured and unsecured investment portfolio. A deterioration of economic conditions, declines in residential real estate values, changes in monetary policy or other events that could negatively impact the economy and the markets as a whole could lead to borrower defaults, which in turn could cause us to incur
losses on our MPF loans and/or our investment portfolio. If delinquencies, default rates and loss severities on residential mortgage loans increase, and/or there is a decline in residential real estate values, we could experience losses on our MPF loans held in portfolio and/or our holdings of non-agency mortgage-backed securities. Further, we could experience losses on our agency mortgage-backed securities if, following a default, the guarantor elects to repurchase the security at its par value. In this instance, the Bank could incur a loss if the amortized cost basis of the investment exceeds its par value.
Defaults by or the insolvency of one or more of our derivative counterparties could adversely affect our profitability and financial condition.
We regularly enter into derivative transactions with major financial institutions and third-party clearinghouses. Our financial condition
and results of operations could be adversely affected if derivative counterparties to whom we have exposure fail.
Cleared trades are subject to initial and variation margin requirements established by the clearinghouse and its clearing members. Currently, all of our cleared derivatives are settled daily and these daily settlements are not subject to any maximum unsecured credit exposure thresholds. With cleared transactions, we are exposed to credit risk in the event that the clearinghouse or the clearing member fails to meet its obligations to us.
We have entered into master agreements with all of our non-member bilateral derivative counterparties that require the delivery (or return) of collateral consisting of cash or very liquid, highly rated securities if credit risk exposures rise above certain minimum amounts (generally ranging from $50,000 to $500,000). Upon a request made
by the unsecured counterparty, the party that has the unsecured obligation to the counterparty bearing the risk of the unsecured credit exposure must deliver sufficient collateral to reduce the unsecured credit exposure to zero. In addition, excess collateral must be returned by a party in an oversecured position. Delivery or return of the collateral generally occurs within one business day and, until such delivery or return, we may be in an undersecured position, which could result in a loss in the event of a default by the counterparty, or we may be due excess collateral, which could result in a loss in the event that the counterparty is unable or unwilling to return the collateral.
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Because derivative valuations are determined based on market conditions at particular
points in time, they can change quickly. Even after the settlement of a derivative or the delivery or return of collateral, as the case may be, we may be in an undersecured position (or be entitled to the return of excess collateral) as the values upon which the settlement, delivery or return was based may have changed since the valuation was performed. In addition, we may incur additional losses if any non-cash collateral held by us cannot be readily liquidated at prices that are sufficient to fully recover the value of the derivatives. Further, the initial margin and any excess variation margin that we post with third-party clearinghouses is over and above the amount that is needed to fully settle the value of our derivative positions and therefore exposes us to additional credit risk in the event that the clearinghouse or clearing member fails.
Credit Market Conditions and Funding Risk
Changes
in overall credit market conditions and/or competition for funding may adversely affect our cost of funds and our access to the capital markets.
The cost of our consolidated obligations depends in part on prevailing conditions in the capital markets at the time of issuance, which are generally beyond our control. For instance, a decline in overall investor demand for debt issued by the FHLBanks and similar issuers could adversely affect our ability to issue consolidated obligations on favorable terms or in amounts that are sufficient to meet our funding needs. Investor demand is influenced by many factors including changes or perceived changes in general economic conditions, changes in investors’ risk tolerances or balance sheet capacity, or, in the case of overseas investors, changes in preferences for holding dollar-denominated assets. Credit market disruptions similar to those that occurred during the period from late 2007
through early 2009 and those that occurred during the first half of 2020 as a result of the COVID-19 crisis tend to dampen investor demand for longer-term debt, including longer-term FHLBank consolidated obligations, making it more difficult for us to match the maturities of our assets and liabilities. In addition, changes in the relationships between the cost of our consolidated obligations and interest rate swaps could increase our net cost of funds, which could negatively impact our results of operations. Further, higher long-term debt costs and/or lack of demand for our long-term debt at attractive prices (or at all) could cause us to fund some long-term assets with short-term debt, creating mismatches between the maturities of our assets and liabilities. Such mismatches expose us to refinancing risk, which is the risk that we may have difficulty rolling over our short-term obligations if market conditions change and/or investor demand for our debt is suddenly insufficient
to satisfy our funding needs.
We compete with Fannie Mae, Freddie Mac and other GSEs, as well as commercial banking, corporate, sovereign and supranational entities for funds raised through the issuance of unsecured debt in the global debt markets. Increases in the supply of competing debt products may, in the absence of increased investor demand, result in higher debt costs, which could negatively affect our financial condition and results of operations. Further, if investors limit their demand for our debt, our ability to fund our operations and to meet the credit and liquidity needs of our members by accessing the capital markets could eventually be compromised.
Our inability to issue consolidated obligations for a relatively short period of time could jeopardize our ability to continue operating.
We typically issue consolidated obligations
almost every day. We also maintain access to other sources of contingent liquidity. As more fully described in the Liquidity and Capital Resources section of this report, we currently manage our liquidity to ensure that, at a minimum, we maintain 20 calendar days or more of positive daily cash balances (or such higher or lower number of days as the Finance Agency may from time to time require us to maintain) assuming no access to the market for consolidated obligations or other unsecured funding sources and the renewal of all advances that are scheduled to mature during the measurement period. However, if we were unable to issue consolidated obligations for a relatively short period of time and our other sources of contingent liquidity were either not available or were not available in sufficient quantities, our ability to meet our obligations and otherwise conduct our operations would be compromised.
An interruption in our
access to the capital markets would limit our ability to obtain funds.
We conduct our business and fulfill our public purpose primarily by acting as an intermediary between our members and the capital markets. Certain events, such as a natural disaster, terrorist act or global pandemic, could limit or prevent us from accessing the capital markets in order to issue consolidated obligations for some period of time. An event that precludes us from accessing the capital markets may also limit our ability to enter into transactions to obtain funds from other sources. External forces are difficult to predict or prevent, but can have a significant impact on our ability to manage our financial needs and to meet the credit and liquidity needs of our members.
Changes in investors’ perceptions of the creditworthiness of the FHLBanks may adversely affect our ability to issue consolidated obligations
on favorable terms.
We, and the other ten FHLBanks, currently have the highest credit rating from Moody’s and are rated AA+/A-1+ by S&P. The consolidated obligations issued by the FHLBanks are rated Aaa/P-1 by Moody’s and AA+/A-1+ by S&P. Each of these
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NRSROs has assigned a stable outlook to its long-term credit rating on the FHLBank System's consolidated obligations and to its long-term rating of each of the FHLBanks.
Pursuant to criteria used by S&P and Moody's, the FHLBank System's debt rating and the credit ratings of the individual FHLBanks are linked closely to the U.S. sovereign credit rating because of the FHLBanks' GSE status. The U.S. government's fiscal challenges
could negatively impact the credit rating of the U.S. government, which could in turn result in a downgrade of the rating assigned to us and/or the consolidated obligations of the FHLBank System.
Because the FHLBanks have joint and several liability for all of the FHLBanks' consolidated obligations, negative developments at any FHLBank could also adversely affect S&P's and/or Moody's credit ratings on us and/or the FHLBanks' consolidated obligations or result in one or both of these NRSROs issuing a negative credit report on the FHLBank System.
Our primary source of liquidity is the issuance of consolidated obligations. Historically, the FHLBank System’s status as a GSE and its favorable credit ratings have provided us with excellent access to the capital markets. Any downgrades of the FHLBank System’s consolidated obligations by S&P and/or Moody’s, negative guidance from
the rating agencies, or negative announcements by one or more of the FHLBanks could result in higher funding costs and/or disruptions in our access to the capital markets. To the extent that we cannot access funding when needed on acceptable terms, our financial condition and results of operations could be adversely impacted.
Derivatives and Hedging Activities
Changes in our access to the interest rate derivatives market on acceptable terms may adversely affect our ability to maintain our current hedging strategies.
We actively use derivative instruments to manage interest rate risk. The effectiveness of our interest rate risk management strategy depends to a significant extent upon our ability to enter into these instruments with acceptable counterparties in the necessary quantities and under satisfactory terms to hedge our corresponding
assets and liabilities. We currently enjoy ready access in the over-the-counter ("OTC") derivatives market for uncleared interest rate derivatives through a diverse group of investment grade rated counterparties. Several factors could have an adverse impact on our access to the OTC derivatives market, including changes in our credit rating, changes in the current counterparties’ credit ratings, reductions in our counterparties’ allocation of resources to the interest rate derivatives business, and changes in the liquidity of that market created by a variety of regulatory or market factors. If mergers involving our financial institution counterparties were to occur, it could increase our concentration risk with respect to counterparties in the industry. Further, defaults by, or even negative rumors or questions about, one or more financial services institutions, or the financial services industry in general, could lead to market-wide disruptions in which it may
be difficult for us to find acceptable counterparties for such transactions. If changes in our access to the derivatives market result in our inability to manage our hedging activities efficiently and economically, we may be unable to find economical alternative means to manage our interest rate risk effectively, which could adversely affect our financial condition and results of operations.
Many of the derivative transactions that we enter into are required to be cleared through a third-party clearinghouse, which exposes us to credit risk to other parties that we do not have when transacting in the OTC market. In addition, many of the other derivatives that we continue to trade in the OTC market could eventually be subject to central clearing. For our derivative transactions that are not cleared, we will be subject to an initial margin requirement beginning in September 2022 if those transactions have an aggregate notional
balance of $8 billion or more and, on a counterparty-by-counterparty basis, our unmargined exposure exceeds $50 million (for additional discussion, see the Legislative and Regulatory Developments section in Item 1. Business). If applicable, this requirement may increase our hedging costs, which would negatively impact our results of operations.
Business Volume
Loss of members or borrowers could adversely affect our earnings, which could result in lower investment returns and/or higher borrowing rates for remaining members.
One or more members or borrowers could withdraw their membership or decrease their business levels as a result of a merger with an institution that is not one of our members, or for other reasons, which could lead to a decrease in our total assets and capital.
As the financial
services industry has consolidated, acquisitions involving some of our members have resulted in membership withdrawals or business level decreases. Additional acquisitions that lead to similar results are possible, including acquisitions in which the acquired institutions are merged into institutions located outside our district with which we cannot do business. We could also be adversely impacted by the reduction in business volume that would arise from the failure of one or more of our members.
The loss of one or more borrowers that represent a significant proportion of our business, or a significant reduction in the borrowing levels of one or more of these borrowers, could, depending on the magnitude of the impact, cause us to lower
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dividend
rates, raise advances rates, attempt to reduce operating expenses (which could cause a reduction in service levels), or undertake some combination of these actions. The magnitude of the impact would depend, in part, on our size and profitability at the time such institution repays its advances to us.
Members’ funding needs may decline, which could reduce loan demand and adversely affect our earnings.
Market factors or regulatory changes could reduce loan demand from our member institutions, which could adversely affect our earnings. Since 2005, our quarter-end advances balances (at par value) have ranged from a low of $15.2 billion at March 31, 2014 to a high of $67.9 billion at September 30, 2008. At December 31, 2020, our outstanding
advances (at par value) were $31.9 billion. High deposit levels and/or low demand for loans at member institutions could limit members’ needs for funding. A decline in the demand for advances, if significant, could negatively affect our results of operations.
We face competition for loan demand, which could adversely affect our earnings.
Our primary business is making advances to our members. We compete with other suppliers of wholesale funding, both secured and unsecured, including investment banks, commercial banks and, in certain circumstances, other FHLBanks. Our members have access to alternative funding sources, which may provide more favorable terms than we do on our advances, including more flexible credit or collateral standards.
The availability to our members of alternative funding sources that are more attractive than the funding
products offered by us may significantly decrease the demand for our advances. Any change made by us in the pricing of our advances in an effort to compete more effectively with these competitive funding sources may reduce the profitability on advances. A decrease in the demand for advances or a decrease in our profitability on advances would negatively affect our financial condition and results of operations.
Alternatively, if we were to increase the pricing of our advances due to an increase in our debt costs or for any other reason, demand for our advances could decline, which would negatively affect our financial condition and results of operations.
Regulation
Changes in the regulatory environment could negatively impact our operations and financial results and condition.
We could be materially
adversely affected by the adoption of new laws, policies, regulations or directives or changes in existing laws, policies, regulations or directives, including, but not limited to, changes in the interpretations or applications by the Finance Agency or as the result of judicial reviews that modify the present regulatory environment. For instance, since 2013, several housing reform proposals have been introduced by members of the U.S. Congress. It is not possible to determine if or when legislation regarding housing reform will be enacted, nor are the ultimate provisions of any such legislation determinable at this time. To the extent that legislation is enacted, it is possible that the FHLBanks could be impacted. Further, in recent years, the Finance Agency has taken a number of actions through regulations and other directives that have restricted or otherwise constrained how we manage and operate our business and it is possible that additional restrictions and/or constraints
could be imposed upon us in the future. Among other things, these restrictions and constraints have limited our product offerings and are expected to limit our future investment activities.
In addition, the regulatory environment affecting our members could change in a manner that could have a negative impact on their ability to own our stock or take advantage of our products and services.
For a discussion of recent legislative and regulatory developments, see Item 1. Business — Legislative and Regulatory Developments beginning on page 17 of this report.
Finance Agency authority to approve changes to our capital plan and to impose other restrictions and limitations on us and our capital management may adversely affect members.
Under Finance Agency regulations and our capital plan, amendments
to the capital plan must be approved by the Finance Agency. However, amendments to our capital plan are not subject to member consent or approval. While amendments to our capital plan must be consistent with the FHLB Act and Finance Agency regulations, it is possible that they could result in changes to the capital plan that could adversely affect the rights and obligations of members.
Moreover, the Finance Agency has significant supervisory authority over us and may impose various limitations and restrictions on us, our operations, and our capital management as it deems appropriate to ensure our safety and soundness, and the safety and soundness of the FHLBank System. Among other things, the Finance Agency may impose higher capital requirements on us that might include, but not be limited to, the imposition of a minimum retained earnings requirement, and may suspend or otherwise limit stock repurchases, redemptions and/or
dividends. In December 2019, the Finance Agency directed us (and other similarly situated FHLBanks) to amend our capital plan for the purpose of including an activity-based capital stock investment requirement for letters of credit (for additional discussion, see the Legislative and Regulatory Developments section in Item 1. Business).
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Limitations on our ability to pay dividends could result in lower investment returns for members.
Under Finance Agency regulations and our capital plan, we may pay dividends on our stock only out of unrestricted retained earnings or a portion of our current net earnings. However, if we are not in compliance with our minimum capital requirements or if the payment of dividends would make us noncompliant,
we are precluded from paying dividends. In addition, we may not declare or pay a dividend if the par value of our stock is impaired or is projected to become impaired after paying such dividend. Further, we may not declare or pay any dividends in the form of capital stock if our excess stock is greater than one percent of our total assets or if, after the issuance of such shares, our outstanding excess stock would be greater than one percent of our total assets. Payment of dividends would also be suspended if the principal and interest due on any consolidated obligations issued on behalf of any FHLBank through the Office of Finance have not been paid in full or if we become unable to comply with regulatory liquidity requirements or satisfy our current obligations. In addition to these explicit limitations, it is also possible that the Finance Agency could restrict our ability to pay a dividend even if we have sufficient retained earnings to make the payment and are otherwise
in compliance with the requirements for the payment of dividends.
Lack of a public market and restrictions on transferring our stock could result in an illiquid investment for the holder.
Under the Gramm-Leach-Bliley Act of 1999 (the "GLB Act"), Finance Agency regulations, and our capital plan, our stock may be redeemed upon the expiration of a five-year redemption period following a redemption request. Only stock in excess of a member’s minimum investment requirement, stock held by a member that has submitted a notice to withdraw from membership, or stock held by a member whose membership has been terminated may be redeemed at the end of the redemption period. Further, we may elect to repurchase excess stock of a member at any time at our sole discretion.
There is no guarantee, however, that we will be able to redeem stock held
by a shareholder even at the end of the redemption period. If the redemption or repurchase of the stock would cause us to fail to meet our minimum capital requirements, then the redemption or repurchase is prohibited by Finance Agency regulations and our capital plan. Likewise, under such regulations and the terms of our capital plan, we could not honor a member’s capital stock redemption notice if the redemption would cause the member to fail to maintain its minimum investment requirement. Moreover, because our stock may only be owned by our members (or, under certain circumstances, former members and certain successor institutions), and our capital plan requires our approval before a member may transfer any of its stock to another member, there can be no assurance that a member would be allowed to sell or transfer any excess stock to another member at any point in time.
We may also suspend the redemption of stock if we reasonably
believe that the redemption would prevent us from maintaining adequate capital against a potential risk, or would otherwise prevent us from operating in a safe and sound manner. In addition, approval from the Finance Agency for redemptions or repurchases would be required if the Finance Agency or our Board of Directors were to determine that we have incurred, or are likely to incur, losses that result in, or are likely to result in, charges against our capital. Under such circumstances, there can be no assurance that the Finance Agency would grant such approval or, if it did, upon what terms it might do so. Redemption and repurchase of our stock would also be prohibited if the principal and interest due on any consolidated obligations issued on behalf of any FHLBank through the Office of Finance have not been paid in full or if we become unable to comply with regulatory liquidity requirements or satisfy our current obligations.
Accordingly,
there are a variety of circumstances that would preclude us from redeeming or repurchasing our stock that is held by a member. Because there is no public market for our stock and transfers require our approval, there can be no assurance that a member’s purchase of our stock would not effectively become an illiquid investment.
Failure by a member to comply with our minimum investment requirement could result in substantial penalties to that member and could cause us to fail to meet our capital requirements.
Members must comply with our minimum investment requirement at all times. Our Board of Directors may increase the members’ minimum investment requirement within certain ranges specified in our capital plan. The minimum investment requirement may also be increased beyond such ranges pursuant to an amendment to the capital plan, which would have to be adopted by our Board of Directors
and approved by the Finance Agency. We would provide members with 30 days’ notice prior to the effective date of any increase in their minimum investment requirement. Under the capital plan, members are required to purchase an additional amount of our stock as necessary to comply with any new requirements or, alternatively, they may reduce their outstanding advances activity (subject to any prepayment fees applicable to the reduction in activity) on or prior to the effective date of the increase. To facilitate the purchase of additional stock to satisfy an increase in the minimum investment requirement, the capital plan authorizes us to issue stock in the name of the member and to correspondingly debit the member’s demand deposit account maintained with us.
The GLB Act requires members to “comply promptly” with any increase in the minimum investment requirement to ensure that we continue to satisfy our minimum capital
requirements. However, the Finance Agency's predecessor stated, when it published the final regulation implementing this provision of the GLB Act, that it did not believe this provision provides the FHLBanks with an unlimited call on the assets of their members. As a result, it is not clear whether we or our regulator would have the legal authority to compel a member to invest additional amounts in our capital stock.
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Thus, while the GLB Act and our capital plan contemplate that members would be required to purchase whatever amounts of stock are necessary to ensure that we continue to satisfy our capital requirements, and while we may seek to enforce this aspect of the capital plan, our ability ultimately to compel a member, either through automatic deductions from a member’s
demand deposit account or otherwise, to purchase an additional amount of our stock is not free from doubt.
Nevertheless, even if a member could not be compelled to make additional stock purchases, the failure by a member to comply with the stock purchase requirements of our capital plan could subject it to substantial penalties, including the possible termination of its membership. In the event of termination for this reason, we may call any outstanding advances to the member prior to their maturity and the member would be subject to any fees applicable to the prepayment.
Furthermore, if our members fail to comply with the minimum investment requirement, we may not be able to satisfy our capital requirements, which could adversely affect our operations and financial condition.
Our joint and several liability for all consolidated obligations
may adversely impact our earnings, our ability to pay dividends, and our ability to redeem or repurchase capital stock.
Under the FHLB Act and Finance Agency regulations, we are jointly and severally liable with the other FHLBanks for the consolidated obligations issued by the FHLBanks through the Office of Finance regardless of whether we receive all or any portion of the proceeds from any particular issuance of consolidated obligations.
If another FHLBank were to default on its obligation to pay principal of or interest on any consolidated obligations, the Finance Agency may allocate the outstanding liability among one or more of the remaining FHLBanks on a pro rata basis or on any other basis the Finance Agency may determine. In addition, the Finance Agency, in its discretion, may require any FHLBank to make principal or interest payments due on any consolidated
obligations, whether or not the primary obligor FHLBank has defaulted on the payment of that obligation. Accordingly, we could incur significant liability beyond our primary obligation under consolidated obligations due to the failure of other FHLBanks to meet their payment obligations, which could negatively affect our financial condition and results of operations.
Further, the FHLBanks may not pay any dividends to members or redeem or repurchase any shares of stock unless the principal and interest due on all consolidated obligations has been paid in full. Accordingly, our ability to pay dividends or to redeem or repurchase stock could be affected not only by our own financial condition but also by the financial condition of one or more of the other FHLBanks.
An increase in our AHP contribution rate could adversely affect our ability to pay dividends to our shareholders.
The
FHLB Act requires each FHLBank to establish and fund an AHP. Annually, the FHLBanks are required to set aside, in the aggregate, the greater of $100 million or 10 percent of their current year’s income (before charges for AHP, as adjusted for interest expense on mandatorily redeemable capital stock) for their AHPs. If the FHLBanks’ combined income does not result in an aggregate AHP contribution of at least $100 million in a given year, we could be required to contribute more than 10 percent of our income to the AHP. An increase in our AHP contribution would reduce our net income and could adversely affect our ability to pay dividends to our shareholders.
The terms of any liquidation, merger or consolidation involving us may have an adverse impact on members’ investments in us.
Under the GLB Act, holders of Class B Stock own our retained earnings, if any. With respect to liquidation,
our capital plan provides that, after payment of creditors, all Class B Stock will be redeemed at par, or pro rata if liquidation proceeds are insufficient to redeem all of the stock in full. Any remaining assets will be distributed to the shareholders in proportion to their stock holdings relative to the total outstanding Class B Stock.
Our capital plan also stipulates that its provisions governing liquidation are subject to the Finance Agency’s statutory authority to prescribe regulations or orders governing liquidations of a FHLBank, and that consolidations and mergers may be subject to any lawful order of the Finance Agency. We cannot predict how the Finance Agency might exercise its authority with respect to liquidations or reorganizations or whether any actions taken by the Finance Agency in this regard would be inconsistent with the provisions of our capital plan or the rights of holders of our Class B Stock. Consequently,
there can be no assurance that any liquidation, merger or consolidation involving us will be consummated on terms that do not adversely affect our members’ investment in us.
General Risk Factors
A failure or interruption in our information systems or other technology may adversely affect our ability to conduct and manage our business effectively.
We rely heavily upon information systems and other technology to conduct and manage our business and deliver a very large portion of our services to members on an automated basis. Our operations rely on the secure processing, storage and transmission of confidential and other information in computer systems and networks. Computer systems, software and
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networks
can be vulnerable to failures and interruptions, including "cyberattacks" (e.g., breaches, unauthorized access, misuse, computer viruses or other malicious code and other events) that could jeopardize the confidentiality or integrity of information, or otherwise cause interruptions or malfunctions in operations. To the extent that we experience a failure or interruption in any of these systems or other technology, we may be unable to conduct and manage our business effectively, including, without limitation, our hedging and advances activities. We can make no assurance that we will be able to prevent or timely and adequately address any such failure or interruption. Any failure or interruption could significantly harm our customer relations, reputation, risk management, and profitability, which could negatively affect our financial condition and results of operations.
A natural or man-made disaster or a pandemic, especially
one affecting our region, could adversely affect our profitability and/or financial condition.
Portions of our district are subject to risks from hurricanes, tornadoes, floods and other natural disasters and the impact of climate change could increase the frequency of these events. Further, the entire district is subject to the risk of a pandemic. In addition to natural disasters, our business could also be negatively impacted by man-made disasters.
Natural or man-made disasters that occur within or outside our district may damage or dislocate our members’ facilities, may damage or destroy collateral pledged to secure advances or other extensions of credit, may adversely affect the livelihood of MPF borrowers or members’ customers or otherwise cause significant economic dislocation in the affected areas. If this were to occur, our business could be negatively impacted.
In
the aftermath of a natural or man-made disaster or during or after a pandemic, significant borrower defaults on loans made by our members could occur and these defaults could cause members to fail. If one or more member institutions fail, and if the value of the collateral pledged to secure advances and/or other extensions of credit from us has declined below the amount borrowed, we could incur a credit loss that would adversely affect our financial condition and results of operations. A decline in the local economies in which our members operate could reduce members’ needs for funding, which could reduce demand for our advances. We could be adversely impacted by the reduction in business volume that would arise either from the failure of one or more of our members or from a decline in member funding needs. In addition, it is possible that the protections we have in place for our MPF loans including, but not limited to, borrowers' equity, PMI, hazard insurance and, if
applicable, flood insurance, along with MPF credit enhancements, may not be sufficient to prevent us from incurring losses on loans that are secured by properties located in areas that are affected by a natural or man-made disaster. Similarly, the protections we have in place for our MPF loans may not be sufficient to prevent us from incurring losses on loans to borrowers who are no longer able to make payments due to a decline in or loss of income as a result of the economic fallout from a disaster or pandemic.
ITEM 1B. UNRESOLVED STAFF COMMENTS
Not applicable.
ITEM
2. PROPERTIES
The Bank owns a 157,000 square foot office building located at 8500 Freeport Parkway South, Irving, Texas. The Bank occupies approximately 92,000 square feet of space in this building.
The Bank also maintains leased off-site business resumption, storage and co-location facilities comprising approximately 12,000, 5,000 and 500 square feet of space, respectively.
ITEM 3. LEGAL PROCEEDINGS
The Bank is not a party to any material pending legal proceedings.
ITEM
4. MINE SAFETY DISCLOSURES
Not applicable.
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PART II
ITEM 5. MARKET FOR REGISTRANT’S COMMON EQUITY, RELATED STOCKHOLDER MATTERS AND ISSUER PURCHASES OF EQUITY SECURITIES
The Bank is a cooperative and all of its outstanding capital stock, which is known as Class B Stock, is owned by its members or, in some cases, by non-member institutions that acquire stock by virtue of acquiring
member institutions, by a federal or state agency or insurer acting as a receiver of a closed institution, or by former members of the Bank that retain capital stock to support advances or other extensions of credit that remain outstanding or until any applicable stock redemption or withdrawal notice period expires. All members must hold stock in the Bank. All of the Bank’s shareholders are financial institutions; no individual may own any of the Bank’s capital stock. The Bank’s capital stock is not publicly traded, nor is there an established market for the stock. The Bank’s capital stock has a par value of $100 per share and it may be purchased, redeemed, repurchased and transferred only at its par value. By regulation, the parties to a transaction involving the Bank’s stock can include only the Bank and its member institutions (or non-member institutions or former members, as described above). While a member could transfer stock to another member of the Bank, such
transfer could occur only upon approval of the Bank and then only at par value. Members may redeem excess stock, or withdraw from membership and redeem all outstanding capital stock, with five years' written notice to the Bank. The Bank does not issue options, warrants or rights relating to its capital stock, nor does it provide any type of equity compensation plan. As of March 4, 2021, the Bank had 799 shareholders and 20,960,557 shares of capital stock outstanding.
The Bank has two sub-classes of Class B stock. Class B-1 Stock is used to meet the membership investment requirement and Class B-2 Stock is used to meet the activity-based investment requirement. Daily, subject to the limitations in the Bank's Capital Plan, the Bank converts shares of one sub-class of Class B Stock to the other sub-class of Class B Stock under the following circumstances: (i) shares of Class B-2
Stock held by a shareholder in excess of its activity-based investment requirement are converted into Class B-1 Stock, if necessary, to meet that shareholder’s membership investment requirement and (ii) shares of Class B-1 Stock held by a shareholder in excess of the amount required to meet its membership investment requirement are converted into Class B-2 Stock as needed in order to satisfy that shareholder’s activity-based investment requirement. All excess stock is held as Class B-1 Stock at all times.
Subject to Finance Agency directives and the terms of the Amended JCE Agreement described below, the Bank is permitted by statute and regulation to pay dividends on members’ capital stock in either cash or capital stock only from previously retained earnings or a portion of current net earnings. The Bank’s Board of Directors may not declare or pay a dividend based on projected or anticipated earnings, nor may it declare or
pay a dividend if the Bank is not in compliance with its minimum capital requirements or if the Bank would fail to meet its minimum capital requirements after paying such dividend (for a discussion of the Bank’s minimum capital requirements, see Item 7. Management’s Discussion and Analysis of Financial Condition and Results of Operations — Risk-Based Capital Rules and Other Capital Requirements). Further, the Bank may not declare or pay any dividends in the form of capital stock if excess stock held by its shareholders is greater than one percent of the Bank’s total assets or if, after the issuance of such shares, excess stock held by its shareholders would be greater than one percent of the Bank’s total assets. Shares of capital stock issued as dividend payments have the same rights, obligations, and restrictions as all other shares of capital stock, including rights, privileges, and restrictions related to the repurchase and redemption of capital stock. To the extent
such shares represent excess stock, they may be repurchased or redeemed by the Bank in accordance with the provisions of the Bank’s Capital Plan.
The Bank, and the other FHLBanks, are parties to the Amended JCE Agreement, which provides that the Bank (and each of the other FHLBanks) will, on a quarterly basis, allocate at least 20 percent of its net income to an RRE Account. Pursuant to the provisions of the Amended JCE Agreement, the Bank is required to build its RRE Account to an amount equal to one percent of its total outstanding consolidated obligations, which for this purpose is based on the most recent quarter’s average carrying value of all outstanding consolidated obligations, excluding hedging adjustments. The Amended JCE Agreement provides that during periods in which the Bank’s RRE Account is less than the amount prescribed in the preceding sentence, it may pay dividends only from unrestricted retained earnings
or from the portion of its quarterly net income that exceeds the amount required to be allocated to its RRE Account. The allocations to, and restrictions associated with, its RRE Account have not had, nor are they currently expected to have, an effect on the Bank’s dividend payment practices. For additional information regarding the Amended JCE Agreement, see Item 1. Business — Capital — Retained Earnings.
The Bank has had a long-standing practice of paying quarterly dividends in the form of capital stock. While there can be no assurances about future dividends or future dividend rates, the target for quarterly dividends on Class B-1 Stock is currently an annualized rate that approximates average one-month LIBOR for the preceding quarter. The target range for quarterly dividends on Class B-2 Stock is currently an annualized rate that approximates average one-month LIBOR for the preceding quarter plus 0.5 – 1.0 percent. When
stock dividends are paid, capital stock is issued in full shares and any fractional shares are paid in cash. Dividends are typically paid during the last week of each calendar quarter and are based upon the Bank’s operating results,
33
shareholders’ average capital stock holdings and the applicable rate for the preceding quarter. All capital stock dividends are paid in the form of Class B-1 shares.
By way of example, the Bank’s fourth quarter 2020 dividends on Class B-1 Stock and Class B-2 Stock were paid at annualized rates of 0.16 percent (a rate equal to average one-month LIBOR for the third quarter of 2020) and 1.16 percent (a rate equal to average one-month LIBOR for the third quarter of 2020 plus 1.0 percent), respectively.
The annualized dividend rates of 0.16 percent and 1.16 percent were applied to shareholders' average balances of Class B-1 Stock and Class B-2 Stock, respectively, which were held during the period from July 1, 2020 through September 30, 2020.
The following table sets forth certain information regarding the quarterly dividends that were declared and paid by the Bank during the years ended December 31, 2020 and 2019.
DIVIDENDS PAID
(dollars in thousands)
2020
2019
Amount(1)
Annualized
Rate(3)
Amount(2)
Annualized
Rate(3)
First
Quarter
$
15,027
2.381
%
$
19,123
2.955
%
Second Quarter
12,416
1.987
%
19,326
3.069
%
Third
Quarter
6,879
0.991
%
19,210
3.030
%
Fourth Quarter
4,267
0.731
%
18,264
2.768
%
Total
Dividends Paid During the Year
$
38,589
$
75,923
____________________________________
(1)Amounts exclude (in thousands) $39, $30, $10 and $31 of dividends paid on mandatorily redeemable capital stock for the first, second, third and fourth quarters of 2020, respectively. For financial reporting purposes, these dividends were classified as interest expense.
(2)Amounts exclude (in thousands) $50, $51, $54 and $46 of
dividends paid on mandatorily redeemable capital stock for the first, second, third and fourth quarters of 2019, respectively. For financial reporting purposes, these dividends were classified as interest expense.
(3)Reflects the annualized rate paid on all of the Bank’s average capital stock outstanding regardless of its classification for financial reporting purposes as either capital stock or mandatorily redeemable capital stock. Rates represent the blended rates paid on Class B-1 and Class B-2 stock (computed as the total dividend paid divided by the aggregate average balance of both classes of stock).
The following table sets forth the annualized dividend rates that were paid on Class B-1 and Class B-2 Stock during the years ended December 31, 2020 and 2019.
2020
2019
Class
B-1
Class B-2
Class B-1
Class B-2
First Quarter
1.79%
2.79%
2.35%
3.35%
Second Quarter
1.40%
2.40%
2.50%
3.50%
Third
Quarter
0.35%
1.35%
2.44%
3.44%
Fourth Quarter
0.16%
1.16%
2.18%
3.18%
The Bank has a retained earnings policy that calls for the Bank to maintain retained earnings in an amount at least sufficient to protect the par value of the Bank's capital stock against
potential economic losses that could arise from a variety of designated risk factors, including those related to potential permanent losses, potential earnings shortfalls or losses in periodic earnings, and potential reductions in the Bank's estimated market value of equity. With certain exceptions, the Bank’s policy calls for the Bank to maintain its total retained earnings balance at or above its policy target when determining the amount of funds available to pay dividends. The Bank’s current retained earnings policy target, which was last updated as of December 31, 2020, calls for the Bank to maintain a total retained earnings balance of at least $543 million to protect against the risks identified in the policy. Notwithstanding the fact that the Bank’s December 31, 2020 retained earnings balance of $1.408 billion exceeds the policy target balance, the Bank currently
expects to continue to build its retained earnings in keeping with its long-term strategic objectives and the provisions of the Amended JCE Agreement.
34
On March 22, 2021, the Bank’s Board of Directors approved dividends on Class B-1 and Class B-2 Stock in the form of additional shares of Class B-1 Stock for the first quarter of 2021 at annualized rates of 0.15 percent (a rate equal to average one-month LIBOR for the fourth quarter of 2020) and 1.15 percent (a rate equal to average one-month LIBOR for the fourth quarter of 2020 plus 1.0 percent), respectively. The first quarter 2021 dividends, to be applied to average Class B-1 Stock and Class B-2 Stock held during the period from
October 1, 2020 through December 31, 2020, will be paid on March 30, 2021.
Pursuant to the terms of an SEC no-action letter dated September 13, 2005, the Bank is exempt from the requirements to report: (1) sales of its equity securities under Item 701 of Regulation S-K and (2) repurchases of its equity securities under Item 703 of Regulation S-K. In addition, the HER Act specifically exempts the Bank from periodic reporting requirements under the securities laws pertaining to the disclosure of unregistered sales of equity securities.
Net
interest income after provision for mortgage loan losses(4)
$
309,979
$
293,175
$
310,466
$
237,438
$
165,030
Other income(4)
32,159
56,320
1,961
22,483
7,824
Other
expense
121,342
96,965
91,555
92,924
84,574
Assessments
22,087
25,272
22,097
16,710
8,831
Net
income
198,709
227,258
198,775
150,287
79,449
Performance ratios
Net
interest margin(4)(5)
0.43
%
0.41
%
0.45
%
0.39
%
0.31
%
Net interest spread (4)(6)
0.39
%
0.28
%
0.34
%
0.33
%
0.28
%
Return
on average assets
0.28
%
0.32
%
0.29
%
0.25
%
0.15
%
Return on average equity
5.41
%
5.96
%
5.22
%
4.75
%
3.16
%
Return
on average capital stock (7)
8.17
%
8.90
%
7.86
%
7.04
%
4.44
%
Total average equity to average assets
5.11
%
5.35
%
5.60
%
5.20
%
4.75
%
Regulatory
capital ratio(8)
5.43
%
4.92
%
5.01
%
4.77
%
4.74
%
Dividend payout ratio (3)(9)
19.42
%
33.41
%
29.77
%
21.63
%
22.24
%
Interest
rates
Average effective federal funds rate (10)
0.37
%
2.16
%
1.83
%
1.00
%
0.39
%
Average
one-month LIBOR (11)
0.52
%
2.22
%
2.02
%
1.11
%
0.50
%
Average three-month LIBOR (11)
0.65
%
2.33
%
2.31
%
1.26
%
0.74
%
36
____________________________________
(1)Investments
consist of interest-bearing deposits, federal funds sold, securities purchased under agreements to resell, loans to other FHLBanks and securities classified as held-to-maturity, available-for-sale and trading.
(2)The Bank is jointly and severally liable with the other FHLBanks for the payment of principal and interest on the consolidated obligations of all of the FHLBanks. At December 31, 2020, 2019, 2018, 2017 and 2016, the outstanding consolidated obligations (at par value) of all of the FHLBanks totaled approximately $747 billion, $1.026 trillion, $1.032 trillion, $1.034 trillion and $989 billion, respectively. As of those dates, the Bank’s outstanding
consolidated obligations (at par value) were $59.2 billion, $70.1 billion, $68.0 billion, $64.1 billion and $54.1 billion, respectively. The Bank records on its statement of condition only that portion of the consolidated obligations for which it has received the proceeds.
(3)Mandatorily redeemable capital stock represents capital stock that is classified as a liability under accounting principles generally accepted in the United States of America. Dividends on mandatorily redeemable capital stock are recorded as interest expense and excluded from dividends paid. Dividends paid on mandatorily redeemable capital stock totaled $110 thousand, $201 thousand, $73 thousand, $91 thousand and $28 thousand for the years ended December 31, 2020, 2019, 2018, 2017
and 2016, respectively.
(4)The Bank adopted ASU 2017-12, "Targeted Improvements to Accounting for Hedging Activities" ("ASU 2017-12") on January 1, 2019. In accordance with ASU 2017-12, changes in the fair value of a derivative in a qualifying fair value hedge along with changes in the fair value of the hedged asset or liability attributable to the hedged risk (the net amount of which is referred to as fair value hedge ineffectiveness) are recorded in net interest income. Prior to the adoption of ASU 2017-12, the Bank recorded fair value hedge ineffectiveness in other income (loss). Because prior period amounts have not been reclassified to conform to the new presentation requirements, net interest income after provision for mortgage loan losses,
other income (loss), net interest margin and net interest spread for the years ended December 31, 2020 and 2019 are not comparable to prior periods. Fair value hedge ineffectiveness reduced net interest income by $15.0 million and $17.9 million for the years ended December 31, 2020 and 2019, respectively. For additional discussion, see the section entitled "Results of Operations" beginning on page 61 of this report.
(5)Net interest margin is net interest income as a percentage of average earning assets.
(6)Net interest spread is the difference between the yield on interest-earning assets and the cost of interest-bearing liabilities.
(7)Return
on average capital stock is derived by dividing net income by average capital stock balances excluding mandatorily redeemable capital stock.
(8)The regulatory capital ratio is computed by dividing regulatory capital (the sum of capital stock — putable, mandatorily redeemable capital stock and retained earnings) by total assets at each year-end.
(9)Dividend payout ratio is computed by dividing dividends paid by net income for the year.
(10)Rates obtained from the Federal Reserve Statistical Release.
(11)Rates obtained from Bloomberg.
37
ITEM
7. MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
The following discussion and analysis of financial condition and results of operations should be read in conjunction with the annual audited financial statements and notes thereto for the years ended December 31, 2020, 2019 and 2018 beginning on page F-1 of this Annual Report on Form 10-K.
Forward-Looking Information
This annual report contains forward-looking statements that reflect current beliefs and expectations of the Bank
about its future results, performance, liquidity, financial condition, prospects and opportunities. These statements are identified by the use of forward-looking terminology, such as “anticipates,”“plans,”“believes,”“could,”“estimates,”“may,”“should,”“would,”“will,”“might,”“expects,”“intends” or their negatives or other similar terms. The Bank cautions that forward-looking statements involve risks or uncertainties that could cause the Bank’s actual future results to differ materially from those expressed or implied in these forward-looking statements, or could affect the extent to which a particular objective, projection, estimate, or prediction is realized. As a result, undue reliance should not be placed on such statements.
These risks and uncertainties include, without limitation, evolving economic and market conditions, political
events, and the impact of competitive business forces. The risks and uncertainties related to evolving economic and market conditions include, but are not limited to, changes in interest rates, changes in the Bank’s access to the capital markets, changes in the cost of the Bank’s debt, changes in the ratings on the Bank's debt, adverse consequences resulting from a significant regional, national or global economic downturn (including, but not limited to, reduced demand for the Bank's products and services), credit and prepayment risks, changes in the financial health of the Bank’s members or non-member borrowers and the ongoing effects from the COVID-19 pandemic. Among other things, political events could possibly lead to changes in the Bank’s regulatory environment or its status as a GSE, or to changes in the regulatory environment for the Bank’s members or non-member borrowers. Risks and uncertainties related to competitive business forces include, but are not limited
to, the potential loss of a significant amount of member borrowings through acquisitions or other means or changes in the relative competitiveness of the Bank’s products and services for member institutions. For a more detailed discussion of the risk factors applicable to the Bank, see Item 1A. Risk Factors. The Bank undertakes no obligation to publicly update or revise any forward-looking statements, whether as a result of new information, future events, changed circumstances, or any other reason.
Overview
The Bank serves eligible financial institutions in Arkansas, Louisiana, Mississippi, New Mexico and Texas (collectively, the Ninth District of the FHLBank System). The Bank’s primary business is lending relatively low cost funds (known as advances) to its member
institutions, which include commercial banks, savings institutions, insurance companies and credit unions. Community Development Financial Institutions that are certified under the Community Development Banking and Financial Institutions Act of 1994 are also eligible for membership in the Bank. While not members of the Bank, housing associates, including state and local housing authorities, that meet certain statutory criteria may also borrow from the Bank. The Bank also maintains a portfolio of investments, the vast majority of which are highly rated, for liquidity purposes and to provide additional earnings. Additionally, the Bank holds interests in a portfolio of predominately conventional mortgage loans that have been acquired through the MPF Program administered by the FHLBank of Chicago. Substantially all of the loans were acquired during the period from 2016 to 2020 and all of those loans are conventional loans. The remainder of the portfolio (less than one percent
of the unpaid principal balance) is comprised of government-guaranteed/insured and conventional mortgage loans that were acquired during the period from 1998 to mid-2003. Shareholders’ return on their investment includes dividends (which are typically paid quarterly in the form of capital stock) and the value derived from access to the Bank’s products and services. Historically, the Bank has balanced the financial rewards to shareholders by seeking to pay a dividend that meets or exceeds the return on alternative short-term money market investments available to shareholders, while lending funds at the lowest rates expected to be compatible with that objective and its objective to build retained earnings over time.
The Bank's principal source of funds is debt issued in the capital markets. All 11 FHLBanks issue debt in the form of consolidated obligations through the Office of Finance as their agent and all 11 FHLBanks are jointly
and severally liable for the repayment of all consolidated obligations.
The Bank conducts its business and fulfills its public purpose primarily by acting as a financial intermediary between its members and the capital markets. The intermediation of the timing, structure, and amount of its members’ credit needs with the investment requirements of the Bank’s creditors is made possible by the extensive use of interest rate exchange agreements, including interest rate swaps, swaptions and caps. The Bank’s interest rate exchange agreements are accounted for in accordance with the provisions of Topic 815 of the Financial Accounting Standards Board Accounting Standards Codification entitled “Derivatives and Hedging” (“ASC 815”). For a discussion of ASC 815, see the sections below entitled “Financial Condition — Derivatives and Hedging Activities” and “Critical
Accounting Policies and Estimates.”
38
Financial Market Conditions
Economic growth in the United States expanded moderately during 2019 and 2018. During 2020, economic growth in the United States was negatively impacted by the novel coronavirus known as COVID-19, which was declared a global pandemic by the World Health Organization on March 11, 2020. To date, COVID-19 has caused significant economic and financial turmoil both in the U.S. and around the world. Although vaccinations have recently begun, it is not possible at this time to estimate how long it will
take to halt the spread of the virus or the longer-term effects that COVID-19 could have on the Bank's business. Many businesses in the Bank's district and across the U.S. were forced to shut down or limit operations during portions of 2020 in an attempt to slow the spread of the virus. Despite signs that the virus is continuing to spread, albeit at a slower rate, many of these previously closed businesses have been allowed to reopen while others have been permitted to increase capacity.
During 2020, the gross domestic product decreased at annual rates of 5.0 percent and 31.4 percent during the first and second quarters of 2020, respectively, before increasing at annual rates of 33.4 percent and 4.1 percent during the third and fourth quarters of 2020, respectively. The increase in gross domestic product during the second half of 2020 reflected continued efforts to reopen businesses and resume activities that had been postponed
or restricted due to COVID-19. For the full year, the gross domestic product decreased 3.5 percent. In comparison, the gross domestic product increased 3.0 percent and 2.2 percent in 2018 and 2019, respectively. During 2020, unemployment claims increased dramatically during the second quarter of 2020 as employers laid off workers in response to the significant reduction in economic activity. By the end of April 2020, the unemployment rate surged to 14.8 percent before declining to 11.1 percent at June 30, 2020, 7.8 percent at September 30, 2020 and 6.7 percent at the end of 2020. In comparison, the nationwide unemployment rate as of December 31, 2017, 2018 and 2019 was 4.1 percent, 3.9 percent and 3.6 percent, respectively.
Both housing prices and home sales increased in most major metropolitan areas during 2020, primarily due to low mortgage rates and low inventories of both new and pre-owned homes. During 2018 and 2019, housing prices increased in most major metropolitan areas, while home sales were slower in many markets.
Throughout 2018, the Federal Open Market Committee ("FOMC") raised its target for the federal funds rate in 0.25 percent increments from a range between 1.25 percent and 1.50 percent at the beginning of 2018 to a range of 2.25 percent to 2.50 percent at the end of 2018. In light of the implications of global developments for the economic outlook in 2019, as well as muted inflation pressures at that time, the FOMC lowered its target for the federal funds rate in 0.25 percent increments to a range between 1.50 percent and 1.75 percent at the end of 2019. In an unscheduled meeting held on March
3, 2020, the FOMC stated that the COVID-19 outbreak posed evolving risks to economic activity and, in support of achieving its maximum employment and price stability goals, it decided to lower the target range for the federal funds rate by 50 basis points, to a range between 1.00 percent and 1.25 percent, noting that it would closely monitor developments and their implications for the economic outlook and would act as appropriate to support the economy. On March 15, 2020, the FOMC again lowered the federal funds rate in another unscheduled meeting, this time to a target range between 0 percent and 0.25 percent, noting that the COVID-19 outbreak had harmed communities and disrupted economic activity in many countries, including the United States, and had significantly affected global financial conditions. At its most recent scheduled meeting held on March 16/17, 2021, the FOMC maintained the target for the federal
funds rate at a range between 0 percent and 0.25 percent and stated that it expects to maintain this target range until labor market conditions have reached levels consistent with the FOMC’s assessments of maximum employment and inflation has risen to two percent and is on track to moderately exceed two percent for some time.
In late 2017, the FOMC began implementing a balance sheet normalization program, which was designed to gradually reduce the Federal Reserve's securities holdings by decreasing reinvestment of principal payments from those securities. During 2019, the FOMC first slowed the pace of this program and then concluded the program in August 2019. In 2020, in response to the instability caused by the COVID-19 pandemic, the FOMC stated that, to support the smooth functioning of markets for Treasury securities and agency MBS that are central to the flow of credit to households and businesses, it would increase its
holdings of Treasury securities by at least $500 billion and its holdings of agency MBS by at least $200 billion and would reinvest all principal payments from the Federal Reserve's holdings of agency debt and agency MBS in agency MBS. In March 2021, the FOMC further stated that it will continue to increase its holdings of Treasury securities by at least $80 billion per month and of agency mortgage-backed securities by at least $40 billion per month until substantial further progress has been made toward the Committee’s maximum employment and price stability goals.
Due to the dramatic increase in volatility across the global capital markets that occurred in response to the COVID-19 pandemic, the Federal Reserve also undertook a number of other emergency actions. Notably, the Federal Reserve increased substantially its provision of liquidity to the repo and U.S. Treasury markets via open market operations while also providing
liquidity to related markets, such as the commercial paper market, via an array of new programs.
One-month and three-month LIBOR rates were 1.56 percent and 1.69 percent, respectively, at the end of 2017. One-month and three-month LIBOR increased to 2.50 percent and 2.81 percent, respectively, at the end of 2018, and then declined to 1.76 percent and 1.91 percent, respectively, at the end of 2019. Relatively stable one-month and three-month LIBOR rates,
39
combined with relatively small spreads between those two indices and between those indices and overnight lending rates, suggest that inter-bank lending markets were reasonably stable during 2018 and 2019. In the weeks before and after the FOMC's early March reduction in the
federal funds target rate, interest rates declined significantly. SOFR declined by 145 basis points during the first six months of 2020, from 1.55 percent to 0.10 percent. One-month and three-month LIBOR also declined during the first six months of 2020, with one-month and three-month LIBOR ending the second quarter at 0.16 percent and 0.30 percent, respectively. During the second half of 2020, the decline in short-term interest rates abated somewhat. SOFR declined by 3 basis points (to 0.07 percent) and one-month and three-month LIBOR declined by 2 basis points and 6 basis points, respectively (to 0.14 percent and 0.24 percent, respectively).
The following table presents information on various market interest rates at December 31, 2020 and 2019 and various average market interest rates for the years ended December
31, 2020, 2019 and 2018.
•The Bank ended 2020 with total assets of $64.9 billion compared with $75.4 billion at the end of 2019. The $10.5 billion decrease in total assets was attributable primarily to decreases in the Bank's short-term liquidity portfolio ($4.9 billion), advances ($4.6 billion), mortgage loans held for portfolio ($0.7 billion) and its long-term held-to-maturity securities portfolio ($0.3 billion).
•Total advances at December 31, 2020 were $32.5 billion, compared to $37.1 billion at the end of 2019.
•The
Bank’s net income for 2020 was $198.7 million, which represented a return on average capital stock of 8.17 percent. In comparison, the Bank's net income for 2019 was $227.3 million, which represented a return on average capital stock of 8.90 percent for that year. For discussion and analysis of the decrease in net income, see the section entitled "Results of Operations" beginning on page 61 of this report.
•At all times during 2020, the Bank was in compliance with all of its regulatory capital requirements. In addition, the Bank’s total retained earnings increased to $1.408 billion at December 31, 2020 from $1.233 billion at December 31, 2019. Retained earnings represented 2.2 percent and 1.6 percent of total assets at December 31, 2020 and 2019,
respectively. At December 31, 2020, the balance of the Bank's restricted retained earnings account was $233.9 million.
•In 2020, the Bank paid dividends totaling $38.6 million, which, based on the applicable average capital stock balances, equated to an overall blended rate of 1.52 percent for the year.
40
Financial Condition
The following table provides selected period-end balances as of December 31, 2020,
2019 and 2018, as well as selected average balances for the years ended December 31, 2020, 2019 and 2018. As shown in the table, the Bank’s total assets decreased by 13.9 percent (or $10.5 billion) during the year ended December 31, 2020 after increasing by 3.6 percent (or $2.6 billion) during the year ended December 31, 2019. The decrease in total assets during the year ended December 31, 2020 was attributable primarily to decreases in the Bank's short-term liquidity portfolio ($4.9 billion), advances ($4.6 billion), mortgage loans held for portfolio ($0.7 billion) and long-term
held-to-maturity securities portfolio ($0.3 billion). As the Bank’s assets decreased, the funding for those assets also decreased. During the year ended December 31, 2020, total consolidated obligations decreased by $10.8 billion, as consolidated obligation discount notes decreased by $12.2 billion and consolidated obligation bonds increased by $1.4 billion.
The increase in total assets during the year ended December 31, 2019 was attributable primarily to increases in the Bank's short-term liquidity portfolio ($3.7 billion), mortgage loans held for portfolio ($1.9 billion) and long-term available-for-sale securities portfolio ($0.9 billion), partially offset by decreases in the Bank's advances ($3.7 billion) and its long-term held-to-maturity securities portfolio ($0.2 billion). As the Bank’s assets increased, the funding for
those assets also increased. During the year ended December 31, 2019, total consolidated obligations increased by $2.4 billion, as consolidated obligation bonds increased by $3.8 billion and consolidated obligation discount notes decreased by $1.4 billion.
The activity in each of the major balance sheet captions is discussed in the sections following the table. Activity for the year ended December 31, 2018 is discussed in the Bank's Annual Report on Form 10-K for the year ended December 31, 2019 which was filed with the SEC on March 25, 2020 (the "2019 10-K").
(1) Represents
excess cash held at the Federal Reserve Bank of Dallas. These amounts are classified as "Cash and Due From Banks" in the Bank's statements of condition
42
Advances
The following table presents advances outstanding, by type of institution, as of December 31, 2020, 2019 and 2018.
Total par value of advances outstanding to CFIs (1)
$
5,034
16
%
$
4,490
12
%
$
5,869
14
%
____________________________________
(1)The
figures presented above reflect the advances outstanding to CFIs as of December 31, 2020, 2019 and 2018 based upon the definitions of CFIs that applied as of those dates.
The Bank's advances balances (at par value) decreased $5.0 billion during 2020. After declining during the first two months of 2020, demand for advances increased markedly in March and the first half of April 2020 in response to the COVID-19 outbreak. The Bank believes the unsettled nature of the credit markets at that time led some members to increase their borrowings in order to increase their liquidity. As part of a broader COVID-19 Relief Program, the Bank made available $5.0 billion of below-market rate advances in mid-April. The vast majority
of these fixed-rate advances had a term of six months and all were prepayable without a prepayment fee. During the latter part of April, the Bank's advances began to decline and continued to do so through the end of 2020. During this time, the level of liquidity in the financial markets was significantly elevated due in large part to the various initiatives that were undertaken by the Federal Reserve in response to the pandemic, which in turn dampened demand for the Bank's advances. All of the below-market rate advances referred to above were fully repaid in 2020.
Further contributing to the decline in the Bank's advances was the repayment of advances by one of the Bank's larger members in connection with a merger transaction. On November 4, 2019, Iberiabank and Tennessee-based First Horizon National Corp. announced that they had entered into a definitive
merger agreement. With borrowings of $1.2 billion as of December 31, 2019, Iberiabank was the Bank's ninth largest borrower on that date. On July 2, 2020 (the same day the merger was completed), the Bank's then outstanding advances to Iberiabank, totaling $1.0 billion, were fully repaid. The combined company is now headquartered in Memphis, Tennessee and, without a charter in the Bank's district, it is no longer able to conduct future business with the Bank.
While it is difficult to predict the future level of advances, it is possible that the Bank's advances could continue to fall if the level of liquidity in the financial markets remains elevated. Additional U.S. government stimulus in response to the ongoing COVID-19 pandemic, such as the recently enacted American Rescue Plan Act, could further increase the already elevated
level of liquidity which could, in turn, diminish even further the current subdued demand for the Bank's advances. Beyond the elevated level of liquidity, the future level of advances could also be negatively impacted depending upon the duration and severity of the current economic downturn resulting from the COVID-19 pandemic.
Advances (at par value) decreased $3.8 billion during 2019 due primarily to decreases in overnight and short-term advances. Texas Capital Bank, N.A., the Bank's largest borrower at December 31, 2018, and Iberiabank, the Bank's fifth largest borrower
43
at December 31, 2018, reduced their advances by $1.5
billion and $1.0 billion, respectively, in 2019. Advances declined broadly across the Bank's membership in 2019, as almost 70 percent of the Bank's borrowers reduced their borrowings during the year. The Bank believes the decline in advances was due in part to increases in members' liquidity levels, which were primarily the result of growth in their deposits and reduced lending activity.
At December 31, 2020, advances outstanding to the Bank’s five largest borrowers totaled $12.3 billion, representing 38.6% percent of the Bank’s total outstanding advances as of that date. The following table presents the Bank’s five largest borrowers as of December 31, 2020.
As
of December 31, 2019 and 2018, advances outstanding to the Bank's five largest borrowers comprised $13.5 billion (36.5 percent) and $15.4 billion (38 percent), respectively, of the total advances portfolio at those dates.
The following table presents information regarding the composition of the Bank’s advances by product type as of December 31, 2020 and 2019.
The
Bank is required by statute and regulation to obtain sufficient collateral from members/borrowers to fully secure all advances and other extensions of credit. The Bank’s collateral arrangements with its members/borrowers and the types of collateral it accepts to secure advances are described in Item 1. Business. To ensure the value of collateral pledged to the Bank is sufficient to secure its advances, the Bank applies various haircuts, or discounts, to determine the value of the collateral against which borrowers may borrow. From time to time, the Bank reevaluates the adequacy of its collateral haircuts under a range of stress scenarios to ensure that its collateral haircuts are sufficient to protect the Bank from credit losses on advances and other extensions of credit.
In addition, as described in Item 1. Business, the Bank reviews the financial condition of its depository institution borrowers on at least a quarterly basis
to identify any borrowers whose financial condition indicates they might pose an increased credit risk and, as needed, takes appropriate action. The Bank has not experienced any credit losses on advances since it was founded in 1932 and, based on its credit extension and collateral policies, management currently does not anticipate any credit losses on advances. Accordingly, the Bank has not provided any allowance for losses on advances.
44
Short-Term Liquidity Holdings
At December 31, 2020, the Bank’s short-term liquidity holdings were comprised of $3.3 billion of U.S. Treasury Bills, $3.1 billion of excess cash held at the Federal Reserve, $1.9 billion of U.S. Treasury Notes,
$1.0 billion of overnight reverse repurchase agreements, $0.9 billion of overnight federal funds sold and $0.8 billion of overnight interest-bearing deposits. At December 31, 2019, the Bank’s short-term liquidity holdings were comprised of $4.5 billion of overnight federal funds sold, $4.4 billion of U.S. Treasury Notes, $4.3 billion of overnight reverse repurchase agreements, $1.7 billion of overnight interest-bearing deposits and $0.9 billion of U.S. Treasury Bills. All of the Bank's federal funds sold during 2020 and 2019 were transacted with domestic bank counterparties, U.S. subsidiaries of foreign holding companies or U.S. branches of foreign financial institutions on an overnight basis. All of the Bank's interest-bearing deposits were transacted on an overnight basis with domestic bank counterparties or U.S. subsidiaries
of foreign holding companies.
As of December 31, 2020, the Bank’s overnight federal funds sold consisted entirely of funds sold to a counterparty rated double-A. At that same date, substantially all of the Bank's overnight interest-bearing deposits were held in single-A rated banks. The credit ratings presented in the two preceding sentences represent the lowest long-term rating assigned to the counterparty by Moody’s or S&P.
The amount of the Bank’s short-term liquidity holdings fluctuates in response to several factors, including the anticipated demand for advances, the timing and extent of advance prepayments, changes in the Bank’s deposit balances, the Bank’s pre-funding activities, prevailing conditions (or anticipated changes in conditions) in the short-term debt markets, the level of liquidity needed to satisfy Finance
Agency requirements and the Finance Agency's expectations with regard to the Bank's core mission achievement. For a discussion of the Finance Agency’s liquidity requirements, see the section below entitled “Liquidity and Capital Resources.” For a discussion of the Finance Agency's guidance regarding core mission achievement, see Item 1. Business (specifically, the section entitled Core Mission Achievement beginning on page 11 of this report).
Finance Agency regulations and Bank policies govern the Bank’s investments in unsecured money market instruments, such as overnight and term federal funds and commercial paper. Those regulations and policies establish limits on the amount of unsecured credit that may be extended to borrowers or to affiliated groups of borrowers, and require the Bank to base its investment limits on the creditworthiness of its counterparties.
45
Long-Term
Investments
The composition of the Bank's long-term investment portfolio at December 31, 2020 and 2019 is set forth in the table below.
During
the year ended December 31, 2020, the Bank did not acquire any long-term investments. During the year ended December 31, 2019, the Bank acquired $1.0 billion (par value) of GSE commercial MBS ("CMBS"), all of which are backed by multifamily loans, and $93 million (par value) of GSE debentures, all of which are non-MBS debt obligations of Fannie Mae. All of these fixed-rate GSE CMBS and GSE debentures were hedged with fixed-for-floating interest rate swaps indexed to LIBOR. Because ASC 815 does not allow hedge accounting treatment for fair value hedges of investment securities designated as held-to-maturity, all of the hedged securities were classified as available-for-sale. In addition, during the year ended December 31, 2019, the Bank purchased for its long-term investment
portfolio a $75 million (par value) floating rate state housing agency obligation (classified as held-to-maturity).
The Bank is precluded by regulation from purchasing additional MBS if such purchase would cause the aggregate amortized historical cost of its MBS holdings to exceed 300 percent of the Bank’s total regulatory capital (the sum of its capital stock, mandatorily redeemable capital stock and retained earnings). However, the Bank is not required to sell any MBS that it purchased at a time when it was in compliance with this ratio. For purposes of applying this limit, the Finance Agency defines "amortized historical cost" as the sum of the initial investment, less the amount of cash collected that reduces principal, less write-downs plus yield accreted to date. This definition excludes hedge basis adjustments which, for investment securities, are included in the U.S. GAAP definition
of amortized cost basis. Under this definition, the Bank's MBS holdings totaled $11.0 billion as of December 31, 2020, which represented 311 percent of its total regulatory capital at that date. The Bank has not purchased any MBS since September 2019 and it does not intend to purchase additional MBS until such time that it has achieved, and is reasonably confident that it can maintain, a CMA ratio of 70 percent.
In addition to MBS, the Bank is also permitted under applicable policies and regulations to purchase certain other types of highly rated, long-term, non-MBS investments subject to certain limitations. These investments include but are not limited to the non-MBS debt obligations of other GSEs. The Bank has not purchased any long-term, non-MBS investments since October 2019 and it does not intend to purchase additional long-term,
non-MBS investments until such time that it has achieved, and is reasonably confident that it can maintain, a CMA ratio of 70 percent. For a discussion of the regulatory limits on the Bank's ability to purchase non-MBS investments, see Item 1. Business - Investment Activities.
As discussed in the section entitled "LIBOR Phase-Out" beginning on page 60 of this report, the FHLBanks were directed by the Finance Agency to no longer purchase (after December 31, 2019) LIBOR-indexed investments which mature after December 31, 2021 and (by March 31, 2020) to no longer issue, make, purchase or otherwise enter into financial liabilities, derivatives or other assets that reference LIBOR and which mature after December
31, 2021. In light of the market volatility caused by the COVID-19 pandemic, the Finance Agency (on March 16, 2020) extended the date after which the FHLBanks could no longer issue, make, purchase or otherwise enter into financial liabilities, derivatives or other assets that reference LIBOR and which mature after December 31, 2021 from March 31, 2020 to June 30, 2020, except for option-embedded products. This directive did not in any way modify the previous guidance relating to investments. As a result of this guidance, the Bank's consideration of future fixed-rate MBS and/or non-MBS purchases will take into account its ability to prudently mitigate interest rate risk through the use of consolidated obligations or derivatives that are indexed to an interest rate other
than LIBOR.
During the years ended December 31, 2020 and 2019, proceeds from maturities and paydowns of held-to-maturity securities totaled approximately $312 million and $334 million, respectively. Proceeds from maturities and paydowns of available-for-sale securities totaled $322 million and $463 million during the years ended December 31, 2020 and 2019, respectively. During the year ended December 31, 2020, the Bank sold $602 million (par value) of GSE debentures classified as available-for-sale. The gains recognized on these sales totaled $0.8 million. During the year ended December 31, 2019, the Bank sold approximately $200
million (par value) of GSE debentures and $310 million (par value) of GSE CMBS, all of which had been classified as available-for-sale. The aggregate net gains recognized on these sales totaled $0.9 million.
During the year ended December 31, 2020, one GSE CMBS defaulted and was repurchased by the GSE at its par value of $10.3 million. The unamortized premium and cumulative hedge basis adjustments associated with the security, totaling $0.9 million, were recognized in earnings at the time of the repurchase.
The Bank evaluates all outstanding available-for-sale securities in an unrealized loss position and all outstanding held-to-maturity securities as of the end of each calendar quarter to determine whether an allowance is needed to reserve for expected credit losses on the securities. As of December 31,
2020, the Bank determined that an allowance for credit losses was not necessary on any of its held-to-maturity or available-for-sale securities. For a summary of the Bank's evaluation, see the audited financial statements included in this report (specifically, Note 9 beginning on page F-26 of this report).
As of December 31, 2020, the U.S. government and the issuers of the Bank's holdings of GSE debentures and GSE MBS were rated triple-A by Moody's and AA+ by S&P. At that same date, the Bank's holdings of other debentures, which were comprised of securities issued by the Private Export Funding Corporation ("PEFCO"), were rated triple-A by Moody's. The PEFCO
47
debentures
are not currently rated by S&P. Further, the Bank's holdings of state housing agency debentures were rated triple-A by Moody's and S&P.
All but one of the Bank’s non-agency residential MBS ("RMBS") are rated by Moody’s and/or S&P. The following table presents the credit ratings assigned to the Bank’s non-agency RMBS holdings as of December 31, 2020. The credit ratings presented in the table represent the lowest rating assigned to the security by Moody’s or S&P.
NON-AGENCY RMBS BY CREDIT RATING
(dollars in thousands)
Credit Rating
Number
of Securities
Unpaid Principal Balance
Amortized Cost
Carrying Value
Estimated Fair Value
Unrealized Losses
Double-A
1
$
962
$
962
$
962
$
907
$
55
Single-A
2
6,820
6,820
6,820
6,596
224
Triple-B
2
2,327
2,327
2,327
2,280
47
Single-B
4
10,125
9,973
8,985
9,266
713
Triple-C
12
35,717
29,576
24,162
31,754
729
Not
Rated
1
45
45
45
42
3
Total
22
$
55,996
$
49,703
$
43,301
$
50,845
$
1,771
At
December 31, 2020, the Bank’s portfolio of non-agency RMBS was comprised of 3 securities with an aggregate unpaid principal balance of $6 million that are backed by first lien fixed-rate loans and 19 securities with an aggregate unpaid principal balance of $50 million that are backed by first lien option adjustable-rate mortgage (“option ARM”) loans. In comparison, as of December 31, 2019, the Bank’s non-agency RMBS portfolio was comprised of 3 securities backed by fixed-rate loans that had an aggregate unpaid principal balance of $8 million and 19 securities backed by option ARM loans that had an aggregate unpaid principal balance of $62 million.
Under the accounting rules that were in effect through December 31, 2019, the Bank evaluated outstanding held-to-maturity and
available-for-sale investment securities in an unrealized loss position as of the end of each calendar quarter for other-than-temporary impairment (“OTTI”). Under those rules, an investment security was impaired if the fair value of the investment was less than its amortized cost. None of the Bank's securities were considered other-than-temporarily impaired during the year ended December 31, 2019.
In years prior to 2017, the Bank recorded credit impairments totaling $13.1 million on 15 of its non-agency RMBS. The vast majority of these credit impairments were recorded in 2009, 2010 and 2011. Through December 31, 2020, the Bank has amortized $1.1 million of the time value associated with these credit losses. Through this same date, actual principal shortfalls on the 15 securities have totaled $2.1 million and the Bank has
recognized recoveries (i.e., increases in cash flows expected to be collected) totaling $5.8 million. At December 31, 2020, credit losses of $6.3 million are included in the amortized cost basis of the previously impaired securities, the majority of which the Bank currently expects to recover in future periods. These anticipated recoveries will either be accreted as interest income over the remaining lives of the applicable securities in the same manner as the recoveries that have been recorded through December 31, 2020 (if the anticipated recoveries were being accreted as of December 31, 2019 because they had been deemed to be significant on or prior to that date) or recognized as received (if the anticipated recoveries were not deemed to be significant on or before December
31, 2019). Additional increases in expected recoveries, if any, after December 31, 2019 will be recognized when received.
While substantially all of the Bank's RMBS portfolio is comprised of collateralized mortgage obligations ("CMOs") with variable-rate coupons ($0.8 billion par value at December 31, 2020) that do not expose it to interest rate risk if interest rates rise moderately, these securities include caps that would limit increases in the variable-rate coupons if short-term interest rates rise above the caps. In addition, if interest rates rise, prepayments on the mortgage loans underlying the securities would likely decline, thus lengthening the time that the securities would remain outstanding with their coupon rates capped. As of December 31, 2020, one-month
LIBOR was 0.14 percent and the effective interest rate caps on one-month LIBOR (the interest cap rate minus the stated spread on the coupon) embedded in the CMO floaters ranged from 5.95 percent to 10.46 percent. The largest concentration of embedded effective caps ($0.7 billion) was between 6.00 percent and 7.00 percent. As of December 31, 2020, one-month LIBOR rates were approximately 581 basis points below the lowest effective interest rate cap embedded in the CMO floaters. To hedge a portion of the potential cap risk embedded in these securities, the Bank held one $250 million interest rate cap with a strike rate of 6.5 percent and final maturity in August 2021. If three-month LIBOR were to rise above 6.50 percent, the Bank would be entitled to receive interest payments according to the terms and conditions of the interest rate cap agreement. These payments would be based upon the notional amount of the agreement
and the difference between 6.50 percent and three-month LIBOR.
48
Mortgage Loans Held For Portfolio
As of December 31, 2020 and 2019, mortgage loans held for portfolio (net of allowance for credit losses) were $3.4 billion and $4.1 billion, respectively, representing approximately 5.3 percent and 5.4 percent, respectively, of the Bank’s total assets at each of those dates. Through the MPF program, the Bank currently invests in only conventional residential mortgage loans originated by its PFIs. During the period from 1998 to mid-2003, the Bank purchased conventional mortgage loans and government-guaranteed/insured mortgage loans
(i.e., those insured or guaranteed by the Federal Housing Administration or the Department of Veterans Affairs). The Bank resumed acquiring conventional mortgage loans under this program in early 2016. During the years ended December 31, 2020 and 2019, the Bank acquired mortgage loans totaling $931 million ($901 million unpaid principal balance) and $2.432 billion ($2.386 billion unpaid principal balance), respectively. All of the mortgage loans acquired in 2020 and 2019 were originated by certain of the Bank's PFIs and the Bank acquired a 100 percent interest in such loans.
The Bank's mortgage loan purchases declined significantly in 2020 as compared to 2019 as pricing became less attractive in the wake of the Federal Reserve's response to the COVID-19 pandemic. With the significant decline in mortgage interest rates since the
onset of the COVID-19 pandemic, mortgage prepayment activity increased markedly, further contributing to the decline in the Bank's mortgage loans held for portfolio. During the year ended December 31, 2020, mortgage loan prepayments totaled $1.4 billion, of which $1.2 billion occurred during the last nine months of the year. In comparison, mortgage loan prepayments totaled $0.4 billion in 2019.
As more fully discussed in Item 1. Business, the Bank manages the liquidity, interest rate and prepayment risk of the MPF loans, while the PFIs or their designees retain the servicing activities. The Bank and the PFIs share in the credit risk of the loans with the Bank assuming a limited first loss obligation defined as the FLA, and the PFIs assuming credit losses in excess of the FLA, up to the amount of the required CE Obligation specified in the master agreement (“Second Loss Credit
Enhancement”).
Under the MPF program, the PFI’s credit enhancement protection may take the form of the CE Obligation, which represents the direct liability to pay credit losses incurred with respect to that master commitment, or may require the PFI to obtain and pay for an SMI policy insuring the Bank for a portion of the credit losses arising from the master commitment, and/or the PFI may contract for a contingent performance-based credit enhancement fee whereby such fees are reduced by losses up to a certain amount arising under the master commitment. The credit risk-sharing structures utilized by the Bank during the period from 2016 through 2020 did not include SMI. PFIs are paid a CE fee by the Bank as an incentive to minimize credit losses, to share in the risk of loss on MPF loans and to pay for SMI (if applicable). CE fees
are paid monthly and are determined based on the remaining unpaid principal balance of the MPF loans. During the years ended December 31, 2020 and 2019, mortgage loan interest income was reduced by CE fees totaling $2.4 million and $2.1 million, respectively. The required CE Obligation may vary depending on the MPF product alternatives selected. The Bank also pays performance-based CE fees that are based on the actual performance of the pool of MPF loans under each individual master commitment. To the extent that losses incurred by the Bank as part of its first loss obligation in the current month exceed accrued performance-based CE fees, the remaining losses may be recovered from future performance-based CE fees payable to the PFI. During the years ended December 31, 2020 and 2019,
performance-based CE fees that were foregone and not paid to the Bank’s PFIs were insignificant.
If a PFI fails to comply with any of the requirements of the PFI agreement, MPF guides, applicable law or the terms of mortgage documents, it may be required to repurchase the MPF loans that are impacted by such failure. During the years ended December 31, 2020 and 2019, the principal amount of mortgage loans held by the Bank that were repurchased by the Bank’s PFIs totaled $5.7 million and $3.9 million, respectively.
For the Bank's conventional loans, loan payment forbearance is offered to borrowers impacted by COVID-19. The forbearance allows a borrower to defer loan payments for 3 months without requiring documentation from the borrower to support the requested relief. Borrowers that
continue to be impacted by COVID-19 may request an extension of the loan payment forbearance for up to an additional 15 months. A hardship certification from the borrower supporting the continued hardship due to COVID-19 is required for approval of additional payment forbearance. During forbearance, late fees are not assessed. At the end of forbearance, borrowers are presented with options for bringing their mortgage loan to a current status. For further discussion, see the audited financial statements included in this report (specifically, Note 9 beginning on page F-26).
The Bank's allowance for loan losses, which factors in the CE obligation, increased from $493,000 at December 31, 2018 to $1,149,000 at December 31, 2019 and $3,925,000 at December 31,
2020, reflecting the increase in the size of its mortgage loan portfolio in 2019 and the expected impact of the COVID-19 pandemic and the adoption of ASU 2016-13 in 2020. For a discussion of ASU 2016-13, see the audited financial statements included in this report (specifically, Note 2 beginning on page F-17).
49
Consolidated Obligations and Deposits
During the year ended December 31, 2020, the Bank’s consolidated obligation bonds (at par value) increased by $1.3 billion and its consolidated obligation discount notes (at par value) decreased by $12.2 billion. The following table presents the composition of the Bank’s outstanding bonds at December
31, 2020 and 2019.
COMPOSITION OF CONSOLIDATED OBLIGATION BONDS OUTSTANDING
Variable-rate
bonds have variable-rate coupons that generally reset based on either SOFR or one-month or three-month LIBOR. Fixed-rate bonds have coupons that are fixed over the life of the bond. Some fixed-rate and variable-rate bonds contain provisions that enable the Bank to call the bonds at its option on predetermined call dates. Step-up bonds pay interest at increasing fixed rates for specified intervals over the life of the bond and, if callable, contain provisions enabling the Bank to call the bonds at its option on predetermined dates. Callable step-down bonds pay interest at decreasing fixed rates for specified intervals over the life of the bond and contain provisions enabling the Bank to call the bonds at its option on predetermined dates.
The FHLBanks rely extensively on the underwriters of their securities, including investment banks, money center banks and large commercial banks, to source investors for consolidated obligations.
Investors may be located in the United States or overseas. The features of consolidated obligations are structured to meet the requirements of investors. The various types of consolidated obligations included in the table above reflect the features of the Bank’s outstanding bonds as of December 31, 2020 and 2019 and do not represent all of the various types and styles of consolidated obligation bonds that may be issued by the Bank or the other FHLBanks.
Consistent with its risk management philosophy, the Bank uses interest rate exchange agreements (i.e., interest rate swaps) to convert many of the fixed-rate consolidated obligation bonds that it issues to variable-rate instruments that periodically reset based on an index such as SOFR or one-month or three-month LIBOR. Generally, the Bank receives a coupon on the interest rate
swap that is identical to the coupon it pays on the consolidated obligation bond while paying a variable-rate coupon on the interest rate swap that resets based on either SOFR or one-month or three-month LIBOR. Typically, the formula for the variable-rate coupon also includes a spread to the index; for instance, the Bank may pay a coupon on the interest rate swap equal to SOFR plus 5 basis points.
During the years ended December 31, 2020 and 2019, the Bank issued $39.9 billion and $39.3 billion, respectively, of consolidated obligation bonds. The proceeds from these issuances were generally used to replace maturing or called consolidated obligations. During the year ended December 31, 2020, the Bank's consolidated obligation bond issuance (based on par value) consisted of approximately
72 percent variable-rate bonds, 17 percent swapped fixed-rate callable bonds (including step-up bonds) and 11 percent fixed-rate non-callable bonds (most of which were swapped). During the year ended December 31, 2019, the Bank's consolidated obligation bond issuance (based on par value) consisted of approximately 53 percent swapped fixed-rate callable bonds (including step-up bonds), 38 percent variable-rate bonds and 9 percent fixed-rate non-callable bonds (most of which were swapped).
50
At December 31, 2020 and 2019, discount notes comprised approximately 37 percent and 49 percent, respectively, of the Bank's total outstanding
consolidated obligations. During 2020, the Bank issued approximately $114 billion of consolidated obligation discount notes (excluding those with overnight terms), the proceeds of which were used primarily to replace maturing or called consolidated obligation bonds and maturing consolidated obligation discount notes and to fund the increase in the Bank's advances in March and April 2020.
Historically, the primary benchmark that the Bank has used to analyze the effectiveness of its debt issuance efforts and trends in its debt issuance costs has been the spread to LIBOR that the Bank pays on interest rate swaps used to convert its fixed-rate consolidated obligations to LIBOR. The costs of the Bank’s consolidated obligations, when expressed relative to LIBOR, are impacted by many factors. These include factors that may influence all credit market spreads, such as investors’ perceptions of general economic conditions, changes in
investors’ risk tolerances or maturity preferences, or, in the case of overseas investors, changes in preferences for holding dollar-denominated assets. They also include factors that primarily influence the yields of GSE debt, such as a marked change in the debt issuance patterns of GSEs stemming from a rapid change in the size of their balance sheets or changes in market interest rates or the availability of debt with similar perceived credit quality. Finally, the specific features of consolidated obligations and the associated interest rate swaps influence the spread to LIBOR that the Bank pays on its interest rate swaps. During the years ended December 31, 2020 and 2019, the weighted average LIBOR-equivalent cost of swapped and variable-rate consolidated obligation bonds issued by the Bank was approximately LIBOR minus 21 basis points and LIBOR minus 16 basis points,
respectively.
The decrease in the cost of consolidated bonds relative to LIBOR was due largely to a substantial decrease (during the second quarter of 2020) in the cost of short-term bonds in combination with the elevated LIBOR rates that existed early in that quarter. In addition, beginning in March 2020, in response to the COVID-19 outbreak, investor demand for high credit quality, fixed income investments, including the FHLBanks' consolidated obligations, generally increased relative to other investments. However, the spreads on FHLBank fixed-rate consolidated obligations widened relative to U.S. Treasury securities and fixed income market conditions became more challenging, with market participants favoring shorter-term obligations, including FHLBank discount notes. As conditions in the liquidity markets stabilized, the cost of the Bank's debt returned to approximately pre-pandemic levels by the end of the third quarter
of 2020 and remained relatively stable for the remainder of the year.
Demand and term deposits were $1.6 billion and $1.3 billion at December 31, 2020 and 2019, respectively. The Bank has a deposit auction program under which deposits with varying maturities and terms are offered for competitive bid at periodic auctions. The deposit auction program offers the Bank’s members an alternative way to invest their excess liquidity at competitive rates of return, while providing an alternative source of funds for the Bank. The size of the Bank’s deposit base varies as market factors change, including the attractiveness of the Bank’s deposit pricing relative to the rates available to members on alternative money market investments, members’ investment preferences with respect to the maturity of their investments, and member liquidity.
Capital
Stock
The Bank’s outstanding capital stock (excluding mandatorily redeemable capital stock) was $2.1 billion and $2.5 billion at December 31, 2020 and 2019, respectively, while the Bank’s average outstanding capital stock (for financial reporting purposes) was $2.4 billion and $2.6 billion, respectively.
At December 31, 2020, the Bank’s five largest shareholders held $575 million of capital stock, which represented 27.2 percent of the Bank’s total outstanding capital stock (including mandatorily redeemable capital stock) as of that date. The following table presents the Bank’s five largest shareholders as of December 31, 2020.
As
of December 31, 2020, all of the stock held by the five institutions shown in the table above was classified as capital in the statement of condition.
51
As described in Item 1. Business, members are required to maintain an investment in Class B stock equal to the sum of a membership investment requirement and an activity-based investment requirement. Currently, the membership investment requirement is 0.04 percent of each member’s total assets as of the previous calendar year end, subject to a minimum of $1,000 and a maximum of $7,000,000. The activity-based investment requirement is currently 4.10 percent of outstanding advances, except for advances that were funded under the special reduced stock advances offerings discussed
below. The Bank’s Board of Directors reviews these requirements at least annually and has the authority to adjust them periodically within ranges established in the Capital Plan, as amended from time to time, to ensure that the Bank remains adequately capitalized. There were no changes to the investment requirements during the years ended December 31, 2020 or 2019.
The Bank has two sub-classes of Class B Stock. Class B-1 Stock is used to meet the membership investment requirement and Class B-2 Stock is used to meet the activity-based investment requirement. Daily, subject to the limitations in the Capital Plan, the Bank converts shares of one sub-class of Class B Stock to the other sub-class of Class B Stock under the following circumstances: (i) shares of Class B-2 Stock held by a shareholder in excess of its activity-based investment requirement are converted into Class B-1
Stock, if necessary, to meet that shareholder’s membership investment requirement and (ii) shares of Class B-1 Stock held by a shareholder in excess of the amount required to meet its membership investment requirement are converted into Class B-2 Stock as needed in order to satisfy that shareholder’s activity-based investment requirement. All excess stock is held as Class B-1 Stock at all times.
The Bank’s Board of Directors may declare dividends at the same rate for all shares of Class B Stock, or at different rates for Class B-1 Stock and Class B-2 Stock, provided that in no event can the dividend rate on Class B-2 Stock be lower than the dividend rate on Class B-1 Stock. Dividend payments may be made in the form of cash, additional shares of either, or both, sub-classes of Class B Stock, or a combination thereof as determined by the Bank’s Board of Directors. For additional information, see Item 5. Market for Registrant's
Common Equity, Related Stockholder Matters and Issuer Purchases of Equity Securities.
The permissible range for the advances-based component of the activity-based investment requirement is currently a range of 2.0 percent to 5.0 percent of members’ advances outstanding. The Bank’s Board of Directors may establish one or more separate advances investment requirement percentages (each an "advance type specific percentage") within this range to be applied to a specific category of advances in lieu of the generally applicable advances-related investment requirement percentage in effect at the time. Such category of advances may be defined as a particular advances product offering, advances with particular maturities or other features, advances that represent an increase in member borrowing, or such other criteria as the Bank’s Board of Directors may determine. Any advance type specific percentage may be established for an
indefinite period of time, or for a specific time period, at the discretion of the Bank’s Board of Directors. Any changes to either the membership or activity-based investment requirements require at least 30 days advance notice to the Bank’s members.
On September 21, 2015, the Bank announced a Board-authorized reduction in the activity-based stock investment requirement from 4.1 percent to 2 percent for certain advances that were funded during the period from October 21, 2015 through December 31, 2015. The standard activity-based stock investment requirement of 4.1 percent continued to apply to all other advances that were funded during the period from October 21, 2015 through December
31, 2015. All other minimum investment requirements also continued to apply during that period. At December 31, 2020, the remaining balance of advances funded under this special reduced stock advances offering totaled approximately $576 million.
On February 28, 2020, the Bank announced another Board-authorized reduction in the activity-based stock investment requirement from 4.1 percent to 2.0 percent for up to $5.0 billion of advances that: (1) were funded during the period from April 1, 2020 through December 31, 2020 and (2) had a maturity of one year or greater. On July 1, 2020, the Bank announced a Board-authorized modification to this special advances offering. As modified,
the Bank's activity-based capital stock investment requirement was reduced from 4.1 percent to 2.0 percent for advances that: (1) were funded during the period from August 1, 2020 through December 31, 2020 and (2) had a maturity of 28 days or greater. On December 7, 2020, the Bank announced that its Board of Directors had authorized the Bank to extend the expiration date of the special advances offering from December 31, 2020 to June 30, 2021. On March 17, 2021, the Bank announced another Board-authorized modification and extension to this special advances offering. As modified and extended, the Bank's activity-based capital stock investment requirement will be reduced from
4.1 percent to 2.0 percent for advances that: (1) are funded during the period from April 19, 2021 through December 31, 2021 and (2) have a maturity of 32 days or greater. For advances that are funded on or prior to April 18, 2021, the current reduced activity-based capital stock investment requirement will continue to apply to advances that have a maturity of 28 days or greater. Under the special advances offering described in this paragraph, the maximum balance of advances to which the reduced activity-based stock investment requirement can be applied is $5.0 billion. If, at the time of funding an advance that would otherwise be eligible for the reduced capital stock investment requirement, the then outstanding balance of advances made pursuant to this offering totals $5 billion, then the standard capital stock investment
requirement of 4.1 percent will apply. Except as described in this paragraph, the standard activity-based stock investment requirement of 4.1 percent continues to apply to all other advances that are funded during the period from April 1, 2020 through December 31, 2021. At December 31, 2020, advances outstanding under this program totaled approximately $4.4 billion.
52
In response to a regulatory directive, the Bank will implement an amendment to its Capital Plan on April 19, 2021. The amended Capital Plan provides for the imposition of an activity-based investment requirement
ranging from 0.10 percent to 2.0 percent of members' outstanding letters of credit (the "LC Percentage"), as specified from time to time by the Bank's Board of Directors. The Board of Directors has established an initial LC Percentage of 0.10 percent which will apply only to letters of credit that are issued or renewed on and after April 19, 2021. The LC Percentage will be applied to the issued amount of the letter of credit rather than, if applicable, the amount of the letter of credit that is used from time to time during the term of the letter of credit. Further, renewals for this purpose will include amendments that extend the expiration date of the letter of credit.
Quarterly, the Bank generally repurchases a portion of members’ excess capital stock. Excess stock is defined as the amount of stock held by a member (or former member) in excess of that institution’s
minimum investment requirement. The portion of members’ excess capital stock subject to repurchase is known as surplus stock. For the repurchases that occurred during 2020 and 2019, surplus stock was defined as the amount of stock held by a shareholder in excess of 125 percent of the shareholder’s minimum investment requirement. For the repurchase that occurred on December 30, 2020, a shareholder's surplus stock was not repurchased if: (1) the amount of that shareholder's surplus stock was $2,000,000 or less, (2) the shareholder elected to opt out of the repurchase, or (3) the shareholder was on restricted collateral status (subject to certain exceptions). For the other repurchases that occurred during 2020 and 2019, a shareholder's surplus stock was not repurchased if: (1) the amount of that shareholder's surplus stock was $2,500,000 or less, (2) the shareholder elected to opt out of the repurchase, or (3) the shareholder
was on restricted collateral status (subject to certain exceptions). During the years ended December 31, 2020 and 2019, the Bank repurchased surplus stock totaling $471,326,000 and $739,733,000, respectively, none of which was classified as mandatorily redeemable capital stock at the time of repurchase. From time to time, the Bank may modify the definition of surplus stock or the timing and/or frequency of surplus stock repurchases.
Concurrent with the quarterly repurchases of surplus stock that occurred in 2020 and 2019, the Bank also repurchased all excess stock held by non-member shareholders as of the repurchase dates. This excess stock, all of which was classified as mandatorily redeemable capital stock at those dates, totaled $53,992,300 and $2,296,000, respectively.
At December 31,
2020, excess stock held by the Bank’s members and former members totaled $529 million, which represented 0.8 percent of the Bank’s total assets as of that date.
The following table sets forth the repurchases of excess stock that have occurred under the quarterly repurchase program since January 1, 2019.
EXCESS STOCK REPURCHASED UNDER QUARTERLY REPURCHASE PROGRAM
(dollars in thousands)
Date
of Repurchase by the Bank
Shares Repurchased
Amount of Surplus Stock Repurchased from Member Shareholders
Amount of Excess Stock Repurchased from Non-Member Shareholders
Accounting
principles generally accepted in the United States of America (“U.S. GAAP”) require issuers to classify as liabilities certain financial instruments that embody obligations for the issuer (hereinafter referred to as “mandatorily redeemable financial instruments”). Pursuant to these requirements, the Bank reclassifies shares of capital stock from the capital section to the liability section of its balance sheet at the point in time when either a written redemption or withdrawal notice is received from a member or a membership withdrawal or termination is otherwise initiated, because the shares of capital stock then meet the definition of a mandatorily redeemable financial instrument. Shares of capital stock meeting this definition are reclassified to liabilities at fair value. Following reclassification of the stock, any dividends paid or accrued on such shares are recorded as interest expense in the statements of income. As the repurchases presented in
the table above are made at the sole discretion of the Bank, the repurchase, in and of itself, does not cause the shares underlying these repurchases to meet the definition of mandatorily redeemable financial instruments.
53
Stock dividends paid on capital stock that is classified as mandatorily redeemable capital stock are reported as either an issuance of capital stock or as an increase in the mandatorily redeemable capital stock liability depending upon the event that caused the stock on which the dividend is being paid to be classified as a liability. Stock dividends paid on stock subject to a written redemption notice are reported as an issuance of capital stock as such dividends are not covered by the original redemption notice. Stock dividends paid on stock that is
subject to a withdrawal notice (or its equivalent) are reported as an increase in the mandatorily redeemable capital stock liability. During the years ended December 31, 2020 and 2019, the Bank did not receive any stock redemption notices.
Mandatorily redeemable capital stock outstanding at December 31, 2020 and 2019 was $13.9 million and $7.1 million, respectively. For the years ended December 31, 2020 and 2019, average mandatorily redeemable capital stock was $22.6 million and $7.3 million, respectively. Although mandatorily redeemable capital stock is excluded from capital (equity) for financial reporting purposes, this stock
is considered capital for regulatory purposes (see the section below entitled “Risk-Based Capital Rules and Other Capital Requirements” for further information).
The following table presents capital stock outstanding, by type of institution, as of December 31, 2020 and 2019.
The Bank functions as a financial intermediary by channeling funds provided by investors in its consolidated obligations to member institutions. During the course of a business day, all member institutions may obtain advances through a variety of product types that include features as diverse as variable and fixed coupons, overnight to 40-year maturities, and bullet (principal due at maturity) or amortizing redemption schedules. The Bank funds advances primarily through the issuance of consolidated obligation bonds and discount notes. The terms and amounts of these consolidated obligation bonds and discount notes and the timing of their issuance is determined by the Bank and is subject to investor demand as well as FHLBank System debt issuance policies.
The intermediation of the timing, structure, and amount of Bank members’ credit needs with the investment
requirements of the Bank’s creditors is made possible by the extensive use of interest rate exchange agreements. The Bank’s general practice has been to contemporaneously execute interest rate exchange agreements when acquiring longer maturity fixed-rate assets and/or issuing longer maturity fixed-rate liabilities in order to convert the instruments’ cash flows to a variable rate that is tied to a short-term index. By doing so, the Bank reduces its interest rate risk exposure and preserves the value of, and earns more stable returns on, its members’ capital investment.
This use of derivatives is integral to the Bank’s financial management strategy, and the impact of these interest rate exchange agreements permeates the Bank’s financial statements. Management has put in place a risk management framework that outlines the permitted uses of interest rate derivatives and that requires frequent reporting of their values and impact
on the Bank’s financial statements. All interest rate derivatives employed by the Bank hedge identifiable risks and none are used for speculative purposes. As of December 31, 2020, all of the Bank’s derivative instruments that were designated in ASC 815 hedging relationships were either hedging fair value risk attributable to changes in LIBOR or, to a much smaller extent, SOFR (the designated benchmark interest rates) or hedging the variability of cash flows associated with forecasted transactions.
ASC 815 requires that all derivative instruments be recorded in the statements of condition at their fair values. Changes in the fair values of the Bank’s derivatives, other than those designated in cash flow hedging relationships, are recorded each period in current earnings. ASC 815 also sets forth conditions that must exist in order for balance sheet items to qualify for fair value
54
hedge accounting. If an asset or liability qualifies for fair value hedge accounting, changes in the fair value of the hedged item that are attributable to the hedged risk are also recorded in earnings. As a result, the net effect is that only the “ineffective” portion of a qualifying fair value hedge has an impact on current earnings. Changes in the fair values of the Bank’s derivatives designated in cash flow hedging relationships are recorded each period in other comprehensive income.
Under ASC 815, periodic earnings variability for fair value hedges occurs in the form of the net difference between changes in the fair values of the derivative (the hedging instrument) and the hedged item (the asset or liability), if
any, for accounting purposes. For the Bank, two types of hedging relationships are primarily responsible for creating earnings volatility.
The first type involves transactions in which the Bank enters into interest rate swaps with coupon cash flows identical or nearly identical to the cash flows of the hedged item (e.g., an advance, investment security or consolidated obligation). In some cases involving hedges of this type, an assumption of “no ineffectiveness” can be made and the changes in the fair values of the derivative and the hedged item are considered identical and offsetting (hereinafter referred to as the shortcut method). However, if the derivative or the hedged item do not have certain characteristics defined in ASC 815, the assumption of “no ineffectiveness” cannot be made, and the derivative and the hedged item must be marked to fair value independently (hereinafter referred to as the long-haul
method). Under the long-haul method, the two components of the hedging relationship are marked to fair value using different discount rates, and the resulting changes in fair value are generally slightly different from one another. Even though these differences are generally relatively small when expressed as prices, their impact can become more significant when multiplied by the principal amount of the transaction and then evaluated in the context of the Bank’s net income. Further, during periods in which short-term interest rates are volatile, the Bank may experience increased earnings variability related to differences in the timing between changes in short-term rates and interest rate resets on the floating-rate leg of its interest rate swaps. The floating-rate legs of most of the Bank’s fixed-for-floating interest rate swaps reset every three months and are then fixed until the next reset date. When short-term rates change significantly between the reset date and
the valuation date, discounting the cash flows of the floating-rate leg at current market rates until the swap’s next reset date can cause near-term volatility in the Bank’s earnings. Nonetheless, the impact of these types of ineffectiveness-related adjustments on earnings is transitory as the net earnings impact will be zero over the life of the hedging relationship if the derivative and hedged item are held to maturity or their call dates, which is generally the case for the Bank.
The second type involves transactions in which the Bank enters into interest rate exchange agreements to hedge identifiable portfolio risks that either do not qualify for fair value hedge accounting under ASC 815 or are not designated in an ASC 815 fair value hedging relationship (hereinafter referred to as an “economic hedge”). For instance, from time to time, the Bank uses fixed-for-floating interest rate swaps to hedge its fair value risk
exposure associated with some of its longer-term discount notes. The changes in fair value of the interest rate swaps flow through current earnings without an offsetting change in the fair value of the hedged items (i.e., the discount notes), which increases the volatility of the Bank’s earnings. Excluding net interest settlements, the impact of the changes in fair value of these stand-alone interest rate swaps on earnings over the life of the transactions will be zero if these instruments are held until their maturity. The Bank generally holds its discount note swaps to maturity.
Because the use of interest rate derivatives enables the Bank to better manage its economic risks, and thus run its business more effectively and efficiently, the Bank will continue to use them during the normal course of its balance sheet management. The Bank views the accounting consequences of using interest rate derivatives as being an important,
but secondary, consideration.
As a result of using interest rate exchange agreements extensively to fulfill its role as a financial intermediary, the Bank has a large notional amount of interest rate exchange agreements relative to its size. As of December 31, 2020, 2019 and 2018, the Bank’s notional balance of interest rate exchange agreements was $39.0 billion, $54.9 billion and $49.1 billion, respectively, while its total assets were $64.9 billion, $75.4 billion and $72.8 billion, respectively. The notional amount of interest rate exchange agreements does not reflect the Bank’s credit risk exposure which, as discussed below, is much less than the notional amount.
55
The
following table provides the notional balances of the Bank’s derivative instruments, by balance sheet category and accounting designation, as of December 31, 2020, 2019 and 2018.
COMPOSITION OF DERIVATIVES BY BALANCE SHEET CATEGORY AND ACCOUNTING DESIGNATION
Converts the advance’s fixed rate to a variable- rate index and offsets an optional commitment embedded in the advance that allows the member to increase the amount of the advance.
Fair Value
4
4
Investments
Pay
fixed, receive floating interest rate swap
Converts the investment security's fixed rate to a variable-rate index.
Fair Value
15,191
16,115
Economic
1,153
3,703
Interest
rate caps
Offsets the interest rate caps embedded in a portfolio of variable-rate investment securities.
To provide interest rate swaps to members and to offset these interest rate swaps by executing interest rate swaps with the Bank’s derivative counterparties.
Economic
126
842
Interest
rate caps
To provide interest rate caps to members and to offset these interest rate caps by executing interest rate caps with the Bank's derivative counterparties.
To hedge risks to the Bank's earnings that are not directly linked to specific assets, liabilities or forecasted transactions
Economic
1,425
925
Total derivatives used to hedge risk
38,953
54,911
Mortgage
delivery commitments
22
32
Total notional amount of derivatives
$
38,975
$
54,943
57
Certain
derivative transactions that the Bank enters into are required to be cleared through a third-party central clearinghouse. As of December 31, 2020, the Bank had cleared trades outstanding with notional amounts totaling $28 billion. Cleared trades are subject to initial and variation margin requirements established by the clearinghouse and its clearing members. Collateral (or variation margin on daily settled derivative contracts) is typically delivered/paid (or returned/received) daily and, unlike bilateral derivatives, is not subject to any maximum unsecured credit exposure thresholds. The fair values of all interest rate derivatives (including accrued interest receivables and payables) with each clearing member of each clearinghouse are offset for purposes of measuring credit exposure and determining initial and variation margin
requirements. With cleared transactions, the Bank is exposed to credit risk in the event that the clearinghouse or the clearing member fails to meet its obligations to the Bank. The Bank has determined that the exercise by a non-defaulting party of the setoff rights incorporated in its cleared derivative transactions should be upheld in the event of a default, including a bankruptcy, insolvency or similar proceeding involving the clearinghouse or any of its clearing members or both.
The Bank has transacted some of its interest rate exchange agreements bilaterally with large financial institutions (with which it has in place master agreements). In doing so, the Bank has generally exchanged a defined market risk for the risk that the counterparty will not be able to fulfill its obligations in the future. The Bank manages this credit risk by spreading its transactions among as many highly rated counterparties as is practicable,
by entering into master agreements with each of its non-member bilateral counterparties that include maximum unsecured credit exposure amounts ranging from $50,000 to $500,000, and by monitoring its exposure to each counterparty on a daily basis. In addition, all of the Bank’s master agreements with its bilateral counterparties include netting arrangements whereby the fair values of all interest rate derivatives (including accrued interest receivables and payables) with each counterparty are offset for purposes of measuring credit exposure. As of December 31, 2020, the notional balance of outstanding interest rate exchange agreements transacted with non-member bilateral counterparties totaled $11 billion.
Under the Bank’s master agreements with its non-member bilateral counterparties, the unsecured credit exposure thresholds must be met before collateral is required to be delivered
by one party to the other party. Once the counterparties agree to the valuations of the interest rate exchange agreements, and if it is determined that the unsecured credit exposure exceeds the threshold, then, upon a request made by the unsecured counterparty, the party that has the unsecured obligation to the counterparty bearing the risk of the unsecured credit exposure generally must deliver sufficient collateral (or return a sufficient amount of previously remitted collateral) to reduce the unsecured credit exposure to zero (or, in the case of pledged securities, to an amount equal to the discount applied to the securities under the terms of the master agreement). Collateral is delivered (or returned) daily when these thresholds are met. The master agreements with the Bank's non-member bilateral counterparties require the delivery of collateral consisting of cash or very liquid, highly rated securities (generally consisting of U.S. government-guaranteed or agency
debt securities) if credit risk exposures rise above the thresholds.
The notional amount of interest rate exchange agreements does not reflect the Bank's credit risk exposure, which is much less than the notional amount. The Bank's net credit risk exposure is based on the current estimated cost, on a present value basis, of replacing at current market rates all interest rate exchange agreements with individual counterparties, if those counterparties were to default, after taking into account the value of any cash and/or securities collateral held or remitted by the Bank. For counterparties with which the Bank is in a net gain position, the Bank has credit exposure when the collateral it is holding (if any) has a value less than the amount of the gain. For counterparties with which the Bank is in a net loss position, the Bank has credit exposure when it has delivered collateral with a value greater than the amount of the loss
position.
As of December 31, 2020, cash collateral totaling $466 million had been delivered by the Bank to its non-member bilateral derivative counterparties and the Bank held $10 million of cash collateral received from its non-member bilateral derivative counterparties under the terms of the collateral exchange agreements. At that date, the Bank had pledged $738 million (fair value) of securities to satisfy initial margin requirements associated with its cleared derivatives. In addition, as of December 31, 2020, the Bank had paid $1.6 billion in variation margin to settle its cleared derivatives with one clearinghouse and the Bank had received $15 million in variation margin to settle its cleared derivatives with its other clearinghouse counterparty.
58
The
following table provides information regarding the Bank’s derivative counterparty credit exposure as of December 31, 2020.
DERIVATIVES COUNTERPARTY CREDIT EXPOSURE
(dollars in millions)
Credit
Rating(1)
Number of Bilateral Counterparties
Notional
Principal(2)
Net Derivatives Fair Value Before Collateral
Cash Collateral Pledged To (From) Counterparty
Other Collateral Pledged To Counterparty
Net Credit Exposure
Non-member counterparties
Asset
positions with credit exposure
Triple-B
2
$
392.0
$
4.5
$
(4.3)
$
—
$
0.2
Liability
positions with credit exposure
Single-A
2
603.5
(22.2)
22.4
—
0.2
Triple-B
1
415.6
(12.9)
12.9
—
—
Cleared
derivatives(3)
—
28,184.3
(13.6)
—
737.5
723.9
Total derivative positions with non-member counterparties to which the Bank had credit exposure
5
29,595.4
(44.2)
31.0
737.5
724.3
Asset
positions without credit exposure
3
744.0
5.8
(6.0)
—
—
Liability positions without credit exposure(4)
9
8,510.8
(442.0)
430.8
—
—
Total
derivative positions with non-member counterparties to which the Bank did not have credit exposure
12
9,254.8
(436.2)
424.8
—
—
Total non-member counterparties
17
38,850.2
(480.4)
$
455.8
$
737.5
$
724.3
Member
institutions
Interest rate exchange agreements (5)
Asset positions
6
63.1
7.4
Liability
positions
1
40.0
—
Mortgage delivery commitments
—
21.6
0.1
Total
member institutions
7
124.7
7.5
Total
24
$
38,974.9
$
(472.9)
____________________________________
(1)Credit
ratings shown in the table reflect the lowest rating from Moody’s or S&P and are as of December 31, 2020.
(3)Cleared derivatives with an aggregate notional principal balance of $9.0 billion were transacted with a clearinghouse rated double-A and cleared derivatives with an aggregate notional principal balance of $19.1 billion were transacted with a clearinghouse rated single-A.
(4)The figures for liability positions without credit exposure included transactions with a counterparty that is affiliated with a member of the Bank. Transactions with that counterparty had an aggregate notional principal
of $1.3 billion.
(5)This product offering and the collateral provisions associated therewith are discussed in the paragraph below.
The Bank offers interest rate swaps, caps and floors to its members to assist them in meeting their risk management objectives. In derivative transactions with its members, the Bank acts as an intermediary by entering into an interest rate exchange agreement with the member and then entering into an offsetting interest rate exchange agreement with one of the Bank’s non-member derivative counterparties discussed above. When entering into interest rate exchange agreements with its members, the Bank requires the member to post eligible collateral in an amount equal to the sum of the net market value of the member’s derivative transactions with the Bank (if the value is positive to the Bank) plus a percentage of the notional amount
of any interest rate swaps, with market values determined on at least a monthly basis. Eligible collateral for derivative transactions consists of collateral that is eligible to secure advances and other obligations under the member’s Advances and Security Agreement with the Bank (for a description of eligible collateral, see Item 1. Business — Products and Services – Advances).
59
The Dodd-Frank Act changed the regulatory framework for derivative transactions that are not subject to mandatory clearing requirements (uncleared trades). While the Bank expects to be able in certain instances to continue to enter into uncleared trades on a bilateral basis, those transactions will be subject to new regulatory requirements, including initial margin requirements imposed by regulators.
For additional discussion, see Item 1. Business - Legislative and Regulatory Developments.
Market Value of Equity
The ratio of the Bank’s estimated market value of equity to its book value of equity was 102 percent and 100 percent at December 31, 2020 and 2019, respectively. For additional discussion, see Item 7A. Quantitative and Qualitative Disclosures About Market Risk.
LIBOR Phase-Out
As discussed in "Item 1A — Risk Factors," certain tenors of LIBOR are expected to no longer be available after December 31, 2021 and the remaining tenors (including one-month and three-month LIBOR) are expected to no longer be available after June
30, 2023. For some time, the Bank has been preparing for this possibility and the associated transition to an alternative reference rate (e.g., SOFR). Among other things, a permanent discontinuation of LIBOR has necessitated the addition of fallback language in the Bank's LIBOR-indexed derivative contracts that extend past the cessation date, as well as changes in the Bank's risk management practices. In response to the probable future cessation of LIBOR, the Bank is no longer offering LIBOR-indexed advances, nor is it issuing LIBOR-indexed consolidated obligations.
On September 27, 2019, the Finance Agency issued a supervisory letter to the FHLBanks relating to their preparations for the phase-out of LIBOR. Under the supervisory letter, with limited exceptions, the FHLBanks were
directed, by December 31, 2019, to no longer purchase LIBOR-indexed investments which mature after December 31, 2021 and, by March 31, 2020, to no longer issue, make, purchase or otherwise enter into financial liabilities, derivatives or other assets that reference LIBOR and which mature after December 31, 2021. In light of the market volatility that was caused by the COVID-19 pandemic, the Finance Agency (on March 16, 2020) extended the date after which the FHLBanks could no longer issue, make, purchase or otherwise enter into financial liabilities, derivatives or other assets that reference LIBOR and which mature after December 31, 2021 from March
31, 2020 to June 30, 2020, except for option-embedded products. This directive did not in any way modify the previous guidance relating to investments. The Bank has complied with all aspects of this guidance.
On October 23, 2020, the International Swaps and Derivatives Association (“ISDA”) launched the IBOR Fallbacks Supplement (“Supplement”) and the IBOR Fallbacks Protocol (“Protocol”). The Supplement amends ISDA’s standard definitions for interest rate derivatives to incorporate robust fallbacks for derivatives linked to certain interbank offered rates (“IBORs”). Both the Supplement and the Protocol took effect on January 25, 2021. On that date, all legacy bilateral derivative transactions subject to Protocol-covered agreements (including ISDA
agreements) that incorporate certain covered ISDA definitional booklets and reference a covered IBOR, including LIBOR, were amended to apply the new ISDA-recommended IBOR fallbacks in the event of the relevant IBOR’s cessation. Both parties must adhere to the Protocol in order to effectively amend legacy derivative contracts or, alternatively, the parties must bilaterally agree to amended legacy contracts to address IBOR fallbacks. The Bank and all of its non-member bilateral derivative counterparties have adhered to the Protocol. On and after January 25, 2021, all new derivative contracts are subject to the relevant IBOR fallbacks set forth in the
Supplement.
60
The following table presents the Bank's LIBOR-indexed financial instruments by contractual maturity at December 31, 2020. Some of the Bank's derivatives contain call options which, if exercised, could result in earlier terminations. In addition, it is possible that some of the Bank's MBS holdings could be prepaid, reducing the balance of these investments maturing after June 30, 2023.
At
December 31, 2020, the Bank had outstanding standby bond purchase agreements totaling $709.3 million which expire in 2022, 2023, 2024 and 2025. Under the terms of these agreements, the Bank could be required to purchase and hold the subject bonds for a period of time. If this were to occur, the Bank would earn interest on the bonds at specified rates indexed to the greater of one-month LIBOR or the Federal Funds rate. For further discussion of these standby bond purchase agreements, see the audited financial statements included in this report (specifically, Note 18 on page F-55).
Results of Operations
Net Income
Net
income for 2020, 2019 and 2018 was $198.7 million, $227.3 million and $198.8 million, respectively. The Bank’s net income for 2020 represented a return on average capital stock (“ROCS”) of 8.17 percent. In comparison, the Bank’s ROCS was 8.90 percent in 2019 and 7.86 percent in 2018. To derive the Bank’s ROCS, net income is divided by average capital stock outstanding excluding stock that is classified as mandatorily redeemable capital stock. The factors contributing to the changes in the Bank's net income from 2019 to 2020 are discussed below. The factors contributing to the changes in the Bank's net income from 2018 to 2019 are discussed in the 2019 10-K.
While the Bank is exempt from all federal, state and local income taxes, it is obligated to set aside 10 percent of its income before assessments (adjusted for interest expense on mandatorily redeemable capital stock) for its AHP. The AHP provides grants that members
can use to support affordable housing projects in their communities. Generally, the Bank’s AHP assessment is derived by adding interest expense on mandatorily redeemable capital stock to income before assessments; the result of this calculation is then multiplied by 10 percent. For the years ended December 31, 2020 and 2019, the Bank’s AHP assessments totaled $22.1 million and $25.3 million, respectively. In each of these years, the effective assessment rate closely approximated 10 percent. Because interest expense on mandatorily redeemable capital stock is not deductible for purposes of computing the Bank’s AHP assessment, the effective assessment rate could exceed 10 percent in future periods.
61
Income
Before Assessments
During 2020 and 2019, the Bank’s income before assessments was $220.8 million and $252.5 million, respectively. The $31.7 million decrease in income before assessments for 2020 as compared to 2019 was attributable to a $24.4 million increase in other expenses and a $24.2 million decrease in other income offset by a $16.8 million increase in net interest income after provision for mortgage loan losses. The components of income before assessments (net interest income after provision for loan losses, other income and other expense) are discussed in more detail in the following sections.
Net Interest Income After Provision for Mortgage Loan Losses
In 2020 and 2019, the Bank’s net interest income after provision for mortgage loan losses was $310.0 million and $293.2 million, respectively. The $16.8 million increase in net
interest income after provision for mortgage loan losses from 2019 to 2020 was due primarily to a $15.7 million increase in prepayment fees on advances.
The average balances of the Bank's interest-earning assets increased slightly from $71.1 billion in 2019 to $72.1 billion in 2020. The Bank's net interest margin increased from 41 basis points in 2019 to 43 basis points in 2020. Net interest margin, or net interest income as a percentage of average earning assets, is a function of net interest spread and the rates of return on assets funded by the investment of the Bank’s capital. Net interest spread is the difference between the yield on interest-earning assets and the cost of interest-bearing liabilities. The Bank’s net interest spread was 39 basis points in 2020 as compared to 28 basis points in 2019. Due to a decrease in average short-term interest rates in 2020 relative to 2019, the contribution of the Bank’s invested
capital to the net interest margin (the impact of non-interest bearing funds) decreased from 13 basis points in 2019 to 4 basis points in 2020.
The Bank's net interest margin and net interest spread are impacted positively or negatively, as the case may be, by the amount of fair value hedge ineffectiveness recorded in net interest income. Accounting Standards Update 2017-12, "Targeted Improvements to Accounting for Hedging Activities" ("ASU 2017-12"), requires that, for fair value hedges, the entire change in the fair value of the hedging instrument included in the assessment of hedge effectiveness along with the changes in the fair value of the hedged item attributable to the hedged risk be presented in the same income statement line that is used to present the earnings effect of the hedged item. The Bank adopted ASU 2017-12 on January
1, 2019. For the years ended December 31, 2020 and 2019, the amounts reported in net interest income, which would have been reported in other income (loss) in the absence of this guidance, increased (reduced) interest income on advances by ($1,055,000) and $417,000, respectively, reduced interest income on available-for-sale securities by $18,947,000 and $18,192,000, respectively, and increased (reduced) interest expense on consolidated obligations by ($5,020,000) and $134,000, respectively. In aggregate, these amounts reduced net interest income by $15.0 million and $17.9 million for the years ended December 31, 2020 and 2019, respectively. The fair value hedge ineffectiveness associated with the Bank's available-for-sale securities is largely offset by mitigation activities
undertaken by the Bank, the results of which are recorded in other income (loss) as further discussed below.
62
The following table presents average balance sheet amounts together with the total dollar amounts of interest income and expense and the weighted average interest rates of major earning asset categories and the funding sources for those earning assets for 2020, 2019 and 2018.
Fair value adjustment on available-for-sale securities (d)
31
130
237
Adjustment
for net non-credit portion of other-than-temporary impairments on held-to-maturity securities (d)
(8)
(10)
(12)
Total assets
$
71,928
792
1.10
%
$
71,323
1,806
2.53
%
$
68,075
1,547
2.27
%
Liabilities
and Capital
Interest-bearing deposits (b) (g)
$
1,537
5
0.29
%
$
983
20
2.05
%
$
862
15
1.75
%
Consolidated
obligations
Bonds
35,429
277
0.78
%
30,800
711
2.31
%
32,682
660
2.02
%
Discount
notes
30,924
199
0.64
%
34,961
781
2.23
%
30,278
561
1.85
%
Mandatorily
redeemable capital stock and other borrowings
23
—
0.36
%
12
—
2.52
%
9
—
1.94
%
Total
interest-bearing liabilities
67,913
481
0.71
%
66,756
1,512
2.26
%
63,831
1,236
1.94
%
Other
liabilities
885
927
654
Derivatives netting adjustment (b)
(544)
(177)
(220)
Total
liabilities
68,254
481
0.70
%
67,506
1,512
2.24
%
64,265
1,236
1.92
%
Total
capital
3,674
3,817
3,810
Total liabilities and capital
$
71,928
0.67
%
$
71,323
2.12
%
$
68,075
1.82
%
Net
interest income
$
311
$
294
$
311
Net
interest margin
0.43
%
0.41
%
0.45
%
Net interest spread
0.39
%
0.28
%
0.34
%
Impact
of non-interest bearing funds
0.04
%
0.13
%
0.11
%
63
____________________________________
(a)Amounts
used to calculate average rates are based on whole dollars. Accordingly, recalculations based upon the disclosed amounts (millions) may not produce the same results.
(b)The Bank offsets the fair value amounts recognized for the right to reclaim cash collateral or the obligation to return cash collateral against the fair value amounts recognized for derivative instruments transacted under a master netting agreement or other similar arrangement. The average balances of interest-bearing deposit assets for the years ended December 31, 2020, 2019 and 2018 in the table above include $525 million, $167 million and $202 million, respectively, which are classified as derivative assets/liabilities on the statements of condition. In addition, the average balances
of interest-bearing deposit liabilities for the years ended December 31, 2020, 2019 and 2018 in the table above include $19 million, $11 million and $18 million, respectively, which are classified as derivative assets/liabilities on the statements of condition.
(c)Includes overnight federal funds sold to other FHLBanks.
(d)Average balances for available-for-sale and held-to-maturity securities are calculated based upon amortized cost.
(e)Interest income and average rates include net prepayment fees on advances.
(f)The average balances for mortgage loans
held for portfolio in the table above include $56 million, $3 million and $1 million of non-accruing loans for the years ended December 31, 2020, 2019 and 2018, respectively.
(g)Average balances of deposits for the years ended December 31, 2020, 2019 and 2018 include time deposits of $64 million, $102 million and $110 million, respectively. The remaining balances are substantially comprised of interest-bearing demand deposits. During the years ended December 31, 2020, 2019 and 2018,
interest was paid on time deposits at average rates of 0.92 percent, 2.34 percent and 1.88 percent, respectively.
Rate and Volume Analysis
Changes in both volume (i.e., average balances) and interest rates influence changes in net interest income and net interest margin. The following table summarizes changes in interest income and interest expense between 2020 and 2019 and between 2019 and 2018. Changes in interest income and interest expense that cannot be attributed to either volume or rate have been allocated to the volume and rate categories based upon the proportion of the absolute value of the volume and rate changes.
RATE AND VOLUME ANALYSIS
(in millions)
2020
vs. 2019 Increase (Decrease) Due To
2019 vs. 2018 Increase (Decrease) Due To
Volume
Rate
Total
Volume
Rate
Total
Interest income
Interest-bearing
deposits
$
8
$
(36)
$
(28)
$
14
$
1
$
15
Securities purchased under agreements to resell
(43)
(36)
(79)
6
13
19
Federal
funds sold
11
(60)
(49)
(57)
26
(31)
Investments
Trading
22
(59)
(37)
83
(1)
82
Available-for-sale
23
(269)
(246)
43
4
47
Held-to-maturity
(6)
(19)
(25)
(12)
5
(7)
Advances
3
(545)
(542)
(48)
125
77
Mortgage
loans held for portfolio
26
(34)
(8)
60
(3)
57
Total interest income
44
(1,058)
(1,014)
89
170
259
Interest
expense
Interest-bearing deposits
8
(23)
(15)
2
3
5
Consolidated
obligations
Bonds
94
(528)
(434)
(40)
91
51
Discount
notes
(81)
(501)
(582)
94
126
220
Mandatorily redeemable capital stock and other borrowings
—
—
—
—
—
—
Total
interest expense
21
(1,052)
(1,031)
56
220
276
Changes in net interest income
$
23
$
(6)
$
17
$
33
$
(50)
$
(17)
64
Other
Income (Loss)
The following table presents the various components of other income (loss) for the years ended December 31, 2020, 2019 and 2018.
OTHER INCOME (LOSS)
(in thousands)
2020
2019
2018
Net
interest income (expense) associated with:
Economic hedge derivatives related to consolidated obligation bonds
$
—
$
(3)
$
170
Economic
hedge derivatives related to consolidated obligation discount notes
(39)
(249)
—
Member/offsetting derivatives
80
207
339
Economic
hedge derivatives related to advances
696
522
47
Economic hedge derivatives related to trading securities
(25,045)
(163)
(366)
Economic hedge derivatives related to available-for-sale securities
(438)
(150)
(4)
Economic
hedge derivatives related to mortgage loans held for portfolio
(248)
(1,196)
(133)
Other stand-alone economic hedge derivatives
4,312
(2,382)
(1,442)
Total net interest expense associated with economic hedge derivatives
(20,682)
(3,414)
(1,389)
Gains
(losses) related to economic hedge derivatives
Interest rate swaps
Advances
(6,971)
(523)
(17)
Available-for-sale securities
218
(16)
50
Trading
securities
(1,708)
(1,488)
(330)
Mortgage loans held for portfolio
(2,884)
4,822
173
Consolidated obligation bonds
—
(1)
(171)
Consolidated
obligation discount notes
24
(61)
—
Other stand-alone economic hedge derivatives
30,601
25,553
(2,326)
Interest
rate swaptions related to mortgage loans held for portfolio
(4,524)
(2,728)
(239)
Mortgage delivery commitments
8,507
2,097
1,912
Interest rate caps related to held-to-maturity securities
—
(6)
1
Member/offsetting
derivatives
(56)
214
150
Total fair value gains (losses) related to economic hedge derivatives
23,207
27,863
(797)
Price alignment amount on daily settled derivative contracts
362
238
(9,892)
Gains
(losses) related to fair value hedge ineffectiveness
Advances and associated hedges
—
—
(12)
Available-for-sale securities and associated hedges
—
—
6,482
Consolidated
obligation bonds and associated hedges
—
—
(4,648)
Total fair value hedge ineffectiveness
—
—
1,822
Total net gains (losses) on derivatives and hedging activities
2,887
24,687
(10,256)
Net
gains (losses) on trading securities
7,225
12,860
(1,149)
Net gains (losses) on other assets
carried at fair value
1,647
1,964
(746)
Realized gains on sales of held-to-maturity securities
—
—
1,671
Realized gains on sales of available-for-sale securities
829
852
—
Service
fees
2,467
2,590
2,252
Letter of credit fees
14,347
12,437
9,268
Other, net
2,757
930
921
Total
other
29,272
31,633
12,217
Total other income
$
32,159
$
56,320
$
1,961
Net Interest Settlements
Net interest income (expense) associated with economic
hedge derivatives including, but not limited to, those associated with non-qualifying fair value hedging relationships is recorded in net gains (losses) on derivatives and hedging activities. Net interest income (expense) associated with derivatives in qualifying fair value hedging relationships is recorded in net interest income in the same income statement line that is used to present the earnings effect of the hedged item.
65
Fair Value Hedge Ineffectiveness
The Bank uses interest rate swaps to hedge the risk of changes in the fair value of some of its advances and consolidated obligation bonds and, currently, all of its available-for-sale securities. These hedging relationships are designated as fair value hedges. To the extent
these relationships qualify for hedge accounting, changes in the fair values of both the derivative (the interest rate swap) and the hedged item (limited to changes attributable to the hedged risk) are recorded in earnings. Prior to January 1, 2019, these amounts were recorded in other income (loss) as net gains (losses) on derivatives and hedging activities. Effective January 1, 2019, these amounts are recorded in net interest income in the same income statement line that is used to present the earnings effect of the hedged item. For those relationships that qualified for hedge accounting, the differences between the change in fair value of the hedged items and the change in fair value of the associated interest rate swaps (representing hedge ineffectiveness) were net losses of $18.9 million and $24.7 million in 2020 and 2019, respectively. To the extent that the Bank's
fair value hedging relationships do not qualify for hedge accounting, or cease to qualify because they are determined to be ineffective, only the change in fair value of the derivative is recorded in earnings as net net gains (losses) on derivatives and hedging activities (in this case, there is no offsetting change in fair value of the hedged item). The net losses on derivatives associated with specific advances, available-for-sale securities and consolidated obligation bonds that did not qualify for hedge accounting, or ceased to qualify because they were determined to be ineffective, totaled $6.8 million and $0.5 million in 2020 and 2019, respectively.
The higher yielding, longer duration fixed-rate GSE CMBS and GSE debentures held in the Bank’s available-for-sale securities portfolio (all of which have been hedged with fixed-for-floating interest rate swaps in long-haul hedging relationships) expose the Bank to periodic
earnings variability in the form of fair value hedge ineffectiveness. The hedge ineffectiveness gains and losses associated with these particular relationships are attributable in large part to the use of different discount curves to value the interest rate swaps (either the overnight index swap ("OIS") curve or the SOFR curve) and the GSE CMBS/GSE debentures (LIBOR plus a constant spread). Notwithstanding the hedge ineffectiveness gains and losses, these hedging relationships have been, and are expected to continue to be, highly effective in achieving offsetting changes in fair values attributable to the hedged risk. While the ineffectiveness-related gains and losses associated with these hedging relationships can be significant when evaluated in the context of the Bank’s net income, they are relatively small when expressed as a percentage of the values of the positions. Because the Bank expects to hold these interest rate swaps to maturity, the unrealized ineffectiveness-related
gains (or losses) associated with its holdings of GSE CMBS and GSE debentures are expected to be transitory, meaning that they will reverse in future periods in the form of ineffectiveness-related losses (or gains).
Economic Hedge Derivatives
Notwithstanding the transitory nature of the ineffectiveness-related gains and losses associated with the Bank's available-for-sale securities portfolio (discussed above), the Bank has entered into several derivative transactions in an effort to mitigate a portion of the periodic earnings variability that can result from those fair value hedging relationships. At December 31, 2020 and 2019, the notional balance of these derivatives totaled $425 million. For the years ended December 31, 2020 and
2019, the gains associated with these stand-alone economic hedge derivatives were $30.6 million and $25.6 million, respectively.
The Bank has invested in residential mortgage loans. A portion of the interest rate and prepayment risk associated with the Bank's mortgage loan portfolio is managed through the use of interest rate swaps and swaptions. The net change in the fair values of these interest rate swaps and swaptions was $(7.4) million and $2.1 million for the years ended December 31, 2020 and 2019, respectively. In addition, the Bank entered into delivery commitments associated with the purchase of the mortgage loans. The fair value changes associated with mortgage delivery commitments (representing net unrealized gains from the commitment date to the settlement date) were
$8.5 million and $2.1 million for the years ended December 31, 2020 and 2019, respectively.
As discussed previously in the section entitled “Financial Condition — Derivatives and Hedging Activities," the Bank offers interest rate swaps, caps and floors to its members to assist them in meeting their risk management objectives. In derivative transactions with its members, the Bank acts as an intermediary by entering into an interest rate exchange agreement with the member and then entering into an offsetting interest rate exchange agreement with one of the Bank’s non-member derivative counterparties. The net change in the fair values of derivatives transacted with members and the offsetting derivatives was $(0.1) million and $0.2 million for the years ended December 31, 2020
and 2019, respectively.
Price Alignment Amount
Effective January 3, 2017, one of the Bank's two clearinghouse counterparties made certain amendments to its rulebook that changed the legal characterization of variation margin payments on cleared derivatives to settlements on the contracts. Effective January 16, 2018, the Bank's other clearinghouse counterparty made similar amendments to its rulebook. Prior to the dates upon which these amendments became effective, the variation margin payments were in each case characterized as collateral pledged to secure outstanding credit exposure on the derivative contracts.
The Bank receives or pays a price alignment amount on the cumulative variation margin payments associated with these contracts. The price alignment amount approximates the amount of
66
interest the Bank would have received or paid had the variation margin payments continued to be characterized as collateral. Prior to January 1, 2019, the price alignment amount was recorded in other income (loss) as gains (losses) on derivatives and hedging activities. Effective January 1, 2019, the price alignment amount associated with derivatives in qualifying fair value hedging relationships is recorded in
net interest income in the same income statement line that is used to present the earnings effect of the hedged item. The allocated price alignment amount increased net interest income by $3.9 million and $6.8 million for the years ended December 31, 2020 and 2019, respectively.
Other
During the year ended December 31, 2020, the Bank sold available-for-sale securities with an amortized cost of $604.6 million. Proceeds from the sales totaled $605.4 million, resulting in realized gains of $0.8 million. During the year ended December 31, 2019, the Bank sold available-for-sale securities with an amortized cost of $510.3 million. Proceeds from the sales totaled $511.2 million, resulting in
realized gains of $0.9 million. The Bank did not sell any securities classified as held-to-maturity during the years ended December 31, 2020 or 2019.
During the years ended December 31, 2020 and 2019, the Bank held from time to time U.S. Treasury Bills and U.S. Treasury Notes, all of which were classified as trading securities. Due to fluctuations in interest rates, the aggregate gains on these securities were $7.2 million and $12.9 million for the years ended December 31, 2020 and 2019, respectively. The Bank occasionally hedges the risk of changes in the fair value of some of its U.S. Treasury Notes. For the years ended December 31,
2020 and 2019, the losses associated with these stand-alone derivatives were $1.7 million and $1.5 million, respectively.
The Bank has a small balance of marketable equity securities consisting solely of mutual fund investments associated with its non-qualified deferred compensation plans. These securities are carried at fair value and included in other assets on the statements of condition. The fair value gains on these securities totaled $1.6 million and $2.0 million for the years ended December 31, 2020 and 2019, respectively. The gains or losses on the securities are offset by a corresponding increase or decrease in amounts owed to participants in the deferred compensation plans, the expense for which is recorded in compensation and benefits expense (in the case of employees)
or other operating expenses (in the case of directors).
For the years ended December 31, 2020 and 2019, letter of credit fees totaled $14.3 million and $12.4 million, respectively. The increase in letter of credit fees from 2019 to 2020 was due to an increase in the amount of letters of credit outstanding. At December 31, 2020 and 2019, outstanding letters of credit totaled $22.4 billion and $21.8 billion, respectively.
Other Expense
Total other expense includes the Bank’s compensation and benefits; other operating expenses; subsidies, grants and donations; derivative clearing fees; and its proportionate share of the costs of operating the
Finance Agency and the Office of Finance. For the years ended December 31, 2020 and 2019, these expenses totaled $121.3 million and $97.0 million, respectively.
Compensation and benefits totaled $65.1 million for 2020, compared to $50.0 million for 2019. The $15.1 million increase in compensation and benefits for the year ended December 31, 2020, as compared to the year ended December 31, 2019, was due largely to a $13 million voluntary contribution that was made to the Bank's defined benefit pension plan in December 2020 to improve its funding ratio which, as of July 1, 2020, was 90.1 percent. The impact of this voluntary contribution will be reflected in the Bank's funding ratio
as of July 1, 2021. For additional discussion regarding the Bank's defined benefit pension plan, see the audited financial statements included in this report (specifically, Note 16 on page F-48). The remaining increase in compensation and benefits was primarily due to higher incentive compensation expense, cost of living and merit increases and increases in unused vacation pay. The increase in incentive compensation was due to higher goal achievement in 2020 as compared to 2019. The Bank's average headcount in 2020 and 2019 was 202 employees and 200 employees, respectively. At both December 31, 2020 and 2019, the Bank employed 203 people.
Other operating expenses for the years ended December 31, 2020 and 2019
were $36.2 million and $36.1 million, respectively. Increases in professional services, software costs and transaction services fees associated with the Bank's mortgage loan program were largely offset by decreases in legal fees and business travel. The increase in transaction service fees was due to higher average mortgage loan balances. These fees are paid to the FHLBank of Chicago as compensation for administering the MPF Program.
Subsidies, grants and donations were $8.6 million and $0.5 million for the years ended December 31, 2020 and 2019, respectively. In response to the COVID-19 pandemic, the Bank made available (during the three months ended June 30, 2020) $5.0 billion of below-market rate (or subsidized) advances at a cost to the Bank of $4.4 million. In addition,
the Bank made $0.9 million in charitable contributions primarily to various food banks throughout the Bank's district and it funded $2.3 million in grants under its Partnership Grant Program, which was expanded to address pandemic relief efforts. During the year ended December 31, 2020, the Bank also funded $0.3 million in grants under its Housing Assistance for Veterans program, $0.5 million in disaster relief funds (primarily related to Hurricanes Laura and Delta), and $0.1 million for each of two scholarship funds honoring the legacies of two Bank directors who passed away during the year.
67
Derivative clearing fees were $1.3 million for both the years ended December 31, 2020
and 2019.
The Bank, together with the other FHLBanks, is assessed for the costs of operating the Office of Finance and a portion of the costs of operating the Finance Agency. The Bank’s allocated share of the Office of Finance's expenses totaled $4.8 million and $4.3 million in 2020 and 2019, respectively. In these years, the Bank's allocated share of the Finance Agency's expenses totaled $5.3 million and $4.8 million, respectively.
Liquidity and Capital Resources
In order to meet members’ credit needs and the Bank’s financial obligations, the Bank maintains a portfolio of money market instruments typically consisting of overnight
federal funds, overnight reverse repurchase agreements, overnight interest-bearing deposits, U.S. Treasury Bills and U.S. Treasury Notes. Beyond those amounts that are required to meet members’ credit needs and its own obligations, the Bank typically holds additional balances of short-term investments that fluctuate as the Bank invests the proceeds of debt issued to replace maturing and called liabilities, as the balance of deposits changes, and as the level of liquidity needed to satisfy Finance Agency requirements changes. At December 31, 2020, the Bank’s short-term liquidity portfolio was comprised of $3.3 billion of U.S. Treasury Bills, $3.1 billion of excess cash held at the Federal Reserve, $1.9 billion of U.S. Treasury Notes, $1.0 billion of overnight reverse repurchase agreements, $0.9 billion of overnight federal funds sold and $0.8 billion of overnight interest-bearing deposits.
The
Bank’s primary source of funds is the proceeds it receives from the issuance of consolidated obligation bonds and discount notes in the capital markets. Historically, the FHLBanks have issued debt throughout the business day in the form of discount notes and bonds with a wide variety of maturities and structures. Generally, the Bank has access to the capital markets as needed during the business day to acquire funds to meet its needs.
In addition to the liquidity provided from the proceeds of the issuance of consolidated obligations, the Bank also maintains access to wholesale funding sources such as federal funds purchased and securities sold under agreements to repurchase (e.g., borrowings secured by its investments in MBS and/or agency debentures). Furthermore, the Bank has access to borrowings (typically short-term) from the other FHLBanks.
The 11 FHLBanks and the Office of Finance
are parties to the Federal Home Loan Banks P&I Funding and Contingency Plan Agreement, as amended and restated effective January 1, 2017 (the “Contingency Agreement”). The Contingency Agreement and related procedures are designed to facilitate the timely funding of principal and interest payments on FHLBank System consolidated obligations in the event that a FHLBank is not able to meet its funding obligations in a timely manner. The Contingency Agreement and related procedures provide for the issuance of overnight consolidated obligations ("Plan COs") directly to one or more FHLBanks that provide funds to avoid a shortfall in the timely payment of principal and interest on any consolidated obligations for which another FHLBank is the primary obligor. The direct placement by a FHLBank of consolidated obligations with another FHLBank is permitted only in those instances when direct placement of consolidated
obligations is necessary to ensure that sufficient funds are available to timely pay all principal and interest on FHLBank System consolidated obligations due on a particular day. Through the date of this report, no Plan COs have ever been issued pursuant to the terms of the Contingency Agreement.
On occasion, and as an alternative to issuing new debt, the Bank may assume the outstanding consolidated obligations for which other FHLBanks are the original primary obligors. This occurs in cases where the original primary obligor may have participated in a large consolidated obligation issue to an extent that exceeded its immediate funding needs in order to facilitate better market execution for the issue. The original primary obligor might then warehouse the funds until they were needed or make the funds available to other FHLBanks. Transfers may also occur when the original primary obligor’s funding needs change, and that FHLBank
offers to transfer debt that is no longer needed to other FHLBanks. Transferred debt is typically fixed-rate, fixed-term, non-callable debt, and may be in the form of discount notes or bonds. The Bank did not assume any consolidated obligations from other FHLBanks during the years ended December 31, 2020 or 2019.
Through March 30, 2019, the Bank was required, pursuant to guidance issued by the Finance Agency, to meet two daily liquidity standards, each of which assumed that the Bank was unable to access the market for consolidated obligations during a prescribed period. The first standard required the Bank to maintain sufficient funds to meet its obligations for 15 days under a scenario in which it was assumed that members did not renew any maturing, prepaid or called advances. The second standard required the Bank to maintain
sufficient funds to meet its obligations for 5 days under a scenario in which it was assumed that members renewed all maturing and called advances, with certain exceptions for very large, highly rated members.
Beginning on March 31, 2019, the two liquidity standards discussed in the preceding paragraph were replaced by a single, more stringent requirement. On August 23, 2018, the Finance Agency issued an Advisory Bulletin and accompanying supervisory letter that, together, set forth the Finance Agency’s expectations with respect to the maintenance of sufficient liquidity to enable the FHLBanks to provide advances and fund letters of credit during a sustained capital markets disruption. More specifically, the Advisory Bulletin (hereinafter referred to as the “Liquidity AB”) sets forth the Finance Agency's expectations
with respect
68
to base case liquidity and funding gaps, among other things. The Liquidity AB sets forth ranges for the prescribed base case liquidity and funding gap measures and the supervisory letter identified the initial thresholds within those ranges that the Finance Agency believed were appropriate in light of then existing market conditions.
With respect to base case liquidity, the Bank is required to maintain a positive cash balance during a prescribed period of time ranging from 10 to 30 calendar days assuming no access to the market for consolidated obligations or other unsecured funding sources and the renewal of all advances that are scheduled to mature during the measurement period. Initially, the Finance Agency
indicated that it would consider a FHLBank to have adequate reserves of liquid assets if, from March 31, 2019 through December 30, 2019, it maintained 10 calendar days or more of positive daily cash balances and if, on and after December 31, 2019, it maintained 20 calendar days or more of positive daily cash balances. The supervisory letter sets forth the cash flow assumptions to be used by the FHLBanks which include, among other things, a reserve for potential draws on standby letters of credit and the inclusion of uncommitted/unencumbered U.S. Treasury securities with a remaining maturity no greater than 10 years which are classified as trading or available-for-sale securities as a cash inflow one business day after measurement. Effective March 31, 2019, the Liquidity
AB rescinded the 5-day and 15-day liquidity standards discussed above.
Funding gaps measure the difference between a FHLBank’s assets and liabilities that are scheduled to mature during a specified period, expressed as a percentage of the FHLBank’s total assets. Depending on conditions in the financial markets, the Finance Agency believes (as stated in the Liquidity AB) that the FHLBanks should operate so as not to exceed a funding gap ratio between negative 10 percent and negative 20 percent for a three-month time horizon and between negative 25 percent and negative 35 percent for a one-year time horizon. These limits are designed to reduce the liquidity risks associated with a mismatch in a FHLBank’s asset and liability maturities, including an undue reliance on short-term debt funding, which may increase a FHLBank’s debt rollover risk. Initially, the Finance Agency indicated that it would consider a FHLBank to have adequate
liquidity to address funding gap risks if, on and after December 31, 2018, the FHLBank maintained a funding gap ratio of negative 15 percent or better for the three-month time horizon and negative 30 percent or better for the one-year time horizon. For purposes of calculating the funding gap ratios, the FHLBanks may include estimates of expected cash inflows, including anticipated prepayments, for mortgage loans and mortgage-backed securities. In addition, uncommitted/unencumbered U.S. Treasury securities with a remaining maturity no greater than 10 years which are classified as trading securities are treated as maturing assets in the three-month time horizon regardless of maturity.
As a result of the recent deterioration in financial market conditions due to the COVID-19 outbreak, the Finance Agency temporarily revised its guidance with respect to base case liquidity and funding
gaps. On March 3, 2020, the Finance Agency indicated that the FHLBanks should maintain no less than 10 calendar days of positive daily cash balances through April 30, 2020 and that the FHLBanks should then return to 20 calendar days or more of positive daily cash balances by September 30, 2020. On March 12, 2020, the Finance Agency increased (through July 30, 2020) the funding gap ratios for the three-month and one-year time horizons to negative 25 percent or better and negative 40 percent or better, respectively. By September 30, 2020, the funding gap ratios for the three-month and one-year time horizons were not to exceed negative 20 percent and negative 35 percent, respectively.
By December 31, 2020, the funding gap ratios were not to exceed the limits that were in place prior to the COVID-19 outbreak.
On May 26, 2020, the Finance Agency modified the guidance set forth in the immediately preceding paragraph. Pursuant to this most recent communication, the Finance Agency considered a FHLBank to have adequate reserves of liquid assets if, from August 31, 2020 through December 30, 2020, it maintained 15 calendar days of positive daily cash balances, and the Finance Agency will consider a FHLBank to have adequate reserves of liquid assets if, on and after December 31, 2020, it maintains 20 calendar days of positive daily cash balances. Further, the Finance
Agency will consider a FHLBank to have adequate liquidity to address funding gap risks if, on and after December 31, 2020, its funding gap ratios for the three-month and one-year time horizons do not exceed negative 20 percent and negative 35 percent, respectively.
The Bank has at all times been in compliance with the applicable liquidity requirements described above.
The Bank’s access to the capital markets has never been interrupted to an extent that the Bank’s ability to meet its obligations was compromised and the Bank does not currently believe that its ability to issue consolidated obligations will be impeded to that extent in the future. If, however, the Bank were unable to issue consolidated obligations for an extended period of time, the Bank would eventually exhaust the availability of purchased federal funds (including borrowings
from other FHLBanks) and repurchase agreements as sources of funds. It is also possible that an event (such as a natural disaster or a pandemic like COVID-19) that might impede the Bank’s ability to raise funds by issuing consolidated obligations would also limit the Bank’s ability to access the markets for federal funds purchased and/or repurchase agreements.
Under those circumstances, to the extent that the balance of principal and interest that came due on the Bank’s debt obligations and the funds needed to pay its operating expenses exceeded the cash inflows from its interest-earning assets and proceeds from maturing assets, and if access to the market for consolidated obligations was not again available, the Bank would seek to access funding under the Contingency Agreement to repay any principal and interest due on its consolidated obligations. However, if the Bank were unable to raise funds by issuing consolidated obligations,
it is likely that the other FHLBanks would have similar
69
difficulties issuing debt. If funds were not available under the Contingency Agreement, the Bank’s ability to conduct its operations would be compromised even earlier than if this funding source was available.
The following table summarizes the Bank’s contractual cash obligations and off-balance-sheet lending-related financial commitments by due date or remaining maturity as of December 31, 2020.
CONTRACTUAL OBLIGATIONS
(in millions)
Payments
due by Period
< 1 Year
1-3 Years
3-5 Years
> 5 Years
Total
Long-term debt
$
21,392.1
$
13,656.4
$
1,313.5
$
625.0
$
36,987.0
Mandatorily
redeemable capital stock
0.2
6.4
7.3
—
13.9
Operating leases
0.5
0.9
0.5
1.2
3.1
Purchase
obligations
Advances
6.1
1.1
—
—
7.2
Mortgage
delivery commitments
21.6
—
—
—
21.6
Pension and post-retirement
4.3
0.1
0.1
0.1
4.6
Total
contractual obligations
$
21,424.8
$
13,664.9
$
1,321.4
$
626.3
$
37,037.4
The table above excludes derivatives and obligations (other than consolidated obligation bonds) with contractual payments having an original maturity of one year or less. The distribution of
long-term debt is based upon contractual maturities. The actual repayments of long-term debt could be impacted by factors affecting redemptions such as call options.
The above table presents the Bank’s mandatorily redeemable capital stock by year of earliest mandatory redemption, which is the earliest time at which the Bank is required to repurchase the shareholder’s capital stock. The earliest mandatory redemption date is based on the assumption that the advances and/or other extensions of credit associated with the activity-based stock will have matured or otherwise concluded by the time the notice of redemption or withdrawal expires. The Bank expects to repurchase activity-based stock as the associated advances and/or other extensions of credit are reduced, which may be before or after the expiration of the five-year redemption/withdrawal notice period.
In addition to the capital
stock repurchase and redemption related events noted above, shareholders may, at any time, request the Bank to repurchase excess capital stock. Excess stock is defined as the amount of stock held by a member (or former member) in excess of that institution’s minimum investment requirement (i.e., the amount of stock held in excess of its activity-based investment requirement and, in the case of a member, its membership investment requirement). Although the Bank is not obligated to repurchase excess stock prior to the expiration of a five-year redemption or withdrawal notification period, it will typically endeavor to honor such requests within a reasonable period of time (generally not exceeding 30 days) so long as the Bank will continue to meet its regulatory capital requirements following the repurchase. At December 31, 2020, excess stock held by the Bank’s members and former members totaled $528.9 million, of which
$9.0 million was classified as mandatorily redeemable.
Further, the Bank is contingently liable on letters of credit and standby bond purchase agreements totaling $22.4 billion and $709.3 million, respectively. Letters of credit expire as follows: $20.2 billion in 2021, $2.0 billion in 2022-2023, $0.2 billion in 2024-2025, with the remainder expiring in 2026. The standby bond purchase agreements expire as follows: $406.5 million in 2022-2023 and $302.8 million in 2024-2025.
Risk-Based Capital Rules and Other Capital Requirements
The Bank is required to maintain at all times permanent capital in an amount at least equal to its risk-based capital requirement, which is the sum of its credit risk
capital requirement, its market risk capital requirement, and its operations risk capital requirement, as further described below. Permanent capital is defined under the Finance Agency’s rules as retained earnings and amounts paid in for Class B Stock (which, for the Bank, includes both Class B-1 Stock and Class B-2 Stock), regardless of its classification as equity or liabilities for financial reporting purposes, as further described above in the section entitled “Financial Condition – Capital Stock.” For reasons of safety and soundness, the Finance Agency may require the Bank, or any other FHLBank, to maintain a greater amount of permanent capital than is required by the risk-based capital requirements as defined.
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The Bank’s credit risk capital requirement is
determined by adding together the credit risk capital charges for advances, investments, mortgage loans, derivatives, other assets and off-balance-sheet commitment positions (e.g., outstanding letters of credit and commitments to fund advances). Among other things, these charges are computed based upon the credit risk percentages assigned to each item as required by Finance Agency rules, taking into account the time to maturity and credit ratings of certain of the items. These percentages are applied to the book value of assets or, in the case of off-balance-sheet commitments, to their balance sheet equivalents.
Prior to January 1, 2020, the Bank’s market risk capital requirement was determined by estimating the potential loss in market value of equity under a wide variety of market conditions and adding the amount, if any, by which the Bank’s market value of total capital was
less than 85 percent of its book value of total capital. The potential loss component of the market risk capital requirement employed a “stress test” approach, using a 99-percent confidence level. Simulations of over 300 historical market interest rate scenarios dating back to January 1992 (using changes in interest rates and volatilities over each six-month period since that date) were generated and, under each scenario, the hypothetical impact on the Bank’s then current market value of equity was determined. The hypothetical impact associated with each historical scenario was calculated by simulating the effect of each set of rate and volatility conditions upon the Bank’s then current risk position, each of which reflected actual assets, liabilities, derivatives and off-balance-sheet commitment positions as of the measurement date. From the complete set of resulting simulated scenarios, the scenario resulting in the third worst estimated deterioration in market
value of equity was identified as that scenario associated with a probability of occurrence of not more than one percent (i.e., the 99-percent confidence level). The hypothetical deterioration in market value of equity derived under the methodology described above typically represented the market risk component of the Bank’s regulatory risk-based capital requirement which, in conjunction with the credit risk and operations risk components, determined the Bank’s overall risk-based capital requirement.
The Bank’s operations risk capital requirement is equal to 30 percent of the sum of its credit risk capital requirement and its market risk capital requirement.
Effective January 1, 2020, the calculation of the Bank's risk-based capital requirement was modified pursuant to the Finance Agency's final rule on FHLBank capital requirements
which was issued on February 20, 2019 (the "Final Capital Requirements Rule"), as supplemented by the guidance provided in Advisory Bulletin 2018-01, "Scenario Determination for Market Risk Models Used for Risk-Based Capital" ("AB 2018-01"). AB 2018-01, which modifies the Bank's market risk capital requirement, was issued on February 7, 2018 and became effective concurrent with the effective date of the Final Capital Requirements Rule. Among other things, the Final Capital Requirements Rule removed the requirements that the FHLBanks calculate credit risk capital charges and unsecured credit limits based on ratings issued by an NRSRO, and instead requires that the FHLBanks establish and use their own internal rating methodology. The rule imposes a new credit risk capital charge for cleared derivatives. The rule also revises the percentages used in the
regulation’s tables to calculate credit risk capital charges for advances and non-mortgage assets. While these new requirements increased the Bank's risk-based capital requirement, the Bank did not need to make any changes in its capital management practices in order to satisfy the modified risk-based capital requirement.
At December 31, 2020, the Bank’s credit risk, market risk and operations risk capital requirements were $200 million, $574 million and $232 million, respectively. These requirements were $464 million, $214 million and $204 million, respectively, at December 31, 2019.
In addition to the risk-based capital requirement, the Bank is subject to three other capital requirements. First, the Bank must, at all times, maintain a minimum total capital-to-assets ratio of 4.0 percent.
For this purpose, total capital is defined by Finance Agency rules and regulations as the Bank’s permanent capital and the amount of any general allowance for losses (i.e., those reserves that are not held against specific assets). Second, the Bank is required to maintain at all times a minimum leverage capital-to-assets ratio in an amount at least equal to 5.0 percent of its total assets. In applying this requirement to the Bank, leverage capital includes the Bank’s permanent capital multiplied by a factor of 1.5 plus the amount of any general allowance for losses. The Bank did not have any general reserves at December 31, 2020 or December 31, 2019. Under the regulatory definitions, total capital and permanent capital exclude accumulated other comprehensive income (loss). Third, beginning in February 2020, the Bank is required to maintain a capital stock-to-assets ratio
of at least 2.0 percent, as measured on a daily average basis at each month end. The Bank is required to submit monthly capital compliance reports to the Finance Agency. At all times during the years ended December 31, 2020 and 2019, the Bank was in compliance with all of its regulatory capital requirements. For a summary of the Bank’s compliance with the Finance Agency’s capital requirements as of December 31, 2020 and 2019, see the audited financial statements included in this report (specifically, Note 15 beginning on page F-42).
A final regulation adopted by the Finance Agency in 2009 (the "Capital Classification Regulation") establishes criteria for four capital classifications
for the FHLBanks: adequately capitalized, undercapitalized, significantly undercapitalized and critically undercapitalized. An adequately capitalized FHLBank meets all existing risk-based and minimum capital requirements. An undercapitalized FHLBank does not meet one or more of its risk-based or minimum capital requirements, but nevertheless has total capital equal to or greater than 75 percent of all capital requirements. A significantly undercapitalized FHLBank does not have total capital equal to or greater than 75 percent of all capital requirements, but the FHLBank does have total capital greater
71
than 2 percent of its total assets. A critically undercapitalized FHLBank has total capital that is less than or equal to 2 percent of its total assets.
The
Director of the Finance Agency determines each FHLBank’s capital classification no less often than once a quarter; the Director may make a determination more often than quarterly. The Director may reclassify a FHLBank one category below the otherwise applicable capital classification (e.g., from adequately capitalized to undercapitalized) if the Director determines that (i) the FHLBank is engaging in conduct that could result in the rapid depletion of permanent or total capital, (ii) the value of collateral pledged to the FHLBank has decreased significantly, (iii) the value of property subject to mortgages owned by the FHLBank has decreased significantly, (iv) after notice to the FHLBank and opportunity for an informal hearing before the Director, the FHLBank is in an unsafe and unsound condition, or (v) the FHLBank is engaging in an unsafe and unsound practice because the FHLBank’s asset quality, management, earnings or liquidity were found to be less than satisfactory
during the most recent examination, and any deficiency has not been corrected. Before classifying or reclassifying a FHLBank, the Director must notify the FHLBank in writing and give the FHLBank an opportunity to submit information relative to the proposed classification or reclassification. Since the adoption of the Capital Classification Regulation, the Bank has been classified as adequately capitalized for each quarterly period for which the Director has made a final determination.
In addition to restrictions on capital distributions by a FHLBank that does not meet all of its risk-based and minimum capital requirements, a FHLBank that is classified as undercapitalized, significantly undercapitalized or critically undercapitalized is required to take certain actions, such as submitting a capital restoration plan to the Director of the Finance Agency for approval. Additionally, with respect to a FHLBank that is less than adequately
capitalized, the Director of the Finance Agency may take other actions that he or she determines will help ensure the safe and sound operation of the FHLBank and its compliance with its risk-based and minimum capital requirements in a reasonable period of time.
The Director may appoint the Finance Agency as conservator or receiver for any FHLBank that is classified as critically undercapitalized. The Director may also appoint the Finance Agency as conservator or receiver of any FHLBank that is classified as undercapitalized or significantly undercapitalized if the FHLBank fails to submit a capital restoration plan acceptable to the Director within the time frames established by the Capital Classification Regulation or materially fails to implement any capital restoration plan that has been approved by the Director. At least once in each 30-day period following classification of a FHLBank as critically undercapitalized, the
Director must determine whether during the prior 60 days the FHLBank had assets less than its obligations to its creditors and others or if the FHLBank was not paying its debts on a regular basis as such debts became due. If either of these conditions apply, then the Director must appoint the Finance Agency as receiver for the FHLBank.
A FHLBank for which the Director appoints the Finance Agency as conservator or receiver may bring an action in the United States District Court for the judicial district in which the FHLBank is located or in the United States District Court for the District of Columbia for an order requiring the Finance Agency to remove itself as conservator or receiver. A FHLBank that is not critically undercapitalized may also seek judicial review of any final capital classification decision or of any final decision to take supervisory action made by the Director under the Capital Classification Regulation.
Critical
Accounting Policies and Estimates
The preparation of financial statements in accordance with U.S. GAAP requires management to make a number of judgments, estimates and assumptions that affect the reported amounts of assets, liabilities, income and expenses. To understand the Bank’s financial position and results of operations, it is important to understand the Bank’s most significant accounting policies and the extent to which management uses judgment and estimates in applying those policies. The Bank’s critical accounting policies and estimates involve the following:
•Derivatives and Hedging Activities;
•Estimation of Fair Values; and
•Amortization of Premiums and Accretion of Discounts Associated with Mortgage-Related Assets.
The
Bank considers these policies to be critical because they require management’s most difficult, subjective and complex judgments about matters that are inherently uncertain. Management bases its judgments and estimates on current market conditions and industry practices, historical experience, changes in the business environment and other factors that it believes to be reasonable under the circumstances. Actual results could differ materially from these estimates under different assumptions and/or conditions. For additional discussion regarding the application of these and other accounting policies, see Note 1 to the Bank’s audited financial statements included in this report.
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Derivatives and Hedging Activities
The
Bank enters into interest rate swap, swaption, cap and, on occasion, floor agreements to manage its exposure to changes in interest rates. Through the use of these derivatives, the Bank may adjust the effective maturity, repricing index and/or frequency or option characteristics of financial instruments to achieve its risk management objectives. By regulation, the Bank may only use derivatives to mitigate identifiable risks. Accordingly, all of the Bank’s derivatives are positioned to offset interest rate risk exposures inherent in its investment, funding and member lending activities.
ASC 815 requires that all derivatives be recorded on the statement of condition at their fair value. Changes in the fair value of all derivatives, excluding those designated as cash flow hedges (discussed below), are recorded each period in current earnings. Under ASC 815, the Bank is required to recognize unrealized gains and losses on derivative
positions whether or not the transaction qualifies for fair value hedge accounting, in which case offsetting losses or gains on the hedged assets or liabilities may also be recognized. Therefore, to the extent certain derivative instruments do not qualify for fair value hedge accounting under ASC 815, or changes in the fair values of derivatives are not exactly offset by changes in their hedged items, the accounting framework imposed by ASC 815 introduces the potential for a considerable mismatch between the timing of income and expense recognition for assets or liabilities being hedged and their associated hedging instruments. As a result, during periods of significant changes in market prices and interest rates, the Bank’s earnings may exhibit considerable volatility.
The judgments and assumptions that are most critical to the application of this accounting policy are those affecting whether a hedging relationship qualifies
for fair value hedge accounting under ASC 815 and, if so, whether an assumption of "no ineffectiveness" can be made. In addition, the estimation of fair values (discussed below) has a significant impact on the actual results being reported.
At the inception of each fair value hedge transaction, the Bank formally documents the hedge relationship and its risk management objective and strategy for undertaking the hedge, including identification of the hedging instrument, the hedged item, the nature of the risk being hedged, and how the hedging instrument’s effectiveness in offsetting the exposure to changes in the hedged item’s fair value attributable to the hedged risk will be assessed. In all cases involving a recognized asset, liability or firm commitment, the designated risk being hedged is the risk of changes in its fair value attributable to changes in the designated benchmark interest rate which, through December
31, 2020, has predominantly been LIBOR. Therefore, for this purpose, changes in the fair value of the hedged item (e.g., an advance, investment security or consolidated obligation) reflect only those changes in value that are attributable to changes in the designated benchmark interest rate (hereinafter referred to as “changes in the benchmark fair value”).
For hedging relationships that are designated as fair value hedges and qualify for hedge accounting, the change in the benchmark fair value of the hedged item is recorded in earnings, thereby providing some offset to the change in fair value of the associated derivative. The difference in the change in fair value of the derivative and the change in the benchmark fair value of the hedged item represents “hedge ineffectiveness.” If a fair value hedging relationship qualifies for the shortcut method of accounting, the Bank can assume that the change in the
benchmark fair value of the hedged item is equal and offsetting to the change in the fair value of the derivative and, as a result, no ineffectiveness is recorded in earnings. However, ASC 815 limits the use of the shortcut method to hedging relationships of interest rate risk involving a recognized interest-bearing asset or liability and an interest rate swap, and then only if nine specific conditions are met.
If the fair value hedging relationship qualifies for hedge accounting but does not meet all nine conditions specified in ASC 815, the assumption of "no ineffectiveness" cannot be made and the long-haul method of accounting is used. Under the long-haul method, the change in the benchmark fair value of the hedged item is calculated independently from the change in fair value of the derivative. As a result, the net effect is that the hedge ineffectiveness has an impact on earnings.
In
all cases where the Bank is applying fair value hedge accounting, it is hedging interest rate risk through the use of interest rate swaps, swaptions or caps. For those interest rate swaps, swaptions and caps that are in fair value hedging relationships that do not qualify for the shortcut method of accounting, the Bank uses regression analysis to assess hedge effectiveness. Effectiveness testing is performed at the inception of each hedging relationship to determine whether the hedge is expected to be highly effective in offsetting the identified risk, and at each month-end thereafter to ensure that the hedge relationship has been effective historically and to determine whether the hedge is expected to be highly effective in the future. Hedging relationships accounted for under the shortcut method are not tested for hedge effectiveness.
A fair value hedge relationship is considered effective only if certain specified criteria
are met. If a hedge fails the effectiveness test at inception, the Bank does not apply hedge accounting. If the hedge fails the effectiveness test during the life of the transaction, the Bank discontinues hedge accounting prospectively. In that case, the Bank continues to carry the derivative on its statement of condition at fair value, recognizes the changes in fair value of that derivative in current earnings, ceases to adjust the hedged item for changes in its benchmark fair value and amortizes the cumulative basis adjustment on the formerly hedged item into earnings over its remaining term. Unless and until the derivative is redesignated in a qualifying fair value hedging relationship for accounting purposes, changes in its fair value are recorded in current earnings without an offsetting change in the benchmark fair value from a hedged item.
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Changes
in the fair value of derivative positions that do not qualify for hedge accounting under ASC 815 (economic hedges) are recorded in current earnings without an offsetting change in the benchmark fair value of the hedged item.
On and after January 1, 2019, all changes in the fair value of a derivative that is designated and qualifies as a cash flow hedge are recorded in AOCI until earnings are affected by the variability of the cash flows of the hedged transaction, at which time these amounts are reclassified from AOCI to earnings. Prior to January 1, 2019, changes in the fair value of a derivative that was designated and qualified as a cash flow hedge, to the extent that the hedge was effective, were recorded in AOCI until earnings were affected by the variability of the cash flows of the hedged transaction. Any ineffective portion
of a cash flow hedge (which represented the amount by which the change in the fair value of the derivative differed from the change in fair value of a hypothetical derivative having terms that matched identically the critical terms of the hedged forecasted transaction) was recognized in other income (loss) as “net gains (losses) on derivatives and hedging activities.” As of December 31, 2020 and 2019, the Bank had only $1.066 billion and $1.043 billion (notional), respectively, of derivatives that were designated as cash flow hedges.
As of December 31, 2020, the Bank’s derivatives portfolio included $12.3 billion (notional amount) that was accounted for using the shortcut method, $20.6 billion (notional amount) that was accounted for using the long-haul method, $1.1 billion
(notional amount) that was designated in cash flow hedging relationships and $5.0 billion (notional amount) that did not qualify for hedge accounting. By comparison, at December 31, 2019, the Bank’s derivatives portfolio included $9.1 billion (notional amount) that was accounted for using the shortcut method, $37.0 billion (notional amount) that was accounted for using the long-haul method, $1.0 billion (notional amount) that was designated in cash flow hedging relationships and $7.8 billion (notional amount) that did not qualify for hedge accounting.
Estimation of Fair Values
The Bank’s derivatives, investments classified as available-for-sale and trading, and mutual fund investments included in other assets are presented in the statements of condition at fair value. Fair value is defined under U.S. GAAP as the price that would be
received to sell an asset or paid to transfer a liability in an orderly transaction between market participants at the measurement date. A fair value measurement assumes that the transaction to sell the asset or transfer the liability occurs in the principal market for the asset or liability or, in the absence of a principal market, the most advantageous market for the asset or liability. U.S. GAAP establishes a fair value hierarchy and requires an entity to maximize the use of observable inputs and minimize the use of unobservable inputs when measuring fair value. The fair value hierarchy prioritizes the inputs used to measure fair value into three broad levels:
Level 1 Inputs — Quoted prices (unadjusted) in active markets for identical assets or liabilities that the reporting entity can access at the measurement date. The fair values of the Bank’s mutual fund investments included in other assets were
determined using Level 1 inputs.
Level 2 Inputs — Inputs other than quoted prices included in Level 1 that are observable for the asset or liability, either directly or indirectly. If the asset or liability has a specified (contractual) term, a Level 2 input must be observable for substantially the full term of the asset or liability. Level 2 inputs include the following: (1) quoted prices for similar assets or liabilities in active markets; (2) quoted prices for identical or similar assets or liabilities in markets that are not active or in which little information is released publicly; (3) inputs other than quoted prices that are observable for the asset or liability (e.g., interest rates and yield curves that are observable at commonly quoted intervals and implied volatilities); and (4) inputs that are derived principally from or corroborated by observable market data (e.g., implied spreads). Level
2 inputs were used to determine the estimated fair values of the Bank’s derivative contracts, U.S. Treasury obligations classified as trading securities and investment securities classified as available-for-sale.
Level 3 Inputs — Unobservable inputs for the asset or liability that are supported by little or no market activity. None of the Bank’s assets or liabilities that are recorded at fair value on a recurring basis were measured using significant Level 3 inputs.
The fair values of the Bank’s assets and liabilities that are carried at fair value are estimated based upon quoted market prices when available. However, some of these instruments lack an available trading market characterized by frequent transactions between a willing buyer and willing seller engaging in
an exchange transaction (e.g., derivatives). In these cases, such values are generally estimated using a pricing model and inputs that are observable for the asset or liability, either directly or indirectly. For its derivatives, the Bank compares the fair values obtained from its pricing model to clearinghouse valuations (in the case of cleared derivatives) and non-binding dealer estimates (in the case of bilateral derivatives) and may also compare its fair values to those of similar instruments to ensure such fair values are reasonable. The assumptions and inputs used have a significant effect on the reported carrying values of assets and liabilities and the related income and expense. The use of different assumptions/inputs could result in materially different net income and reported carrying values.
In addition to those items that are carried at fair value, the Bank estimates fair values for its other financial instruments
for disclosure purposes and, in applying ASC 815, it calculates the periodic changes in the fair values of hedged items (e.g., certain advances, available-for-sale securities and consolidated obligations) that are attributable solely to changes in the designated
74
benchmark interest rate ("the benchmark fair values") and the periodic changes in the fair values of hypothetical derivatives associated with cash flow hedges. For most of these instruments (other than the Bank’s holdings of MBS and state housing agency debentures classified as held-to-maturity, as described below), such values are estimated using a pricing model that employs discounted cash flows or other similar pricing techniques. Significant inputs to the pricing model (e.g., yield curves and volatilities)
are based on current observable market data. To the extent this model is used to calculate changes in the benchmark fair values of hedged items, the inputs have a significant effect on the reported carrying values of assets and liabilities and the related income and expense; the use of different inputs could result in materially different net income and reported carrying values.
Consistent with market practice, the Bank uses either the OIS curve (for derivatives transacted with bilateral counterparties) or the SOFR curve (for cleared derivatives), rather than the LIBOR swap curve, to discount the cash flows on its interest rate exchange agreements for valuation purposes. Depending upon the spreads between LIBOR and SOFR or between LIBOR and OIS, the use of the SOFR curve or the OIS curve, as the case may be, to value the Bank's interest rate exchange agreements and the LIBOR swap curve (plus or minus a constant spread) to derive
the benchmark fair values of the Bank's hedged items can result in increased fair value hedge ineffectiveness on long-haul hedging relationships. In addition, while not likely, this valuation methodology has the potential to lead to the loss of hedge accounting for some of these hedging relationships. Either of these outcomes could result in increased earnings volatility, which could potentially be material.
To value its holdings of U.S. Treasury obligations classified as trading securities, all of its available-for-sale securities and its holdings of MBS and state housing agency debentures classified as held-to-maturity, the Bank obtains prices from three designated third-party pricing vendors when available. The pricing vendors use various proprietary models to price these securities. The inputs to those models are derived from various sources including, but not limited to: benchmark yields, reported trades, dealer estimates,
issuer spreads, benchmark securities, bids, offers and other market-related data. Because many securities do not trade on a daily basis, the pricing vendors use available information as applicable such as benchmark curves, benchmarking of like securities, sector groupings and matrix pricing to determine the prices for individual securities. Each pricing vendor has an established challenge process in place for all security valuations, which facilitates resolution of potentially erroneous prices identified by the Bank. Recently, the Bank conducted reviews of the three pricing vendors to reconfirm its understanding of the vendors' pricing processes, methodologies and control procedures and was satisfied that those processes, methodologies and control procedures were adequate and appropriate.
A “median” price is first established for each security using a formula that is based upon the number of prices received. If three
prices are received, the middle price is the median price; if two prices are received, the average of the two prices is the median price; and if one price is received, it is the median price (and also the final price) subject to some type of validation similar to the evaluation of outliers described below. All prices that are within a specified tolerance threshold of the median price are included in the “cluster” of prices that are averaged to compute a “default” price. All prices that are outside the threshold (“outliers”) are subject to further analysis (including, but not limited to, comparison to prices provided by an additional third-party valuation service, prices for similar securities, and/or non-binding dealer estimates) to determine if an outlier is a better estimate of fair value. If an outlier (or some other price identified in the analysis) is determined to be a better estimate of fair value, then the outlier (or the other price, as
appropriate) is used as the final price rather than the default price. If, on the other hand, the analysis confirms that an outlier (or outliers) is (are) in fact not representative of fair value and the default price is the best estimate, then the default price is used as the final price. In all cases, the final price is used to determine the fair value of the security.
If all prices received for a security are outside the tolerance threshold level of the median price, then there is no default price, and the final price is determined by an evaluation of all outlier prices as described above.
The Bank’s pricing model is subject to an external validation every three years. In those years when an external validation is not performed, the pricing model is subject to a limited scope review. The Bank periodically reviews and refines, as appropriate, its assumptions and valuation methodologies
to reflect market indications as closely as possible. The Bank believes it has the appropriate personnel, technology, and policies and procedures in place to enable it to value its financial instruments in a reasonable and consistent manner.
The Bank’s fair value measurement methodologies for its financial instruments that are measured at fair value on the statement of condition are more fully described in the audited financial statements accompanying this report (specifically, Note 17 beginning on page F-51).
Amortization of Premiums and Accretion of Discounts Associated with Mortgage-Related Assets
The Bank estimates prepayments for purposes of amortizing premiums and accreting discounts associated with its MBS holdings. Under U.S. GAAP, premiums and discounts are required to be recognized in income at a constant
effective yield over the life of the instrument. Because actual prepayments often deviate from the estimates, the Bank periodically recalculates the effective yield to reflect actual prepayments to date and anticipated future prepayments. Anticipated future prepayments are estimated using an externally developed mortgage prepayment model. This model considers past prepayment patterns;
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historical, current and projected interest rate environments; and historical changes in home prices, among other factors, to predict future cash flows.
Adjustments are recorded on a retrospective basis, meaning that the net investment in the instrument is adjusted to the amount that would have existed had the new effective yield been applied since
the acquisition of the instrument. As interest rates (and thus prepayment speeds) change, these accounting requirements can be a source of income volatility. Declines in interest rates generally accelerate prepayments, which accelerate the amortization of premiums and reduce current earnings. Typically, declining interest rates also accelerate the accretion of discounts, thereby increasing current earnings. Conversely, in a rising interest rate environment, prepayments will generally decline, thus lengthening the effective maturity of the instruments and shifting some of the premium amortization and discount accretion to future periods.
As of December 31, 2020, the unamortized premiums and discounts associated with investment securities for which prepayments are estimated totaled $82.6 million and $15.0 million, respectively. At that date, the carrying values of these investment
securities totaled $9.0 billion and $1.7 billion, respectively.
The Bank uses the contractual method to amortize premiums and accrete discounts on mortgage loans. The contractual method recognizes the income effects of premiums and discounts in a manner that is reflective of the actual behavior of the mortgage loans during the period in which the behavior occurs while also reflecting the contractual terms of the assets without regard to changes in estimated prepayments based upon assumptions about future borrower behavior.
Recently Issued Accounting Guidance
For a discussion of recently issued accounting guidance, see the audited financial statements accompanying this report (specifically, Note
2 beginning on page F-17).
The following table presents supplemental information regarding the maturities and yields of the Bank’s investments (at carrying value) as of December 31, 2020. Maturities are based on the contractual maturities of the securities.
INVESTMENT
MATURITIES AND YIELDS
(dollars in thousands)
Due In One Year Or Less
Due After One Year Through Five Years
Due
After Five Years Through Ten Years
Due After Ten Years
Total
Maturities
Trading securities
U.S.
Treasury Notes
$
1,872,343
$
112,884
$
—
$
—
$
1,985,227
U.S. Treasury Bills
3,316,241
—
—
—
3,316,241
Total
trading securities
5,188,584
112,884
—
—
5,301,468
Available-for-sale securities
U.S.
government-guaranteed debentures
4,345
437,106
—
—
441,451
GSE debentures
302,481
3,053,470
1,658,599
17,383
5,031,933
Other
debentures
6,341
39,579
—
—
45,920
GSE commercial MBS
—
1,486,800
9,713,652
68,006
11,268,458
Total
available-for-sale securities
313,167
5,016,955
11,372,251
85,389
16,787,762
Held-to-maturity securities
U.S.
government-guaranteed debentures
—
4,119
—
—
4,119
State housing agency obligations
—
—
35,000
74,698
109,698
Mortgage-backed
securities
GSE residential MBS
14
188
916
738,990
740,108
Non-agency
residential MBS
—
—
—
43,301
43,301
Total held-to-maturity securities
14
4,307
35,916
856,989
897,226
Total
securities
5,501,765
5,134,146
11,408,167
942,378
22,986,456
Interest-bearing deposits
759,240
—
—
—
759,240
Securities
purchased under agreements to resell
1,000,000
—
—
—
1,000,000
Federal funds sold
915,000
—
—
—
915,000
Total
investments
$
8,176,005
$
5,134,146
$
11,408,167
$
942,378
$
25,660,696
Weighted average yields
U.S.
Treasury Notes
0.96
%
2.24
%
—
%
—
%
1.03
%
U.S. Treasury Bills
0.08
—
—
—
0.08
Yield
on trading securities
0.40
2.24
—
—
0.44
Available-for-sale securities
U.S. government-guaranteed
debentures
2.56
2.46
—
—
2.46
GSE debentures
2.52
2.20
2.45
2.85
2.30
Other
debentures
2.63
2.54
—
—
2.55
GSE commercial MBS
—
2.77
2.93
2.44
2.91
Yield
on available-for-sale securities
2.52
2.39
2.86
2.52
2.71
Held-to-maturity securities
U.S.
government-guaranteed debentures
—
0.65
—
—
0.65
State housing agency obligations
—
—
0.82
1.03
0.96
Mortgage-backed
securities
GSE residential MBS
7.41
1.25
0.59
0.60
0.60
Non-agency
residential MBS
—
—
—
0.69
0.69
Yield on held-to-maturity securities
7.41
0.68
0.81
0.64
0.65
Yield
on total securities
0.52
%
2.39
%
2.85
%
0.81
%
2.11
%
Other available-for-sale debentures consisted of securities with a fair value of $45,920,000 at December 31, 2020 that were issued by the Private Export Funding Corporation. The U.S. government and GSEs were the
only issuers whose securities exceeded 10 percent of the Bank’s total capital at December 31, 2020.
78
Mortgage Loan Portfolio Analysis
The Bank’s mortgage loans, nonaccrual mortgage loans, and mortgage loans 90 days or more past due and accruing interest for each of the five years in the period ended December 31, 2020 were as follows:
Real estate mortgages past due 90 days or more and still accruing interest(1)
$
239
$
80
$
156
$
98
$
130
Interest
contractually due during the year on nonaccrual loans
$
5,079
Interest income recognized during the year on nonaccrual loans
$
1,621
____________________________________
(1)Only
government guaranteed/insured loans continue to accrue interest after they become 90 days or more past due.
Allowance for Credit Losses
Activity in the allowance for credit losses for each of the five years in the period ended December 31, 2020 is presented below. All activity relates to domestic real estate mortgage loans.
ALLOWANCE FOR CREDIT LOSSES
(in thousands)
2020
2019
2018
2017
2016
Balance,
beginning of year
$
1,149
$
493
$
271
$
141
$
141
Adjustment to initially apply new credit loss accounting guidance
2,191
—
—
—
—
Provision
for credit losses
585
656
222
130
—
Balance, end of year
$
3,925
$
1,149
$
493
$
271
$
141
Geographic
Concentration of Mortgage Loans
The following table presents the geographic concentration of the Bank’s mortgage loan portfolio as of December 31, 2020.
GEOGRAPHIC CONCENTRATION OF MORTGAGE LOANS
Southwest (AR, AZ, CO, KS, LA, MO, NM, OK, TX, and UT)
71.8
%
Southeast (AL, DC, FL, GA, KY, MD, MS, NC, SC, TN, VA, and WV)
16.7
West
(AK, CA, GU, HI, ID, MT, NV, OR, WA, and WY)
7.7
Midwest (IA, IL, IN, MI, MN, ND, NE, OH, SD, and WI)
2.1
Northeast (CT, DE, MA, ME, NH, NJ, NY, PA, PR, RI, VI, and VT)
1.7
100.0
%
Deposits
Time deposits in denominations of $100,000 or more totaled $50.9 million at December 31, 2020. These deposits mature as follows:
$45.5 million in three months or less and $5.4 million in over three months through six months.
79
Short-term Borrowings
Borrowings with original maturities of one year or less are classified as short-term. Supplemental information regarding the Bank’s discount notes and short-term consolidated obligation bonds for the years ended December 31, 2020, 2019 and 2018 is provided in the following table.
ITEM 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
Overview
As a financial intermediary, the Bank is subject to interest rate risk. Changes in the level of interest rates, the slope of the interest rate yield curve, and/or the relationships
(or spreads) between interest yields for different instruments have an impact on the Bank’s estimated market value of equity and its net earnings. This risk arises from a variety of instruments that the Bank enters into on a regular basis in the normal course of its business.
The terms of member advances, investment securities and consolidated obligations may present interest rate risk and/or embedded option risk. As discussed in Management’s Discussion and Analysis of Financial Condition and Results of Operations, the Bank makes extensive use of interest rate derivative instruments, primarily interest rate swaps, swaptions and caps, to manage the risk arising from these sources.
The Bank has investments in residential mortgage-related assets, primarily CMOs and MPF mortgage loans, both of which present prepayment risk. This risk arises from the mortgagors’ option to prepay their
mortgages, making the effective maturities of these mortgage-based assets relatively more sensitive to changes in interest rates and other factors that affect the mortgagors’ decisions to repay their mortgages as compared to other long-term investment securities that do not have prepayment features. A decline in interest rates generally accelerates mortgage refinancing activity, thus increasing prepayments and thereby shortening the effective maturity of the mortgage-related assets. Conversely, rising rates generally slow prepayment activity and lengthen a mortgage-related asset’s effective maturity.
The Bank has managed the potential prepayment risk embedded in mortgage assets by purchasing securities that maintain their original principal balance for a fixed number of years, by purchasing highly structured tranches of mortgage securities that substantially limit the effects of prepayment risk, by issuing a combination of
callable and non-callable debt with varying maturities, and/or by using interest rate derivative instruments to offset prepayment risk specific both to particular securities and to the overall mortgage portfolio.
The Bank uses a variety of risk measurements to monitor its interest rate risk. The Bank has made a substantial investment in sophisticated financial modeling systems to measure and analyze interest rate risk. These systems enable the Bank to routinely and regularly measure interest rate risk metrics, including the sensitivity of its market value of equity and income under a variety of interest rate scenarios. Management regularly monitors the information derived from these models and provides the Bank’s Board of Directors with risk measurement reports. The Bank uses these periodic assessments, in combination with its evaluation of the factors influencing the results, when developing its funding and hedging strategies.
80
The
Bank’s Enterprise Market Risk Management Policy provides a risk management framework for the financial management of the Bank consistent with the strategic principles outlined in its Strategic Business Plan. The Bank develops its funding and hedging strategies to manage its interest rate risk within the risk limits established in its Enterprise Market Risk Management Policy.
Business Objectives
The Bank serves as a financial intermediary between the capital markets and its members. In its most basic form, this intermediation process involves raising funds by issuing consolidated obligations in the capital markets and lending the proceeds to member institutions at slightly higher rates. The interest spread between the cost of the Bank’s liabilities and the yield on its assets, combined with the earnings on its invested capital, are the Bank’s primary sources of earnings. The Bank’s
primary asset liability management goal is to manage its assets and liabilities in such a way that its current and projected net interest spread is consistent across a wide range of interest rate environments, although the Bank may occasionally take actions that are not necessarily consistent with this objective for short periods of time in response to unusual market conditions.
The objective of maintaining a stable interest spread is complicated under normal conditions by the fact that the intermediation process outlined above cannot be executed for all of the Bank’s assets and liabilities on an individual basis. In the course of a typical business day, the Bank continuously offers a wide range of fixed and floating rate advances with maturities ranging from overnight to 40 years that members can borrow in amounts that meet their specific funding needs at any given point in time. At the same time, the Bank issues consolidated
obligations to investors who have their own set of investment objectives and preferences for the terms and maturities of securities that they are willing to purchase.
Because it is not possible to consistently issue debt simultaneously with the issuance of an advance to a member in the same amount and with the same terms as the advance, or to predict what types of advances members might want or what types of consolidated obligations investors might be willing to buy on any particular day, the Bank must have a ready supply of funds on hand at all times to meet member advance demand.
In order to have a ready supply of funds, the Bank typically issues debt as opportunities arise in the market, and makes the proceeds of those debt issuances (some of which bear fixed interest rates and have relatively long maturities) available for members to borrow in the form of advances. Holding fixed-rate
liabilities in anticipation of member borrowing subjects the Bank to interest rate risk, and there is no assurance in any event that members will borrow from the Bank in quantities or maturities that will match these warehoused liabilities. Therefore, in order to intermediate the mismatches between advances with certain terms and features, and consolidated obligations with a different set of terms and features, the Bank typically converts both longer maturity assets and longer maturity liabilities to a floating rate index (which, in the past, has typically been LIBOR), and attempts to manage the interest spread between the pools of floating-rate assets and liabilities.
This process of intermediating the timing, structure, and amount of Bank members’ credit needs with the investment requirements of the Bank’s creditors is made possible by the extensive use of interest rate exchange agreements. The Bank’s general practice has
been, as often as practical, to contemporaneously execute interest rate exchange agreements when acquiring longer maturity fixed-rate assets and/or issuing longer maturity fixed-rate liabilities in order to convert the cash flows to LIBOR floating rates. Doing so reduces the Bank’s interest rate risk exposure, which allows it to preserve the value of, and earn more stable returns on, members’ capital investment.
However, in the normal course of business, the Bank also acquires (or has acquired) assets whose structural characteristics and/or size reduce the Bank’s ability to enter into interest rate exchange agreements having mirror image terms. These assets include small fixed-rate, fixed-term advances; small fixed-schedule amortizing advances; and floating-rate mortgage-related securities with embedded caps. These assets require the Bank to employ risk management strategies in which the Bank hedges against aggregated risks.
The Bank may use fixed-rate, callable or non-callable debt or interest rate exchange agreements, such as fixed-for-floating interest rate swaps or interest rate caps, to manage these aggregated risks.
With the likely cessation of one-month and three-month LIBOR in mid-2023, the Bank no longer enters into LIBOR-indexed derivatives and has instead started using derivatives that are indexed to either SOFR or OIS in an effort to accomplish this business objective. As of December 31, 2020, the Bank had derivatives indexed to LIBOR, OIS and SOFR totaling $37.6 billion, $1.1 billion and $0.3 billion, respectively.
Interest Rate Risk Measurement
As discussed above, the Bank measures its market risk regularly and generally manages its market risk within its Enterprise Market Risk Management Policy
limits on estimated market value of equity losses under 200 basis point interest rate shock scenarios. The Enterprise Market Risk Management Policy articulates the Bank’s tolerance for the amount of overall interest rate risk the Bank will assume by limiting the maximum estimated loss in market value of equity that the Bank would incur under simulated 200 basis point changes in interest rates to 15 percent of the estimated base case market value. The Bank was in compliance with this limit at each month-end during the period from December 2019 through December 2020.
81
As part of its ongoing risk management process, the Bank calculates an estimated market value of equity for a base case interest rate scenario and for interest rate scenarios that reflect parallel interest rate
shocks. The base case market value of equity is calculated by determining the estimated fair value of each instrument on the Bank’s balance sheet, and subtracting the estimated aggregate fair value of the Bank’s liabilities from the estimated aggregate fair value of the Bank’s assets. For purposes of these calculations, mandatorily redeemable capital stock is treated as equity rather than as a liability. The fair values of the Bank’s financial instruments (both assets and liabilities) are determined using either vendor prices or a pricing model. For those instruments for which a pricing model is used, the calculations are based upon parameters derived from market conditions existing at the time of measurement, and are generally determined by discounting estimated future cash flows at the replacement (or similar) rate for new instruments of the same type with the same or very similar characteristics. The market value of equity calculations include non-financial assets
and liabilities, such as premises and equipment, other assets, payables for AHP, and other liabilities at their recorded carrying amounts.
For purposes of compliance with the Bank’s Enterprise Market Risk Management Policy limit on estimated losses in market value, market value of equity losses are defined as the estimated net sensitivity of the value of the Bank’s equity (the net value of its portfolio of assets, liabilities and interest rate derivatives) to 200 basis point parallel shifts in interest rates. In addition, the Bank routinely performs projections of its future earnings over a rolling horizon that includes the current year and the next four calendar years under a variety of interest rate and business environments.
The following table provides the Bank’s estimated base case market value of equity and its estimated market value of equity under up and down 200 basis point
interest rate shock scenarios (and, for comparative purposes, its estimated market value of equity under up and down 100 basis point interest rate shock scenarios) for each quarter-end during the period from December 2019 through December 2020. In addition, the table provides the percentage change in estimated market value of equity under each of these shock scenarios for the indicated periods.
MARKET VALUE OF EQUITY
(dollars in billions)
Up
200 Basis Points (1)
Down 200 Basis Points(2)
Up 100 Basis Points(1)
Down 100 Basis Points(2)
Base Case Market Value of Equity
Estimated Market Value of Equity
Percentage Change from Base Case
Estimated Market Value of
Equity
Percentage Change from Base Case
Estimated Market Value of Equity
Percentage Change from Base Case
Estimated Market Value of Equity
Percentage Change from Base Case
December 2019
$
3.817
$
3.814
(0.08)
%
$
3.792
(0.65)
%
$
3.857
1.05
%
$
3.729
(2.31)
%
March
2020
3.584
3.880
8.26
%
4.274
19.25
%
3.778
5.41
%
3.732
4.13
%
June
2020
3.604
3.783
4.97
%
4.192
16.32
%
3.720
3.22
%
3.844
6.66
%
September
2020
3.576
3.630
1.51
%
4.028
12.64
%
3.627
1.43
%
3.752
4.92
%
December
2020
3.636
3.623
(0.36)
%
3.998
9.96
%
3.648
0.33
%
3.730
2.59
%
____________________________________
(1)In
the up 100 and 200 basis point scenarios, the estimated market value of equity is calculated under assumed instantaneous +100 and +200 basis point parallel shifts in interest rates.
(2)In the down 100 and 200 basis point scenarios, the estimated market value of equity is calculated under assumed instantaneous -100 and -200 basis point parallel shifts in interest rates, subject to a floor of 0.01 percent.
The market value of equity figures reflected in the table above were derived in accordance with Finance Agency guidance. The Bank has on its balance sheet long-term, fixed-rate, putable advances that can be terminated by the Bank on specified future dates pursuant to a put option purchased from the member. These advances are hedged with interest rate swaps where the Bank pays a fixed-rate coupon and receives a variable-rate coupon,
and sells a call option to the swap counterparty pursuant to which that counterparty can cancel the swap on specified future dates. The call/put option dates mirror each other throughout the life of the instruments. Given the different discount curves that are used to value the putable advances and the associated cancelable interest rate swaps, the modeled results can produce an outcome where the advance and the corresponding interest rate swap are not terminated on the same date. Typically, in practice, if the swap counterparty calls the interest rate swap, the Bank concurrently puts the advance. The following table provides the Bank’s market value of equity figures under the same interest rate shock scenarios after adjusting the model to more closely align the put dates of the advances with the projected call dates of the associated interest rate swaps.
82
ADJUSTED
MARKET VALUE OF EQUITY
(dollars in billions)
Up
200 Basis Points(1)
Down 200 Basis Points(2)
Up 100 Basis Points(1)
Down 100 Basis Points(2)
Base Case Market Value of Equity (1)
Estimated Market Value of Equity
Percentage Change from Base Case
Estimated Market Value
of Equity
Percentage Change from Base Case
Estimated Market Value of Equity
Percentage Change from Base Case
Estimated Market Value of Equity
Percentage Change from Base Case
December 2019
$
3.900
$
3.811
(2.28)
%
$
4.075
4.49
%
$
3.862
(0.97)
%
$
3.935
0.90
%
March 2020
3.901
3.879
(0.56)
%
4.198
7.61
%
3.878
(0.59)
%
4.142
6.18
%
June
2020
3.871
3.800
(1.83)
%
4.060
4.88
%
3.826
(1.16)
%
4.046
4.52
%
September
2020
3.772
3.642
(3.45)
%
3.947
4.64
%
3.701
(1.88)
%
3.935
4.32
%
December
2020
3.749
3.627
(3.25)
%
3.917
4.48
%
3.685
(1.71)
%
3.892
3.81
%
_____________________________
(1)In
the up 100 and up 200 scenarios, the estimated market value of equity is calculated under assumed instantaneous +100 and +200 basis point parallel shifts in interest rates.
(2)In the down 100 and down 200 scenarios, the estimated market value of equity is calculated under assumed instantaneous -100 and -200 basis point parallel shifts in interest rates, subject to a floor of 0.01 percent.
A related measure of interest rate risk is duration of equity. Duration is the weighted average maturity (typically measured in months or years) of an instrument’s cash flows, weighted by the present value of those cash flows. As such, duration provides an estimate of an instrument’s sensitivity to small changes in market interest rates. The duration of assets is generally expressed as a positive figure, while the duration of liabilities
is generally expressed as a negative number. The change in value of a specific instrument for given changes in interest rates will generally vary in inverse proportion to the instrument’s duration. As market interest rates decline, instruments with a positive duration are expected to increase in value, while instruments with a negative duration are expected to decrease in value. Conversely, as interest rates rise, instruments with a positive duration are expected to decline in value, while instruments with a negative duration are expected to increase in value.
The values of instruments having relatively longer (or higher) durations are more sensitive to a given interest rate movement than instruments having shorter durations; that is, risk increases as the absolute value of duration lengthens. For instance, the value of an instrument with a duration of three years will theoretically change by three percent for every one percentage
point (100 basis point) change in interest rates, while the value of an instrument with a duration of five years will theoretically change by five percent for every one percentage point change in interest rates.
The duration of individual instruments may be easily combined to determine the duration of a portfolio of assets or liabilities by calculating a weighted average duration of the instruments in the portfolio. These combinations provide a single straightforward metric that describes the portfolio’s sensitivity to interest rate movements. These additive properties can be applied to the assets and liabilities on the Bank’s balance sheet. The difference between the combined durations of the Bank’s assets and the combined durations of its liabilities is sometimes referred to as duration gap and provides a measure of the relative interest rate sensitivities of the Bank’s assets and liabilities.
Duration
gap is a useful measure of interest rate sensitivity but does not account for the effect of leverage, or the effect of the absolute duration of the Bank’s assets and liabilities, on the sensitivity of its estimated market value of equity to changes in interest rates. The inclusion of these factors results in a measure of the sensitivity of the value of the Bank’s equity to changes in market interest rates referred to as the duration of equity. Duration of equity is the market value weighted duration of assets minus the market value weighted duration of liabilities divided by the market value of equity.
The significance of an entity’s duration of equity is that it can be used to describe the sensitivity of the entity’s market value of equity to movements in interest rates. A duration of equity equal to zero would mean, within a narrow range of interest rate movements, that the Bank had neutralized the impact of changes in interest
rates on the market value of its equity.
A positive duration of equity would mean, within a narrow range of interest rate movements, that for each one year of duration the estimated market value of the Bank’s equity would be expected to decline by about 0.01 percent for every positive 0.01 percent change in the level of interest rates. A positive duration generally indicates that the value of the Bank’s assets is more sensitive to changes in interest rates than the value of its liabilities (i.e., that the duration of its assets is greater than the duration of its liabilities).
Conversely, a negative duration of equity would mean, within a narrow range of interest rate movements, that for each one year of negative duration the estimated market value of the Bank’s equity would be expected to increase by about 0.01 percent for every positive 0.01 percent change in the level of interest
rates. A negative duration generally indicates that the value of the
83
Bank’s liabilities is more sensitive to changes in interest rates than the value of its assets (i.e., that the duration of its liabilities is greater than the duration of its assets).
The following table provides information regarding the Bank’s base case duration of equity as well as its duration of equity in up and down 100 and 200 basis point interest rate shock scenarios for each quarter-end during the period from December 2019 through December 2020.
DURATION ANALYSIS
(expressed in years)
Base
Case Interest Rates
Duration of Equity
Asset Duration
Liability Duration
Duration Gap
Duration of Equity
Up 100(1)
Up 200(1)
Down 100(2)
Down
200(2)
December 2019
0.23
(0.35)
(0.12)
(2.06)
0.20
1.43
(2.57)
(3.75)
March
2020
0.05
(0.33)
(0.28)
(5.97)
(4.69)
(0.46)
(13.60)
(17.69)
June 2020
0.12
(0.33)
(0.21)
(3.95)
(2.45)
(0.49)
(8.88)
(9.70)
September
2020
0.24
(0.36)
(0.12)
(1.84)
(0.91)
0.66
(6.21)
(6.10)
December 2020
0.30
(0.34)
(0.04)
(0.42)
0.02
1.41
(5.46)
(5.45)
____________________________________
(1)In
the up 100 and up 200 basis point scenarios, the duration of equity is calculated under assumed instantaneous +100 and +200 basis point parallel shifts in interest rates.
(2)In the down 100 and down 200 basis point scenarios, the duration of equity is calculated under assumed instantaneous -100 and -200 basis point parallel shifts in interest rates.
The duration figures reflected in the table above were derived in accordance with Finance Agency guidance. As previously discussed, the Bank has on its balance sheet long-term, fixed-rate, putable advances that can be terminated by the Bank on specified future dates pursuant to a put option purchased from the member. These advances are hedged with interest rate swaps where the Bank pays a fixed-rate coupon and receives a variable-rate coupon, and sells a call option to the swap counterparty pursuant to which that
counterparty can cancel the swap on specified future dates. The call/put option dates mirror each other throughout the life of the instruments. Given the different discount curves that are used to value the putable advances and the associated cancelable interest rate swaps, the modeled results can produce an outcome where the advance and the corresponding interest rate swap are not terminated on the same date. Typically, in practice, if the swap counterparty calls the interest rate swap, the Bank concurrently puts the advance. The following table provides information regarding the Bank’s duration of equity under the same interest rate shock scenarios after adjusting the model to more closely align the put dates of the advances with the projected call dates of the associated interest rate swaps.
ADJUSTED DURATION ANALYSIS
(expressed in years)
Base
Case Interest Rates
Duration of Equity
Asset Duration
Liability Duration
Duration Gap
Duration of Equity
Up 100(1)
Up 200(1)
Down 100(2)
Down
200(2)
December 2019
0.39
(0.35)
0.04
0.94
1.12
1.45
0.77
(0.25)
March
2020
0.38
(0.33)
0.05
1.41
(0.51)
0.90
(2.66)
(3.53)
June
2020
0.37
(0.33)
0.04
1.05
1.08
0.88
(2.57)
(2.72)
September 2020
0.45
(0.36)
0.09
1.91
1.74
1.61
(1.61)
(1.34)
December
2020
0.44
(0.34)
0.10
2.02
1.52
1.87
(2.25)
(2.04)
_____________________________
(1)In
the up 100 and up 200 scenarios, the duration of equity is calculated under assumed instantaneous +100 and +200 basis point parallel shifts in interest rates.
(2)In the down 100 and down 200 scenarios, the duration of equity is calculated under assumed instantaneous -100 and -200 basis point parallel shifts in interest rates.
84
Interest Rate Risk Components
The Bank manages the interest rate risk of a significant percentage of its assets and liabilities on a transactional basis. Using interest rate exchange agreements, the Bank pays (in the case of an asset) or receives (in the case
of a liability) a coupon that is identical or nearly identical to the balance sheet item, and receives or pays in return, respectively, a floating rate that in the past has typically been indexed to either one-month or three-month LIBOR. The combination of the interest rate exchange agreement with the balance sheet item has the effect of reducing the duration of the asset or liability to the term to maturity of the LIBOR index.
In the normal course of business, the Bank also acquires assets whose structural characteristics and/or size limit the Bank’s ability to enter into interest rate exchange agreements having mirror image cash flows. These assets include fixed-rate, fixed-schedule, amortizing advances and mortgage-related assets. The Bank manages the interest rate risk of these assets by issuing non-callable liabilities, and by entering into interest rate exchange agreements that are not designated against specific assets
or liabilities for accounting purposes (stand-alone or economic derivatives). These hedging transactions serve to preserve the value of the asset and minimize the impact of changes in interest rates on the spread between the asset and liability due to maturity mismatches.
In the normal course of business, the Bank may issue fixed-rate advances in relatively small sizes (e.g., $1.0 — $5.0 million) that are too small to efficiently hedge on an individual basis. These advances may require repayment of the entire principal at maturity or may have fixed amortization schedules that require repayment of portions of the original principal each month or at other specified intervals over their term. This activity tends to extend the Bank’s duration of equity over time. To monitor and hedge this risk, the Bank periodically evaluates the amount of its unhedged advances and may issue a corresponding amount of fixed-rate debt with similar
maturities or enter into interest rate swaps to offset the interest rate risk created by the pool of fixed-rate assets.
As of December 31, 2020, the Bank also held approximately $0.8 billion (par value) of variable-rate CMOs that reset monthly in accordance with one-month LIBOR, but that contain terms that will cap their interest rates at levels predominantly between 6.0 percent and 6.5 percent. To offset a portion of the potential risk that the coupons on these securities might reach their caps at some point in the future, the Bank held as of December 31, 2020 a $250 million (notional balance) stand-alone interest rate cap with a strike rate of 6.5 percent. The interest rate cap matures in 2021. The Bank periodically evaluates the residual risk of the caps embedded in the CMOs and determines whether to purchase additional caps.
In
practice, management analyzes a variety of factors in order to assess the suitability of the Bank’s interest rate exposure within the established risk limits. These factors include current and projected market conditions, including possible changes in the level, shape, and volatility of the term structure of interest rates, possible changes to the composition of the Bank’s balance sheet, and possible changes in the delivery channels for the Bank’s assets, liabilities, and hedging instruments. Many of these same variables are also included in the Bank’s income modeling processes. While management considered the Bank’s interest rate risk profile to be appropriate given market conditions during 2020, the Bank may adjust its exposure to market interest rates based on the results of its analyses of the impact of these conditions on future earnings.
As noted above, the Bank typically manages interest rate risk on a transaction by
transaction basis as much as possible. To the extent that the Bank finds it necessary or appropriate to modify its interest rate risk position, it would normally do so through one or more cash or interest rate derivative transactions, or a combination of both. For instance, if the Bank wished to shorten its duration of equity, it would typically do so by issuing additional fixed-rate debt with maturities that correspond to the maturities of specific assets or pools of assets that have not previously been hedged. This same result might also be implemented by executing one or more interest rate swaps to convert specific assets from a fixed rate to a variable rate of interest. A similar approach would be taken if the Bank determined it was appropriate to extend rather than shorten its duration.
85
ITEM
8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA
The Bank’s annual audited financial statements for the years ended December 31, 2020, 2019 and 2018, together with the notes thereto and the report of PricewaterhouseCoopers LLP thereon, are included in this Annual Report on pages F-1 through F-60.
The following is a summary of the Bank’s unaudited quarterly operating results for the years ended December 31, 2020 and 2019.
Net
interest income after provision for mortgage loan losses
71,978
62,474
67,912
90,811
293,175
Other income (loss)
Net
gains on trading securities
3,227
4,852
2,266
2,515
12,860
Net gains (losses) on derivatives and hedging activities
8,766
12,790
8,328
(5,197)
24,687
Net
gains on other assets carried at fair value
913
353
34
664
1,964
Realized gains on sales of available-for-sale securities
440
140
—
272
852
Letter
of credit fees
2,780
2,984
3,244
3,429
12,437
Service fees and other, net
851
1,025
1,028
616
3,520
Other
expense
24,065
24,525
23,803
24,572
96,965
AHP assessments
6,494
6,015
5,905
6,858
25,272
Net
income
58,396
54,078
53,104
61,680
227,258
(1) Other expense for the second quarter of 2020 includes approximately $7.0 million of expenses stemming from the COVID-19 pandemic. In response to the pandemic, the Bank made available (during the three months ended June 30, 2020) $5.0 billion of below-market rate (or subsidized) advances at a cost to the Bank
of $4.4 million. Further, during this same period, the Bank made $0.9 million in charitable contributions primarily to various food banks throughout the Bank's district and it funded $1.7 million in grants under its Partnership Grant Program, which was expanded to address pandemic relief efforts.
(2) Other expense for the fourth quarter of 2020 includes a $13 million voluntary contribution that was made to the Bank's defined benefit pension plan.
86
ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND FINANCIAL DISCLOSURE
None
ITEM
9A. CONTROLS AND PROCEDURES
Evaluation of Disclosure Controls and Procedures
The Bank’s management, under the supervision and with the participation of its Chief Executive Officer and Chief Financial Officer, conducted an evaluation of the effectiveness of the Bank’s disclosure controls and procedures (as such term is defined in Rules 13a-15(e) and 15d-15(e) under the Securities Exchange Act of 1934, as amended (the “Exchange Act”)) as of the end of the period covered by this report. Based upon that evaluation, the Bank’s Chief Executive Officer and Chief Financial Officer concluded that, as of the end of the period covered by this report, the Bank’s disclosure controls and procedures were effective in: (1) recording, processing, summarizing and reporting information required to be disclosed by the Bank in the reports that it files or submits under the Exchange Act within the
time periods specified in the SEC’s rules and forms and (2) ensuring that information required to be disclosed by the Bank in the reports that it files or submits under the Exchange Act is accumulated and communicated to the Bank’s management, including its Chief Executive Officer and Chief Financial Officer, as appropriate to allow timely decisions regarding required disclosures.
Management’s Report on Internal Control over Financial Reporting
Management’s Report on Internal Control over Financial Reporting as of December 31, 2020 is included herein on page F-2. The Bank’s independent registered public accounting firm, PricewaterhouseCoopers LLP, has also issued a report regarding the effectiveness of the Bank’s internal control over financial
reporting as of December 31, 2020, which is included herein on page F-3.
Changes in Internal Control over Financial Reporting
There were no changes in the Bank’s internal control over financial reporting (as such term is defined in Rules 13a-15(f) and 15d-15(f) under the Exchange Act) during the fiscal quarter ended December 31, 2020 that have materially affected, or are reasonably likely to materially affect, the Bank’s internal control over financial reporting.
ITEM 9B. OTHER INFORMATION
Not applicable.
PART
III
ITEM 10. DIRECTORS, EXECUTIVE OFFICERS AND CORPORATE GOVERNANCE
Directors
Pursuant to the HER Act, each FHLBank is governed by a board of directors of 13 persons or so many persons as the Director of the Finance Agency may determine. The HER Act divides directors of FHLBanks into two categories. The first category is comprised of “member” directors who are elected by the member institutions of each state in the FHLBank’s district to represent that state. The second category is comprised of “independent” directors who are nominated by a FHLBank’s board of directors, after consultation with its affordable housing Advisory Council, and elected by the FHLBank’s members at-large.
Pursuant
to the HER Act and an implementing Finance Agency regulation, member directors must constitute a majority of the members of the board of directors of each FHLBank and independent directors must constitute at least 40 percent of the members of each board of directors. At least two of the independent directors must be public interest directors with more than four years’ experience representing consumer or community interests in banking services, credit needs, housing, or consumer financial protections. Annually, the Board of Directors of the Bank is required to determine how many of its independent directorships should be designated as public interest directorships, provided that the Bank at all times has at least two public interest directorships. By order of the Finance Agency on June 10, 2020, the Director of the Finance Agency designated that, for 2021, the Bank would have nine member directors and eight independent
directors. With respect to the director elections that the Bank conducted during calendar year 2020, for terms beginning January 1, 2021, the order designated that two member directors would be elected in Texas, one member director would be elected in Louisiana and one independent director would be elected.
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The term of office of each directorship is four years. Director terms commence on January 1 (except in instances where a vacancy is filled, as further discussed below) and end on December 31. Directors (both member and independent) cannot serve more than three consecutive full terms for which they have been elected by the Bank's members.
Member Directors
Each
year the Finance Agency designates the number of member directorships for each state in the Bank’s district. The Finance Agency allocates the member directorships among the states in the Bank’s district as follows: (1) one member directorship is allocated to each state; (2) if the total number of member directorships allocated pursuant to clause (1) is less than eight, the Finance Agency allocates additional member directorships among the states using the method of equal proportions (which is the same equal proportions method used to apportion seats in the U.S. House of Representatives among states) until the total allocated for the Bank equals eight; (3) if the number of member directorships allocated to any state pursuant to clauses (1) and (2) is less than the number that was allocated to that state on December 31, 1960, the Finance Agency allocates such additional member directorships to that state until the total allocated to that state equals the number allocated
to that state on December 31, 1960; and (4) after consultation with the Bank, the Finance Agency may approve additional discretionary member directorships. For 2021, the Finance Agency designated the Bank’s member directorships as follows: Arkansas – 1; Louisiana – 2 (the grandfather provision in clause (3) of the preceding sentence guarantees Louisiana two of the member directorships in the Bank’s district); Mississippi – 1; New Mexico – 1; and Texas – 4.
To be eligible to serve as a member director, a candidate must be: (1) a citizen of the United States and (2) an officer or director of a member institution that is located in the represented state and that meets all of the minimum capital requirements established by its federal or state regulator. For purposes of election of directors, a member is deemed to be located in the state in which a member’s principal place of business is located as of December 31 of the calendar
year immediately preceding the election year (“Record Date”). In most cases, a member’s principal place of business is the state in which such member maintains its home office as established in conformity with the laws under which it is organized and from which the member conducts business operations; provided, however, a member may request in writing to the FHLBank in the district where such member maintains its home office that a state other than the state in which it maintains its home office be designated as its principal place of business. Within 90 calendar days of receipt of such written request, the board of directors of the FHLBank in the district where the member maintains its home office shall designate a state other than the state where the member maintains its home office as the member’s principal place of business, provided all of the following criteria are satisfied: (a) at least 80 percent of such member’s accounting books, records, and ledgers
are maintained, located or held in such designated state; (b) a majority of meetings of such member’s board of directors and constituent committees are conducted in such designated state; and (c) a majority of such member’s five highest paid officers have their place of employment located in such designated state.
For an insurance company or CDFI member that cannot satisfy the requirements in the previous paragraph, the principal place of business is the location from which the member conducts the predominant portion of its business activities. A member will be deemed to conduct the predominant portion of its business activities in a particular state if any two of the following factors are present: (i) the member's largest office based on number of employees is located in the state; (ii) a plurality of the institution's employees are located in the state; or (iii) the places of employment for a plurality of the member's senior
executives are located in the state. If an entity cannot identify a location from which it conducts the predominant portion of its business activities based on the factors enumerated in the previous sentence, the entity's state of domicile or incorporation shall be designated as its principal place of business.
Candidates for member directorships are nominated by members located in the state to be represented by that particular directorship. Member directors may be elected without a vote by members if the number of nominees from a state is equal to or less than the number of directorships to be filled from that state. In that case, the Bank will notify the members in the affected voting state in writing (in lieu of providing a ballot) that the directorships are to be filled without an election due to a lack of nominees.
For each member directorship that is to be filled in an election,
each member institution that is located in the state to be represented by the directorship is entitled to cast one vote for each share of capital stock that the member was required to hold as of the Record Date; provided, however, that the number of votes that any member may cast for any one directorship cannot exceed the average number of shares of capital stock that are required to be held as of the Record Date by all members located in the state to be represented. The effect of limiting the number of shares that a member may vote to the average number of shares required to be held by all members in the member’s state is generally to equalize voting rights among members. Members required to hold the largest number of shares above the average generally have proportionately less voting power, and members required to hold a number of shares closer to or below such average have proportionately greater voting power than would be the case if each member were entitled to
cast one vote for each share of stock it was required to hold. A member may not split its votes among multiple nominees for a single directorship, nor, where there are multiple directorships to be filled for a voting state, may it cumulatively vote for a single nominee. Any ballots cast in violation of these restrictions are void.
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No shareholder meetings are held for the election of directors; the election process is conducted electronically using a third-party vendor experienced in administering secure, online elections. For members that choose to opt out of the electronic balloting process or that are unable for whatever reason to cast their votes electronically, the process is conducted by mail. The Bank’s Board of Directors does not solicit proxies, nor are member
institutions permitted to solicit or use proxies to cast their votes in an election. Except as set forth in the next sentence, no director, officer, employee, attorney or agent of the Bank may (i) communicate in any manner that a director, officer, employee, attorney or agent of the Bank, directly or indirectly, supports or opposes the nomination or election of a particular individual for a member directorship or (ii) take any other action to influence the voting with respect to any particular individual. A Bank director, officer, employee, attorney or agent may, acting in his or her personal capacity, support the nomination or election of any individual for a member directorship, provided that no such individual may purport to represent the views of the Bank or its Board of Directors in doing so.
In the event of a vacancy in any member directorship, such vacancy is to be filled by an affirmative vote of a majority of the Bank’s
remaining directors, regardless of whether such remaining directors constitute a quorum of the Bank’s Board of Directors. A member director so elected shall satisfy the requirements for eligibility that were applicable to his or her predecessor and will fill the unexpired term of office of the vacant directorship.
Independent Directors
Independent directors are nominated by the Bank’s Board of Directors after consultation with its affordable housing Advisory Council. Any individual who seeks to be an independent director of the Board of Directors of the Bank may deliver to the Bank, on or before the deadline set by the Bank, an executed independent director application form prescribed by the Finance Agency. Before announcing any independent director nominee, the Bank must deliver to the Finance Agency a copy of the independent director application forms executed by the individuals
proposed to be nominated for independent directorships by the Board of Directors of the Bank. If within two weeks of such delivery the Finance Agency provides comments to the Bank on any independent director nominee, the Board of Directors of the Bank must consider the Finance Agency’s comments in determining whether to proceed with that nominee or to reopen the nomination process. If within the two-week period the Finance Agency offers no comment on a nominee, the Bank’s Board of Directors may proceed to nominate such nominee.
The Bank conducts elections for independent directorships in conjunction with elections for member directorships. Independent directors are elected by a plurality of the Bank’s members at-large; in other words, all eligible members in every state in the Bank’s district vote on the nominees for independent directorships. If the Bank’s Board of Directors nominates only one individual for each independent
directorship, then, to be elected, each nominee must receive at least 20 percent of the number of votes eligible to be cast in the election. If any independent directorship is not filled through this initial election process, the Bank must conduct the election process again until a nominee receives at least 20 percent of the votes eligible to be cast in the election. If, however, the Bank’s Board of Directors nominates more persons for the type of independent directorship to be filled (either a public interest directorship or other independent directorship) than there are directorships of that type to be filled in the election, then the Bank will declare elected the nominee receiving the highest number of votes, without regard to whether the nominee received at least 20 percent of the number of votes eligible to be cast in the election. The same determinations and limitations that apply to the number of votes that any member may cast for a member directorship apply equally
to the election of independent directors.
No shareholder meetings are held for the election of independent directors; the election process is conducted in the same manner as the election process for member directorships. The Bank’s Board of Directors does not solicit proxies, nor are member institutions permitted to solicit or use proxies to cast their votes in an election. A Bank director, officer, employee, attorney or agent and the Bank’s Board of Directors and affordable housing Advisory Council (including members of the Advisory Council) may support the candidacy of any individual nominated by the Board of Directors for election to an independent directorship, but may not otherwise (i) communicate in any manner that a director, officer, employee, attorney or agent of the Bank, directly or indirectly, supports or opposes the nomination or election of a particular individual for an independent directorship or (ii) take
any other action to influence the voting with respect to any particular individual.
As determined by the Bank, at least two of the independent directors must be public interest directors with more than four years’ experience representing consumer or community interests in banking services, credit needs, housing, or consumer financial protections. The remainder of the independent directors must have demonstrated knowledge of or experience in one or more of the following areas: auditing and accounting; derivatives; financial management; organizational management; project development; risk management practices; or the law. The independent director’s knowledge of or experience in the above areas should be commensurate with that needed to oversee a financial institution with a size and complexity that is comparable to that of the Bank.
In the event of a vacancy in any independent directorship
occurring other than by failure of a sole nominee for an independent directorship to receive votes equal to at least 20 percent of all eligible votes, such vacancy is to be filled by an affirmative vote of a majority of the Bank’s remaining directors, regardless of whether the remaining directors constitute a quorum of the Bank’s Board of Directors. An independent director so elected shall satisfy the requirements for eligibility that were applicable to his or
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her predecessor and will fill the unexpired term of office of the vacant directorship. If the Board of Directors of the Bank is electing an independent director to fill the unexpired term of office of a vacant directorship, the Bank must deliver to the Finance Agency for its review a copy of the independent director
application form of each individual being considered by the Bank’s Board of Directors.
To be eligible to serve as an independent director, a person must be: (1) a citizen of the United States and (2) a resident in the Bank’s district. Additionally, an independent director is prohibited from serving as an officer of any FHLBank or as an officer, employee or director of any member of the Bank, or of any recipient of advances from the Bank, except that an independent director may serve as an officer, employee or director of a holding company that controls one or more members of, or recipients of advances from, the Bank if the assets of all such members or recipients of advances constitute less than 35 percent of the assets of the holding company, on a consolidated basis. For these purposes, any officer position, employee position or directorship of the director’s spouse is attributed to the director. An independent director must
disclose to the Bank all officer, employee or director positions described above that the director or the director’s spouse holds.
Patricia P. Brister, an independent director from Mandeville, Louisiana, passed away on February 3, 2020. Ms. Brister had served as a director of the Bank since 2008 (and as a public interest director since 2017). Including a previous term from 2002 to 2004, Ms. Brister had served as a director of the Bank for 15 years. Effective March 6, 2020, the Bank's Board of Directors elected Felipe A. Rael to fill the independent directorship vacated by Ms. Brister.
G. Granger MacDonald, an independent director from Kerrville, Texas, passed away on June
17, 2020. Mr. MacDonald had served as a director of the Bank since June 2017. Effective November 30, 2020, the Bank's Board of Directors elected Dorsey L. Baskin, Jr. to fill the independent directorship vacated by Mr. MacDonald.
(c)Member of Compensation and Human Resources Committee
(d)Member of Strategic Planning, Operations and Technology Committee
(e)Member
of Government and External Affairs Committee
(f)Member of Affordable Housing and Economic Development Committee
(g)Member of Executive and Governance Committee
Robert M. Rigby is Chairman of the Board of Directors of the Bank and has served in that capacity since January 1, 2021. He served as Vice Chairman of the Board of Directors of the Bank from January 1, 2015 through December 31, 2020. Mr. Rigby serves as East Regional President, Executive Vice President for Legend Bank (a member of the Bank) and has served in that capacity since December
1, 2017. Located in Fort Worth, Texas, he has responsibility for Tarrant County and surrounding areas. Since June 2018, Mr. Rigby has also served as an advisory director for Legend Bank. From August 2008 through November 30, 2017, he served as an advisory director and Market President for Liberty Bank in North Richland Hills, Texas (a member of the Bank). From 1998 to August 2008, Mr. Rigby served as a director, President and Chief Executive Officer of Liberty Bank. Prior to joining Liberty Bank, Mr. Rigby served as a director and Executive Vice President of First National Bank of Weatherford from 1980 to 1998. He previously served as an advisory director for the Texas Tech University School of Banking and is a former vice chairman of the North Richland Hills Economic Development Advisory Committee. He previously served on the BankPac Committee of the American Bankers Association ("ABA") and he is a past chairman
of the Texas Bankers Association. Further, Mr. Rigby previously served on the Weatherford College Board of Trustees, the board of directors of the Birdville ISD Education Foundation and as an advisory director for the North Texas Special Needs Assistance Partners. He is also a past chairman of the Northeast Tarrant Chamber of Commerce. Mr. Rigby currently serves on the Council of Federal Home Loan Banks and is a member of the Chair and Vice Chair Committee of the Council of Federal Home Loan Banks. He also serves as Chairman of the Executive and Governance Committee of the Bank’s Board of Directors.
Margo S. Scholin is Vice Chairman of the Board of Directors of the Bank and has served in that capacity since January 1, 2021. Ms. Scholin is a retired partner of the law firm of Baker Botts L.L.P.
in Houston, Texas. As a member of the law firm’s Corporate Section, she specialized in corporate and securities law, including securities law reporting, corporate transactions and governance, corporate finance and the issuance of debt and equity securities. Ms. Scholin joined Baker Botts L.L.P. in 1983 and was a partner from 1991 until her retirement in December 2010. From 1997 to 2004, she served as chair of the Regulatory
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Committee of the Texas State Board of Health. Ms. Scholin is a past chairman of the board of directors of the Houston Area Women’s Center, a non-profit agency serving victims of domestic violence and sexual abuse and has served on numerous other non-profit boards. She currently serves on the Council of Federal Home Loan Banks and is a member of the
Chair and Vice Chair Committee of the Council of Federal Home Loan Banks. Ms. Scholin also serves as Vice Chairman of the Executive and Governance Committee of the Bank’s Board of Directors.
Cheryl D. Alston serves as Executive Director and Chief Investment Officer of the Employees' Retirement Fund of the City of Dallas ("ERF"), a $3.6 billion pension plan for the city's civilian employees. Ms. Alston has served in that capacity since October 2004 and is responsible for strategy development, finance, operations and investments. Prior to joining ERF, Ms. Alston served as Vice President (from October 2002 to April 2004) and Assistant Vice President (from February 1998 to October 2002) of the Retirement & Investment Services Division of Cigna Corporation. From 1988 to 1998, she served in various financial and management roles for Chase
Global Securities. In 2011, Ms. Alston was appointed by President Barack Obama to the Pension Benefit Guaranty Corporation ("PBGC") Advisory Committee. In 2013, she was reappointed to serve a second term on the PBGC Advisory Committee, which term ended in 2016. Ms. Alston currently serves on the board of directors of CHRISTUS Health, a faith-based international health care system. In addition, she serves on the boards of directors of Blue Cross Blue Shield of Kansas City, TIDES, and the Texas Women's Foundation and is a member of both the Dallas Assembly and the International Women's Forum Dallas. On February 26, 2018, Ms. Alston was elected to serve on the board of directors of Globe Life Inc. (formerly known as Torchmark Corporation), a publicly traded financial services holding company specializing in life and supplemental health insurance. Globe Life Inc.'s primary subsidiaries
are American Income Life Insurance Company, Liberty National Life Insurance Company, Globe Life And Accident Insurance Company, United American Insurance Company, and Family Heritage Life Insurance Company of America.
Dorsey L. Baskin, Jr. is a retired partner of Grant Thornton LLP. Mr. Baskin joined Grant Thornton in 2002 as an audit partner and served in that capacity until his retirement in 2016. From 2002 to 2011, he also served as one of the firm's five National Professional Practice Directors. Further, from 2011 until his retirement in 2016, Mr. Baskin served as the firm’s National Assurance Innovation Managing Partner. Prior to joining Grant Thornton, Mr. Baskin spent 25 years with Arthur Andersen LLP. He joined Arthur Andersen’s audit practice in 1977 and served as a partner from 1989 to 2002. In addition, Mr. Baskin served as a member of Arthur Andersen’s Accounting Principles Group from 1987 to 1989, as National Technical
Director and Regulatory Liaison for the Banking Industry Audit Practice from 1989 to 1999, and as Managing Director of the Global Assurance Professional Standards Group from 1999 to 2002. Beginning early in his career, Mr. Baskin specialized in the financial services industry. Over the course of his 39-year career in public accounting, he served on numerous task forces and committees in support of the accounting profession, was a frequent speaker on technical accounting and auditing topics, and authored numerous papers and articles on such topics. Since his retirement, Mr. Baskin has worked as an independent consultant and has from time to time served as an accounting expert witness. Mr. Baskin is a Certified Public Accountant.
Dianne W. Bolen served as Executive Director of the Mississippi Home Corporation in Jackson, Mississippi from 1997 until
her retirement on December 31, 2014. The Mississippi Home Corporation is a state housing finance agency that provides rental and homeownership programs to persons of low to moderate income. Ms. Bolen joined the Mississippi Home Corporation in 1990. From 1990 to 1992, she served as Finance Director and from 1992 to 1997, she served as Deputy Executive Director. Ms. Bolen also served as Assistant Secretary Treasurer from 1990 until June 2014. From April 2015 to April 2017, she served as a consultant to the Mississippi Home Corporation. Ms. Bolen previously served on the board of directors of the National Council of State Housing Agencies ("NCSHA") and, until December 31, 2014, she co-chaired the NCSHA's Municipal Disclosure Task Force. Prior to her retirement, Ms. Bolen also served as a member of the National Mortgage Bankers Association and the Affordable Housing
Tax Credit Coalition. She currently serves as Chairman of the Affordable Housing and Economic Development Committee of the Bank’s Board of Directors. Ms. Bolen previously served on the Bank's affordable housing Advisory Council from 1998 through 1999 and from 2007 through 2009.
Based in Fort Worth, Texas, Tim H. Carter serves as a director of Southside Bank (a member of the Bank headquartered in Tyler, Texas) and has served in that capacity since December 17, 2014. From October 1, 2017 through December 31, 2020, Mr. Carter served as Executive Vice President and Development Officer of Southside Bank. From December 17, 2014 through September
30, 2017, he served as President, North Texas Region for Southside Bank. On December 17, 2014, Mr. Carter's then current employer, Fort Worth-based OmniAmerican Bank (then a member of the Bank) was merged with and into Southside Bank, a wholly-owned subsidiary of Southside Bancshares, Inc., Southside Bank's publicly traded holding company. Upon the closing of the merger, Mr. Carter became an officer of Southside Bank. From June 2007 until December 17, 2014, Mr. Carter served as a director, President and Chief Executive Officer of OmniAmerican Bank and its publicly traded holding company, OmniAmerican Bancorp, Inc. Immediately prior to the OmniAmerican Bank/Southside Bank merger, OmniAmerican Bancorp, Inc. was acquired by Southside Bancshares, Inc. Mr. Carter currently serves on the boards of directors of Safe City Commission and the North Texas Tollway Authority. Mr.
Carter is a past board member of the TCU Business School International Board of Visitors, the Van Cliburn Foundation, Lena Pope, the Fort Worth Club (for which he served as president), Texas Wesleyan University (for which he served as chairman), the Hill School (for which he served as chairman), and North Texas LEAD (for which he also served as chairman). Mr. Carter is a past president and chief executive officer of the United Way of Metropolitan
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Tarrant County and a former president of the Harris Methodist Health Foundation. He currently serves as Chairman of the Strategic Planning, Operations and Technology Committee of the Bank’s Board of Directors.
Mary
E. Ceverha, a civic volunteer who resides in Dallas, Texas, has served as a director of the Bank since 2004. Ms. Ceverha is a former director (from 2001 to 2019) and past president (from 2001 to 2003) of Trinity Commons Foundation, Inc. Founded by Ms. Ceverha in 2001, this not-for-profit organization coordinated fundraising and other activities relating to the construction of the Trinity River Project, a public works redevelopment project in Dallas, Texas. Having completed the objectives for which it was established, Trinity Commons Foundation, Inc. wrapped up its affairs in 2019. Previously, Ms. Ceverha served on the steering committee of the President’s Research Council for the University of Texas Southwestern Medical Center, which raises funds for medical research, and as a member of the Greater Dallas Planning Council. Ms. Ceverha is also a former board member and president of Friends of Fair Park, a non-profit citizens group dedicated to the preservation of
Fair Park, a national historic landmark in Dallas, Texas, and she is a former Commissioner of the Dallas Housing Authority. From 1995 to 2004, she served on the Texas State Board of Health. Ms. Ceverha currently serves as Chairman of the Compensation and Human Resources Committee of the Bank’s Board of Directors. She previously served as Vice Chairman of the Bank’s Board of Directors from December 2005 to December 2014 and as Acting Vice Chairman of the Bank's Board of Directors from January 2005 to December 2005.
Albert C. Christman serves as Chairman and Chief Executive Officer of Guaranty Bank & Trust Company of Delhi (a member of the Bank located in Delhi, Louisiana) and as Chairman and Chief Executive Officer of its privately held holding company, Delhi Bancshares, Inc. He has served as Chairman of Guaranty Bank & Trust Company
of Delhi since November 2016 and as Chief Executive Officer since 1986. From 1986 to November 2016, Mr. Christman also served as a director and President of Guaranty Bank & Trust Company of Delhi. He has served as Chairman of Delhi Bancshares, Inc. since January 2017 and as its Chief Executive Officer since 1986. From 1986 to January 2017, Mr. Christman also served as a director and President of Delhi Bancshares, Inc. Since 1987, Mr. Christman has also served on the boards of directors of First National Bankers Bank, a member of the Bank, and its privately held holding company, First National Bankers Bankshares, Inc. He is the founder of Delhi Charter School and Community Financial Insurance Center, LLC. Mr. Christman has served as Chairman of both organizations since their inception in 2001 and 2004, respectively. In addition, he serves as a director of Pecan Haven Addiction Center, LLC. Further, Mr. Christman serves as Chairman and Chief Executive Officer of Southern
Fidelity Agency, Inc., a privately held insurance agency he founded in 1998. He is a past chairman of the Louisiana Bankers Association. Mr. Christman currently serves as Chairman of the Risk Management Committee of the Bank's Board of Directors.
James D. Goudge serves as Executive Vice President of Broadway National Bank in San Antonio, Texas and has served in that capacity since April 1, 2019. He joined Broadway National Bank, a member of the Bank, in 1989. Before stepping down in connection with a leadership succession plan, Mr. Goudge served as Chairman of Broadway National Bank from 2001 through March 31, 2019. From 2001 to 2016, he also served as Chief Executive Officer of Broadway National Bank. From 1998 to 2001, Mr. Goudge served as President
and Chief Executive Officer. From 1989 to 1998, he served as Executive Vice President in charge of Broadway National Bank's Lending Division. From 2001 through March 31, 2019, Mr. Goudge also served as Chairman and Chief Executive Officer of Broadway Bancshares, Inc., Broadway National Bank's privately held holding company. Mr. Goudge previously served on the ABA's Membership Committee and its Government Relations Committee. He is also a past chairman of the Texas Bankers Association. Mr. Goudge currently serves as Vice Chairman of the Risk Management Committee and as Vice Chairman of the Compensation and Human Resources Committee of the Bank's Board of Directors.
W. Wesley Hoskins serves as Chairman, President and Chief Executive Officer of First Community Bank (a member of the Bank located in
Corpus Christi, Texas). Mr. Hoskins has served as Chairman since 2001, as President and Chief Executive Officer since 1997 and as a director since 1993. Since 1999, he has also served as Chairman of Coastal Bend Bancshares, Inc., First Community Bank's privately held holding company. In addition, Mr. Hoskins has served as a director and President of WBH Inc., a privately held real estate holding company in Premont, Texas since August 1996 and as President of LTF Holdings, Inc., a privately held real estate holding company in Corpus Christi, Texas since September 2010. He is a current member and past chairman of the Texas Bankers Association. Further, Mr. Hoskins presently serves as chairman of the ABA's BankPac Committee and as chairman of the Corpus Christi Chamber of Commerce. He currently serves as Vice Chairman of the Government and External Affairs Committee of the Bank's Board of Directors.
Michael
C. Hutsell serves as a director of First Security Bank in Searcy, Arkansas and has served in that capacity since March 2006. Mr. Hutsell joined First Security Bank, a member of the Bank, in 1989 and served as President from March 2006 to December 2020. From January 2002 to March 2006, he served as Executive Vice President and from October 1996 to January 2002, he served as Operations Officer. Mr. Hutsell previously served on the boards of directors of Main Street Searcy, the City of Searcy Planning Commission, and the Sunshine School (a private school for students with developmental disabilities in Searcy, Arkansas) and he is a past chairman of the Searcy Chamber of Commerce and the Searcy Kiwanis Club. Mr. Hutsell currently serves as Vice Chairman of the Bank’s Audit Committee.
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A.
Fred Miller, Jr. serves as a director of Bank of Anguilla in Anguilla, Mississippi and has served in that capacity since 1986. He joined Bank of Anguilla, a member of the Bank, in 1971 and served as Chairman from January 2015 to January 2021. Since stepping down as Chairman, Mr. Miller has served as a consultant to Bank of Anguilla. From 1986 to January 2015, Mr. Miller served as President and Chief Executive Officer of Bank of Anguilla. From 2008 to January 2015, Mr. Miller also served as President and Chief Executive Officer of Pyramid Financial Corporation, Bank of Anguilla's privately held holding company. In addition, since 2008, Mr. Miller has served as a director of Pyramid Financial Corporation and, from January 2014 to January 2021, he served as Chairman of Pyramid Financial Corporation. Since January 2016, Mr. Miller has also served on the board of directors of Hope Enterprise Corporation. Mr. Miller currently serves as Vice Chairman of the Affordable Housing
and Economic Development Committee of the Bank's Board of Directors. He previously served as a director of the Bank from 1997 to 2004. In 2002 and 2003, Mr. Miller served as Vice Chairman of the Bank's Board of Directors and in 2004 he served as Chairman of the Bank's Board of Directors.
Sally I. Nelson serves as Chairperson and Chief Executive Officer of Nextwave Ventures, a privately held real estate company located in Huntsville, Texas, and has served in such capacities since March 2015. From January 2013 until January 2014, Ms. Nelson served as an advisor to the Huntsville Memorial Hospital board of directors and as the chairman of the Huntsville Memorial Hospital Foundation. From 2007 until January 2013, Ms. Nelson served as Chief Executive Officer of Huntsville Memorial Hospital. Prior to that, she served as a board member and officer of
the Greater Houston Area Chapter of the American Red Cross from 2005 to 2008. From 1986 to 2004, Ms. Nelson served as Executive Vice President, Chief Financial Officer and Chief Operations Officer of Texas Children's Hospital in Houston, Texas. From 1999 to 2005, she served as chair of the Finance and Audit committees of the United Way of Houston. Ms. Nelson is a Certified Public Accountant. She currently serves as Vice Chairman of the Strategic Planning, Operations and Technology Committee of the Bank’s Board of Directors.
Stephen Panepinto serves as Chairman, President and Chief Executive Officer of Plaquemine Bank and Trust Company in Plaquemine, Louisiana. He joined Plaquemine Bank and Trust Company, a member of the Bank, in 1983 and has served as Chairman, President and Chief Executive Officer since 1998. Mr. Panepinto currently serves as
chairman of the Civil Service Board representing the Police and Fire Departments for the city of Plaquemine. Mr. Panepinto previously served as a director of the Louisiana Bankers Association and as a director of the Community Bankers of Louisiana and he is a past chairman of the Iberville Chamber of Commerce.
Felipe A. Rael serves as Executive Director of the Greater Albuquerque Housing Partnership ("GAHP"), a non-profit affordable housing developer of multifamily rental and owner-occupied homes for first-time homebuyers. He has served as Executive Director of GAHP since December 2014. Prior to joining GAHP, Mr. Rael served as Director of Housing Development for the New Mexico Mortgage Finance Authority from February 2009 to December 2014. From 2001 to 2008, Mr. Rael served in various positions in the mortgage finance industry. Until his
election to the Bank's Board of Directors, Mr. Rael had served as a member of the Bank's affordable housing Advisory Council since January 2016 and as the Advisory Council's vice chair since January 2019.
John P. Salazar is an attorney and director with the law firm of Rodey, Dickason, Sloan, Akin & Robb, P.A. in Albuquerque, New Mexico, where he specializes in real estate-related matters, including land use and development law. He has been with Rodey, Dickason, Sloan, Akin & Robb, P.A. since 1968 and has represented single-family residential and multifamily housing developers and builders. Mr. Salazar currently serves as a member of the Advisory Council of the Inter-American Foundation and he is a past chairman of the foundation's board of directors. He is a member of the Albuquerque Economic Forum, the Greater Albuquerque Chamber of
Commerce, the Albuquerque Hispano Chamber of Commerce and the Albuquerque Chapter of the National Association of Office and Industrial Parks. Mr. Salazar previously served on the board of directors of the Greater Belen Economic Development Corporation, the board of trustees of the Albuquerque Community Foundation and the board of directors of the KIMO Foundation. Further, he is a past board chairman of the Albuquerque Hispano Chamber of Commerce, the Greater Albuquerque Chamber of Commerce, and the University of New Mexico Alumni Association. Mr. Salazar currently serves as Chairman of the Government and External Affairs Committee of the Bank’s Board of Directors.
Ron G. Wiser serves as a director, President and Chief Executive Officer of Bank of the Southwest (a member of the Bank) and as a director and Secretary/Treasurer of its privately held holding
company, New Mexico National Financial, Inc. (Roswell, New Mexico). He has served as President of Bank of the Southwest since 1996 and as its Chief Executive Officer since December 2003. Mr. Wiser also served as Chief Executive Officer of Bank of the Southwest from 1996 to November 2000. He has served as Secretary/Treasurer of New Mexico National Financial, Inc. and as a director of both companies since 1996. Mr. Wiser is a past board member and president of the New Mexico Bankers Association and he previously served on the Community Bankers Council of the ABA. Mr. Wiser is a Certified Public Accountant and he currently serves as Chairman of the Bank’s Audit Committee.
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Audit Committee Financial Expert
The
Bank’s Board of Directors has determined that Mr. Wiser qualifies as an “audit committee financial expert” as defined by SEC rules. The Bank is required by SEC rules to disclose whether Mr. Wiser is “independent” and, in making that determination, is required to apply the independence standards of a national securities exchange or an inter-dealer quotation system. For this purpose, the Bank has elected to use the independence standards of the New York Stock Exchange. Under those standards, the Bank’s Board of Directors has determined that presumptively its member directors, including Mr. Wiser, are not independent. However, Mr. Wiser is independent under applicable Finance Agency regulations and under Rule 10A-3 of the Exchange Act related to the independence of audit committee members. For more information regarding director independence, see Item 13. Certain Relationships and Related Transactions, and Director Independence.
Director
Qualifications and Attributes
As more fully described above, the size of the Bank’s Board of Directors, including the number of member directors and independent directors, is determined by the Finance Agency, subject to a minimum number of directors established by statute. Candidates for member directorships are nominated and elected by members located in the state to be represented by that particular directorship. The Bank’s Board of Directors does not nominate member directors nor can it support or oppose the nomination or election of a particular individual for a member directorship. In the event of a vacancy in any member directorship, such vacancy is to be filled by an affirmative vote of a majority of the Bank’s remaining directors, regardless of whether the remaining directors constitute a quorum of the Bank’s Board of Directors.
Independent directors, on the other hand, are
nominated by the Bank’s Board of Directors (after consultation with its affordable housing Advisory Council) and are elected by a plurality of the Bank’s members at-large. A vacancy in any independent directorship is similarly filled by an affirmative vote of a majority of the Bank’s remaining directors, regardless of whether the remaining directors constitute a quorum of the Bank’s Board of Directors.
In evaluating an independent director candidate (or a candidate to fill a vacancy in any member directorship), the Board of Directors considers factors that it has determined to be in the best interests of the Bank and its shareholders and which go beyond the statutory eligibility requirements, including the knowledge, experience, integrity and judgment of each candidate; the experience and competencies that the Board desires to have represented; each candidate’s ability to devote sufficient time and effort to his or her duties
as a director; geographic representation in the Bank’s five-state district; prior tenure on the Board; the need to have at least two public interest directors from among the Bank’s independent directors; and any core competencies or technical expertise necessary to staff committees of the Board of Directors. In addition, the Board of Directors assesses whether a candidate possesses the integrity, judgment, knowledge, experience, skills and expertise that are likely to enhance the Board’s ability to manage and direct the affairs and business of the Bank including, when applicable, to enhance the ability of committees of the Board to fulfill their duties.
Each of the Bank’s member directors and independent directors brings a unique background and strong set of skills to the Board, giving the Board as a whole competence and experience in a wide variety of areas, including corporate governance and board service, executive management,
finance, accounting, human resources, legal, risk management, affordable housing, economic development and government relations. Set forth below are the attributes of each of the Bank’s independent directors that the Board of Directors considered important to his or her inclusion on the Board. The Board of Directors does not make any judgments with regard to its member directors who have been elected by the Bank’s members, although the skills and experience of those directors may bear on the Board of Directors’ decisions with regard to the competencies it seeks when nominating candidates for independent directorships or when filling vacancies in either member or independent directorships.
Ms. Alston was elected by the Bank’s members at-large to serve a four-year term that commenced on January 1, 2021. She has served on the Bank's Board of Directors since 2017. Ms. Alston brings
to the Board extensive experience in the areas of investment management, finance and corporate governance. Since 2004, she has served as the Executive Director and Chief Investment Officer of the Employees' Retirement Fund of the City of Dallas, where she provides leadership for the fund's staff in implementing the programs necessary to achieve the mission, goals and objectives established by the fund's board of trustees. Altogether, Ms. Alston brings to the Board over 30 years of experience in the financial services industry. From 2011 to 2016, Ms. Alston served on the Advisory Committee for the PBGC. Currently, she serves on the boards of directors of CHRISTUS Health and Blue Cross Blue Shield of Kansas City.
Mr. Baskin was elected by the Bank’s Board of Directors to fulfill the unexpired term of an independent director effective November 30, 2020. Having spent 39 years with
two international public accounting firms, where he specialized in the financial services industry, Mr. Baskin brings to the Board extensive experience in the areas of accounting, finance, internal controls and corporate governance. From 2002 until his retirement in 2016, Mr. Baskin served as an audit partner with Grant Thornton LLP. For nine years, he also served as one of the firm's five National Professional Practice Directors and, for five years, as the firm's National Assurance Innovation Managing Partner. Prior to joining Grant Thornton, Mr. Baskin spent 25 years at Arthur Andersen LLP. Over the course of his career, Mr. Baskin served on numerous task forces and committees in support of the
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accounting profession, was a frequent speaker on technical accounting and
auditing topics, and authored numerous papers and articles on such topics. Mr. Baskin is a Certified Public Accountant.
Ms. Bolen was elected by the Bank’s members at-large to serve a four-year term that commenced on January 1, 2019. She has served on the Bank’s Board of Directors since November 5, 2012. Ms. Bolen brings to the Board extensive experience in the areas of affordable housing, community development, organizational management and finance. From 1997 until December 31, 2014, she served as the Executive Director of the Mississippi Home Corporation. From 1990 to 1992, she served as Finance Director and from 1992 to 1997, she served as Deputy Executive Director. From 1998 through 1999 and from 2007 through 2009, Ms. Bolen served as a member of the Bank’s affordable housing
Advisory Council, which advises the Bank’s Board of Directors regarding opportunities for community revitalization through specialized community investment and affordable housing programs. Ms. Bolen previously served on the board of directors of the NCSHA and, until December 31, 2014, she co-chaired the NCSHA's Municipal Disclosure Task Force.
Ms. Ceverha was elected by the Bank’s members at-large to serve a four-year term that commenced on January 1, 2019. She has served on the Bank’s Board of Directors since January 1, 2004 and was Vice Chairman of the Bank’s Board of Directors from December 2005 to December 2014 and Acting Vice Chairman of the Bank's Board of Directors from January 2005 to December 2005. Ms. Ceverha brings to the Board extensive experience in housing, government
relations, corporate governance and policy-making. She has held leadership roles in numerous local government agencies and not-for-profits, including serving as vice chairman of the Texas State Board of Health, as a commissioner of the Dallas Housing Authority, and as the founder and past president of an organization that was established for the purpose of coordinating fundraising and other activities relating to the construction of the Trinity River Project in Dallas, Texas. She also provides extensive knowledge of the Texas legislative process to the Board.
Ms. Nelson was elected by the Bank’s members at-large to serve a four-year term that commenced on January 1, 2018. She has served on the Bank's Board of Directors since January 1, 2014. Ms. Nelson brings to the Board extensive experience in accounting, finance, organizational
management, corporate governance and matters involving executive compensation. She currently serves as Chairperson and Chief Executive Officer of a privately held real estate company. From 2007 to January 2013, Ms. Nelson served as Chief Executive Officer of Huntsville Memorial Hospital. Prior to that, she served as Executive Vice President, Chief Financial Officer and Chief Operations Officer of Texas Children's Hospital in Houston, Texas for 18 years. In addition, she has served on numerous boards of directors. Ms. Nelson is a Certified Public Accountant.
Mr. Rael was elected by the Bank’s Board of Directors to fulfill the unexpired term of an independent director effective March 6, 2020. With over 18 years of experience in the mortgage finance industry, Mr. Rael brings to the Board extensive experience in the areas of affordable housing, community development, organizational
management and mortgage finance. Since December 2014, he has served as Executive Director of the Greater Albuquerque Housing Partnership. From 2009 to 2014, he served as Director of Housing Development for the New Mexico Mortgage Finance Authority. From January 2016 until his election to the Bank's Board of Directors, Mr. Rael served as a member of the Bank’s affordable housing Advisory Council, which advises the Bank’s Board of Directors regarding opportunities for community revitalization through specialized community investment and affordable housing programs. Mr. Rael served as vice chair of the Bank's affordable housing Advisory Council from January 2019 until his election to the Bank's Board of Directors.
Mr. Salazar was elected by the Bank’s members at-large to serve a four-year term that commenced on January 1, 2020. He has served on the Bank's Board of Directors since
January 1, 2010. As an attorney with Rodey, Dickason, Sloan, Akin and Robb, P.A. for over 50 years, he brings extensive legal experience to the Board. Mr. Salazar specializes in real estate related matters, including land use and development law, and has represented single-family residential and multifamily housing developers and builders. Currently, he serves as a member of the Advisory Council of the Inter-American Foundation. Mr. Salazar is also a member of the Greater Albuquerque Chamber of Commerce and the Albuquerque Hispano Chamber of Commerce. He has previously served in leadership positions on the boards of these and other non-profit organizations that promote economic development, housing availability and/or housing finance.
Ms. Scholin was elected by the Bank’s members at-large to serve a four-year term that commenced on January 1,
2020. She has served on the Bank’s Board of Directors since April 10, 2007. As a lawyer with Baker Botts L.L.P. for over 25 years, she brings a wealth of legal experience to the Board. Prior to her retirement in December 2010, Ms. Scholin specialized in general corporate, corporate finance and securities law (including securities law reporting) and she has extensive knowledge of regulatory issues. In addition, Ms. Scholin brings to the Board expertise in corporate governance and compliance matters.
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Executive Officers
Set forth below is certain information regarding the Bank’s executive officers (ages are as of March 24, 2021).
The executive officers serve at the discretion of, and are elected annually by, the Bank’s Board of Directors.
Executive
Vice President and Chief Financial Officer
2003
Kalyan Madhavan
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Executive Vice President and Chief Business Officer
2014
Gustavo Molina
48
Senior Vice President and Chief Banking Operations Officer
2009
Jibo
Pan
48
Executive Vice President and Head of Capital Markets
2014
Jeff Yeager
47
Senior Vice President and Chief Information Officer
2015
Michael Zheng
51
Senior Vice President
and Chief Credit Officer
2015
Sanjay Bhasin serves as President and Chief Executive Officer of the Bank and has served in that capacity since he joined the Bank in May 2014. Prior to his employment with the Bank, Mr. Bhasin served as Executive Vice President, Members and Markets for the Federal Home Loan Bank of Chicago (the "Chicago Bank") from 2011 until May 2014. He joined the Chicago Bank in 2004 as Vice President, Mortgage Finance and was promoted to Senior Vice President, Mortgage Finance in 2007 and to Executive Vice President, Financial Markets in 2008, a position he held until his appointment as Executive Vice President, Members and Markets. Prior to joining the Chicago Bank, Mr. Bhasin was responsible for managing the interest rate
risk associated with Bank One, NA’s mortgage pipeline holdings from 1999 to 2004. Mr. Bhasin currently serves on the Council of Federal Home Loan Banks and as a director of the FHLBanks Office of Finance.
Brehan Chapman serves as Executive Vice President and Chief Administrative Officer. In this capacity, Ms. Chapman has responsibility for the Bank’s corporate communications, government and industry relations, human resources, property and facilities management, and compliance function. She joined the Bank in December 2004 as a Content Management Specialist. In November 2005, Ms. Chapman was promoted to Corporate Communications Manager, a position she held until her appointment as Vice President and Director of Corporate Communications and External Affairs in July 2009. In November 2013, her responsibilities were expanded to include human resources. In April 2014 and May 2014, Ms. Chapman's responsibilities were further expanded
to include the Bank's compliance function and property and facilities management, respectively. Ms. Chapman also serves as the Bank’s Corporate Secretary and has served in that capacity since February 2008. She was promoted to Senior Vice President in January 2012, to Chief Administrative Officer in February 2014 and to Executive Vice President in January 2016. Prior to joining the Bank, Ms. Chapman served as the Public Relations Manager for Waubonsee Community College from 2001 to 2004.
Sandra Damholt serves as Senior Vice President and General Counsel of the Bank. Ms. Damholt joined the Bank in October 2009 as Deputy General Counsel, and was promoted to Vice President and General Counsel in October 2010. She was promoted to Senior Vice President in January 2014. Prior to joining the Bank, Ms. Damholt served as Senior Vice President and General Counsel of Dovenmuehle Mortgage, Inc. from January 2008 through May 2009. From
2000 to 2007, Ms. Damholt served in several capacities for the Chicago Bank, including Deputy General Counsel and Director of Compliance and Ethics. Prior to that, Ms. Damholt served in various legal and management roles in the financial services industry, including 13 years with PNC Mortgage Corporation (formerly Sears Mortgage Corporation) and 3 years with the State of Oklahoma Department of Banking.
Kelly Davis serves as Senior Vice President and Chief Risk Officer of the Bank. In this capacity, Ms. Davis has responsibility for the Bank’s market risk, operational risk and model risk management functions. In January 2017, her responsibilities were expanded to include income forecasting. She joined the Bank in August 2008 as a Senior Strategic Planning Analyst. In September 2013, Ms. Davis was promoted to Risk Reporting Manager, a position she held until her appointment as Director of Operational Risk Management and Enterprise
Risk Management Reporting in July 2014. Ms. Davis was promoted to Chief Risk Officer in June 2015 and to Senior Vice President in July 2015. Prior to joining the Bank, she served in various consulting and management roles for Liberty Mutual Insurance Group from 2002 to 2008, as Assistant Treasurer of Georgia State University from 1999 to 2001, and in various audit positions from 1991 to 1999, including roles with KPMG LLP and the U.S. General Accounting Office, which is now known as the U.S. Government Accountability Office. Ms. Davis is a Certified Public Accountant.
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Tom Lewis serves as Executive Vice President and Chief Financial Officer of the Bank. He joined the Bank in January 2003 as Vice President
and Controller and was promoted to Senior Vice President in April 2004 and to Chief Accounting Officer in February 2005, a position he held until his appointment as Chief Financial Officer in June 2014. Mr. Lewis was promoted to Executive Vice President in January 2016. From May 2002 through December 2002, Mr. Lewis served as Senior Vice President and Chief Financial Officer for Trademark Property Company (“Trademark”), a privately held commercial real estate developer. Prior to joining Trademark, Mr. Lewis served as Senior Vice President, Chief Financial Officer and Controller for AMRESCO Capital Trust (“AMCT”), a publicly traded real estate investment trust, from February 2000 to May 2002. From AMCT’s inception in 1998 until February 2000, he served as Vice President and Controller. Prior to that, Mr. Lewis served in a number of accounting and finance positions with AMRESCO, INC., a publicly traded financial services company, from 1995 to 1998 and Prentiss
Properties Limited, Inc., a privately held commercial real estate company, from 1989 to 1995. From 1985 to 1989, he served as an auditor for Price Waterhouse LLP. Mr. Lewis is a Certified Public Accountant.
Kalyan Madhavan serves as Executive Vice President and Chief Business Officer of the Bank. He joined the Bank in August 2014 as Executive Vice President and Group Head, Members and Markets, a position he held until his appointment as Chief Business Officer in January 2020. While serving as Group Head, Members and Markets, Mr. Madhavan had overall responsibility for the Bank's treasury operations, member sales and community investment. With his appointment as Chief Business Officer, his areas of responsibility were expanded to include corporate strategy and oversight of the Bank's mortgage loan acquisition program. From April to November 2015, he also served as Interim Chief Information Officer. Prior to joining the Bank,
Mr. Madhavan served as Senior Vice President and Co-Head, Members and Markets for the Chicago Bank, where he was responsible for asset acquisitions, funding, liquidity management, and marketing strategy. He joined the Chicago Bank in 2005 as a portfolio manager and was promoted to Assistant Vice President in 2006 and to Vice President in 2007. In 2008, he was appointed as Treasurer. In 2009, Mr. Madhavan was promoted to Senior Vice President and in 2011 his responsibilities were expanded to include member strategy and solutions. He served as Senior Vice President, Treasurer and Head of Member Strategy and Solutions from March 2012 until his appointment as Co-Head, Members and Markets in May 2014. Prior to joining the Chicago Bank, Mr. Madhavan served in various financial and operations management roles for 11 years in the credit card, airline and manufacturing industries.
Gustavo Molina serves as Senior Vice President and
Chief Banking Operations Officer. In this capacity, Mr. Molina oversees the Bank’s member services, collateral services, correspondent operations and safekeeping function. He joined the Bank in April 2002 as Credit Operations Manager and was promoted to Credit and Collateral Vault Operations Manager in 2004, to Customer Operations and Support Manager in 2007 and to Director of Banking Operations in 2009, a position he held until his appointment as Chief Banking Operations Officer in February 2014. Mr. Molina served as a Vice President of the Bank from 2009 to 2011. He was promoted to Senior Vice President in 2011. Prior to joining the Bank, Mr. Molina served as a Project Manager in the Operational Control and Risk Management Department of Fleet Bank Boston Financial (now Bank of America).
Jibo Pan serves as Executive Vice President and Head of Capital Markets of the Bank. As Head of Capital Markets, Mr. Pan has responsibility
for the Bank's investment, funding and hedging activities. Mr. Pan joined the Bank in August 2014 as Senior Vice President and Head of Capital Markets and was promoted to Executive Vice President in January 2016. Prior to joining the Bank, Mr. Pan served as Senior Vice President for the Chicago Bank where he was responsible for overseeing that institution's hedging activities. He joined the Chicago Bank in 2002 as a Senior Quantitative Analyst and was promoted to Assistant Vice President in 2006 and to Vice President in 2007, a position he held until his appointment as Senior Vice President in 2008. In 2006 and 2007, Mr. Pan managed the Chicago Bank's option portfolio. From 1994 to 2000, Mr. Pan served in various engineering roles for Hewlett Packard/Agilent Technologies Medical Division in Qingdao, China.
Jeff Yeager serves as Senior Vice President and Chief Information Officer of the Bank and has served in that capacity since
joining the Bank in November 2015. From 1999 to May 2015, Mr. Yeager served in various information technology positions for Horizon Lines, LLC ("Horizon LLC"), a wholly-owned subsidiary of Horizon Lines, Inc. ("Horizon"), a publicly traded provider of ocean transportation services. Among other roles, he served as Chief Information Officer from 2010 to 2015 and prior to that he served as Director of Technology from 2007 to 2010. Horizon was acquired by Matson, Inc. ("Matson") in May 2015. Mr. Yeager was employed by Matson until July 2015 at which time he joined The Pasha Group ("Pasha") as a consultant. Pasha had acquired a portion of Horizon's business prior to the Matson transaction. Mr. Yeager left Pasha to join the Bank. Prior to joining Horizon LLC, Mr. Yeager held various systems engineering positions with Electronic Data Systems from 1995 to 1999.
Michael Zheng serves as Senior Vice President
and Chief Credit Officer of the Bank. In this capacity, Mr. Zheng has responsibility for the Bank's credit risk and enterprise risk modeling functions. He joined the Bank in July 2012 as Credit and Capital Risk Manager. In July 2014, Mr. Zheng was promoted to Director of Enterprise Risk Modeling and Analysis, a position he held until his appointment as Chief Credit Officer in January 2015. Mr. Zheng was promoted to Senior Vice President in July 2015. Prior to joining the Bank, Mr. Zheng served as Director of Enterprise Risk Analytics for USAA, a member-owned diversified financial services organization, from 2010 to 2012. Mr. Zheng joined USAA in 2008 as Director of Modeling Analytics and he served in that role until his appointment as Director of Enterprise Risk Analytics. Prior to that, Mr. Zheng held
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risk
management/risk modeling positions at Washington Mutual Bank (2005 to 2008) and CitiGroup, Inc. (2001 to 2005) and various other roles at Mitsui & Co., Ltd. in China and Japan (1994 to 1999). Mr. Zheng is a Certified Financial Risk Manager.
Relationships
There are no family relationships among any of the Bank’s directors or executive officers. Except as described above, none of the Bank’s directors holds directorships in any company with a class of securities registered pursuant to Section 12 of the Exchange Act or subject to the requirements of Section 15(d) of such Act or any company registered as an investment company under the Investment Company Act of 1940. There are no arrangements or understandings between any director or executive officer and any other person pursuant to which that director or executive officer was selected.
Code
of Ethics
The Board of Directors has adopted a code of ethics that applies to the Bank's President and Chief Executive Officer (its principal executive officer), the Bank's Executive Vice President and Chief Financial Officer (its principal financial and accounting officer) and specified management personnel within the Bank's Accounting Department (collectively, the Bank's "Financial Professionals").
Annually, the Bank's Financial Professionals are required to certify that they have read and complied with the Code of Ethics for Financial Professionals. A copy of the Code of Ethics for Financial Professionals is filed as an exhibit to this report and is also available on the Bank’s website at www.fhlb.com
by clicking on “About Us,” then “Corporate Governance” and then “Code of Ethics for Financial Professionals.”
The Board of Directors has also adopted a Code of Conduct and Ethics for Employees that applies to all employees of the Bank, including the Financial Professionals, and a Code of Conduct and Ethics and Conflict of Interest Policy for Directors that applies to all directors of the Bank (each individually a “Code of Conduct and Ethics” and together the “Codes of Conduct and Ethics”). The Codes of Conduct and Ethics embody the Bank’s commitment to high standards of ethical and professional conduct. The Codes of Conduct and Ethics set forth policies on standards for conduct of the Bank’s business, the protection of the rights of the Bank and others, and compliance with laws and regulations applicable to the Bank and its employees and directors. All employees and directors are required
to annually certify that they have read and complied with the applicable Code of Conduct and Ethics. A copy of the Code of Conduct and Ethics for Employees is available on the Bank’s website at www.fhlb.com by clicking on “About Us,” then “Corporate Governance” and then “Code of Conduct and Ethics for Employees.” A copy of the Code of Conduct and Ethics and Conflict of Interest Policy for Directors is available on the Bank’s website by clicking on “About Us,” then “Corporate Governance” and then “Code of Conduct and Ethics and Conflict of
Interest Policy for Directors.” Information on the Bank's website does not constitute part of this report.
ITEM 11. EXECUTIVE COMPENSATION
COMPENSATION DISCUSSION AND ANALYSIS
The Compensation and Human Resources Committee of the Board of Directors (the “Committee”) has responsibility for, among other things, establishing, reviewing and monitoring compliance with our compensation philosophy. In support of that philosophy, the Committee
is responsible for making recommendations regarding, and monitoring implementation of, compensation and benefit programs that are consistent with our short- and long-term business strategies and objectives. The Committee’s recommendations regarding our compensation philosophy and benefit programs are subject to the approval of our Board of Directors.
Compensation Philosophy and Objectives
The goal of our compensation program is to attract, retain, and motivate employees and executives with the requisite skills and experience to enable us to achieve our short- and long-term strategic business objectives. We attempt to accomplish this goal as it relates to our executive officers through a mix of base salary, short-term incentive awards and other benefit programs. While we believe that we offer a work environment in which employees can find attractive career challenges and opportunities,
we also recognize that those employees have a choice regarding where they pursue their careers and that the compensation we offer may play a significant role in their decision to join or remain with us. As a result, we seek to deliver fair and competitive compensation for our employees, including the named executive officers identified in the Summary Compensation Table on page 113.
For 2020, our named executive officers were: Sanjay Bhasin, our President and Chief Executive Officer; Tom Lewis, our Executive Vice President and Chief Financial Officer; Kalyan Madhavan, our Executive Vice President and Chief Business Officer; Jibo Pan, our Executive Vice President and Head of Capital Markets; and Brehan Chapman, our Executive Vice President and Chief Administrative Officer.
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For
our executive officers, we attempt to align and weight total direct and indirect compensation with the prevailing competitive market and provide total compensation opportunities that are consistent with each executive’s responsibilities and individual performance and with our overall business results. For 2020, the Committee and Board of Directors defined the competitive market for our executives as: (1) the other Federal Home Loan Banks (each individually a “FHLBank” and collectively with us, the “FHLBanks” and, together with the Office of Finance, a joint office of the FHLBanks, the “FHLBank System”); (2) commercial banks with $20 billion or more in assets (including, to the extent data is available, the Federal Reserve Banks but excluding global investment banks); and (3) public proxy peers with assets between $10 billion and $20 billion. In addition to the other FHLBanks, we believe that the other institutions included in our peer group present
a breadth and level of complexity of operations that are generally comparable to our own.
Generally, it is our overall intent to provide total direct compensation, comprised of base salary and targeted incentive opportunities, for our executive officers at or above the competitive market median for comparable positions.
Responsibility for Compensation Decisions
The Board of Directors makes all decisions regarding the compensation of our President and Chief Executive Officer. The President and Chief Executive Officer's performance is reviewed annually by the full Board. The Committee is responsible for making recommendations to the Board of Directors regarding the President and Chief Executive Officer's compensation. The Board of Directors is responsible for reviewing and approving and has discretion to modify any of the Committee's recommendations
regarding the President and Chief Executive Officer's compensation.
The President and Chief Executive Officer annually reviews the performance and has responsibility for making recommendations to the Committee regarding the compensation of our other executive officers. The Committee is responsible for reviewing and approving or disapproving the recommendations that are made by the President and Chief Executive Officer. The performance reviews for all of our executive officers are generally conducted in the latter part of each year and salary adjustments, if any, are typically made on January 1 of the following year.
The President and Chief Executive Officer can recommend to the Committee additional base salary adjustments at any time during the year if warranted based on market data, job performance and/or other factors, such as a change in job responsibilities. In the absence of
a promotion or a change in an officer’s job responsibilities, base salary adjustments on any date other than January 1 are rare.
The Board of Directors is responsible for approving our short-term incentive compensation plan known as the Variable Pay Program or VPP. The VPP provides all regular, full-time employees (which, in years prior to 2017, included our executive officers) with the opportunity to earn an annual incentive award. The Committee is responsible for recommending annually to the Board of Directors the approval of the VPP for the next year and the performance goals that will be applicable for that year under the Corporate plan (including the addendums for our Capital Markets and Member Sales Departments) and the plan for our Internal Audit Department. The VPP plan goals for our Internal Audit Department are approved by our Audit Committee before Internal Audit's VPP plan is considered by the Committee.
The
Board of Directors also had responsibility for approving our long-term incentive compensation plans, which we referred to as our LTIPs. The LTIPs provided our executive officers (at the time their participation was approved by our Board of Directors) and a limited number of other employees who had from time to time been designated by our Board of Directors with the opportunity to earn long-term incentive awards over successive three-year performance periods that commenced annually. The Committee was responsible for recommending annually to the Board of Directors the approval of the LTIP for the next three-year plan cycle and the performance goals applicable to that plan’s three-year performance period. On December 3, 2015, the Board of Directors, acting upon a recommendation from the Committee, approved what ultimately became our final LTIP (the 2016 LTIP), subject to the Finance Agency's review. On January
21, 2016, the Finance Agency informed us that it did not object to the 2016 LTIP. The 2016 LTIP covered the period from January 1, 2016 through December 31, 2018.
Further, the Board of Directors is responsible for approving our executive incentive plan known as the EIP, which applied initially for the 2017 plan year. As more fully described below in the section entitled "Elements of Executive Compensation," the EIP provides cash-based award opportunities to officers of the Bank who are voting members of our Executive Management Committee ("EMC"), which include, among other executive officers, each of our named executive officers. The EIP replaced the VPP for 2017 and succeeding years and it replaced the LTIPs beginning in 2019. The Committee is responsible for recommending annually to the Board of Directors
the approval of the EIP for the next year and the performance goals that will be applicable for that year, which goals were (in the case of the 2017, 2018, 2019 and 2020 EIPs), are (in the case of the 2021 EIP) and are expected to be (in future years) substantially the same as the goals for the Corporate VPP.
Acting upon recommendations from the Committee, the Board of Directors is also responsible for approving any proposed revisions to our defined benefit and defined contribution plans, our deferred compensation plans, our Reduction in Workforce Policy and any other benefit plan as the Committee or Board of Directors deems appropriate.
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The Finance Agency requires us to provide advance notice of pending actions to be taken
by the Committee or our Board of Directors with respect to any aspect of the compensation of one or more of our named executive officers. As part of the notification process, we are required to provide the proposed compensation actions and any supporting materials, including studies of comparable compensation.
Use of Compensation Consultants and Surveys
Annually, we engage an independent compensation consultant to help ensure that our executive compensation program is both competitive and targeted at or above market-median compensation levels.
In August 2019 (for compensation to be paid in 2020), the Committee and Board of Directors engaged McLagan Partners ("McLagan") to conduct a competitive market pay study for all of our executive officers (the "2019 Pay Study"). The 2019 Pay Study involved an analysis of total direct
compensation for benchmark jobs at a total of 161 institutions, including the other FHLBanks; the value of retirement plans and other benefits were not considered as part of the study. To account for differences in the size and scope of the benchmark jobs included in the study, low quartile data (25th percentile), median data (50th percentile) or high quartile data (75th percentile) was judgmentally selected for each of those jobs to develop a market composite benchmark for each of the positions held by our named executive officers. In the case of the commercial bank peers, divisional head comparisons were used to identify the jobs with the closest functional responsibilities to our named executive officers. In the case of the public proxy peers, executive to executive comparisons were made and, conservatively, the 25th
percentile was used for all of the comparable positions at those institutions. For purposes of our comparative analysis, total direct compensation within +/- 15 percent of the median market composite compensation was considered to be within the competitive market range. Total direct compensation within +/- 10 percent of the median market composite compensation was considered to be competitive.
Elements of Executive Compensation
Prior to 2020, we relied upon a mix of base salary, short- and long-term incentive compensation, and benefits to attract, retain and motivate our executive officers. As a cooperative whose stock can only be held by member institutions, we are precluded from offering equity-based compensation to our employees, including our executive officers.
As further described below, we instituted a framework to transition away
from long-term incentives beginning in 2017 and ending in 2019. Prior to these changes, which became fully effective in 2020, and excluding the incentives that could be earned in 2017, our executive officers derived 50 percent of their annual incentive opportunity from a short-term (one year) award and 50 percent of their annual incentive opportunity from a long-term (three year) award.
In late 2016, the Finance Agency sought to have us eliminate our two-plan structure for our named executive officers in favor of one annual incentive compensation plan with a deferral component. In response to this request, we engaged McLagan to provide insight and analysis as we considered the framework for a new incentive compensation plan for our executive officers. On December 8, 2016, the Board of Directors, acting upon a recommendation from the Committee, approved our Omnibus Incentive
Plan (the "2017 Executive Incentive Plan" or "2017 EIP"), subject to the review of the Finance Agency. On December 20, 2016, the Finance Agency informed us that it did not object to the 2017 EIP. The 2017 EIP was effective as of January 1, 2017. The 2017 EIP provided for an annual award, 50 percent of which could be fully earned in 2017. The other 50 percent of the annual award (the deferred portion) did not become earned and vested until December 31, 2020. The 2017 EIP also included a transitional component (known as the Gap Year Award) that was designed to address a gap in our executive officers' annual incentive compensation opportunities in 2019 that would not otherwise have existed if we had continued to offer both the VPP and the LTIP to our executive officers. The Gap Year Award was based on the achievement
of long-term performance goals for the period from January 1, 2017 through December 31, 2019 and was, in essence, a long-term incentive plan that was subsumed in the 2017 EIP.
On December 7, 2017, the Board of Directors, acting upon a recommendation from the Committee, approved our 2018 EIP, subject to the review of the Finance Agency. On January 4, 2018, the Finance Agency informed us that it did not object to the 2018 EIP. The 2018 EIP was effective as of January 1, 2018. Like the 2017 EIP, the 2018 EIP provided for an annual award, 50 percent of which could be fully earned in 2018 and 50 percent of which can be fully earned in 2021. The other 50 percent of our executives' 2018
incentive opportunity was derived from our final LTIP (the 2016 LTIP).
The 2018 EIP, in combination with our 2016 LTIP, provided maximum incentive opportunities in 2018 of 95 percent of base salary for our President and Chief Executive Officer and 65 percent of base salary for our other named executive officers, which reflected increases from what would have been (inclusive of additional LTIP incentives) 75 percent of base salary and 58.75 percent of base salary, respectively, if not for the changes that were made by the Board of Directors in connection with the implementation of the new executive incentive plan structure. In 2018, the incentive factors for each goal with a target level of achievement were 75 percent and 50 percent of base salary for our President and Chief Executive Officer and other executives, respectively, which reflected increases from what would have been (inclusive of additional LTIP incentives) 58
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percent
and 45 percent of base salary, respectively, at an overall target level of achievement. The incentive factors for each 2018 goal with a threshold level of achievement were 50 percent and 30 percent of base salary for our President and Chief Executive Officer and other executives, respectively, which reflected increases from what would have been 36 percent and 26.25 percent of base salary, respectively, at an overall threshold level of achievement.
The maximum award percentages for our named executive officers are reviewed and approved annually by the Committee and Board of Directors. Excluding the incentive opportunities that were available to our named executive officers in 2017 (which, for that one year, were above the competitive market median for each of our named executive officers), our annual target award opportunities had historically been below the competitive market median for each of our named executive officers,
which led the Committee and Board of Directors, in late 2016, to increase the executives' future incentive opportunities beginning in 2018. In establishing the higher award percentages, the Committee and Board of Directors took into consideration the incentive opportunities that are available to similarly situated executives at the other FHLBanks. Based on this information, the Committee and Board of Directors set the threshold and target award percentages at the comparable median of the other FHLBanks and the maximum award percentages slightly below the comparable median of the other FHLBanks.
On December 6, 2018, the Board of Directors, acting upon a recommendation from the Committee, approved our 2019 EIP, subject to the review of the Finance Agency. On December 20, 2018, the Finance Agency informed us that it did not object
to the 2019 EIP. The 2019 EIP was effective as of January 1, 2019. Like previous EIPs, the 2019 EIP provided for an annual award, 50 percent of which could be fully earned in 2019 and 50 percent of which can be fully earned in 2022. The other 50 percent of our executives' 2019 incentive opportunity was derived from the 2017 EIP Gap Year Award. The threshold, target and maximum award percentages in the 2019 EIP were the same as those in the 2018 EIP.
On December 5, 2019, the Board of Directors, acting upon a recommendation from the Committee, approved our 2020 EIP (the "Proposed 2020 EIP"), subject to the review of the Finance Agency. In response to comments received from the Finance Agency, the Board, acting upon a recommendation from the Committee, approved a revision to the Proposed 2020 EIP (inclusive of the revision,
the "2020 EIP") on February 27, 2020, subject again to review by the Finance Agency. On May 21, 2020, the Finance Agency informed the Bank that it did not object to the 2020 EIP. The 2020 EIP was effective as of January 1, 2020. Like previous EIPs (and as more fully described in the "Incentive Compensation" section beginning on page 103 and the "Grants of Plan-Based Awards" section beginning on page 114), the 2020 EIP provided for an annual award, 50 percent of which could be fully earned in 2020 and 50 percent of which can be fully earned in 2023. The other 50 percent of our executives' 2020 incentive opportunity was derived from the 2017 EIP Deferred Award.
The threshold, target and maximum award percentages in the 2020 EIP were 50 percent, 75 percent and
100 percent of base salary, respectively, for Mr. Bhasin; 30 percent, 60 percent and 80 percent of base salary, respectively, for Messrs. Madhavan and Pan; and 30 percent, 50 percent and 70 percent of base salary, respectively, for Mr. Lewis and Ms. Chapman. For 2020, the Committee and Board of Directors elected to increase the maximum award percentages for all of our executive officers and to increase the target award percentages for Messrs. Madhavan and Pan. In establishing these higher award percentages, the Committee and Board of Directors took into consideration the incentive opportunities that are available to similarly situated executives at the other FHLBanks and the results of the 2019 Pay Study as further discussed below. As noted above, when the maximum award percentages were last changed in 2018, they had been set slightly below the comparable median of the other FHLBanks. For Mr. Bhasin, his maximum award percentage was increased from 95 percent to 100 percent.
For Messrs. Madhavan and Pan, their maximum award percentage was increased from 65 percent to 80 percent. For Mr. Lewis and Ms. Chapman, their maximum award percentage was increased from 65 percent to 70 percent. The target award percentage for Messrs. Madhavan and Pan was increased from 50 percent to 60 percent.
The Committee regularly considers the nature of our compensation program, including the various compensation elements that comprise our overall compensation program for executive officers.
Base Salary
Base salary is one of the two key components of our compensation program (the other is the incentive opportunities that we offer to our executive officers). We use the base salary element to provide the foundation of a fair and competitive compensation opportunity for each of our executive officers. Base salaries are reviewed annually
in the fourth quarter for all of our officers and at other times as circumstances warrant. For our executive officers, we target base salary compensation at or above the market median base salary practices of our defined competitive market for those officers, although we maintain flexibility to deviate from market-median practices for individual circumstances subject in all cases to review by the Finance Agency. In making base salary determinations, we also consider factors such as time in the position, prior related work experience, individual job performance, the position’s scope of duties and responsibilities within our organizational structure and hierarchy, and how these factors compare to other similar positions within our defined competitive market.
In setting Mr. Bhasin’s base salary for 2020, the Committee and Board of Directors took into consideration the results of the 2019 Pay Study which was conducted in the latter
part of 2019. The results of this study showed that Mr. Bhasin’s base salary and targeted incentive opportunities were at the lower bound of the competitive market range for his position. Based on this
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information, his strong individual performance and our outstanding business results in 2019, the Committee and Board of Directors gave Mr. Bhasin an above standard merit increase of 9.0 percent. The Committee and Board of Directors had given Mr. Bhasin above standard merit increases of 13.8 percent for 2018 and 3.6 percent for 2019 based on the results of similar studies that McLagan had conducted for us which showed that his base salary and targeted incentives lagged the competitive range for his position.
In setting the base
salaries of our other named executive officers for 2020, the Committee took into consideration the results of the 2019 Pay Study, which showed that each of these executive’s base salary and targeted incentive opportunities were at or below the lower bound of the competitive market median for his or her position. One of the positions (our Chief Administrative Officer) was at the lower bound of the competitive market range, while another position (our Chief Financial Officer) was below the competitive market range. Based on this information and Mr. Bhasin’s subjective assessments of various other factors, he recommended, and the Committee approved, above standard merit increases of 10.0 percent for Mr. Lewis and 4.0 percent for Ms. Chapman and standard merit increases of 2.0 percent for Messrs. Madhavan and Pan.
The base salaries of our named executive officers are presented in the Summary Compensation Table on page 113.
Incentive
Compensation
The 2020 EIP provides cash-based award opportunities to all of our executive officers by means of an annual award ("Annual Award"). The Annual Award was based on the achievement of short-term performance goals for the period from January 1, 2020 through December 31, 2020 (the "2020 Performance Goals") and, for 50 percent of that award, the satisfaction of safety and soundness goals for the period from January 1, 2021 through December 31, 2023.
The 2020 Performance Goals that were used to calculate the Annual Award were established by the Board of Directors and fell into the following broad categories: (a) business activity and financial execution goals; (b)
technology modernization goals; (c) operational excellence, which was structured as one goal comprising 12 projects; (d) learning initiatives; and (e) diversity and inclusion initiatives. Within each category other than operational excellence, there were multiple goals and each goal (including the operational excellence goal) was assigned a specific percentage weight. For 2020 Performance Goals comprising 52.5 percent of the executives’ 2020 Annual Award opportunity, each goal was assigned a threshold, target and stretch objective. For 2020 Performance Goals comprising 10 percent of the executives’ 2020 Annual Award opportunity, each goal was assigned only a target and stretch objective. The remaining 37.5 percent of the executives’ 2020 Annual Award opportunity was based upon performance goals for which achievement was assessed on a pass/fail basis.
For Mr. Bhasin, the incentive factor for each 2020 Performance Goal could
have been 0 percent (if the threshold objective was not met or, in those cases where there was not a threshold objective, the target objective was not met or, in the case of a pass/fail objective, the objective was not met), 50 percent (if results were equal to the threshold objective for those 2020 Performance Goals that had a threshold objective), 75 percent (if results were equal to the target objective) or 100 percent (if results were equal to or greater than the stretch objective or, in the case of a pass/fail objective, the objective was met). For Messrs. Madhavan and Pan, the incentive factor for each 2020 Performance Goal could have been 0 percent (if the threshold objective was not met or, in those cases where there was not a threshold objective, the target objective was not met or, in the case of a pass/fail objective, the objective was not met), 30 percent (if results were equal to the threshold objective for those 2020 Performance Goals that had a threshold
objective), 60 percent (if results were equal to the target objective) or 80 percent (if results were equal to or greater than the stretch objective or, in the case of a pass/fail objective, the objective was met). For Mr. Lewis and Ms. Chapman, the incentive factor for each 2020 Performance Goal could have been 0 percent (if the threshold objective was not met or, in those cases where there was not a threshold objective, the target objective was not met or, in the case of a pass/fail objective, the objective was not met), 30 percent (if results were equal to the threshold objective for those 2020 Performance Goals that had a threshold objective), 50 percent (if results were equal to the target objective) or 70 percent (if results were equal to or greater than the stretch objective or, in the case of a pass/fail objective, the objective was met).
Achievement levels between threshold and target and between target and stretch
for each 2020 Performance Goal that had those achievement levels were interpolated in a manner as determined by the Committee. The results for each 2020 Performance Goal were multiplied by the assigned percentage weight to determine its contribution to the overall 2020 EIP goal percentage for each of our named executive officers. For example, if the stretch objective was achieved for a goal with a percentage weight of 14.0 percent, then the contribution of that goal to Mr. Bhasin’s overall goal percentage was 14.0 percent (14.0 percent x 100 percent). For Messrs. Madhavan and Pan, the contribution of that same goal to their overall goal percentage was 11.2 percent (14.0 percent x 80 percent). For Mr. Lewis and Ms. Chapman, the contribution of that same goal to their overall goal percentage was 9.8 percent (14.0 percent x 70 percent). The percentages derived from this calculation for each 2020 Performance Goal were added together to derive each executive’s overall goal
percentage for the 2020 EIP, which percentage was then multiplied by the executive’s 2020 base salary to determine his final Annual Award.
Generally, the Board of Directors has attempted to set the threshold, target and stretch objectives for our EIPs such that the relative difficulty of achieving each level is consistent from year to year.
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For 2020, the Board of Directors established 18 separate performance goals, each of which had a specific percentage weight ranging from 0.5 percent to 17.5 percent. As further set forth in the table below, the goals relating to our business activity and financial execution objectives, technology modernization objectives, operational excellence objectives, learning initiatives and diversity
and inclusion initiatives comprised 35 percent, 32.5 percent, 17.5 percent, 10 percent and 5 percent, respectively, of our overall 2020 Performance Goals.
As more fully discussed in the section entitled “Grants of Plan-Based Awards” beginning on page 114, the Board of Directors could, among other things, adjust the 2020 Performance Goals to ensure the purposes of the 2020 EIP were served. In addition, the Board of Directors, in its discretion, could consider extraordinary occurrences when assessing performance results and determining award payments. Extraordinary occurrences mean those events that, in the opinion and at the discretion of the Board of Directors, are outside the significant influence of the executive or us and are likely to have a significant unanticipated effect, whether positive or negative, on our operating and/or financial results. No adjustments were made to the 2020 Performance Goals.
For
2020, we had as one of our goals growth in our retained earnings from adjusted net income. This measure of our net income excluded (1) unrealized gains and losses on derivatives and hedging activities (including the exclusion of the related basis adjustments in the calculation of the gains or losses associated with the sale of any of our previously hedged investment securities), (2) net prepayment fees on advances, (3) any recoveries of other-than-temporary impairment charges on our private-label mortgage-backed securities that had been recorded in periods prior to 2020 (as such charges were excluded from this measure of our net income in those years) and (4) interest expense on mandatorily redeemable capital stock. In addition, so as not to exclude the costs associated with our interest rate caps, we included proforma amortization of the premiums paid for such caps. Further, for similar reasons, we included the actual losses (i.e., principal shortfalls), if any, incurred
on our private-label mortgage-backed securities.
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2020 EIP Objectives
(dollars in millions)
Percentage
Weight
Objective
Contribution to the Executive's Overall Goal Percentage
Threshold
Target
Stretch
Results
Mr. Bhasin
Mr. Madhavan and Mr. Pan
Mr.
Lewis and Ms. Chapman
Business Activity and Financial Execution
1. Daily Average Advances Outstanding
10.5000
%
$
34,000
$
35,000
$
37,000
$
36,824
10.2692
%
8.2153
%
7.1653
%
2.
Daily Average Outstanding Letters of Credit
1.7500
%
$
17,000
$
18,000
$
19,000
$
22,246
1.7500
%
1.4000
%
1.2250
%
3.
MPF Assets Acquired (UPB)
7.0000
%
$
1,250
$
1,500
$
1,750
$
901
—
%
—
%
—
%
4.
New Small Business Boost Commitments
1.7500
%
$
2.0
$
2.5
$
3.0
$
3.0
1.7500
%
1.4000
%
1.2250
%
5.
Growth in Retained Earnings from Adjusted Net Income
14.0000
%
$
90
$
100
$
110
$
131
14.0000
%
11.2000
%
9.8000
%
35.0000
%
27.7692
%
22.2153
%
19.4153
%
Technology
Modernization
1. Advances Decustomization
10.2500
%
Pass/Fail
Pass
10.2500
%
8.2000
%
7.1750
%
2.
Capital Stock Decustomization
10.2500
%
Pass/Fail
Pass
10.2500
%
8.2000
%
7.1750
%
3. Collateral Decustomization
10.2500
%
Pass/Fail
Pass
10.2500
%
8.2000
%
7.1750
%
4.
Member Registry
1.7500
%
Pass/Fail
Pass
1.7500
%
1.4000
%
1.2250
%
32.5000
%
32.5000
%
26.0000
%
22.7500
%
Operational
Excellence
17.5000
%
8 of 12
10 of 12
12 of 12
12 of 12
17.5000
%
14.0000
%
12.2500
%
Implement New Telephony
System
Completed
Rebuild FHLB.com
Completed
Rebuild
Intranet
Completed
Implement First Robotic Process Automation
Completed
Develop
Plan to Modernize Member Access to SecureConnect
Completed
Cloud Desktop Pilot and Migration Plan
Completed
Performance
Management Configuration
Completed
Preparedness for New AHP Rule
Completed
E-Note
Integrations
Completed
Upgrade Collateral Services Online Database
Completed
Complete
2020 Wire Plan Items
Completed
Complete 2020 LIBOR Transition Plan Items
Completed
17.5000
%
17.5000
%
14.0000
%
12.2500
%
Learning
Initiatives
1. Individual: Usage of Objectives and Key Results System (usage rate)
4.0000
%
N/A
95%
100%
96.57%
3.3140
%
2.6512
%
2.2512
%
2.
Individual: Employee-led knowledge sharing sessions (number of sessions)
1.0000
%
N/A
50
70
111
1.0000
%
0.8000
%
0.7000
%
3.
Internal: (a) Design new performance management process, (b) Implement Phase 2 of HR dashboards, and (c) Automate HR forms
4.0000
%
N/A
2 of 3
3 of 3
3 of 3
4.0000
%
3.2000
%
2.8000
%
4.
Corporate: (a) Participate in Large Community Project and (b) Develop and Launch Cultural Survey
0.5000
%
N/A
1 of 2
2 of 2
2 of 2
0.5000
%
0.4000
%
0.3500
%
5.
External: Conduct (a) Regional Workshops, (b) Community Investment Workshops, and (c) Member Webinars
0.5000
%
N/A
2 of 3
3 of 3
3 of 3
0.5000
%
0.4000
%
0.3500
%
10.0000
%
9.3140%
7.4512
%
6.4512
%
Diversity
and Inclusion Initiatives
1. Evaluation of diverse vendor impact for core vendor exceptions
2.5000
%
Pass/Fail
Pass
2.5000
%
2.0000
%
1.7500
%
2.
Implement Diverse Vendor Certification Process
1.2500
%
Pass/Fail
Pass
1.2500
%
1.0000
%
0.8750
%
3. All-employee
Training
1.2500
%
Pass/Fail
Pass
1.2500
%
1.0000
%
0.8750
%
5.0000
%
5.0000
%
4.0000
%
3.5000
%
Overall
2020 EIP Goal Percentage
100.0000
%
92.0832
%
73.6665
%
64.3665
%
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As
shown in the table above, we achieved the stretch objective for 8 of the 11 performance goals that had either threshold, target and stretch objectives or target and stretch objectives only. For 2 of the other 3 goals in these categories, we achieved a level of performance between the target and stretch level. For the other goal, we did not achieve the threshold level of performance. In addition, we passed the 7 goals that had a pass/fail objective. These results produced an overall achievement rate for our named executive officers of approximately 92 percent (calculated by dividing the executive's 2020 EIP goal percentage by his or her maximum award percentage). In comparison, the overall achievement rates for our named executive officers under the 2019 EIP, 2018 EIP and 2017 EIP were approximately 77 percent, 97 percent and 100 percent, respectively. The results for 2017 represented the only time we have attained the highest possible achievement level for one of our
short-term incentive plans.
Because each named executive officer received at least a "Meets Expectations" performance rating for 2020, 50 percent of the executive’s final Annual Award under the 2020 EIP (the "2020 Current Award") became earned and vested on December 31, 2020 and was payable no later than March 15, 2021. The remaining 50 percent of the executive’s final Annual Award under the 2020 EIP (the "2020 Deferred Award") will become earned and vested on December 31, 2023 if the conditions described in the Grants of Plan-Based Awards section are satisfied.
The possible Annual Awards that could be earned by our named executive officers for 2020 are presented in the Grants of Plan-Based Awards section. The
calculation of the Annual Awards earned by our named executive officers in 2020 is shown in the table below. The 2020 Current Awards are included in the Summary Compensation Table on page 113 in the column entitled "Non-Equity Incentive Plan Compensation."
Each
of our named executive officers participated in the 2017 EIP which, like the 2020 EIP discussed above, provided for a deferred award that was equal to 50 percent of the executive's final Annual Award under the 2017 EIP (the "2017 Deferred Award"). The following table shows the 2017 Deferred Awards with interest at 6 percent compounded annually over the period from January 1, 2018 through December 31, 2020 (the "2017 Deferral Performance Period"). The 2017 Deferred Awards, which are more fully discussed in the Compensation Discussion and Analysis section of our 2017 10-K, became earned and vested on December 31, 2020 because: (i) each of the named executive officers was actively employed by us on December 31, 2020; (ii) each of the named executive officers received
at least a "Meets Expectations" performance rating for 2020; and (iii) the safety and soundness goals set forth in the paragraph immediately following the table were satisfied during the 2017 Deferral Performance Period.
The
safety and soundness goals applicable to the 2017 Deferred Award that were met during the 2017 Deferral Performance Period were: (i) we had no material risk management deficiencies at the Bank; (ii) no operational errors or omissions resulted in material revisions to our financial results, information submitted to the Finance Agency, or data used to determine incentive payouts; (iii) no submission of material information to the SEC, the FHLBanks Office of Finance, and/or the Finance Agency was significantly past due; (iv) we made sufficient progress, as determined by the Board of Directors, in the timely remediation of significant examination, monitoring and other supervisory findings; and (v) we had sufficient capital to pay dividends and repurchase members’ stock.
Defined Benefit Pension Plan
All regular employees hired prior to January 1,
2007 who work a minimum of 1,000 hours per year participate in the Pentegra Defined Benefit Plan for Financial Institutions ("Pentegra DB Plan"), a tax-qualified multiemployer defined benefit pension plan. The plan also covers any of our regular employees hired on or after January 1, 2007 who work a minimum of 1,000 hours per year, provided that the employee had prior service with a financial services institution that participated in the Pentegra DB Plan, during which service the employee was covered by such plan. Effective July 1, 2015, coverage was extended to include
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all of our non-highly compensated employees (as defined by Internal Revenue Service rules)
who were hired on and after January 1, 2007 but before August 1, 2010 who work a minimum of 1,000 hours per year. Concurrently, we amended our participation in the Pentegra DB Plan such that some of the benefits offered by the plan were reduced prospectively (that is, on and after July 1, 2015) for employees who were hired prior to July 1, 2003. Under these participation rules, all of our named executive officers participate in the plan. Because this is a qualified defined benefit plan, it is subject to certain compensation and benefit limitations imposed by the Internal Revenue Service. In 2020, the maximum compensation limit was $285,000 and the maximum annual benefit limit was $230,000. The pension benefit earned under the plan is based on the number of years of credited
service (up to a maximum of 30 years) and compensation earned over an employee’s 36 highest consecutive months of earnings. For employees hired prior to July 1, 2003, the high 36-month average compensation for purposes of the benefit earned prior to that date became fixed as of July 1, 2015. For employees hired on and after July 1, 2003, the high 36-month average compensation is calculated over the employee's entire participation period.
This element of our compensation program is one of several that constitute an integral part of our retention strategy, which is to reward tenure by linking it to compensation. It also represents an effort on our part to partially offset our inability to provide equity-based compensation to our employees. We consider this benefit to be a significant
element of our compensation program as it pertains to our named executive officers and other key tenured employees. Based on this belief, we have elected to provide a benefit under this plan that we believe is at or near the median for comparable companies that offer this benefit, although we have not conducted any recent studies to confirm this.
The details of this plan and the accumulated pension benefits for our named executive officers can be found in the Pension Benefits Table and accompanying narrative on pages 116-119 of this report.
Defined Contribution Savings Plan
We offer all regular employees who work a minimum of 1,000 hours per year, including our executive officers, the opportunity to participate in the FHLBank of Dallas 401(k) Retirement Plan ("FHLB Dallas DC Plan"), a tax-qualified defined contribution plan that
we established effective December 1, 2018. Prior to December 1, 2018, our eligible employees had the opportunity to participate in the Pentegra Defined Contribution Plan for Financial Institutions ("Pentegra DC Plan"), a tax-qualified multiemployer defined contribution plan. For our active employees, the FHLB Dallas DC Plan replaced the Pentegra DC Plan on and after December 1, 2018. Because these are qualified plans, they are subject to the maximum compensation limit set by the Internal Revenue Code, which for 2020 was $285,000 per year. In addition, the combined calendar year contributions to a qualified defined contribution plan (and any successor plan in the same year) from both us and the employee are limited by the Internal Revenue Code. For 2020, combined contributions from both us and the employee to the
FHLB Dallas DC Plan could not exceed $57,000. The FHLB Dallas DC Plan includes (and the Pentegra DC Plan included) a pre-tax 401(k) option along with an opportunity to make contributions on an after-tax basis. The limitation on combined contributions applies to an employee's pre-tax and after-tax contributions and any matching contributions we make on his or her behalf. The limitation on an employee's pre-tax contributions was $19,500 for 2020. Employees who were age 50 or older could elect in 2020 to make additional pre-tax contributions (commonly known as catch-up contributions) of up to $6,500. Catch-up contributions are not taken into account in applying the combined contribution limit which, for employees who were age 50 or older, was $63,500 for 2020.
Subject to the limits prescribed by the Internal Revenue Code, employees can contribute up to 75 percent of their monthly base salary and up to 100 percent of their incentive
compensation on either a pre-tax or after-tax basis. Prior to December 1, 2018, employees could contribute up to 65 percent of their monthly base salary on either a pre-tax or after-tax basis but were not permitted to contribute any of their incentive compensation.
For employees hired prior to January 1, 2019, we provide matching funds on the first 3 percent of eligible monthly base salary contributed by employees who are eligible to participate in the Pentegra DB Plan, and on the first 5 percent of eligible monthly base salary contributed by employees who are not eligible to participate in the Pentegra Defined Benefit Plan for Financial Institutions. In each case, our matching contribution is 100 percent, 150 percent or 200 percent depending upon the employee’s length of service, including, if applicable, their service with
a financial services institution that participated in the Pentegra DC Plan, during which service the employee was covered by such plan. Employees who are eligible to participate in the Pentegra DB Plan are fully vested in our matching contributions at the time such funds are deposited in their account. For employees who do not participate in the Pentegra DB Plan, there is a 2-6 year step vesting schedule for our matching contributions with the employee becoming fully vested after six years.
For employees hired on or after January 1, 2019, we provide matching funds on the first 3 percent of eligible monthly base salary contributed by the employee. For this group of employees, our matching contribution is 100 percent in the first three years of employment, 150 percent in the next two years and 200 percent after the employee has completed five years of employment. For this group
of employees, there is a three-year step vesting schedule for our matching contributions, with the employee becoming fully vested after three years.
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Under the FHLB Dallas DC Plan, participants can elect to invest plan contributions in up to 26 different fund options. Under the Pentegra DC Plan, participants could elect to invest plan contributions in up to 28 different fund options.
Based on their tenure with us (and, in the case of Messrs. Bhasin, Madhavan and Pan, their service with the Federal Home Loan Bank of Chicago during which service each of them was covered by the Pentegra DC Plan), each of our named executive officers was eligible to receive in 2020 a 200 percent matching contribution on the first 3 percent of his
or her eligible monthly base salary that he or she contributed to the plan, subject in all cases to the compensation limit prescribed by the Internal Revenue Code. The matching contributions that were made by us are included in the “All Other Compensation” column of the Summary Compensation Table found on page 113 and further set forth under the “401(k)/Thrift Plan” column of the related “Components of All Other Compensation for 2020” table.
We offer the savings plan as a competitive practice and believe that our matching contributions to the plan are at or above the market median for comparable companies, although we have not conducted any recent studies to confirm this.
Deferred Compensation Program
Under the terms of our nonqualified deferred compensation program, we offer our highly compensated employees, including
our named executive officers, the opportunity to voluntarily defer receipt of all or part of their base salary and all or part of their non-equity incentive plan compensation. The program allows participants to save for retirement or other future-dated in-service obligations (e.g., college, home purchase, etc.) in a tax-effective manner, as contributions and earnings on those contributions are not taxable to the participant until received. Under the program, amounts deferred by the participant and our matching contributions can be invested in an array of externally managed mutual funds.
We offer the program to allow our highly compensated employees to voluntarily defer more compensation than they would otherwise be permitted to defer under our tax-qualified defined contribution savings plan as a result of the limits imposed by the Internal Revenue Code. Further, we offer this program as a competitive practice to help us attract
and retain top talent. The matching contributions that we provide in this plan are intended to make the participant whole with respect to the amount of matching funds that he or she would have otherwise been eligible to receive in our tax-qualified defined contribution savings plan if not for the limits imposed by the Internal Revenue Code. These matching contributions are included in the “All Other Compensation” column of the Summary Compensation Table found on page 113 and further set forth under the “Nonqualified Deferred Compensation Plan (NQDC Plan)” column of the related “Components of All Other Compensation for 2020” table. As noted above, we believe that our matching contributions to the qualified savings plan are at or above the market median for comparable companies. Based on our experience and general knowledge of the competitive market, we believe this may also be true for the matching contributions that we provide under the deferred
compensation program, although we have not conducted a study to confirm this. The provisions of this program are described more fully in the narrative accompanying the Nonqualified Deferred Compensation table on pages 119-122.
Supplemental Executive Retirement Plan
We maintain a supplemental executive retirement plan (“SERP”) that benefits Mr. Lewis and some of our former executives. The SERP is a nonqualified defined contribution plan and, as such, it does not provide for a specified retirement benefit. Based on a recommendation from management in 2014, the Committee and Board of Directors decided to discontinue contributions to our SERP for the foreseeable future. While the Committee and Board of Directors could consider reactivating or replacing the SERP at some point in the future, there is no current plan to do so. If the SERP is ever reactivated or replaced, the Committee
and Board of Directors would expect to add our other executive officers as participants. While active, our intent with the SERP was to make up a portion of the pension benefit that was lost under our tax-qualified plan due to limitations imposed by the Internal Revenue Code (it was never our intention to provide a full restoration of the lost benefit under the tax-qualified defined benefit plan). Our final contribution to the SERP was made in 2014. Each participant’s benefit under the SERP consists of the contributions we made on his or her behalf, plus an allocation of the investment gains or losses on the assets used to fund the plan. Contributions to the SERP were determined solely at the discretion of our Board of Directors and were, during the periods in which they were made, based upon our desire to provide a reasonable level of supplemental retirement income to the participants. Generally, benefits under the SERP vest when the participant attains the “Rule
of 70.” A participant attains the Rule of 70 when the sum of his or her age and years of service with us is at least 70. As of December 31, 2020, Mr. Lewis had met the Rule of 70. The provisions of the plan provide for accelerated vesting and payment in the event of a participant’s death or disability if such participant is not otherwise vested at the time of his death or disability. Otherwise, vested benefits are not payable to the participant until he or she reaches age 62 or, if later, upon retirement. We maintain the right at any time to amend or terminate the SERP, or remove a participant from the SERP at our discretion, except that no amendment, modification or termination may reduce the then vested account balance of any participant.
Many other comparable financial institutions in our defined competitive markets offer supplemental executive retirement plans that are
designed to fully restore the lost benefits under their tax qualified plans and therefore our decision not to offer this form of compensation may put us at a competitive disadvantage.
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For details regarding the operation of Groups 1 and 2 of our SERP and the account balances for Mr. Lewis as of December 31, 2020, please refer to the Nonqualified Deferred Compensation table and accompanying narrative beginning on page 119.
Other Benefits
We offer a number of other benefits to our executive officers pursuant to benefit programs that are available to all of our regular, full-time employees. These benefits include: medical, dental, vision
and prescription drug benefits; paid time off (in the form of vacation and flex leave); short- and long-term disability coverage; life and accidental death and dismemberment insurance; charitable gift matching (limited to $500 per employee per year); health and dependent care flexible spending accounts; healthcare savings accounts; and certain other benefits including, but not limited to, retiree health and limited life insurance benefits (provided certain eligibility requirements are met).
Our employees accrue vacation at different rates depending upon their length of service, with some exceptions for officers during their first five years of employment with us. After an employee has completed 12 or more years of service (including any prior service with another FHLBank, subject to certain exceptions), he or she is entitled to 200 hours of annual vacation leave. We typically limit the amount of accrued and unused vacation
leave that an employee can accumulate to two times the amount of vacation he or she earns in an annual period. This policy is effected by allowing employees to carry over no more than the amount of vacation that he or she earns in an annual period to the next calendar year. Due to the COVID-19 pandemic, we made an exception to this policy in 2020 wherein we allowed our employees to carry over an additional 80 hours of vacation from 2020 to 2021. Unused vacation in excess of the maximum carryover, if any, is deducted from an employee's vacation account balance on December 31. Based on their length of service (including, in the case of Messrs. Bhasin, Madhavan and Pan, their service with the Federal Home Loan Bank of Chicago), each of our named executive officers currently accrue 200 hours of vacation leave per year. If an employee's employment with us is terminated for any reason, he or she is entitled to receive a payment for all accrued but unused vacation time as of
their termination date, which, as noted above, typically cannot exceed two times the amount of vacation that he or she earns in an annual period. This payment is derived by multiplying the number of accrued but unused vacation hours as of the employee's termination date by his or her hourly rate. For this purpose, the hourly rate is computed by dividing the employee's base salary by 2,080 hours.
All of our regular full-time employees, including our executive officers, accrue 80 hours of flex leave per year. Flex leave is defined as accrued leave that is available for personal injury or illness, family injury or illness, personal time off (which was limited to no more than 32 hours per year prior to 2019), and leave covered under the provisions of the Family and Medical Leave Act of 1993. In 2019, we limited flex leave for personal time off to no more than 8 hours. Beginning in 2020, no more than 16 hours of flex leave can
be used for personal time off. We limit employees' annual flex leave carryover amount to 520 hours. Employees (including executive officers) are not entitled to receive any payments under our flex leave policy under any circumstances, including a termination of their employment for any reason.
Perquisites
In 2020, we did not provide any perquisites to our named executive officers.
Executive Employment Agreements
Effective January 1, 2014 and March 24, 2015, we entered into employment agreements with Ms. Chapman and Mr. Bhasin, respectively. These agreements were authorized and approved by the Committee and Board of Directors and resulted from the Board’s desire to retain the services of Ms. Chapman
and Mr. Bhasin for no less than the one-year term of the agreements. On each yearly anniversary, the executive's employment agreement automatically renews for an additional one-year term unless either we or the executive gives a notice of non-renewal not less than 30 days prior to the expiration date. Because neither we nor either of the executives gave a notice of non-renewal, the term of Ms. Chapman's employment agreement was automatically extended through December 31, 2021 and the term of Mr. Bhasin's employment agreement was automatically extended through March 23, 2022.
As more fully described in the section entitled “Potential Payments Upon Termination or Change in Control” beginning on page 122, the employment agreements with Mr. Bhasin and Ms. Chapman provide for payments in the event that the executive officer's
employment with us is terminated either by the executive for good reason or by us other than for cause, by reason of the executive's death or disability, or as a result of us giving notice of non-renewal of the employment agreement at a time when the executive is willing and able to continue his or her employment on substantially the same terms. We believe the specified triggering events and the payments resulting from those events are similar in nature and amount to those commonly found in agreements used by comparable companies and therefore advance our objective of retaining Mr. Bhasin and Ms. Chapman.
We considered the actions with respect to Mr. Bhasin and Ms. Chapman to be prudent based on our belief that they are extremely well qualified to perform the duties of their jobs, that they have skill sets that are highly sought after in the financial
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services
industry, that they have valuable historical knowledge of us and the FHLBank System, and/or that their continued employment with us is essential to our ability to meet our business objectives.
Currently, we do not have employment agreements with Messrs. Lewis, Madhavan or Pan, nor do we expect to enter into employment agreements with these executives in the foreseeable future.
2021 Compensation Actions
The 2021 base salaries for our named executive officers (and the percentage change from the salaries in effect at December 31, 2020) are presented below. All of the salaries in the table below were effective January 1, 2021.
In September 2020, we engaged McLagan to conduct a competitive market pay study for all of our executive officers (the “2020 Pay Study”). The results of the 2020 Pay Study showed that the base salaries and targeted incentive opportunities for our named executive officers were within the competitive market range
for their positions with one exception (for that position, base salary and targeted incentives lagged the competitive range). Based on this information and the then prevailing economic conditions, the Committee and Board of Directors gave Mr. Bhasin a standard merit increase of 2.0 percent and the Committee approved, based upon Mr. Bhasin's recommendation, standard merit increases of 2.0 percent for Ms. Chapman and Messrs. Lewis, Madhavan and Pan.
On December 3, 2020, the Board of Directors, acting upon a recommendation from the Committee, approved our 2021 EIP, subject to the review of the Finance Agency. On January 11, 2021, the Finance Agency informed us that it did not object to the 2021 EIP. The 2021 EIP was retroactively effective as of January 1, 2021. Like previous EIPs,
the 2021 EIP provides for an annual award (the "2021 Annual Award"), 50 percent of which can be fully earned in 2021 (the "2021 Current Award"). The 2021 Annual Award is based on the achievement of performance goals for the period from January 1, 2021 through December 31, 2021. The remaining 50 percent of an executive's 2021 Annual Award (the "2021 Deferred Award"), with interest at 6 percent compounded annually over the period from January 1, 2022 through December 31, 2024 (the "2021 Deferral Performance Period") will not become fully earned and vested until December 31, 2024 and then only if: (1) the same safety and soundness goals that applied to the 2017 Deferred Award are satisfied during
the 2021 Deferral Performance Period; (2) the executive receives a performance rating for 2024 of at least "Solid Performance"; and (3) the executive is actively employed by us on December 31, 2024. An executive’s 2021 Deferred Award is payable no later than March 15, 2025.
For the incentives that can be earned in 2021 (which will be payable in early 2022), our executive officers will derive 50 percent of their incentive opportunity from the 2021 EIP (via the 2021 Current Award) and 50 percent of their incentive opportunity from the 2018 EIP Deferred Award discussed below.
For purposes of our 2021 Annual Award, the Board of Directors established 15 performance goals (the "2021 Performance Goals"). The 2021 Performance Goals fall into the following broad categories (with
category weights in parentheses): (a) business activity and financial execution (30 percent); (b) technology modernization (15 percent); (c) operational excellence (35 percent); (d) learning initiatives (10 percent); and (e) diversity and inclusion initiatives (10 percent). Within each category, there are one or more goals and each goal has been assigned a specific percentage weight with a threshold, target and stretch objective.
For Mr. Bhasin, the incentive factor for each 2021 Performance Goal can be 0 percent (if the threshold objective is not met), 50 percent (if results are equal to the threshold objective), 75 percent (if results are equal to the target objective) or 100 percent (if results are equal to or greater than the stretch objective). For Messrs. Madhavan and Pan, the incentive factor for each 2021 Performance Goal can be 0 percent (if the threshold objective is not met), 30 percent (if results are equal to
the threshold objective), 60 percent (if results are equal to the target objective) or 80 percent (if results are equal to or greater than the stretch objective). For Mr. Lewis and Ms. Chapman, the incentive factor for each 2021 Performance Goal can be 0 percent (if the threshold objective is not met), 30 percent (if results are equal to the threshold objective), 50 percent (if results are equal to the target objective) or 70 percent (if results are equal to or greater than the stretch objective). These incentive factors are unchanged from those that applied to the 2020 Annual Award.
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Achievement levels between threshold and target and between target and stretch for each 2021 Performance Goal will be interpolated in a manner as determined
by the Committee. Like previous EIPs, the results for each 2021 Performance Goal will be multiplied by the assigned percentage weight to determine its contribution to the overall 2021 EIP goal percentage. The percentages derived from this calculation for each 2021 Performance Goal will be added together to derive each executive’s overall goal percentage for the 2021 EIP, which percentage will then be multiplied by the executive’s 2021 base salary to determine his or her final 2021 Annual Award. The executive's final 2021 Annual Award will be multiplied by 50 percent to derive his or her 2021 Current Award.
The following table sets forth an estimate of the possible 2021 Annual Awards (and, for 50 percent of those awards, the 2021 Current Awards) that can be earned by our named executive officers under the 2021 EIP. The threshold amounts were computed based upon the assumption that we would achieve the threshold objective for
each of the 2021 Performance Goals. The target amounts were computed based upon the assumption that we would achieve the target objective for each of the 2021 Performance Goals. The maximum amounts were computed based upon the assumption that we would achieve the stretch objective for each of the 2021 Performance Goals. In addition, the threshold, target and maximum 2021 Current Awards are based upon the assumption that each of our named executive officers will receive a performance rating for 2021 of at least "Solid Performance." An executive's 2021 Current Award will become earned and vested on December 31, 2021 provided he or she is actively employed on that date and such award is payable no later than March 15, 2022. Given the number of variables involved in the calculation of our 2021 EIP awards, the ultimate payouts (other than the maximum payouts) can vary
significantly. For instance, the 2021 EIP awards can be less than the threshold amounts if we achieve one or some (but not all) of the threshold objectives relating to the 2021 Performance Goals. In addition, as noted above, achievement levels between threshold and target and between target and stretch will be interpolated and, as a result, the ultimate awards payable to the named executive officers could vary significantly between the threshold and maximum amounts presented in the table.
Estimated
Possible 2021 Annual Award
Estimated Possible Payouts in Early 2022 Under Non-Equity Incentive Plan Awards for 2021 EIP (2021 Current Award)
As previously noted, the remaining 50 percent of our executives' 2021 incentive opportunity will be derived from their 2018 Deferred Award. The amount of each executive's 2018 Deferred Award (before interest) became fixed at the end of 2018
based on the achievement of performance goals for the period from January 1, 2018 through December 31, 2018. The performance goals that were applicable to the 2018 Deferred Award are more fully discussed in the Compensation Discussion and Analysis section of our 2018 10-K.
An executive's 2018 Deferred Award will become earned and vested on December 31, 2021 if: (i) the safety and soundness goals set forth in the next paragraph are satisfied during the three-year deferral performance period which runs from January 1, 2019 through December 31, 2021 (the "2018 Deferral Performance Period"); (ii) the executive receives a performance rating for 2021 of at least "Solid Performance";
and (iii) the executive is actively employed by us on December 31, 2021. An executive’s 2018 Deferred Award is payable no later than March 15, 2022 with interest at 6 percent compounded annually over the 2018 Deferral Performance Period.
The safety and soundness goals that must be satisfied during the 2018 Deferral Performance Period are: (i) no material risk management deficiency exists at the Bank; (ii) no operational errors or omissions result in material revisions to our financial results, information submitted to the Finance Agency, or data used to determine incentive payouts; (iii) no submission of material information to the SEC, the FHLBanks Office of Finance, and/or the Finance Agency is significantly past due; (iv) we make sufficient progress, as determined by the Board of Directors, in the timely remediation of significant
examination, monitoring and other supervisory findings; and (v) we have sufficient capital to pay dividends and repurchase members’ stock.
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The following table shows the deferred awards under the 2018 EIP, the anticipated growth in those awards during the 2018 Deferral Performance Period, and the total 2018 Deferred Awards (inclusive of interest) that will be payable in early 2022 provided all of the conditions for payment are met.
Name
2018
EIP Deferred Award ($)
Interest on Deferred Award ($)
Total 2018 EIP Deferred Award Including Interest ($)
The
following table combines the possible 2021 EIP Current Awards and the actual 2018 Deferred Awards (including interest) from the two preceding tables and represents the total non-equity incentive plan compensation that can be fully earned by our named executive officers in 2021.
Estimated
Possible Payouts in Early 2022 for 2021 Incentive Opportunities
2021 EIP Current Award
2018 EIP Deferred Award Including Interest ($)
Total if 2021 EIP Current Award is at Threshold, Target or Maximum
The Compensation and Human Resources Committee has reviewed and discussed with management the Compensation Discussion and Analysis found on pages 99-112 of this report. Based on our review and discussions, we recommended to the Board of Directors that the Compensation Discussion and Analysis be included in the Bank’s Annual Report on Form 10-K.
The following table sets forth the total compensation for 2020, 2019 and 2018 (to the extent applicable) of our President and Chief
Executive Officer, our Executive Vice President and Chief Financial Officer, and our three other most highly compensated executive officers who were serving as executive officers at the end of 2020. Collectively, the five individuals presented in the table are referred to as our "named executive officers." Because Brehan Chapman was not a named executive officer in 2019 or 2018, only her 2020 compensation information is presented.
Name
and Principal Position
Year
Salary ($)
Bonus ($)
Stock Awards ($)
Option Awards ($)
Non-equity Incentive Plan Compensation ($) (1)
Change in Pension Value and Nonqualified Deferred Compensation Earnings ($) (2)
(1)Amounts
for 2020 represent 2020 EIP Current Awards earned for services rendered in 2020 and 2017 EIP Deferred Awards earned for services rendered during 2017, 2018, 2019 and 2020. Amounts for 2019 represent 2019 EIP Current Awards earned for services rendered in 2019 and Gap Year Awards earned for services rendered during 2017, 2018 and 2019. Amounts for 2018 represent 2018 EIP Current Awards earned for services rendered in 2018 and LTIP awards earned for services rendered during 2016, 2017 and 2018. The amounts shown for 2020 were paid to the named executive officers on February 19, 2021. The amounts shown for 2019 and 2018 were paid to the executive officers in February 2020 and February 2019, respectively. The components of this column for 2020 are provided in the table below entitled "Components of Non-Equity Incentive Plan Compensation for 2020."
(2)Amounts
reported in this column for 2020, 2019 and 2018 are attributable solely to the change in the actuarial present value of the named executive officers’ accumulated benefit under the Pentegra Defined Benefit Plan for Financial Institutions during those years, calculated for each such period in accordance with the assumptions and limitations set forth in the narrative following the pension benefits table on pages 116-119. None of our named executive officers received preferential or above-market earnings on nonqualified deferred compensation during 2020, 2019 or 2018. In 2018, the actuarial present value of the accumulated pension benefits for Mr. Bhasin and Mr. Pan decreased by $4,000 and $24,000, respectively.
(3)The components of this column for 2020 are provided in the table below entitled "Components of All Other Compensation for 2020."
Components
of Non-Equity Incentive Plan Compensation for 2020
As discussed in the Compensation Discussion and Analysis, the 2020 EIP provided for an Annual Award, which was comprised of a Current Award and a Deferred Award. For the incentives that could be earned in 2020, our executive officers derived 50 percent of their incentive opportunity from the 2020 EIP (via the 2020 Current Award) and 50 percent of their incentive opportunity from the 2017 EIP (via the 2017 Deferred Award).
For Mr. Bhasin, the potential Annual Award under the 2020 EIP (before interest on the deferred portion, as described below), could have been 63.75 percent of salary (if the threshold objective was achieved for each of our 2020 Performance Goals that had a threshold objective and all of the pass/fail goals were met), 84.375 percent of salary (if the target objective was achieved for each of our 2020 Performance Goals that had a target objective
and all of the pass/fail goals were met) or 100 percent of salary (if the stretch objective was achieved for each of our 2020 Performance Goals that had a stretch objective and all of the pass/fail goals were met). For Messrs. Madhavan and Pan, the potential Annual Award under the 2020 EIP (before interest on the deferred portion), could have been 45.75 percent of salary (if the threshold objective was achieved for each of our 2020 Performance Goals that had a threshold objective and all of the pass/fail goals were met), 67.5 percent of salary (if the target objective was achieved for each of our 2020 Performance Goals that had a target objective and all of the pass/fail goals were met) or 80 percent of salary (if the stretch objective was achieved for each of our 2020 Performance Goals that had a stretch objective and all of the pass/fail goals were met). For Mr. Lewis and Ms. Chapman, the potential Annual Award under the 2020 EIP (before interest on the deferred portion),
could have been 42 percent of salary (if the threshold objective was achieved for each of our 2020 Performance Goals that had a threshold objective and all of the pass/fail goals were met), 57.5 percent of salary (if the target objective was achieved for each of our 2020 Performance Goals that had a target objective and all of the pass/fail goals were met) or 70 percent of salary (if the stretch objective was achieved for each of our 2020 Performance Goals that had a stretch objective and all of the pass/fail goals were met).
The Current Award, representing 50 percent of the Annual Award, became earned and vested on December 31, 2020. The Deferred Award, representing the other 50 percent of the Annual Award, will become earned and vested on December 31, 2023 if: (i) the safety and soundness goals set forth in the next paragraph
are satisfied during the three-year deferral performance period which runs from January 1, 2021 through December 31, 2023 (the "2020 Deferral Performance Period"); (ii) the executive receives a performance rating for 2023 of at least "Solid Performance"; and (iii) the executive is actively employed on December 31, 2023. An executive’s Deferred Award under the 2020 EIP is payable no later than March 15, 2024 with interest at 6 percent compounded annually over the three-year deferral performance period.
The safety and soundness goals that must be satisfied during the three-year deferral performance period are: (i) no material risk management deficiency exists at the Bank; (ii) no operational errors or omissions result
in material revisions to our financial results, information submitted to the Finance Agency, or data used to determine incentive payouts; (iii) no submission of material information to the SEC, the FHLBanks Office of Finance, and/or the Finance Agency is significantly past due; (iv) we make sufficient progress, as determined by the Board of Directors, in the timely remediation of significant examination, monitoring and other supervisory findings; and (v) we have sufficient capital to pay dividends and repurchase members’ stock.
The following table sets forth an estimate of the possible Current Awards and Deferred Awards (before interest) that could have been earned by our named executive officers under the 2020 EIP. The achievement levels described above were used to compute the estimated awards shown in the table. Given the number of variables involved in the calculation of the Annual Awards, the ultimate awards (other than
the maximum awards) could have varied significantly. For instance, the Annual Awards could have been less than 63.75 percent of salary for Mr. Bhasin, 45.75 percent of salary for Mr. Madhavan and Mr. Pan and 42 percent of salary for Mr. Lewis and Ms. Chapman if we failed to achieve the threshold objective for one or more of our 2020 Performance Goals that had a threshold objective but achieved the threshold objective for each of our other 2020 Performance Goals that had a threshold objective. In addition, because achievement levels between threshold and target and between target and stretch for each 2020 Performance Goal that had those achievement levels are interpolated, the ultimate 2020 EIP awards earned by the named executive officers could have varied significantly between the threshold and maximum amounts presented in the table. The 2020 EIP Current Awards that were actually earned by our named executive officers are
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presented
in the Non-Equity Incentive Plan Compensation column in the Summary Compensation Table above and are described more fully in the Compensation Discussion and Analysis on pages 99 through 112.
The
following table shows the anticipated growth in the threshold, target and maximum Deferred Awards (from the table above) during the period from January 1, 2021 through December 31, 2023 and the total Deferred Awards (inclusive of interest) that would have been payable in early 2024 at each of these achievement levels.
Estimated
Possible Payouts in Early 2024 Under Non-Equity Incentive Plan Awards for 2020 EIP
(1)
Amounts represent interest on the Deferred Awards at 6 percent, compounded annually.
The following table shows the actual deferred awards under the 2020 EIP, the anticipated growth in those awards during the period from January 1, 2021 through December 31, 2023, and the total Deferred Awards (inclusive of interest) that will be payable in early 2024 provided all of the conditions for payment are met.
If
an executive officer's employment is terminated for any reason other than death, disability or a reduction in force (as defined in the 2020 EIP), his or her unvested 2020 EIP awards will be forfeited.
If an executive officer’s employment had been terminated in 2020 due to death or disability, then his or her Current Award would have been treated as earned and vested based on the portion of 2020 during which the executive was employed based on the assumption that we would have achieved the 2020 Performance Goals at the target achievement level. If an executive's employment is terminated during the 2020 Deferral Performance Period due to his or her death or disability, then his or her Deferred Award will be treated as fully earned and vested based on the assumption that we would achieve the safety and soundness goals applicable to that award. Payment of awards in connection with a death or disability would be made in a single
lump sum within 75 days of the executive’s termination date. For the Deferred Award, the payment would include interest through the executive's termination date.
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If an executive’s employment had been terminated in 2020 due to a reduction in force, then his or her Current Award would have been treated as earned and vested based on the portion of 2020 during which the executive was employed and the extent to which the 2020 Performance Goals were ultimately satisfied. If an executive’s employment is terminated during the 2020 Deferral Performance Period due to a reduction in force, then his or her Deferred Award will be treated as fully earned and vested upon completion of the three-year performance period and the achievement of the safety and soundness goals applicable
to that award. Payment of awards in connection with a reduction in force would be made according to the normal scheduled dates and would be contingent upon the executive executing the severance agreement offered by us.
If, in 2020, we had been involved in a merger, consolidation, reorganization or sale of all or substantially all of our assets, or we had been liquidated or dissolved (collectively, a "Reorganization"), subject to certain exceptions for which the Director of the Finance Agency had determined should not be a basis for accelerated vesting, then the Current Award would have been treated as earned and vested on a pro rata basis through the date of the Reorganization. Similarly, if we had been involved in a Reorganization during 2020, then the Deferred Award would have been treated as fully earned and vested effective as of the Reorganization date based on the assumption that we would have achieved the safety
and soundness goals applicable to that award. Payment of awards in connection with a Reorganization would be made in a single lump sum on the date on which the Reorganization occurs. If we are involved in a Reorganization during the 2020 Deferral Performance Period, the payment of the Deferred Award would also include interest through the Reorganization date.
The Board of Directors may adjust the 2020 Performance Goals to ensure the purposes of the 2020 EIP are served. In addition, the Board of Directors, in its discretion, may consider extraordinary occurrences when assessing performance results and determining award payments. Extraordinary occurrences mean those events that, in the opinion and at the discretion of the Board of Directors, are outside the significant influence of the executive or us and are likely to have a significant unanticipated effect, whether positive or negative, on our operating and/or financial results.
Any
awards not yet paid may be reduced or eliminated if any actual losses or other measures or aspects of performance are realized which would have caused a reduction in the amount of the awards. Further, if during the most recent examination of us by the Finance Agency, the Finance Agency identified an unsafe or unsound practice or condition that is material to the financial operation of the Bank within the executive’s area(s) of responsibility and such unsafe or unsound practice or condition is not subsequently resolved in our favor, then all of an executive’s vested and unvested awards under the 2020 EIP will be forfeited. Any future payments for a vested award will cease and we will have no further obligation to make such payments.
By resolution, the Board of Directors may reduce or eliminate an award that is otherwise earned under the 2020 EIP but not yet paid if the Board of Directors finds that a serious, material safety
and soundness problem or a serious, material risk management deficiency exists at the Bank, or if: (i) operational errors or omissions result in material revisions to our financial results, the information submitted to the Finance Agency, or the data used to determine incentive payouts; (ii) the submission of material information to the SEC, the FHLBanks Office of Finance, and/or the Finance Agency is significantly past due; or (iii) we fail to make sufficient progress, as determined by the Board of Directors, in the timely remediation of significant examination, monitoring and other supervisory findings.
The Board of Directors may amend the 2020 EIP at any time in its sole discretion. However, the Board of Directors may not amend the 2020 EIP to reduce an executive’s awards as determined on the day immediately preceding the effective date of the amendment or to otherwise retroactively impair or adversely affect the rights
of an executive.
In addition, the Board of Directors may terminate the 2020 EIP at any time in its sole discretion. Absent an amendment to the contrary, incentives that were earned and vested prior to the termination will be paid at the times and in the manner provided for by the 2020 EIP at the time of the termination.
PENSION BENEFITS
All of our regular full-time employees hired prior to January 1, 2007 participate in the Pentegra Defined Benefit Plan for Financial Institutions (“Pentegra DB Plan”), a tax-qualified multiemployer defined benefit pension plan. The Pentegra DB Plan also covers any of our regular full-time employees who
were hired on or after January 1, 2007, provided that the employee had prior service with a financial services institution that participated in the Pentegra DB Plan, during which service the employee was covered by such plan. Effective July 1, 2015, coverage was extended to include all of our non-highly compensated employees (as defined by Internal Revenue Service rules) who were hired on and after January 1, 2007 but before August 1, 2010. Concurrently, we amended our participation in the Pentegra DB Plan such that some of the benefits offered by the plan were reduced prospectively (that is, on and after July 1, 2015) for employees who were hired prior to July 1, 2003. Mr.
Lewis is the only named executive officer who was hired prior to July 1, 2003. Messrs. Bhasin, Madhavan and Pan, each of whom was hired after January 1, 2007, participate in the Pentegra DB Plan because each of them had prior service with the Federal Home Loan Bank of Chicago during which service each of them was covered by the plan. We do not offer any other defined benefit plans (including supplemental executive retirement plans) that provide for specified retirement benefits. The following table shows the present value of the current accrued pension benefit and the number of years of credited service for each of our
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named executive officers as of December 31,
2020. The number of years of credited service and the pension benefits shown for Messrs. Bhasin, Madhavan and Pan are inclusive of their prior service with the Federal Home Loan Bank of Chicago.
The
regular form of retirement benefit under the Pentegra DB Plan is a single life annuity that includes a lump sum death benefit. The normal retirement age is 65, but the plan provides for an unreduced retirement benefit beginning at age 60 as it relates solely to benefits that were accrued prior to July 1, 2015 (for employees hired prior to July 1, 2003) or age 62 (for employees hired on or after July 1, 2003 that meet the eligibility requirements to participate in the Pentegra DB Plan and, for employees hired prior to July 1, 2003, the benefits that those employees accrue on and after July 1, 2015). For employees hired prior to January 1, 2019 who are not eligible to participate
in the Pentegra DB Plan, we offer the opportunity for higher matching contributions in our defined contribution plan.
Valuation Assumptions
The accumulated pension benefits reflected in the table above were calculated using the following assumptions:
•Retirement at the earliest age at which retirement benefits may be received without any reduction in benefits (that is, benefits that have been accumulated through December 31, 2020 commence at age 62 and are discounted to December 31, 2020);
•Present values are calculated by weighting the present value of a benefit provided in the form of an annuity by 50 percent and the value of a benefit provided
as a lump sum by 50 percent. The annuity benefit is calculated using a discount rate of 2.52 percent. The lump sum benefit is calculated using a discount rate of either 2.52 percent or, for those participants impacted by the Internal Revenue Code Section 415 limits, 5.50 percent (which is the discount rate used to calculate the maximum lump sum payable under Internal Revenue Code Section 415);
•The annuity benefit is valued using the Pri-2012 white collar worker annuitant table with mortality improvement scale MP-2020 and the lump sum benefit is valued using the applicable Internal Revenue Service mortality table for 2020; and
•No pre-retirement decrements (i.e., no pre-retirement termination from any cause including but not limited to voluntary resignation, death or early retirement).
Tax
Code Limitations
As a tax-qualified defined benefit plan, the Pentegra DB Plan is subject to limitations imposed by the Internal Revenue Code of 1986, as amended. Specifically, Section 415(b)(1)(A) of the Internal Revenue Code places a limit on the amount of the annual pension benefit that can be paid from a tax-qualified plan (for 2020, this amount was $230,000 at age 65). The annual pension benefit limit is less than $230,000 in the event that an employee retires before reaching age 65 (the extent to which the limit is reduced is dependent upon the age at which the employee retires, among other factors). In addition, Section 401(a)(17) of the Internal Revenue Code limits the amount of annual earnings that can be used to calculate a pension benefit (for 2020, this amount was $285,000).
From time to time, the Internal Revenue Service may increase the maximum compensation limit and/or
the maximum allowable annual benefit for qualified plans. Future increases, if any, would be expected to increase the value of the accumulated pension benefits accruing to our named executive officers. For 2021, the Internal Revenue Service increased the maximum compensation limit to $290,000 per year and left unchanged the maximum allowable annual benefit at $230,000.
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Benefit Formula
Subject to the exceptions noted below for Messrs. Bhasin, Madhavan and Pan, the annual benefit payable under the Pentegra DB Plan (assuming a participant chooses a single life annuity with a lump sum death benefit) is calculated using the following formula:
•3 percent
x years of service credited prior to July 1, 2003 x high 36-month average compensation earned prior to July 1, 2015
plus
•2 percent x years of service credited on or after July 1, 2003 x high 36-month average compensation for the entire period of participation in the Pentegra DB Plan
The high 36-month average compensation is the average of a participant’s highest 36 consecutive months of compensation. Compensation covered by the Pentegra DB Plan includes taxable compensation as reported on the executive officer’s W-2 (reduced by any receipts of compensation deferred from a prior year) plus
any pre-tax contributions to our Section 401(k) plan and/or Section 125 cafeteria plan, subject to the Internal Revenue Code limitation which, for 2020, 2019 and 2018, was $285,000, $280,000 and $275,000, respectively. In each of those years, the compensation of all of our named executive officers exceeded the applicable Internal Revenue Code limit; accordingly, the high 36-month average compensation for each of our named executive officers was limited to $280,000 as of December 31, 2020. Based on the Internal Revenue Code limitations in effect prior to July 1, 2015, the high 36-month average compensation for purposes of the first part of the benefit formula is limited to $255,000 for Mr. Lewis. The first part of the benefit formula does not apply to Ms. Chapman or Messrs. Bhasin, Madhavan and Pan as they were not employed by us prior to July
1, 2003.
The plan limits the maximum years of benefit service for all participants to 30 years. As of December 31, 2020, Mr. Bhasin, Mr. Lewis, Mr. Madhavan, Mr. Pan and Ms. Chapman had accumulated 6.6, 17.5, 6.3, 6.3 and 16.0 years of credited service, respectively, at the 2 percent service accrual rate. For Mr. Lewis, the remainder of his service (0.4 years) has been credited at the 3 percent service accrual rate. While employed by the Federal Home Loan Bank of Chicago, Messrs. Bhasin, Madhavan and Pan accrued benefits at a service accrual rate of 2.25 percent. As a matter of policy, we do not grant extra years of credited service to participants in the Pentegra DB Plan.
Vesting
As of December 31, 2020, all of our named executive officers
were fully vested in their accrued pension benefits.
Early Retirement
Employees enrolled in the Pentegra DB Plan are eligible for early retirement at age 45 if hired prior to July 1, 2003. If hired on or after July 1, 2003 and before January 1, 2007, employees are eligible for early retirement at age 55 if they have at least 10 years of service with us. Employees hired on or after January 1, 2007 who meet the eligibility requirements to participate in the Pentegra DB Plan are eligible for early retirement at age 55 if they have at least 10 years of accrued benefit service in the Pentegra DB Plan, including prior credited service. If an employee wishes to retire before reaching his or
her unreduced benefit age, an early retirement reduction factor (or penalty) is applied. If the sum of an employee’s age and benefit service (including any prior credited service) is at least 70, the “Rule of 70” would apply and the employee’s benefit would be reduced by 1.5 percent for each year that the benefit is paid prior to reaching his or her unreduced benefit age. If an employee hired prior to July 1, 2003 terminates his or her employment prior to attaining the Rule of 70, the portion of that employee’s benefit that was earned prior to July 1, 2015 would be reduced by 3 percent for each year that the benefit is paid prior to reaching age 60. The portion of the benefit earned by that employee on and after July 1, 2015 (if commenced before reaching age 62) would be reduced by 6 percent per year from age 62
to age 60, 4 percent per year from age 60 to age 55 and 3 percent per year from age 55 to age 45. The penalties that apply from age 55 until the employee reaches age 62 (as described in the immediately preceding sentence) are equivalent to the penalties that apply to employees hired on or after July 1, 2003 who have not attained the Rule of 70 prior to termination. The early retirement reduction factor does not apply to an eligible employee if he or she retires as a result of a disability.
Because Mr. Lewis was hired prior to July 1, 2003, he is eligible to receive his pre-July 1, 2015 benefits without reduction at age 60 and his post-June 30, 2015 benefits without reduction at age 62. Given their hire dates, Ms. Chapman and Messrs.
Bhasin, Madhavan and Pan are eligible to receive an unreduced benefit at age 62. As of December 31, 2020, Mr. Lewis was eligible for early retirement with reduced benefits. Because he had met the Rule of 70 as of December 31, 2020, the early
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retirement reduction factors applicable to Mr. Lewis as of that date would have been approximately 3.0 percent as it relates to the benefits he had earned prior to July 1, 2015 and approximately 6.0 percent as it relates to the benefits he had earned on and after July 1, 2015. Given their ages and hire dates, Ms. Chapman and Messrs.
Bhasin, Madhavan and Pan are not yet eligible for early retirement.
Forms of Benefit
Participants in the Pentegra DB Plan can choose from among the following standard payment options:
•Single life annuity — that is, a monthly payment for the remainder of the participant’s life (this option provides for the largest annuity payment);
•Single life annuity with a lump sum death benefit equal to 12 times the annual retirement benefit — under this option, the death benefit is reduced by 1/12 for each year that the retiree receives payments under the annuity. Accordingly, the death benefit is no longer payable after 12 years (this option provides for a smaller annuity payment as compared to the single life annuity);
•Joint
and 50 percent survivor annuity — a monthly payment for the remainder of the participant’s life. If the participant dies before his or her survivor, the survivor receives (for the remainder of his or her life) a monthly payment equal to 50 percent of the amount the participant was receiving prior to his or her death (this option provides for a smaller annuity payment as compared to the single life annuity with a lump sum death benefit);
•Joint and 100 percent survivor annuity with a 10-year certain benefit feature — a monthly payment for the remainder of the participant’s life. If the participant dies before his or her survivor, the survivor receives (for the remainder of his or her life) the same monthly payment that the participant was receiving prior to his or her death. If both the participant and the survivor die before the end of 10 years, the participant’s named beneficiary receives the same monthly
payment for the remainder of the 10-year period (this option provides for a smaller annuity payment as compared to the joint and 50 percent survivor annuity); or
•Lump sum payment at retirement in lieu of a monthly annuity.
In addition, other payment options, actuarially equivalent to the foregoing, can be designed for a participant, subject to certain limitations.
NONQUALIFIED DEFERRED COMPENSATION
The following table sets forth information for 2020 regarding our nonqualified deferred compensation plan (“NQDC Plan”) and our Special Nonqualified Deferred Compensation Plan. The Special Nonqualified Deferred
Compensation Plan serves primarily as a supplemental executive retirement plan (“SERP”) for Mr. Lewis. Ms. Chapman and Messrs. Bhasin, Madhavan and Pan do not participate in the SERP. As discussed more fully in the Compensation Discussion and Analysis on pages 108-109, we do not intend in the foreseeable future to add any new participants to the SERP, nor do we intend to make any additional SERP contributions on behalf of Mr. Lewis. The term "NQDC Plan" refers to our 2017 Deferred Compensation Plan, our Consolidated Deferred Compensation Plan and any predecessor plans. The 2017 Deferred Compensation Plan governs compensation earned in 2017 and later years to the extent it is deferred. The NQDC Plan and the SERP are defined contribution plans. The assets associated with these plans are held in a grantor trust that is administered by a third party. All assets held in the trust may be subject to forfeiture in the event of our receivership or conservatorship.
As explained in the narrative following the table, our SERP is divided into two groups (Group 1 and Group 2) based upon differences in participation and vesting characteristics.
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Name
Executive
Contributions in Last Fiscal Year ($) (1)
Registrant Contributions in Last Fiscal Year ($) (2)
Aggregate Earnings (Losses) in Last Fiscal Year ($) (3)
(1)All
amounts in this column are included in the “Salary” column for 2020 in the Summary Compensation Table.
(2)All amounts in this column are included in the “All Other Compensation” column for 2020 in the Summary Compensation Table.
(3)The earnings presented in this column are not included in the “Change in Pension Value and Nonqualified Deferred Compensation Earnings” column for 2020 in the Summary Compensation Table as such earnings are not at above-market or preferential rates.
(4)The balances presented in this column are comprised of the amounts shown in the table below entitled “Components of Nonqualified Deferred Compensation Accounts at Last Fiscal Year End.”
Components of Nonqualified Deferred
Compensation Accounts
at Last Fiscal Year End
The following table sets forth the amounts included in the aggregate balance of each named executive officer’s nonqualified deferred compensation accounts as of December 31, 2020 that are attributable to: (1) executive and Bank contributions that are reported in the Summary Compensation Table on page 113; (2) executive and Bank contributions that either were reported in the summary compensation tables for 2006 through 2017 or that would have been reportable in years prior to 2006 if we had been a registrant in those years and a summary compensation table (in the tabular format presented on page 113) had been required; and (3) earnings (losses) accumulated through December 31, 2020 (2020 and prior years) that either have not been reported,
or would not have been reportable, in a summary compensation table because such earnings were not at above-market or preferential rates. Because Messrs. Lewis, Madhavan and Pan have received distributions from our NQDC Plan in the past, the amounts presented for these officers exclude any prior contributions and the accumulated earnings or losses on those contributions that have previously been distributed, as such assets are no longer held in their NQDC Plan accounts. Ms. Chapman's aggregate balance includes contributions made by her and the Bank and earnings (losses) on those contributions in years prior to 2020 when she was not a named executive officer.
Amounts
Reported in Summary Compensation Table
Reported/Reportable Compensation Related to Years Prior to 2018 ($)
Cumulative Earnings (Losses) Excluded from Reportable Compensation ($)
Under the 2017 Deferred Compensation Plan, our named
executive officers and other highly compensated employees can elect to defer receipt of all or part of their base salary and all or part of their non-equity incentive plan compensation. Deferral elections are made in December of each year for amounts to be earned in the following year and are irrevocable.
Based upon the length of service of our named executive officers (including, in the case of Messrs. Bhasin, Madhavan and Pan, their service with the Federal Home Loan Bank of Chicago during which service each of them was a participant in the Pentegra Defined Contribution Plan for Financial Institutions), we match 200 percent of the first 3 percent of their contributed base salary reduced by 6 percent of their eligible compensation under the FHLBank of Dallas 401(k) Retirement Plan (for 2020, the maximum compensation limit for this plan was $285,000). We do not provide any matching on employees' incentive compensation awards
that are contributed to the NQDC Plan. Base salary and incentive compensation deferred under our NQDC Plan are not included in eligible compensation for purposes of our defined benefit pension plan (the Pentegra DB Plan). All of our participating employees, including our named executive officers, are fully vested in their NQDC Plan account balance at all times, including our matching contributions.
Participating executives direct the investment of their NQDC Plan account balances in an array of externally managed mutual funds that are approved from time to time by our Investment and Administrative Committee, which is comprised of several of our officers, some of whom are senior officers. Participants can choose from among several different investment options, including domestic and international equity funds, bond funds, money market funds and advisor managed portfolios. The mutual funds offered through the NQDC Plan (and our
other non-qualified plans) employ investment strategies that are similar (although not identical) to those used in the funds that are available to participants in our tax-qualified 401(k) plan, which is managed by a different third-party sponsor. Participants can change their investment selections prospectively by contacting the trust administrator. There are no limitations on the frequency and manner in which participants can change their investment selections.
When participants elect to defer amounts into our NQDC Plan, they also specify when the amounts will ultimately be distributed to them. Under our Consolidated Deferred Compensation Plan, distributions could either be made in a specific year, whether or not the participant's employment has then ended, or at a time that begins at or after the participant’s retirement or separation. Participants could elect to receive either a lump sum distribution or annual installment
payments over periods ranging from 2 to 20 years.
Under the 2017 Deferred Compensation Plan, participants can have up to five scheduled in-service accounts and one retirement account. Distributions may either be made in a specific year (or years in the case of installments) or upon retirement, which for this purpose is defined as a separation of service on or after the participant has attained age 55. For scheduled distribution accounts, participants can elect to receive either a lump sum distribution or equal annual installments over a period of up to 4 years (in January of the year designated by the participant and, if installments are elected, in each succeeding January). For retirement accounts, participants can elect to receive either a lump sum distribution or equal annual installments over a period of up to 15 years (in January of the year following the year in which the retirement occurs and, if installments are elected,
in each succeeding January). In the event of a participant’s termination of service (other than a termination of service that qualifies as a retirement), the vested balances of his or her retirement account and any scheduled distribution accounts that have not yet commenced distribution will be paid in a lump sum in the month following the month in which the termination of service occurs. In the event of a participant’s termination of service that qualifies as a retirement, the vested balances of his or her scheduled distribution accounts that have not yet commenced distribution will be paid in a lump sum distribution in January of the year following the year in which the retirement occurs unless the participant has made an alternative election on a timely basis to receive equal annual installments over a period of up to 15 years. In the event of a participant’s termination of service for any reason (other than death) after one or more scheduled distribution accounts
has commenced installment payments, such installment payments will continue as if the termination of service had not occurred. In the event of a participant’s death, all vested balances then remaining in any retirement or scheduled distribution accounts will be paid to the participant’s beneficiary in a lump sum in the month following the month in which the death occurs.
Once selected, participants’ distribution schedules cannot be accelerated under our NQDC Plan. For deferrals made on or after January 1, 2005, a participant may postpone a distribution from the NQDC Plan to a future date that is later than the date originally specified on the deferral election form if the following two conditions are met: (1) the participant must make the election to postpone the distribution at least one year prior to the date the distribution was originally scheduled to occur and (2) the future
date must be at least five years later than the originally scheduled distribution date. Participants may not postpone deferrals made prior to January 1, 2005 without the approval of our Investment and Administrative Committee.
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SERP
Our SERP was established primarily to provide supplemental retirement benefits to those employees who were serving as our executive officers at the time the SERP was established. Mr. Lewis is the only remaining executive from that group. As noted above, our SERP is divided into two groups (Group 1 and Group 2) based upon differences in participation and vesting characteristics. Group 2, as explained below, was
established to provide benefits to a specified group of our employees. Mr. Lewis is the only named executive officer who participates in Group 2.
Group 1
Mr. Lewis' benefit in Group 1 consists of contributions made by us on his behalf, plus or minus an allocation of the investment gains or losses on the assets used to fund the plan. Contributions to the Group 1 SERP are determined solely at the discretion of our Board of Directors and we have no obligation or current intention to make any future contributions to the Group 1 SERP. Mr. Lewis is not permitted to make contributions to the Group 1 SERP. The ultimate benefit to Mr. Lewis is based solely on the past contributions that were made by us on his behalf and the earnings or losses on those contributions. We do not guarantee a specific benefit amount or investment return to Mr. Lewis. In addition, we have the right at any time
to amend or terminate the Group 1 SERP, or to remove Mr. Lewis at our discretion, except that no amendment, modification or termination may reduce his then vested account balance. Group 1 benefits vest on the date on which the sum of a participant’s age and years of service with us is at least 70. Based upon his age and years of service with us, Mr. Lewis was fully vested in his Group 1 benefits as of December 31, 2020. If Mr. Lewis retires or is terminated prior to reaching age 62, his Group 1 account balance will be paid at the time he reaches age 62 in a lump sum distribution based on his preexisting election. If Mr. Lewis retires or is terminated after reaching age 62, or upon a separation of service at any age due to a disability, his Group 1 account balance will be paid at that time in a lump sum distribution based on his preexisting election. In addition to a lump sum payment, the SERP provides an option to receive
annual installment payments over periods ranging from 2 to 20 years. Mr. Lewis can change his existing distribution election but only if the change is made at least one year prior to the date the lump sum payment would otherwise be made and the first installment payment pursuant to the change occurs at least five years after the date the lump sum payment would otherwise be made. If Mr. Lewis dies before reaching age 62, his Group 1 account balance will be paid to his beneficiary in a lump sum distribution within 90 days of his death. Group 1 assets are currently invested in a portfolio of mutual funds that are actively managed by the administrator of our grantor trust. Decisions regarding the investment of the Group 1 assets are the sole responsibility of our Investment and Administrative Committee.
Group 2
Eligibility for the Group 2 SERP was limited to all of our employees who
were employed as of June 30, 2003 but who were not eligible to receive a special one-time supplemental contribution to our qualified plan at that time (the Pentegra Defined Contribution Plan for Financial Institutions) because of limitations imposed by that plan (only employees eligible to receive a matching contribution as of December 31, 2002 were eligible to receive the one-time supplemental contribution to our qualified plan). At the time the SERP was established, 22 ineligible employees, including Mr. Lewis, were enrolled in Group 2. The supplemental contribution, equal to 3 percent of each ineligible employee’s base salary as of June 30, 2003, was made to the Group 2 SERP to partially offset a reduction in the employee service accrual rate applicable to our defined benefit pension plan (the Pentegra DB Plan) from
3 percent to 2 percent effective July 1, 2003. Our employees are not permitted to make contributions to the Group 2 SERP, nor do we intend to make any future contributions to the Group 2 SERP. Mr. Lewis is fully vested in the one-time contribution and the accumulated earnings on that contribution. The ultimate benefit to be derived by Mr. Lewis from Group 2 is dependent upon the earnings or losses generated on the one-time contribution. We have not guaranteed a specific benefit amount or investment return to him or any of the other employees participating in Group 2. Based on his preexisting election, Mr. Lewis' benefit under Group 2 is payable as a lump sum distribution upon termination of his employment for any reason. Mr. Lewis can change this distribution election in the same way he can change his Group 1 distribution election. Group 2 assets are currently invested in one of the asset allocation funds managed by the
administrator of our grantor trust. Similar to Group 1, decisions regarding the investment of the Group 2 assets are the sole responsibility of our Investment and Administrative Committee.
POTENTIAL PAYMENTS UPON TERMINATION OR CHANGE IN CONTROL
We currently have employment agreements with Mr. Bhasin and Ms. Chapman. As further discussed below, the employment agreements with each of these executive officers provide for certain termination benefits in specified circumstances. As of December 31, 2020 (and as of the date of this report), no employment agreement or contract of any kind existed
between us and Messrs. Lewis, Madhavan or Pan. However, we have a Reduction in Workforce Policy ("RIF Policy") that applied to all of our employees at that date other than four executive officers with whom we have entered into employment agreements, including Mr. Bhasin and Ms. Chapman. With certain exceptions, our RIF Policy provides severance pay and the continuation of certain employee benefits for any employee in a job position that is eliminated due to economic conditions, functional reorganization,
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budgetary constraints or other business conditions. A reduction in force can also occur when a position changes so significantly that the related job responsibilities are no longer needed or applicable (collectively, a "RIF Policy Triggering Event"). Accordingly,
at December 31, 2020, Messrs. Lewis, Madhavan and Pan would have been entitled to termination benefits under our RIF Policy if (and only if) a RIF Policy Triggering Event had occurred on that date. The potential payments upon termination under the employment agreements (applicable to Mr. Bhasin and Ms. Chapman) and our RIF Policy (as applied to Messrs. Lewis, Madhavan and Pan) are discussed in the following sections.
Employment Agreements with Mr. Bhasin and Ms. Chapman
Effective January 1, 2014 and March 24, 2015, we entered into employment agreements with Ms. Chapman and Mr. Bhasin, respectively. Each of these employment agreements provides that we will employ the executive officer for one year (such period, as it may be extended,
the "Employment Period"), unless terminated earlier for any of the following reasons: (1) death; (2) disability; (3) termination by us for cause (as discussed below); (4) termination by us for other than cause (i.e., for any other reason or for no reason); or (5) termination by the executive officer with good reason (as discussed below). On each yearly anniversary, the employment agreements automatically renew for an additional one-year term unless either we or the executive officer gives a notice of non-renewal. Not less than 30 days prior to the anniversary date, either we or the executive officer may give a notice of non-renewal, in which case the executive's employment with us would terminate at the end of the Employment Period. We may, in our sole discretion, pay the executive in lieu of such 30-day notice an amount equal to the base salary that would otherwise be payable to the executive for such 30-day period, in which case the termination of the executive
would become effective immediately upon the date of such payment. Because neither we nor the executives gave a notice of non-renewal, the terms of the employment agreements with Ms. Chapman and Mr. Bhasin were recently extended through December 31, 2021 and March 23, 2022, respectively.
For purposes of these employment agreements, cause for termination shall mean a finding by us that: (i) the executive has failed to perform his or her assigned duties for us after written notice of the failure and an opportunity to cure within 10 days of receipt of the notice (provided we determine that the failure is curable); (ii) the executive has failed or refused to comply in any material respect with our policies, procedures, practices, standards or other written directives; (iii) the executive has engaged in dishonesty, misconduct, gross
negligence or falsification of records involving us; (iv) the executive has committed an act which injures or could reasonably be expected to injure our reputation, business or business relationships; (v) the executive fails to devote all of his or her business time and attention exclusively to our business and affairs; (vi) the executive has been convicted of, or has entered a plea of guilty or nolo contendere to, any crime involving moral turpitude or any felony; (vii) the executive has engaged in conduct which causes him or her to be barred from employment with us by any law or regulation or by any order of, or agreement with, any regulatory authority; or (viii) the executive breaches his or her employment agreement.
For purposes of these employment agreements, good reason means the occurrence, without the executive's written consent, of any of the following events: (a) any
material diminution in the executive's authority, duties or responsibilities with us; (b) a material reduction by us in the executive’s incentive compensation award range, except for an across-the-board reduction similarly affecting substantially all similarly-situated employees; (c) a material reduction in the executive’s base salary, except for across-the-board salary reductions similarly affecting substantially all similarly-situated employees; (d) a requirement by us that the executive perform his or her principal services more than 100 miles from the executive's place of primary employment on January 1, 2014 (in the case of Ms. Chapman) or March 24, 2015 (in the case of Mr. Bhasin) or such other location at which the executive has later agreed to provide such services; (e) a material breach by us of any material provision of the employment agreement; or (f) we, or
substantially all of our assets, are effectively acquired by another FHLBank through merger or other form of acquisition and the surviving bank’s Board of Directors or President makes a material diminution in the executive’s authority, duties or responsibilities.
No resignation will be treated as resignation for good reason unless (x) the executive has given written notice to us of the executive's intention to terminate his or her employment for good reason, describing in detail the grounds for such action, no later than 30 days after the first occurrence of such circumstance, (y) the executive has provided us with at least 30 days in which to cure the circumstance, and (z) if we are not successful in curing the circumstance, the executive ends employment within 30 days following the conclusion of the cure period in (y). If we inform the executive that we will not treat the executive's resignation as for good reason, he or
she may either withdraw the resignation and remain employed by us (provided that the executive does so before the original notice of resignation becomes effective) or proceed to dispute our decision.
Under the terms of the employment agreements, in the event that the executive officer's employment with us is terminated either by the executive officer for good reason or by us other than for cause, or in the event that we give notice of non-renewal while the executive is willing and able to continue employment on the same terms (each, a "Triggering Event"), the executive officer shall be entitled to receive the following severance benefits in addition to those payable under any applicable incentive and benefit programs in effect at the time of termination and in accordance with their terms:
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(a) base
salary continuation (at the base salary in effect at the time of termination) for 12 months;
(b) a pro rata portion of the executive's non-equity incentive plan compensation for the year in which the executive's termination occurs, based on actual performance for such year and payable at the time that annual incentive awards, if any, are paid to other executives, but in no event later than March 15 following the year in which the termination occurred; and
(c) continuation of any elective group health and dental insurance benefits that we are providing to the executive officer as of his or her termination date for a period of 12 months.
If the executive officer's employment with us is terminated for any reason other than a Triggering Event, the executive officer will be entitled only to his or her base salary through the last day
of the executive's actual employment with us unless his or her termination is due to a death or disability in which case the executive (or his or her estate) will also be entitled to receive the executive's base salary for an additional 30-day period.
The terms of the employment agreements specify that the right to receive payments under items (a) through (c) above is contingent upon the executive delivering to us an executed severance agreement and a release of claims in a form provided by us.
The terms of the employment agreements with Mr. Bhasin and Ms. Chapman provide that during the executive's employment and for a period of one year after the termination of such employment for any reason, the executive will not: (i) engage in a managerial capacity in any business or enterprise in which the executive would serve in a role to affect that entity's decisions with respect to any
product or service that competes with our credit products; (ii) directly or indirectly, either alone or in association with others, solicit, recruit, induce, or attempt to solicit, recruit or induce for employment or hire or engage as an independent contractor, any of our employees with whom the executive had contact during his or her employment with us; or (iii) directly or indirectly, either alone or in association with others, solicit, divert or take away, or attempt to solicit, divert or take away, the business or patronage of any of our members or customers with which the executive had material contact during his or her employment with us or about which the executive learned confidential information.
The following table sets forth the amounts that would have been payable to Mr. Bhasin and Ms. Chapman as of December 31, 2020 if a Triggering Event had occurred on that date.
If the Triggering Event had been related to a reduction in force, then Mr. Bhasin and Ms. Chapman would also have been entitled, under the terms of the 2018 EIP and 2019 EIP, to receive (in early 2022 and early 2023, respectively), his or her 2018 EIP Deferred Award and 2019 EIP Deferred Award with interest at 6 percent compounded annually over the three-year deferral performance periods. The payment of these awards would have been dependent upon the satisfaction of the applicable safety and soundness goals. A termination due to a reduction in force would entitle Mr. Bhasin and Ms. Chapman to receive their 2020 EIP Deferred Award only if the termination occurs during the three-year deferral performance period applicable to that award (i.e., the period from January 1, 2021 through December 31, 2023).
Name
Accrued/Unused Vacation
as of 12/31/20 ($)
Undiscounted Value of Base Salary Continuation ($)
2020 Non-Equity Incentive Plan Compensation ($)
Undiscounted Value of Health Care Benefits Continuation ($)
Total Termination Benefit if Triggering Event was not a RIF ($)
2018 EIP Deferred Award ($)
2019 EIP Deferred Award ($)
Total
Estimated Termination Benefit if Triggering Event was a RIF ($)
If
our employment of Mr. Bhasin had been terminated on December 31, 2020 due to his death or disability, he (or his beneficiary in the case of his death) would have been entitled to receive an amount totaling $1,802,896 comprised of the following: (i) his accrued/unused vacation ($125,455); (ii) his base salary for one month ($77,663); (iii) his 2020 non-equity incentive plan compensation comprised of the 2020 EIP Current Award and 2017 EIP Deferred Award ($839,241); (iv) his 2018 EIP Deferred Award (with interest at 6 percent compounded annually for the period from January 1, 2019 through December 31, 2020) based on the assumption that the applicable safety and soundness goals would have been achieved ($427,982); and (v) his 2019 EIP Deferred Award (with interest at 6 percent for the period from January
1, 2020 through December 31, 2020) based on the assumption that the applicable safety and soundness goals would have been achieved ($332,555). A termination due to Mr. Bhasin's death or disability would entitle him (or his beneficiary in the case of his death) to receive his 2020 EIP Deferred Award only if the termination occurs during the three-year deferral performance period applicable to the award.
If our employment of Ms. Chapman had been terminated on December 31, 2020 due to her death or disability, she (or her beneficiary in the case of her death) would have been entitled to receive an amount totaling $530,530 comprised of the following: (i) her accrued/unused vacation ($44,688); (ii) her base salary for one month ($30,239); (iii) her 2020 non-equity incentive plan compensation comprised of the 2020 EIP Current Award
and 2017 EIP Deferred Award ($242,861); (iv) her 2018 EIP Deferred Award (with interest at 6 percent compounded annually for the period from January 1, 2019 through
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December 31, 2020) based on the assumption that the applicable safety and soundness goals would have been achieved ($119,893); and (v) her 2019 EIP Deferred Award (with interest at 6 percent for the period from January 1, 2020 through December 31, 2020) based on the assumption that the applicable safety and soundness goals would have been achieved ($92,849). A termination due to Ms. Chapman's death or disability
would entitle her (or her beneficiary in the case of her death) to receive her 2020 EIP Deferred Award only if the termination occurs during the three-year deferral performance period applicable to the award.
Termination Benefits for Messrs. Lewis, Madhavan and Pan Under our RIF Policy
As of December 31, 2020, no employment agreement or contract of any kind existed between us and Messrs. Lewis, Madhavan or Pan. However, as discussed above, Messrs. Lewis, Madhavan and Pan would have been entitled to benefits under our RIF Policy as of December 31, 2020 if a RIF Policy Triggering Event had occurred on that date. The severance benefit provided under the RIF Policy is based upon an employee's status
(nonexempt, exempt, officer or senior officer), length of service (including, in the case of Messrs. Madhavan and Pan, their service with the Federal Home Loan Bank of Chicago pursuant to our standard FHLBank System transfer procedures) and base salary at the time of termination, subject to certain minimum and maximum amounts. In no event may the severance benefit paid to any senior officer under the RIF Policy exceed an amount equal to one year's base salary plus the continuation of certain employee benefits for a one-year period. In addition, employees are entitled to receive a lump sum payment for any accrued and unused vacation.
Benefits continuation includes vacation that would have been accrued by the employee during the severance benefit period, matching contributions that otherwise would have been made on his or her behalf to our 401(k)/Thrift Plan during the severance benefit period (based on elections in effect at
the date of termination), and continuation of any health care benefits that we were providing to the employee at the date of his or her termination (our health care benefits are elective and include medical, dental, vision and prescription drug benefits). The dollar equivalent of the future vacation benefit and matching contributions are paid in cash to the employee upon termination. Employees are eligible to continue their pre-existing participation in our health care benefit program, if any, for the length of the severance period by paying premiums at the same subsidized rates that we charge our active employees. If an employee elects to continue his or her coverage, we will pay the difference between the subsidized rate and the full cost of providing the health care benefits during the severance period (in the table below, these amounts are presented in the column entitled "Undiscounted Value of Health Care Benefits Continuation").
Any
employee who voluntarily resigns, retires or is discharged for cause is not entitled to any benefits under our RIF Policy. We reserve the right in our sole discretion to amend or discontinue our RIF Policy at any time.
As of December 31, 2020, Messrs. Lewis, Madhavan and Pan would have been entitled under our RIF Policy to severance pay and benefits continuation for one year. Further, under the terms of our 2018 and 2019 EIPs, the executives would have been entitled to receive their 2018 and 2019 EIP Deferred Awards upon completion of the applicable three-year deferral performance periods. The following table sets forth the amounts that would have been payable to these executive officers as of December 31, 2020 if a RIF Policy Triggering Event had occurred on that date. For the 2018 EIP Deferred Awards (payable in early 2022)
and 2019 EIP Deferred Awards (payable in early 2023), the amounts presented in the table were based on the assumption that the applicable safety and soundness goals would be met. None of these executives would have been entitled to receive their 2020 EIP Deferred Award because the termination event did not occur during the three-year deferral performance period applicable to that award (i.e., the period from January 1, 2021 through December 31, 2023).
Name
Accrued/Unused Vacation
as of 12/31/20 ($)
Undiscounted Value of Base Salary Continuation ($)
2020 Non-Equity Incentive Compensation ($)
Undiscounted Value of Health Care Benefits Continuation ($)
Lump Sum Payment for Loss of Future Vacation Benefits ($)
Lump Sum Payment for Loss of Future Matching Contributions ($)
(1)Amounts reflect the vested balances in Mr. Lewis' Group 1 and Group 2 SERP accounts. Mr. Lewis' Group 1 SERP account ($443,502) would have been payable to him as a lump sum upon reaching age 62. His Group 2 SERP account ($16,719) would have been payable to him as a lump sum upon his termination.
(2) Amounts assume that the safety and soundness goals applicable to the 2018 and 2019 EIP Deferred Awards would have been met. These awards include interest at 6 percent compounded annually over the three-year deferral performance periods.
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Messrs. Lewis, Madhavan and Pan would have been required to execute non-disparagement/confidentiality agreements in order to receive
the termination benefits provided by the RIF Policy (i.e., base salary and health care benefits continuation and lump sum payments for the loss of future vacation benefits and matching contributions). These executive officers would not have been required to execute any type of agreement in order to receive their accrued/unused vacation and SERP benefits, if applicable. In order to receive the termination benefits arising under the 2018 and 2019 EIPs, the executives would have been required to execute the severance agreement offered by us, the provisions of which are not dictated by either the 2018 or 2019 EIP.
If our employment of Messrs. Lewis, Madhavan or Pan had been terminated on December 31, 2020 due to the executive's death or disability, the executive (or his beneficiary in the case of his death) would have been entitled to receive the following: (i) his accrued/unused
vacation; (ii) his 2020 non-equity incentive plan compensation comprised of the 2020 EIP Current Award and 2017 EIP Deferred Award; (iii) his 2018 EIP Deferred Award (with interest at 6 percent compounded annually for the period from January 1, 2019 through December 31, 2020) based on the assumption that the applicable safety and soundness goals would be met; and (iv) his 2019 EIP Deferred Award (with interest at 6 percent for the period from January 1, 2020 through December 31, 2020) based on the assumption that the applicable safety and soundness goals would be met. For Messrs. Lewis, Madhavan and Pan, these amounts would have totaled $549,871, $769,782 and $602,173, respectively. These amounts would have been payable no later than March
15, 2021. A termination due to the executive's death or disability would trigger the payment of the 2020 EIP Deferred Award only if the termination occurs during the three-year deferral performance period applicable to that award (i.e., the period from January 1, 2021 through December 31, 2023).
If on December 31, 2020: (1) we had merged or consolidated with or reorganized into or with another FHLBank or other entity, or another FHLBank or other entity had merged or consolidated into us; (2) we had sold or transferred all or substantially all of our business and/or assets to another FHLBank or other entity; or (3) we had liquidated or dissolved (each, a “Significant Transaction”), then the 2020 EIP Current Award, the 2017 EIP Deferred Award, the 2018 EIP Deferred Award
(based on the assumption that the applicable safety and soundness goals had been met and with interest at 6 percent compounded annually for the period from January 1, 2019 through December 31, 2020), the 2019 EIP Deferred Award (based on the assumption that the applicable safety and soundness goals had been met and with interest at 6 percent for the period from January 1, 2020 through December 31, 2020) and the 2020 EIP Deferred Award (based on the assumption that the applicable safety and soundness goals had been met) would have been payable to Messrs. Lewis, Madhavan and Pan on that date. For Messrs. Lewis, Madhavan and Pan, these amounts would have toaled $626,737, $894,146 and $700,228, respectively.
In the event the 2020
EIP Current Award, the 2017 EIP Deferred Award, the 2018 EIP Deferred Award, the 2019 EIP Deferred Award and the 2020 EIP Deferred Award would not otherwise have been payable under the terms of their employment agreements, Mr. Bhasin and Ms. Chapman would have been entitled under the terms of the 2017, 2018, 2019 and 2020 EIPs to receive $2,028,862 and $572,384, respectively, on December 31, 2020 if a Significant Transaction had occurred on that date. These amounts would have been comprised of the executive's 2020 EIP Current Award and 2017 EIP Deferred Award in addition to their 2018, 2019 and 2020 EIP Deferred Awards with interest at 6 percent compounded annually through December 31, 2020 (based on the assumption that the applicable safety and soundness goals had been met).
Other
In
the event of the death or disability of any of our executive officers, we have no obligation to provide any life insurance or disability benefits beyond those that are provided for in our group life and disability insurance programs that are available generally to all salaried employees and that do not discriminate in scope, terms or operation in favor of our executive officers. Except as previously noted with regard to our SERP, our qualified and nonqualified retirement plans do not provide for any enhancements or accelerated vesting in connection with a termination, including a termination resulting from any of the events described above or the death or disability of a named executive officer. Following a termination for any reason, the balance of a named executive officer’s NQDC Plan account would be distributed pursuant to the instructions in his or her deferral election forms or as prescribed by the 2017 Deferred Compensation Plan, as applicable, and he or she would
be entitled to cash out any accrued and unused vacation. Other than the benefits described above in connection with each covered circumstance and ordinary retirement benefits subject to applicable requirements for those benefits (such as eligibility), we do not provide any post-employment benefits or perquisites to any employees, including our named executive officers.
We also sponsor a retirement benefits program that includes health care and minimal life insurance benefits for eligible retirees. While eligibility for participation in the program and required participant contributions vary depending upon an employee’s age, hire date and length of service, the provisions of the plan apply equally to all employees, including our executive officers. For a discussion of our retirement benefits program, see pages F-48 through F-51 of this Annual Report on Form 10-K.
Regulatory Rules
Regarding Golden Parachute Payments
On July 30, 2008, the Housing and Economic Recovery Act of 2008 was enacted. Among other things, this legislation gave the Director of the Finance Agency (the “Director”) the authority to limit, by regulation or order, any golden parachute payment. On January 28, 2014, the Finance Agency published a final rule relating to golden parachute payments (the “Golden Parachute
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Regulation”). The Golden Parachute Regulation defines a “golden parachute payment” as any payment (or any agreement to make any payment) in the nature of compensation by any FHLBank for the benefit of certain
entity-affiliated parties (including but not limited to a FHLBank’s officers) that (i) is contingent on, or by its terms is payable on or after, the termination of such party’s primary employment or affiliation with the FHLBank and (ii) is received on or after, or is made in contemplation of, any of the following events: (a) the insolvency of the FHLBank; (b) the appointment of any conservator or receiver for the FHLBank; or (c) the FHLBank is in a troubled condition.
The Golden Parachute Regulation prohibits a FHLBank from making, or agreeing to make, any golden parachute payment unless: (1) the Director determines that the payment or agreement is permissible; (2) the agreement is made in order to hire a person to become an entity-affiliated party either at the time when the FHLBank is insolvent, in a troubled condition or the subject of a conservatorship or receivership or in an effort to prevent such an event, and the Director
consents in writing to the amount and terms of the golden parachute payment; or (3) the payment is made pursuant to an agreement which provides for a reasonable severance payment, not to exceed 12 months’ salary, in the event of a change in control (excluding a change in control resulting from a conservatorship or receivership); provided, however, that the consent of the Director is obtained prior to making the payment. In all of these cases, the FHLBank must demonstrate that it does not have any reasonable basis to believe that the payee (a) has committed any fraudulent act or omission, breach of trust or fiduciary duty, or insider abuse that is likely to have a material adverse effect on the FHLBank; (b) is substantially responsible for the insolvency of, the appointment of a conservator or receiver for, or the troubled condition of the FHLBank; (c) has materially violated any applicable federal or state law or regulation that has had or is likely to have a material
effect on the FHLBank; and (4) has violated or conspired to violate certain specified sections of the United States Code.
The following types of payments are excluded from the definition of “golden parachute payment” under the Golden Parachute Regulation: (i) any payment made pursuant to a pension or retirement plan that is qualified (or is intended within a reasonable period of time to be qualified) under Section 401 of the Internal Revenue Code of 1986 or pursuant to a pension or other retirement plan that is governed by the laws of any foreign country; (ii) any payment made pursuant to any plan, contract, agreement or other arrangement which is an “employee welfare benefit plan” as that term is defined in section 3(1) of the Employee Retirement Income Security Act of 1974, as amended, or other usual and customary plans
such as dependent care, tuition reimbursement, group legal services, or cafeteria plans; (iii) any payment made pursuant to a bona fide deferred compensation plan or arrangement (iv) any payment made by reason of death or by reason of termination caused by the disability of the entity-affiliated party; (v) any payment made pursuant to a nondiscriminatory severance pay plan or arrangement that provides for payment of severance benefits of not more than 12 months’ base compensation to all eligible employees upon involuntary termination other than for cause, voluntary resignation or early retirement (other than payments to a named executive officer and any other officer identified by the Director whose base salary exceeds $300,000); or (vi) any severance or similar payment that is required to be made pursuant to a state statute or foreign law that is applicable to all employers within the appropriate jurisdiction (with the exception of employers that may be exempt due to
their small number of employees or other similar criteria).
The Golden Parachute Regulation was effective February 27, 2014. Accordingly, payments that might otherwise be payable to Mr. Bhasin or Ms. Chapman under their employment agreements or our other named executive officers under our RIF Policy (or payments that might otherwise be payable to any of our named executive officers under our EIPs) could be reduced if the event giving rise to such payments were to occur at a time at which we were (or it was contemplated that we could become) insolvent, in a troubled condition or the subject of a conservatorship or receivership.
On January 28, 2014, the Finance Agency also published a final rule relating broadly to executive compensation (the "Executive Compensation Regulation").
Under the Executive Compensation Regulation, which became effective on February 27, 2014, the Director has the authority to prohibit us from providing compensation (including termination benefits) to any named executive officer that the Director determines is not reasonable and comparable with compensation for employment in other similar businesses involving similar duties and responsibilities. In determining whether compensation to a named executive officer is not reasonable and comparable, the Director may take into consideration any factors the Director considers relevant, including any wrongdoing on the part of the executive, such as any fraudulent act or omission, breach of trust or fiduciary duty, violation of law, rule, regulation, order or written agreement, and insider abuse. The Executive Compensation Regulation provides that we must provide at least 30 days' advance written notice prior to making any payments
to a named executive officer in connection with a change in control or a termination of the executive's employment with us. Accordingly, it is possible that payments that might otherwise be payable to our named executive officers could be reduced even if the event that triggers those payments were to occur at a time when we were not insolvent, in a troubled condition or the subject of a conservatorship or receivership.
On December 20, 2018, the Finance Agency published a final rule on golden parachute and indemnification payments (the “Golden Parachute Rule”) to address areas of supervisory concern and to reduce administrative and compliance burdens. The Golden Parachute Rule, which became effective on January 22, 2019, sets forth the standards the Finance Agency would take into consideration when limiting or prohibiting
golden parachute and indemnification payments by a FHLBank to an entity-
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affiliated party if the FHLBank were in a troubled condition, in conservatorship or receivership, or insolvent. The provisions of the rule: (i) focus the standards on payments to and agreements with executive officers, broad-based plans covering large numbers of employees (such as severance plans), and payments to employees other than executive officers who may have engaged in certain types of wrongdoing; and (ii) revise and clarify definitions, exemptions and procedures to implement the Finance Agency’s supervisory approach.
PAY
RATIO
For 2020, the estimated ratio of our President/CEO's total compensation to the median annual total compensation of all of our other employees was 12.7 to 1. The estimated median annual total compensation of all of our other employees was determined by calculating their compensation in the same manner as total compensation is calculated for our President/CEO, which calculation includes, among other things, amounts attributable to the change in pension value for those of our employees who participate in the Pentegra DB Plan ("DB Plan Participants"), as discussed in the "Pension Benefits" section on page 116. The change in pension value for DB Plan Participants varies based upon their age, compensation and tenure with us. For 2020, the estimated median annual total compensation of all of our employees (excluding our President/CEO) was $166,279 and the total compensation of our President/CEO was $2,112,761,
as shown in the Summary Compensation Table on page 113.
We identified the median by estimating the annual total compensation for each of our employees who were employed by us on December 31, 2020 (excluding our President/CEO) and then ranking the total compensation for those employees from lowest to highest. The ranking included 200 full-time employees and 2 part-time employees. For those employees who were not employed by us during the entire year, we annualized their total compensation. For base salaries (or, in the case of our hourly employees, wages plus overtime), incentive compensation and our matching contributions to qualified and nonqualified defined contribution plans, we used actual (or, as appropriate, annualized) amounts. To determine the annual change in pension value for each of the DB Plan Participants, changes were calculated for a judgmentally selected sample
of employees and, based on the results of those calculations, we estimated the change in pension value for each of our other DB Plan Participants. While our calculation method for DB Plan Participants who were not part of the sample involved a degree of imprecision, we believe it was sufficient to allow us to reasonably approximate the change in pension values for those employees, which, in turn, allowed us to reasonably estimate the median annual total compensation of our workforce as of December 31, 2020.
DIRECTOR COMPENSATION
Director fees and reimbursable expenses are determined at the discretion of our Board of Directors, subject to the authority of the Finance Agency’s
Director to object to, and to prohibit prospectively, compensation and/or expenses that he determines are not reasonable. For 2020, our directors received fees based on the number of our regularly scheduled board meetings that they attended in person (or, as permitted by a temporary Finance Agency waiver, through electronic means) and the number of telephonic meetings in which they participated, subject to a maximum compensation limit. The following table sets forth the annual compensation limits and attendance fees that our directors were entitled to receive for each regular board meeting that they attended in 2020 (subject to a maximum of five out of the six meetings held). In addition, each director was entitled to receive (subject to the annual compensation limits) $1,000 for his or her participation in telephonic meetings of the Board of Directors and $1,000 for his or her participation in telephonic or special in-person meetings of its committees.
Annual Compensation Limit
for 2020
Fee For Attendance at Each Regular Board Meeting
Chairman of the Board
$
136,591
$
27,319
Vice Chairman of the Board
120,200
24,040
Chairman of the Audit Committee
120,200
24,040
Chairmen
of all other Board Committees
114,737
22,947
All other Directors
103,810
20,762
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The following table sets forth the actual compensation earned by our directors in 2020.
Name
Fees
Earned or Paid in Cash ($)
Stock Awards ($)
Option Awards ($)
Non-equity Incentive Plan Compensation ($)
Change in Pension Value and Nonqualified Deferred Compensation Earnings ($)
Patricia P. Brister, an independent director from Mandeville, Louisiana, passed away on February 3, 2020. Ms. Brister had served
as a director of the Bank since 2008. Including a previous term from 2002 to 2004, Ms. Brister had served as a director of the Bank for 15 years. To honor Ms. Brister's legacy, our Board of Directors authorized a $25,000 contribution in her name to the Northshore Community Foundation, a non-profit organization focused on enhancing the quality of life in the parishes along the north shore of Lake Pontchartrain including, among others, St. Tammany Parish. In addition, our Board of Directors authorized $77,500 in funding for a scholarship fund to be established in her name. The Pat Brister Scholarship Fund is expected to benefit college-bound students who have attended public schools in St. Tammany Parish.
G. Granger MacDonald, an independent director from Kerrville, Texas, passed away on June 17, 2020. Mr. MacDonald had served as a director of the Bank since June 2017. To honor
Mr. MacDonald's legacy, our Board of Directors authorized a $100,000 contribution to the Granger MacDonald/Doug Wistner Scholarship Fund.
Under our NQDC Plan, our directors may elect to defer any or all of their fees. Deferral elections must be made in December of each year for amounts to be earned in the following year and are irrevocable. Participating board members can elect to receive distributions under the same rules that apply to our highly compensated employees who have elected to participate in the plan. Similarly, directors’ distribution schedules cannot be accelerated but they can be postponed under the same rules that apply to our highly compensated employees who have elected to participate in the plan. Participating board members direct the investment of their deferred fees among the same externally managed mutual funds that are available to our employee participants. As the earnings derived from these mutual funds
are not at above-market or preferential rates, they are not included in the table above. Our liability for directors’ deferred compensation (including both current and former directors), which consists of the accumulated compensation deferrals and the accrued earnings or losses on those deferrals, totaled $3,942,000 at December 31, 2020.
We have a policy under which we will reimburse our directors for all travel and meal expenses of a spouse accompanying them to no more than two meetings of our board and/or any of its committees each year. In addition, we will reimburse our directors for the meal expenses of a spouse accompanying them to any group functions of the Board of Directors regardless of whether the meal occurs during one of the trips specified in the immediately preceding sentence provided the meal was incurred in connection with a group outing in which directors and
officers were in attendance. Further, we will pay for the expenses of
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directors' spouses attending up to two group spousal functions annually, provided the functions are organized by us. In 2020, none of our directors used these benefits.
In accordance with Finance Agency regulations, we have established a formal policy governing the travel reimbursement provided to our directors. During 2020, our directors’ Bank-related travel expenses totaled $13,660. In comparison to prior years, our directors' Bank-related travel expenses were lower in 2020 as a result of our decision to halt all business travel beginning in late March 2020 due to the health risks posed by the COVID-19 pandemic.
For
2021, our directors will receive fees based on the number of our regularly scheduled board meetings that they attend in person (or, if permitted by the Finance Agency, through electronic means) and the number of telephonic meetings in which they participate, subject to a maximum compensation limit. The following table sets forth the annual compensation limits and attendance fees that our directors will be entitled to receive for each regular board meeting that they attend in 2021 (subject to a maximum of five out of the six meetings to be held). In addition, each director will receive (subject to the annual compensation limits) $1,000 for his or her participation in telephonic meetings of the Board of Directors and $1,000 for his or her participation in telephonic or special in-person meetings of its committees.
Annual Compensation Limit
for 2021
Fee For Attendance at Each Regular Board Meeting
Chairman of the Board
$
140,000
$
28,000
Vice Chairman of the Board
123,000
24,600
Chairmen of the Audit and Risk Management Committees
122,000
24,400
Chairmen
of all other Board Committees
117,500
23,500
All other Directors
107,500
21,500
Compensation Committee Interlocks and Insider Participation
None of our directors who served on our Compensation and Human Resources Committee during 2020 was, prior to
or during 2020, an officer or employee of the Bank, nor did they have any relationships requiring disclosure under applicable related party requirements. None of our executive officers served as a member of the compensation committee (or similar committee) or board of directors of any entity whose executive officers served on our Compensation and Human Resources Committee or Board of Directors.
ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT AND RELATED STOCKHOLDER MATTERS
The Bank has two sub-classes of Class B capital stock authorized and outstanding, Class B-1 and Class B-2 Capital Stock, both of which have a par value of $100 per share. The Bank does not have any other authorized classes of capital stock.
The Bank is a cooperative and all of its outstanding capital stock is owned by its members or, in some cases, by non-member institutions that acquire stock by virtue of acquiring member institutions, by a federal or state agency or insurer acting as a receiver of a closed institution, or by former members of the Bank that retain capital stock to support advances or other activity that remains outstanding or until any applicable stock redemption or withdrawal notice period expires. No individual owns any of the Bank’s capital stock. As a condition of membership, members are required to maintain an investment in Class B-1 Capital Stock of the Bank that is equal to a percentage of the member’s total assets, subject to minimum and maximum thresholds. In addition, members are required to hold Class B-2 Capital Stock based upon an activity-based investment requirement. Financial institutions that cease to be members are required to continue to comply with the Bank’s activity-based
investment requirement until such time that the activities giving rise to the requirement have been fully extinguished.
As provided by statute and as further discussed in Item 10. Directors, Executive Officers and Corporate Governance, the Bank’s members are entitled to vote for the election of directors. Each member directorship is designated to one of the five states in the Bank’s district and a member is entitled to vote only for member director candidates for the state in which the member’s principal place of business is located. In addition, all eligible members in the Bank’s five-state district are entitled to vote for the nominees for independent directorships. In each case, a member is entitled to cast, for each applicable directorship, one vote for each share of Class B-1 and Class B-2 Capital Stock that the member is required to hold, subject to a statutory limitation. Under this limitation, the total number of votes
that a member may cast is limited to the average number of shares of the Bank’s capital stock that were required to be held by all members in that member’s state as of the record date for voting. Non-member shareholders are not entitled to cast votes for the election of directors.
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As of March 4, 2021, there were i20,960,557
shares of the Bank’s capital stock (including mandatorily redeemable capital stock) outstanding. The following table sets forth certain information with respect to each shareholder that beneficially owned more than five percent of the Bank’s outstanding capital stock as of March 4, 2021. Each shareholder has sole voting and investment power for all shares shown (subject to the restrictions described above), none of which represent shares with respect to which the shareholder has a right to acquire beneficial ownership.
Beneficial Owners of More than 5% of the Bank's Outstanding Stock
Name
and Address of Beneficial Owner
Number of Shares Owned
Percentage of Outstanding Shares Owned
American General Life Insurance Company 2727Allen Parkway Suite A, Houston, TX77019
1,442,735
6.88
%
Texas
Capital Bank, N.A. 2000 McKinney Avenue Suite 700, Dallas, TX75201
1,382,000
6.59
%
The Bank does not offer any type of compensation plan under which its equity securities are authorized to be issued to any person. Nine of the Bank’s 17 directorships are designated as member directorships which by law must be occupied by officers or directors of a member of the Bank. The following table sets
forth, as of March 4, 2021, the number of shares owned beneficially by members that have one of their officers and/or directors serving as a director of the Bank and the name of the director of the Bank who is affiliated with each such member. Each shareholder has sole voting and investment power for all shares shown (subject to the restrictions described above), none of which represent shares with respect to which the shareholder has a right to acquire beneficial ownership.
Security Ownership of Directors’ Financial Institutions
** All shares owned by the Directors’ Financial Institutions are pledged as collateral to secure extensions of credit from the Bank.
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ITEM
13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS, AND DIRECTOR INDEPENDENCE
Transactions with Related Persons
Our capital stock can only be held by our members or, in some cases, by non-member institutions that acquire stock by virtue of acquiring member institutions, by a federal or state agency or insurer acting as a receiver of a closed institution, or by our former members that retain capital stock to support advances or other activity that remains outstanding or until any applicable stock redemption or withdrawal notice period expires. All members are required by law to purchase our capital stock. As a cooperative, our products and services are provided almost exclusively to our shareholders. In the ordinary course of business, transactions between us and our shareholders are carried out on terms that either are determined by competitive bidding in the case of auctions for
our advances and deposits or are established by us, including pricing and collateralization terms, under our Member Products and Credit Policy, which treats all similarly situated members on a non-discriminatory basis. We provide, in the ordinary course of business, products and services to members whose officers or directors may serve as our directors (“Directors’ Financial Institutions”). Currently, 9 of our 17 directors are officers and/or directors of member institutions. Our products and services are provided to Directors’ Financial Institutions and to holders of more than five percent of our capital stock on terms that are no more favorable to them than comparable transactions with our other similarly situated members.
We have adopted written policies prohibiting our employees and directors from accepting any personal benefits where such acceptance may create either the appearance of, or an actual, conflict of
interest. These policies also prohibit our employees and directors from having a direct or indirect financial interest that conflicts, or appears to conflict, with that employee’s or director’s duties and responsibilities to us, subject to certain exceptions. Any of our employees who regularly deal with our members or major financial institutions that do business with us must disclose any personal financial relationships with those members or major financial institutions annually in a manner that we prescribe. Our directors are required to disclose all actual or apparent conflicts of interest and any financial interest of the director or an immediate family member or business associate of the director in any matter to be considered by the Board of Directors. Directors must refrain from participating in the deliberations regarding or voting on any matter in which they, any immediate family members or any business associates have a financial interest, except that member
directors may vote on the terms on which our products are offered to all members and other routine corporate matters, such as the declaration of dividends. With respect to our AHP, directors and employees may not participate in or attempt to influence decisions by us regarding the evaluation, approval, funding or monitoring, or any remedial process for an AHP project if the director or employee, or a family member of such individual, has a financial interest in, or is a director, officer or employee of, an organization involved in such AHP project.
In addition, our Board of Directors has adopted a written policy for the review and approval or ratification of a “related person transaction” as defined by policy (the “Transactions with Related Persons Policy”). The Transactions with Related Persons Policy requires that each related person transaction must be presented to the Audit Committee of the Board of Directors
for review and consideration. Those members of the Audit Committee who are not related persons with respect to the related person transaction in question will consider the transaction to determine whether, if practicable, the related person transaction will be conducted on terms that are no less favorable than the terms that could be obtained from a non-related person or an otherwise unaffiliated third party on an arms’-length basis. In making such determination, the Audit Committee will review all relevant factors regarding the goods or services that form the basis of the related party transaction, including, as applicable, (i) the nature of the goods or services, (ii) the scope and quality of the goods or services, (iii) the timing of receiving the goods or services through the related person transaction versus a transaction not involving a related person or an otherwise unaffiliated third party, (iv) the reputation and financial standing of the provider of the goods
or services, (v) any contractual terms and (vi) any competitive alternatives (if practicable).
After review, the Audit Committee will approve such transaction only if the Audit Committee reasonably believes that the transaction is in, or is not opposed to, our best interests. If a related person transaction is not presented to the Audit Committee for review in advance of such transaction, the Audit Committee may ratify such transaction only if the Audit Committee reasonably believes that the transaction is in, or is not opposed to, our best interests.
A “related person” is defined by the Transactions with Related Persons Policy to be (i) any person who was one of our directors or executive officers at any time since the beginning of our last fiscal year, (ii) any immediate family member of any of the foregoing persons and (iii) any of our members or non-member institutions
owning more than five percent of our total outstanding capital stock when the transaction occurred or existed.
For purposes of the Transactions with Related Persons Policy, a “related person transaction” is a transaction, arrangement or relationship (or any series of similar transactions, arrangements or relationships) in which we were, are or will be a participant and in which any related person has or will have a direct or indirect material interest. The Transactions with Related Persons Policy includes as exceptions to the definition of “related person transaction” those exceptions set forth in Item 404(a) of Regulation S-K (and the related instructions to that item) promulgated under the Exchange Act. Additionally, in connection with the registration of our capital stock under Section 12 of the Exchange Act, the SEC issued a no-action letter dated
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September 13,
2005 concurring with our view that, despite registration of our capital stock under Section 12(g) of the Exchange Act, disclosure of related party transactions pursuant to the requirements of Item 404 of Regulation S-K is not applicable to us to the extent that such transactions are in the ordinary course of our business. Also, the HER Act specifically exempts the FHLBanks from periodic reporting requirements under the securities laws pertaining to the disclosure of related party transactions that occur in the ordinary course of business between the FHLBanks and their members. The Transactions with Related Persons Policy, therefore, also excludes from the definition of “related person transaction” acquisitions or sales of our capital stock by members or non-member institutions, payment by us of dividends on our capital stock and provision of our products and services to members. This exception applies to Directors’ Financial Institutions.
Since
January 1, 2020, we have not engaged in any transactions with any of our directors, executive officers, or any members of their immediate families that require disclosure under applicable rules and regulations, including Item 404 of Regulation S-K. Additionally, since January 1, 2020, we have not had any dealings with entities that are affiliated with our directors that require disclosure under applicable rules and regulations. None of our directors or executive officers or any of their immediate family members has been indebted to us at any time since January 1, 2020.
As of December 31, 2020 and 2019, advances outstanding to Directors’ Financial Institutions aggregated $1.108 billion
and $1.045 billion, respectively, representing 3.5 percent and 2.8 percent, respectively, of our total outstanding advances as of those dates.
Director Independence
General
Our Board of Directors is currently comprised of 17 directors. Nine of our directors were elected by our member institutions to represent the five states in our district (“member directors”) while six of our directors were elected by a plurality of our members at-large (“independent directors”). In addition, two independent directors were elected by our Board of Directors to fulfill the unexpired terms of former independent directors. All member directors must be an officer or director of a member institution, but no member director can be one of our employees or officers. Independent directors, as well as their spouses, are prohibited from serving as an
officer of any FHLBank and (subject to the specific exception noted below) from serving as a director, officer or employee of a member of the FHLBank on whose board the director serves, or of any recipient of advances from that FHLBank. The exception provides that an independent director or an independent director’s spouse may serve as a director, officer or employee of a holding company that controls one or more members of, or recipients of advances from, the FHLBank if the assets of all such members or recipients of advances constitute less than 35 percent of the assets of the holding company, on a consolidated basis. Additional discussion of the qualifications of member and independent directors is included in Item 10. Directors, Executive Officers and Corporate Governance.
We are required to determine whether our directors are independent pursuant to three distinct director independence standards. First, Finance Agency
regulations establish independence criteria for directors who serve as members of our Audit Committee. Second, the HER Act requires us to comply with Rule 10A-3 of the Exchange Act regarding independence standards relating to audit committees. Third, the SEC’s rules and regulations require that our Board of Directors apply the definition of independence of a national securities exchange or inter-dealer quotation system to determine whether our directors are independent.
Finance Agency Regulations
The Finance Agency’s regulations prohibit directors from serving as members of our Audit Committee if they have one or more disqualifying relationships with us or our management that would interfere with the exercise of that director’s independent judgment. Disqualifying relationships include employment with us currently or at any time during the last five years; acceptance of compensation
from us other than for service as a director; being a consultant, advisor, promoter, underwriter or legal counsel for us currently or at any time within the last five years; and being an immediate family member of an individual who is or who has been within the past five years, one of our executive officers. The current members of our Audit Committee are Dorsey L. Baskin, Jr., Tim H. Carter, Mary E. Ceverha, Michael C. Hutsell, Sally I. Nelson, Robert M. Rigby, Margo S. Scholin and Ron
G. Wiser, each of whom is independent within the meaning of the Finance Agency’s regulations. Additionally, Joseph F. Quinlan, Jr. served on our Audit Committee during 2020 and was independent under the Finance Agency's criteria. Mr. Quinlan's term as a director expired on December 31, 2020.
Rule 10A-3 of the Exchange Act
Rule 10A-3 of the Exchange Act (“Rule 10A-3”) requires that each member of our Audit Committee be independent. In order to be considered independent under Rule 10A-3, a member of the Audit Committee may not, other than in his or her capacity as a member of the Audit Committee, the Board of Directors or any other committee of the Board of Directors (i) accept directly or indirectly any consulting, advisory or other compensatory fee from us, provided that compensatory fees do not include the
133
receipt
of fixed amounts of compensation under a retirement plan (including deferred compensation) for prior service with us (provided that such compensation is not contingent in any way on continued service); or (ii) be an affiliated person of us.
For purposes of Rule 10A-3, “indirect” acceptance of any consulting, advisory or other compensatory fee includes acceptance of such a fee by a spouse, a minor child or stepchild or a child or stepchild sharing a home with the Audit Committee member, or by an entity in which the Audit Committee member is a partner, member, principal or officer, such as managing director, or occupies a similar position (except limited partners, non-managing members and those occupying similar positions who, in each case, have no active role in providing services to the entity) and that provides accounting, consulting, legal, investment banking, financial or other advisory services or any similar services
to us. The term “affiliate” of, or a person “affiliated” with, a specified person, means a person that directly, or indirectly through one or more intermediaries, controls, or is controlled by, or is under common control with, the person specified. “Control” (including the terms “controlling,”“controlled by” and under “common control with”) means the possession, direct or indirect, of the power to direct or cause the direction of the management and policies of a person, whether through the ownership of voting securities, by contract or otherwise. A person will be deemed not to be in control of a specified person if the person (i) is not the beneficial owner, directly or indirectly, of more than 10 percent of any class of voting equity securities of the specified person and (ii) is not an executive officer of the specified person.
The
current members of our Audit Committee are independent within the meaning of Rule 10A-3, as was Joseph F. Quinlan, Jr., who served as an Audit Committee member during 2020. Mr. Quinlan's term expired on December 31, 2020.
SEC Rules and Regulations
The SEC’s rules and regulations require us to determine whether each of our directors is independent under a definition of independence of a national securities exchange or of an inter-dealer quotation system. Because we are not a listed issuer whose securities are listed on a national securities exchange or listed in an inter-dealer quotation system, we may choose which national securities exchange’s or inter-dealer quotation system’s definition of independence to apply. Our Board of Directors has selected the independence standards of the New York Stock Exchange (the “NYSE”) for
this purpose. However, because we are not listed on the NYSE, we are not required to meet the NYSE’s director independence standards and our Board of Directors is using such NYSE standards only to make the independence determination required by SEC rules, as described below.
Our Board of Directors determined that presumptively our member directors are not independent under the NYSE’s subjective independence standard. Our Board of Directors determined that, under the NYSE independence standards, member directors have a material relationship with us through their member institutions’ relationships with us. This determination was based upon the fact that we are a member-owned cooperative and each member director is required to be an officer or director of a member institution. Also, a member director’s member institution may routinely engage in transactions with us that could occur frequently and in large dollar amounts and that
we encourage. Furthermore, because the level of each member institution’s business with us is dynamic and our desire is to increase our level of business with each of our members, our Board of Directors determined it would be inappropriate to make a determination of independence with respect to each member director based on the director’s member’s given level of business as of a particular date. As the scope and breadth of the member director’s member’s business with us changes, such member’s relationship with us might, at any time, constitute a disqualifying transaction or business relationship with respect to the member’s member director under the NYSE’s objective independence standards. Therefore, our member directors are presumed to be not independent under the NYSE’s independence standards. Our Board of Directors could, however, in the future, determine that a member director is independent under the NYSE’s independence standards based on the particular facts and
circumstances applicable to that member director. Furthermore, the determination by our Board of Directors regarding member directors’ independence under the NYSE’s standards is not necessarily determinative of any member director’s independence with respect to his or her service on any special or ad hoc committee of the Board of Directors to which he or she may be appointed in the future. Our current member directors are Tim H. Carter, Albert C. Christman, James D. Goudge, W. Wesley Hoskins, Michael C. Hutsell, A.
Fred Miller, Jr., Stephen Panepinto, Robert M. Rigby and Ron G. Wiser. The determination that none of our member directors is independent for purposes of the NYSE's independence standards also applies to Joseph F. Quinlan, Jr., who served on our Board of Directors during 2020. Mr. Quinlan's term expired on December 31, 2020.
Our Board of Directors affirmatively determined that each of our current independent directors who served as a director during 2020 is independent under the NYSE’s independence standards. Our Board of Directors noted as part of its determination that independent directors and their spouses are specifically prohibited
from being an officer of any FHLBank or an officer, employee or director of any of our members, or of any recipient of advances from us, subject to the exception discussed above for positions in certain holding companies. This independence determination applies to Cheryl D. Alston, Dorsey L. Baskin, Jr., Dianne W. Bolen, Mary E. Ceverha, Sally I. Nelson, Felipe A. Rael, John P. Salazar and Margo S. Scholin. This
determination also applies to Patricia P. Brister, who served on our Board of Directors until her death on February 3, 2020. Our Board of Directors did not have sufficient information regarding G. Granger MacDonald, who served as one of our independent directors
134
until his death on June 17, 2020, to make a conclusive affirmative determination regarding his independence. Our Board of Directors did ascertain, however, that during his service as a director, Mr. MacDonald met all of the requirements for serving as an independent director.
Our Board of Directors also assessed the independence of the members of our Audit Committee
under the NYSE standards for audit committees. Our Board of Directors determined that, for the same reasons set forth above regarding the independence of our directors generally, none of the member directors serving on our Audit Committee (Tim H. Carter, Michael C. Hutsell, Robert M. Rigby and Ron G. Wiser) is independent under the NYSE standards for audit committees. Additionally, in 2020, Joseph F. Quinlan, Jr. served on our Audit Committee. Our Board of Directors determined that Mr. Quinlan, as a member director, was not independent under the NYSE standards for audit committee members. Mr. Quinlan no longer serves on our Board of Directors as his
term expired on December 31, 2020.
Our Board of Directors determined that Dorsey L. Baskin, Jr., Mary E. Ceverha, Sally I. Nelson and Margo S. Scholin, independent directors who serve on our Audit Committee, are independent under the NYSE standards for audit committees.
ITEM 14. PRINCIPAL ACCOUNTING FEES AND SERVICES
The following table sets forth the aggregate fees billed to the Bank for the years ended
December 31, 2020 and 2019 for services rendered by PricewaterhouseCoopers LLP (“PwC”), the Bank’s independent registered public accounting firm.
In 2020 and 2019, audit fees were for services rendered in connection with the integrated audits of the Bank’s financial statements and its internal control over financial reporting.
In 2020, the fees associated with audit-related services were for discussions regarding miscellaneous accounting-related matters. In 2019, the fees associated with audit-related services were for consultations concerning new accounting standards (and PwC's review of the Bank's planned adoption of those standards) and discussions regarding other miscellaneous accounting-related matters.
The
Bank is assessed its proportionate share of the costs of operating the FHLBanks Office of Finance, which includes the expenses associated with the annual audits of the combined financial statements of the 11 FHLBanks. The audit fees for the combined financial statements are billed directly by PwC to the Office of Finance and the Bank is assessed its proportionate share of these expenses. In 2020 and 2019, the Bank was assessed $40,000 and $37,000, respectively, for the costs associated with PwC’s audits of the combined financial statements for those years. These assessments are not included in the table above.
Under the Audit Committee’s pre-approval policies and procedures, the Audit Committee is required to pre-approve all audit and permissible non-audit services (including the fees and terms thereof) to be performed by the Bank’s independent registered public accounting firm, subject to the de minimis
exceptions for non-audit services described in Section 10A(i)(1)(B) of the Exchange Act. The Audit Committee has delegated pre-approval authority to the Chairman of the Audit Committee for: (1) permissible non-audit services that would be characterized as “Audit-Related Services” and (2) auditor-requested fee increases associated with any unforeseen cost overruns relating to previously approved “Audit Services” (if additional fees are requested by the independent registered public accounting firm as a result of changes in audit scope, the Audit Committee must specifically pre-approve such increase). The Chairman’s pre-approval authority is limited in all cases to $50,000 per service request. Any pre-approval decisions made by the Chairman must be ratified by the Audit Committee at its next regularly scheduled meeting. Bank management is required to periodically update the Audit Committee with regard to the services provided by the independent registered
public accounting firm and the fees associated with those services.
All of the services provided by PwC in 2020 and 2019 were pre-approved by the Audit Committee. There were no services for which the de minimis exception was used.
135
PART IV
ITEM 15. EXHIBITS, FINANCIAL STATEMENT SCHEDULES
(a) Financial Statements
The
financial statements are set forth on pages F-1 through F-60 of this Annual Report on Form 10-K.
101.INS XBRL Instance Document - The instance document does not appear in the interactive data file because its XBRL tags are embedded within the inline
XBRL document.
Pursuant to the requirements of Section 13 or 15(d) of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned, thereunto duly authorized.
Pursuant to the requirements of the Securities Exchange Act of 1934, this
report has been signed below by the following persons on behalf of the registrant and in the capacities indicated on March 24, 2021.
Management’s Report on Internal Control over Financial Reporting
Management of the Federal Home Loan Bank of Dallas (the “Bank”) is responsible for establishing and maintaining adequate internal control over financial reporting. The Bank’s internal control over financial reporting is
a process designed to provide reasonable assurance regarding the reliability of financial reporting and the preparation of financial statements for external purposes in accordance with generally accepted accounting principles. Internal control over financial reporting includes those policies and procedures that (i) pertain to the maintenance of records that in reasonable detail accurately and fairly reflect the transactions and dispositions of the Bank’s assets; (ii) provide reasonable assurance that transactions are recorded as necessary to permit preparation of financial statements in accordance with generally accepted accounting principles, and that receipts and expenditures of the Bank are being made only in accordance with authorizations of the Bank’s management and board of directors; and (iii) provide reasonable assurance regarding prevention or timely detection of unauthorized acquisition, use, or disposition of the Bank’s assets that could have a material effect
on the financial statements.
Because of its inherent limitations, internal control over financial reporting may not prevent or detect misstatements. Further, projections of any evaluation of effectiveness to future periods are subject to the risk that controls may become inadequate because of changes in conditions, or that the degree of compliance with the policies or procedures may deteriorate.
Management evaluated the effectiveness of the Bank’s internal control over financial reporting as of December 31, 2020 based on the framework set forth by the Committee of Sponsoring Organizations of the Treadway Commission in the 2013 edition of Internal Control — Integrated Framework. Based upon that evaluation, management concluded that the Bank’s internal control over financial reporting was
effective as of December 31, 2020.
The effectiveness of the Bank’s internal control over financial reporting as of December 31, 2020 has been audited by PricewaterhouseCoopers LLP, the Bank’s independent registered public accounting firm, as stated in their report which appears on page F-3.
F-2
Report of Independent Registered Public Accounting Firm
To theBoard of Directors and Shareholders of the
Federal Home Loan Bank of Dallas
Opinions on the Financial Statements and Internal Control over Financial Reporting
We have audited the accompanying statements of condition of the Federal Home Loan Bank of Dallas(the “Bank”) as of December 31, 2020and 2019,and the related statements of income, comprehensive income, capital and cash flowsfor each of the three years in the period ended December 31, 2020, including the related notes (collectively
referred to as the “financial statements”).We also have audited the Bank's internal control over financial reporting as of December 31, 2020, based on criteria established in Internal Control - Integrated Framework(2013)issued by the Committee of Sponsoring Organizations of the Treadway Commission (COSO).
In our opinion, thefinancial statements referred to above present fairly, in all material respects, the financial position of the Bank as of December 31, 2020and 2019, and
the results of itsoperations and itscash flows for each of the three years in the period ended December 31, 2020in conformity with accounting principles generally accepted in the United States of America. Also in our opinion, the Bank maintained, in all material respects, effective internal control over financial reporting as of December 31, 2020, based on criteria established in Internal Control - Integrated Framework(2013)issued by the COSO.
Basis for Opinions
The Bank's management is responsible for these financial statements,
for maintaining effective internal control over financial reporting, and for its assessment of the effectiveness of internal control over financial reporting, included in the accompanyingManagement'sReport on Internal Control over Financial Reporting. Our responsibility is to express opinions on the Bank’s financial statements and on the Bank's internal control over financial reporting based on our audits. We are a public accounting firm registered with the Public Company Accounting Oversight Board (United States) (PCAOB) and are required to be independent with respect to the Bank in accordance with the U.S. federal securities laws and the applicable rules and regulations of the Securities and Exchange Commission and the PCAOB.
We conducted our audits in accordance with the standards of the PCAOB. Those standards require that we plan
and perform the audits to obtain reasonable assurance about whether the financial statements are free of material misstatement, whether due to error or fraud, and whether effective internal control over financial reporting was maintained in all material respects.
Our audits of the financial statements included performing procedures to assess the risks of material misstatement of the financial statements, whether due to error or fraud, and performing procedures that respond to those risks. Such procedures included examining, on a test basis, evidence regarding the amounts and disclosures in the financial statements. Our audits also included evaluating the accounting principles used and significant estimates made by management, as well as evaluating the overall presentation of the financial statements. Our audit of internal control over financial reporting included obtaining an understanding of internal control over financial
reporting, assessing the risk that a material weakness exists, and testing and evaluating the design and operating effectiveness of internal control based on the assessed risk. Our audits also included performing such other procedures as we considered necessary in the circumstances. We believe that our audits provide a reasonable basis for our opinions.
Definition and Limitations of Internal Control over Financial Reporting
A company’s internal control over financial reporting is a process designed to provide reasonable assurance regarding the reliability of financial reporting and the preparation of financial statements for external purposes in accordance with generally accepted accounting principles. A company’s internal control over financial reporting includes those policies and procedures that (i) pertain to the maintenance of records that, in reasonable detail, accurately and
fairly reflect the transactions and dispositions of the assets of the company; (ii) provide reasonable assurance that transactions are recorded as necessary to permit preparation of financial statements in accordance with generally accepted accounting principles, and that receipts and expenditures of the company are being made only in accordance with authorizations of management and directors of the company; and (iii) provide reasonable assurance regarding prevention or timely detection of unauthorized acquisition, use, or disposition of the company’s assets that could have a material effect on the financial statements.
Because
of its inherent limitations, internal control over financial reporting may not prevent or detect misstatements. Also, projections of any evaluation of effectiveness to future periods are subject to the risk that controls may become inadequate because of changes in conditions, or that the degree of compliance with the policies or procedures may deteriorate.
Critical Audit Matters
The critical audit matter communicated below is a matter arising from the current period audit of the financial statements that was communicated or required to be communicated to the audit committee and that (i) relates to accounts or disclosures that are material to the financial statements and (ii) involved our especially challenging, subjective, or complex judgments. The
F-3
communication
of critical audit matters does not alter in any way our opinion on the financial statements, taken as a whole, and we are not, by communicating the critical audit matter below, providing a separate opinion on the critical audit matter or on the accounts or disclosures to which it relates.
Valuation of Interest-Rate Derivatives and Hedged Items
As described in Notes 14 and 17 to the financial statements, the Bank uses derivatives to manage its exposure to changes in interest rates and to reduce funding costs, among other things. The total notional amount of derivatives as of December 31, 2020 was $39 billion, of which 87% were designated as hedging instruments, and the net estimated fair value of derivative assets and liabilities as of December 31, 2020 was $8 million and $25 million,
respectively. The fair values of interest-rate derivatives and hedged items are estimated using a pricing model that employs discounted cash flows or other similar pricing techniques. The pricing model uses inputs observable in the market, such as interest rate curves and volatility assumptions.
The principal considerations for our determination that performing procedures relating to the valuation of interest-rate derivatives and hedged items is a critical audit matter are the significant audit effort in evaluating the interest rate curves and volatility assumptions used to fair value these derivatives and hedged items, and the audit effort involved the use of professionals with specialized skill and knowledge.
Addressing the matter involved performing procedures and evaluating audit evidence in connection with forming our overall opinion on the financial statements. These procedures
included testing the effectiveness of controls relating to the valuation of interest-rate derivatives and hedged items, including controls over the model, data and assumptions. These procedures also included, among others, the involvement of professionals with specialized skill and knowledge to assist in developing an independent range of prices for a sample of interest rate derivatives and hedged items and comparison of management’s estimate to the independently developed ranges. Developing the independent range of prices involved testing the completeness and accuracy of data provided by management and independently developing the interest rate curves and volatility assumptions.
Securities
purchased under agreements to resell (Notes 8, 9 and 13)
i1,000,000
i4,310,000
Federal
funds sold (Notes 8, 9, 19 and 20)
i915,000
i4,505,000
Trading
securities (Notes 3 and 8)
i5,301,468
i5,460,136
Available-for-sale
securities (a) (Notes 4, 8, 9, 13 and 18) ($i737,500 and $i842,256 pledged
at December 31, 2020 and 2019, respectively, which could be rehypothecated)
i16,787,762
i16,766,500
Held-to-maturity
securities (b) (Notes 5, 8 and 9)
i897,226
i1,206,170
Advances
(Notes 6, 8, 9 and 19)
i32,478,944
i37,117,455
Mortgage
loans held for portfolio, net of allowance for credit losses of $i3,925 and $i1,149 at December 31, 2020
and 2019, respectively (Notes 7, 8, 9 and 19)
i3,422,686
i4,075,464
Accrued
interest receivable (Note 8)
i106,322
i154,218
Premises
and equipment, net
i14,901
i15,103
Derivative
assets (Notes 13 and 14)
i7,975
i41,271
Other
assets (including $i15,839 and $i14,222 of securities held at fair value at December 31, 2020 and 2019,
respectively)
i42,721
i39,488
TOTAL
ASSETS
$
i64,912,526
$
i75,381,605
LIABILITIES
AND CAPITAL
Deposits (Notes 10 and 19)
Interest-bearing
$
i1,583,100
$
i1,286,199
Non-interest
bearing
i20
i20
Total
deposits
i1,583,120
i1,286,219
Consolidated
obligations (Note 11)
Discount notes
i22,171,296
i34,327,886
Bonds
i37,112,721
i35,745,827
Total
consolidated obligations
i59,284,017
i70,073,713
Mandatorily
redeemable capital stock (Note 15)
i13,864
i7,140
Accrued
interest payable
i42,039
i115,350
Affordable
Housing Program (Note 12)
i63,153
i57,247
Derivative
liabilities (Notes 13 and 14)
i25,049
i3,855
Other
liabilities (Note 3)
i344,399
i40,113
Total
liabilities
i61,355,641
i71,583,637
Commitments
and contingencies (Notes 9, 12, 14, 16 and 18)
i
i
CAPITAL (Notes 15 and 19)
Capital
stock
Capital stock — Class B-1 putable ($ii100/
par value) issued and outstanding shares: ii9,044,480/
and ii9,794,335/ at December
31, 2020 and 2019, respectively
i904,448
i979,434
Capital
stock — Class B-2 putable ($ii100/ par value)
issued and outstanding shares: ii11,969,321/
and ii14,868,085/ at December
31, 2020 and 2019, respectively
i1,196,932
i1,486,808
Total
Class B Capital Stock
i2,101,380
i2,466,242
Retained
earnings
Unrestricted
i1,174,359
i1,038,533
Restricted
i233,886
i194,144
Total
retained earnings
i1,408,245
i1,232,677
Accumulated
other comprehensive income (Note 21)
i47,260
i99,049
Total
capital
i3,556,885
i3,797,968
TOTAL
LIABILITIES AND CAPITAL
$
i64,912,526
$
i75,381,605
_______________________________________
(a)Amortized
cost: $i16,615,401 and $i16,621,667 at December 31,
2020 and 2019, respectively.
(b)Fair values: $i908,630 and $i1,215,580
at December 31, 2020 and 2019, respectively.
The accompanying notes are an integral part of these financial statements.
Net unrealized gains (losses) on available-for-sale securities, net of unrealized gains and losses relating to hedged interest rate risk included in net income
i28,357
i26,705
(i93,245)
Reclassification
adjustment for net realized gains on sales of available-for-sale securities included in net income
(i829)
(i852)
i—
Unrealized
losses on cash flow hedges
(i96,035)
(i54,777)
(i823)
Reclassification
adjustment for losses (gains) on cash flow hedges included in net income
i14,627
(i1,829)
(i950)
Accretion
of non-credit portion of other-than-temporary impairment losses to the carrying value of held-to-maturity securities
i2,238
i2,027
i2,934
Postretirement
benefit plan
Amortization of prior service cost included in net periodic benefit cost
i20
i20
i20
Actuarial
loss
(i87)
(i152)
(i161)
Amortization
of net actuarial gain included in net periodic benefit cost
(i80)
(i94)
(i100)
Total
other comprehensive income (loss)
(i51,789)
(i28,952)
(i92,325)
TOTAL
COMPREHENSIVE INCOME
$
i146,920
$
i198,306
$
i106,450
The
accompanying notes are an integral part of these financial statements.
Dividends
paid through issuance of mandatorily redeemable capital stock
$
i197
$
i27
$
i64
Capital
stock reclassified to mandatorily redeemable capital stock, net
$
i61,032
$
i2,326
$
i6,576
Right-of-use
assets acquired by lease
$
i805
$
i2,539
$
i—
The
accompanying notes are an integral part of these financial statements.
F-10
FEDERAL HOME LOAN BANK OF DALLAS
NOTES TO FINANCIAL STATEMENTS
i
Background Information
The
Federal Home Loan Bank of Dallas (the “Bank”), a federally chartered corporation, is one of 11 district Federal Home Loan Banks (each individually a “FHLBank” and collectively the “FHLBanks,” and, together with the Federal Home Loan Banks Office of Finance (“Office of Finance”), a joint office of the FHLBanks, the “FHLBank System”) that were created by the Federal Home Loan Bank Act of 1932 (as amended, the “FHLB Act”). The FHLBanks serve the public by enhancing the availability of credit for residential mortgages and targeted community development. The Bank serves eligible financial institutions in Arkansas, Louisiana, Mississippi, New Mexico and Texas (collectively, the Ninth District of the FHLBank System). The Bank provides a readily available, competitively priced source of funds to its member institutions. The Bank is a cooperative whose member institutions own the capital stock of the Bank. Regulated depository institutions
and insurance companies engaged in residential housing finance and Community Development Financial Institutions that are certified under the Community Development Banking and Financial Institutions Act of 1994 may apply for membership in the Bank. All members must purchase stock in the Bank. Housing associates, including state and local housing authorities, that meet certain statutory criteria may also borrow from the Bank; while eligible to borrow, housing associates are not members of the Bank and, as such, are not required or allowed to hold capital stock.
The Federal Housing Finance Agency (“Finance Agency”), an independent agency in the executive branch of the U.S. government, supervises and regulates the FHLBanks and the Office of Finance. The Finance Agency’s stated mission is to ensure that the housing government-sponsored enterprises ("GSEs"), including the FHLBanks, operate in a safe and sound manner
so that they serve as a reliable source of liquidity and funding for housing finance and community investment. Consistent with this mission, the Finance Agency establishes policies and regulations covering the operations of the FHLBanks. Each FHLBank operates as a separate entity with its own management, employees, and board of directors. The Bank does not have any special purpose entities or any other type of off-balance sheet conduits.
The Office of Finance facilitates the issuance and servicing of the FHLBanks’ debt instruments (known as consolidated obligations). As provided by the FHLB Act and Finance Agency regulation, the FHLBanks’ consolidated obligations are backed only by the financial resources of all 11 FHLBanks. Consolidated obligations are the joint and several obligations of all the FHLBanks and are the FHLBanks’ primary source of funds. Deposits, other borrowings, and the proceeds from capital stock issued
to members provide other funds. The Bank primarily uses these funds to provide loans (known as advances) to its members, to purchase single-family mortgage loans from its members, and to fund other investments. The Bank’s credit services also include letters of credit issued or confirmed on behalf of members; in addition, the Bank offers interest rate swaps, caps and floors to its members. Further, the Bank provides its members with a variety of correspondent banking services, including overnight and term deposit accounts, wire transfer services, securities safekeeping and securities pledging services.
Note 1—iSummary
of Significant Accounting Policies
iUse of Estimates and Assumptions. The preparation of financial statements in conformity with accounting principles generally accepted in the United States of America (“U.S. GAAP”) requires management to make assumptions and estimates. These assumptions and estimates may affect the reported amounts of assets and liabilities, the disclosure of contingent assets and liabilities, and the reported amounts of income and expenses. Significant estimates include the valuations of the Bank’s investment securities, as well as its derivative instruments
and any associated hedged items. Actual results could differ from these estimates.
iFederal Funds Sold, Securities Purchased Under Agreements to Resell, Loans to Other FHLBanks and Interest-Bearing Deposits. These investments are carried at cost. Substantially all of the Bank's interest-bearing deposits are over the FDIC insurance limit.
iInvestment
Securities. The Bank records investment securities on trade date. The Bank carries investment securities for which it has both the ability and intent to hold to maturity (held-to-maturity securities) at cost, adjusted for the amortization of premiums and accretion of discounts using the level-yield method. The carrying amount of held-to-maturity securities is further adjusted for any other-than-temporary impairment charges that were recorded on or before December 31, 2019, as described below.
The Bank classifies certain investment securities that it may sell before maturity as available-for-sale and carries them at fair value. For available-for-sale securities that have been hedged (with fixed-for-floating interest rate swaps) and qualify as fair value hedges, the Bank records the portion of the change in value related to the risk being hedged,
together with the related change in the fair value of the derivative, in earnings. The Bank records the remainder of the change in value of the securities in other comprehensive income as “net unrealized gains (losses) on available-for-sale securities.”
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The Bank classifies certain other investments as trading and carries them at fair value. The Bank records changes in the fair value of these investments in other income (loss) in the statements of income. Although the securities are classified as trading, the Bank does not engage in speculative trading practices.
The Bank computes the amortization and accretion of premiums and discounts on mortgage-backed securities ("MBS") for which prepayments are probable and
reasonably estimable using the level-yield method over the estimated lives of the securities. This method requires a retrospective adjustment of the effective yield each time the Bank changes the estimated life as if the new estimate had been known since the original acquisition date of the securities. The Bank computes the amortization and accretion of premiums and discounts on other investments using the level-yield method to the contractual maturity of the securities.
The Bank computes gains and losses on sales of investment securities using the specific identification method and includes these gains and losses in other income (loss) in the statements of income. The Bank treats securities purchased under agreements to resell as collateralized financings.
As discussed in Note 2, on January 1, 2020, the Bank adopted Accounting Standards
Update ("ASU") 2016-13, "Measurement of Credit Losses on Financial Instruments" ("ASU 2016-13"), which amends the guidance related to the accounting for credit losses on financial instruments, including investment securities classified as held-to-maturity and available-for-sale, by replacing the impairment methodology with an expected credit loss methodology. Beginning January 1, 2020, an allowance for credit losses is established, if necessary, for the Bank's investment securities classified as held-to-maturity or available-for-sale. See the section below entitled "Allowance for Credit Losses."
Through December 31, 2019, the Bank evaluated outstanding available-for-sale and held-to-maturity securities for other-than-temporary impairment on a quarterly
basis. An investment security was impaired if the fair value of the investment was less than its amortized cost. Amortized cost included adjustments (if any) made to the cost basis of an investment for accretion, amortization, the credit portion of previous other-than-temporary impairments and hedging. The Bank considered the impairment of a debt security to be other than temporary if the Bank (i) intended to sell the security, (ii) more likely than not would have been required to sell the security before recovering its amortized cost basis, or (iii) did not expect to recover the security’s entire amortized cost basis (even if the Bank did not intend to sell the security). Further, an impairment was considered to be other than temporary if the Bank’s best estimate of the present value of cash flows expected to be collected from the debt security was less than the amortized cost basis of the security (any such shortfall was referred to as a “credit loss”).
If
an other-than-temporary impairment (“OTTI”) occurred because the Bank intended to sell an impaired debt security, or more likely than not would have been required to sell the security before recovery of its amortized cost basis, the impairment was recognized in earnings in an amount equal to the entire difference between fair value and amortized cost.
In instances in which a determination was made that a credit loss existed but the Bank did not intend to sell the debt security and it was not more likely than not that the Bank would have been required to sell the debt security before the anticipated recovery of its remaining amortized cost basis, the other-than-temporary impairment (i.e., the difference between the security’s then-current carrying amount and its estimated fair value) was separated into (i) the amount of the total impairment related to the credit loss (i.e., the credit component) and (ii) the amount of
the total impairment related to all other factors (i.e., the non-credit component). The credit component was recognized in earnings and the non-credit component was recognized in other comprehensive income.
The non-credit component of any OTTI losses recognized in other comprehensive income for debt securities classified as held-to-maturity was (and will continue to be) accreted over the remaining life of the debt security (in a prospective manner based on the amount and timing of future estimated cash flows) as an increase in the carrying value of the security unless and until the security is sold, the security matures or, if on or prior to December 31, 2019, there was an additional other-than-temporary impairment that was recognized in earnings. In instances in which an additional other-than-temporary impairment was recognized in earnings, the amount of the credit loss was
reclassified from accumulated other comprehensive income (loss) ("AOCI") to earnings. Further, if an additional other-than-temporary impairment was recognized in earnings and the held-to-maturity security’s then-current carrying amount exceeded its fair value, an additional non-credit impairment was concurrently recognized in other comprehensive income. Conversely, if an additional other-than-temporary impairment was recognized in earnings and the held-to-maturity security’s then-current carrying value was less than its fair value, the carrying value of the security was not increased. In periods subsequent to the recognition of an OTTI loss, the other-than-temporarily impaired debt security was accounted for as if it had been purchased on the measurement date of the other-than-temporary impairment at an amount equal to the previous amortized cost basis less the other-than-temporary impairment recognized in earnings. The difference between the new amortized cost
basis and the cash flows expected to be collected was (and will continue to be) accreted as interest income over the remaining life of the security in a prospective manner based on the amount and timing of future estimated cash flows. Prior to January 1, 2020, in instances when there was a significant increase in a security's expected
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cash flows, the amount to be accreted was adjusted prospectively. Beginning January 1, 2020, accretion is not adjusted for significant increases in expected cash flows. Those additional cash flows, if any, are recognized when received.
iAdvances.
The Bank reports advances at their principal amount outstanding, net of unearned commitment fees and deferred prepayment fees, if any, as discussed below. The Bank credits interest on advances to income as earned.
iMortgage Loans Held for Portfolio. Through the Mortgage Partnership Finance® (“MPF”®) program administered by the
FHLBank of Chicago, the Bank has invested in conventional and government guaranteed/insured mortgage loans. iThe Bank classifies these mortgage loans held for portfolio as held for investment and, accordingly, reports them at their principal amount outstanding net of deferred premiums, discounts and the fair value amount of the delivery commitment (which represents the unrealized gains and losses from loans initially classified as mortgage loan commitments) as of the purchase (i.e., settlement) date. The
Bank credits interest on mortgage loans to income as earned. The Bank amortizes or accretes the deferred amounts to interest income using the contractual method. The contractual method uses the cash flows required by the loan contracts, as adjusted for any actual prepayments, to apply the interest method. Future prepayments of principal are not anticipated under this method. The Bank has the ability and intent to hold these mortgage loans until maturity.
iAllowance
for Credit Losses. As discussed in Note 2 - Recently Issued Accounting Guidance, on January 1, 2020, the Bank adopted new accounting guidance pertaining to the measurement of credit losses on financial instruments. As of the balance sheet date, an allowance for expected credit losses is separately established, if necessary, for each of the Bank’s financial instruments carried at amortized cost, its available-for-sale securities and its off-balance sheet credit exposures. The allowance for credit losses is the amount necessary to reduce the amortized cost of financial instruments carried at amortized cost to the net amount expected to be collected and the amortized cost of available-for-sale securities to the higher of the security's fair value or the present value of the cash flows expected to be collected from the security. Accrued interest is recorded separately on the statement of condition.
The allowance for credit losses excludes accrued interest receivable, as the Bank places financial assets on nonaccrual status and concurrently reverses any accrued but uncollected interest if the interest is deemed uncollectible. To the extent necessary, an allowance for credit losses for off-balance sheet credit exposures is recorded as a liability. See Note 9 - Allowance for Credit Losses for information regarding the determination of the allowance for credit losses.
The Bank places a conventional mortgage loan on nonaccrual status when the collection of the contractual principal or interest is 90 days or more past due. When a mortgage loan is placed on nonaccrual status, accrued but uncollected interest is reversed against interest income. The Bank records cash payments received on nonaccrual loans as a reduction of principal. A loan on nonaccrual status is restored to accrual status when none of its contractual
principal and interest is due and unpaid, and the Bank expects repayment of the remaining contractual interest and principal. At December 31, 2020 and 2019, cash payments received on non-accrual loans and recorded as a reduction of principal totaled $i1,555,000 and $i17,000,
respectively. Government-guaranteed/insured loans are not placed on nonaccrual status.
Collateral-dependent mortgage loans that are 90 days or more past due are evaluated for credit losses on an individual basis based on the fair value of the underlying mortgaged property less estimated selling costs. Loans are considered collateral-dependent if repayment is expected to be provided solely by the sale of the underlying property; that is, there is no other available and reliable source of repayment.
The Bank evaluates whether to record a charge-off on a conventional mortgage loan when the loan becomes 180 days or more past due or upon the occurrence of a confirming event, whichever occurs first. Confirming events include, but are not limited to, the occurrence of foreclosure or notification of a claim against any of the MPF credit enhancements. A charge-off is recorded if the amortized
cost of the loan will not be recovered.
As discussed in Note 2, the Coronavirus Aid, Relief, and Economic Security Act (the "CARES Act") provides temporary relief from the accounting and reporting requirements for certain loan modifications related to COVID-19 that would otherwise be categorized as a troubled debt restructuring ("TDR"). Eligible mortgage loans that are current under the modified terms of the loan agreements are returned to accrual status as long as the Bank expects repayment of the remaining contractual principal and interest. As of December 31, 2020, the Bank had entered into a limited number of qualifying loan modifications.
The servicers of the Bank's mortgage loans may grant a forbearance period to borrowers who request forbearance as a result of difficulties
relating to COVID-19 regardless of the status of the loan at the time of the request. During the forbearance period, the Bank accounts for these loans in the same manner as it accounts for any other past due loans whether the forbearance arrangement is formal or informal. The accrual status of mortgage loans in forbearance is determined by the past due status of the loan as the legal terms of the loan agreement remain unchanged during this period.
iPrior to January 1, 2020, an allowance for
credit losses was separately established to provide for probable losses inherent in the Bank's financing receivables portfolio and off-balance sheet credit exposures as of the balance sheet date. A conventional mortgage loan was considered impaired when, based on then-current information and events, it was considered probable that the Bank would be unable to collect all amounts due according to the contractual terms of the loan agreement.
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iReal
Estate Owned. Real estate owned includes assets that have been received in satisfaction of debt or as a result of actual or in-substance foreclosures. Real estate owned is carried at the lower of cost or fair value less estimated costs to sell and is included in other assets in the statements of condition. If the fair value of the real estate owned less estimated costs to sell is less than the recorded investment in the mortgage loan at the date of transfer, the Bank recognizes a charge-off to the allowance for loan losses. Subsequent realized gains and realized or unrealized losses are included in other income (loss) in the statements of income.
iPremises
and Equipment. The Bank records premises and equipment at cost less accumulated depreciation and amortization. At December 31, 2020 and 2019, the Bank’s accumulated depreciation and amortization relating to premises and equipment was $i27,022,000 and $i26,291,000,
respectively. The Bank computes depreciation using the straight-line method over the estimated useful lives of assets ranging from i3 to i39 years. It amortizes leasehold improvements on the straight-line basis over the shorter of the estimated useful life of the improvement or the remaining
term of the lease. The Bank capitalizes improvements and major renewals but expenses ordinary maintenance and repairs when incurred. Depreciation and amortization expense was $i1,539,000, $i2,003,000 and $i2,156,000
during the years ended December 31, 2020, 2019 and 2018, respectively. The Bank includes gains and losses on disposal of premises and equipment, if any, in other income (loss) under the caption “other, net.”
iComputer Software. The cost of purchased computer software, certain costs incurred in developing computer software for internal use, and implementation costs associated with cloud computing arrangements
that are service contracts are capitalized and amortized over future periods. As of December 31, 2020 and 2019, the Bank had $i8,568,000 and $i5,988,000,
respectively, in unamortized computer software costs included in other assets. Total software costs charged to expense were $i9,585,000, $i8,313,000
and $i6,996,000 for the years ended December 31, 2020, 2019 and 2018, respectively. Included in these total software costs was amortization of $i2,322,000,
$i2,097,000 and $i1,681,000, respectively./
iDerivatives
and Hedging Activities. The Bank accounts for derivatives and hedging activities in accordance with the guidance in Topic 815 of the Financial Accounting Standards Board’s ("FASB") Accounting Standards Codification ("ASC") entitled “Derivatives and Hedging” (“ASC 815”). All derivatives are recognized on the statements of condition at their fair values, including accrued interest receivable and payable. iFor purposes of reporting derivative assets and derivative liabilities, the Bank offsets the fair value amounts
recognized for derivative instruments (including the right to reclaim cash collateral and the obligation to return cash collateral) where a legally enforceable right of setoff exists./
Changes in the fair value of a derivative that is effective as — and that is designated and qualifies as — a fair value hedge, along with changes in the fair value of the hedged asset or liability that are attributable to the hedged risk (including changes that reflect gains or losses on firm commitments), are recorded in current period earnings. The application of hedge accounting generally requires the Bank to evaluate the effectiveness of the fair value hedging relationships on an ongoing basis and to calculate the changes in fair value of the derivatives and related hedged items independently. This is commonly
known as the “long-haul” method of hedge accounting. Transactions that meet more stringent criteria qualify for the “shortcut” method of hedge accounting in which an assumption can be made that the change in fair value of a hedged item exactly offsets the change in value of the related derivative. The Bank considers hedges of committed advances to be eligible for the shortcut method of accounting as long as the settlement of the committed advance occurs within the shortest period possible for that type of instrument based on market settlement conventions, the fair value of the swap is zero at the inception of the hedging relationship, and the transaction meets all of the other criteria for shortcut accounting specified in ASC 815. The Bank has defined the market settlement convention to be five business days or less for advances.
Effective January 1, 2019, the
Bank adopted ASU 2017-12, "Targeted Improvements to Accounting for Hedging Activities" ("ASU 2017-12") which, among other things, impacts the presentation of gains/losses on derivatives and hedging activities for qualifying hedges.
Beginning January 1, 2019, any fair value hedge ineffectiveness (which represents the amount by which the change in the fair value of the derivative differs from the change in the fair value of the hedged item attributable to the hedged risk) and the net interest income/expense associated with that derivative are recorded in the same line item as the earnings effect of the hedged item (that is, interest income on advances, interest income on available-for-sale securities or interest expense on consolidated obligation bonds, as appropriate). Prior to January
1, 2019, any fair value hedge ineffectiveness was recorded in other income (loss) as “net gains (losses) on derivatives and hedging activities” while the net interest income/expense associated with the derivative was recorded as a component of net interest income. The impact of recording fair value hedge ineffectiveness in the same line item where the earnings effect of the hedged item is presented reduced net interest income by $i14,982,000
and $i17,909,000 for the years ended December 31, 2020 and 2019, respectively, and increased net gains on derivatives and hedging activities by equal and offsetting amounts for those years.
On and after January 1, 2019, all changes in the
fair value of a derivative that is designated and qualifies as a cash flow hedge are recorded in AOCI until earnings are affected by the variability of the cash flows of the hedged transaction, at which time these amounts are reclassified from AOCI to the income statement line where the earnings effect of the hedged item is
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reported (e.g., interest expense on consolidated obligation discount notes). Prior to January 1, 2019, changes in the fair value of a derivative that was designated and qualified as a cash flow hedge, to the extent that the hedge was effective, were recorded in AOCI until earnings were affected by the variability of the cash flows of the hedged transaction. Any ineffective portion of a cash flow hedge
(which represented the amount by which the change in the fair value of the derivative differed from the change in fair value of a hypothetical derivative having terms that match identically the critical terms of the hedged forecasted transaction) was recognized in other income (loss) as “net gains (losses) on derivatives and hedging activities.”
An economic hedge is defined as a derivative hedging specific or non-specific assets or liabilities that does not qualify or was not designated for hedge accounting under ASC 815, but is an acceptable hedging strategy under the Bank’s Enterprise Market Risk Management Policy. These hedging strategies also comply with Finance Agency regulatory requirements prohibiting speculative derivative transactions. An economic hedge by definition introduces the potential for earnings variability as changes in the fair value of a derivative designated as an economic hedge are recorded in
current period earnings with no offsetting fair value adjustment to an asset or liability. Both the net interest income/expense and the fair value changes associated with derivatives in economic hedging relationships are recorded in other income (loss) as “net gains (losses) on derivatives and hedging activities.”
The Bank records the changes in fair value of all derivatives (and, in the case of fair value hedges, the hedged items) beginning on the trade date.
Cash flows associated with all derivatives are reported as cash flows from operating activities in the statements of cash flows, unless the derivative contains an other-than-insignificant financing element, in which case its cash flows are reported as cash flows from financing activities.
iThe
Bank may issue debt, make advances, or purchase financial instruments in which a derivative instrument is “embedded” and the financial instrument that embodies the embedded derivative instrument is not remeasured at fair value with changes in fair value reported in earnings as they occur. Upon execution of these transactions, the Bank assesses whether the economic characteristics of the embedded derivative are clearly and closely related to the economic characteristics of the remaining component of the financial instrument (i.e., the host contract) and whether a separate, non-embedded instrument with the same terms as the embedded instrument would meet the definition of a derivative instrument. When it is determined that (1) the embedded derivative possesses economic characteristics that are not clearly and closely related to the economic characteristics of the host contract
and (2) a separate, stand-alone instrument with the same terms would qualify as a derivative instrument, the embedded derivative is separated from the host contract, carried at fair value, and designated as either (1) a hedging instrument in a fair value hedge or (2) a stand-alone derivative instrument pursuant to an economic hedge. However, if the entire contract were to be measured at fair value, with changes in fair value reported in current earnings, or if the Bank could not reliably identify and measure the embedded derivative for purposes of separating that derivative from its host contract, the entire contract
would be carried on the statement of condition at fair value and no portion of the contract would be separately accounted for as a derivative.
The Bank discontinues hedge accounting prospectively when: (1) management determines that the derivative is no longer effective in offsetting changes in the fair value or cash flows of a hedged item; (2) the derivative and/or the hedged item expires or is sold, terminated, or exercised; (3) it is no longer probable that a forecasted transaction will occur within the originally specified time frame; (4) a hedged firm commitment no longer meets the definition of a firm commitment; or (5) management determines that designating the derivative as a hedging instrument in accordance with ASC 815 is no longer appropriate.
In all cases in which hedge accounting
is discontinued and the derivative remains outstanding, the Bank will carry the derivative at its fair value on the statement of condition, recognizing any additional changes in the fair value of the derivative in current period earnings as a component of "net gains (losses) on derivatives and hedging activities."
When fair value hedge accounting for a specific derivative is discontinued due to the Bank’s determination that such derivative no longer qualifies for hedge accounting treatment or because the derivative is terminated, the Bank will cease to adjust the hedged asset or liability for changes in fair value and amortize the cumulative basis adjustment on the formerly hedged item into earnings over its remaining term using the level-yield method. The amortization is recorded in the same line item as the earnings effect of the formerly hedged item.
When hedge accounting
is discontinued because the hedged item no longer meets the definition of a firm commitment, the Bank continues to carry the derivative on the statement of condition at its fair value, removing from the statement of condition any asset or liability that was recorded to recognize the firm commitment and recording it as a gain or loss in current period earnings.
When cash flow hedge accounting for a specific derivative is discontinued due to the Bank's determination that such derivative no longer qualifies for hedge accounting treatment or because the derivative is terminated, the Bank will reclassify the cumulative fair value gains or losses recorded in AOCI as of the discontinuance date from AOCI into earnings when earnings are affected by the original forecasted transaction. If the Bank expects at any time that continued reporting of a net loss
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in
AOCI would lead to recognizing a net loss on the combination of the hedging instrument and hedged transaction in one or more future periods, the amount that is not expected to be recovered is immediately reclassified to earnings. These items are recorded in the same income statement line where the earnings effect of the hedged item is reported.
In cases where the cash flow hedge is discontinued because the forecasted transaction is no longer probable (i.e., the forecasted transaction will not occur in the originally expected period or within an additional two-month period of time thereafter), any fair value gains or losses recorded in AOCI as of the determination date are immediately reclassified to earnings as a component of "net gains (losses) on derivatives and hedging activities."
iMandatorily
Redeemable Capital Stock. The Bank reclassifies shares of capital stock from the capital section to the liability section of its statement of condition at the point in time when a member submits a written redemption notice, gives notice of its intent to withdraw from membership, or becomes a non-member by merger or acquisition, charter termination, or involuntary termination from membership, as the shares of capital stock then meet the definition of a mandatorily redeemable financial instrument. Shares of capital stock meeting this definition are reclassified to liabilities at fair value. Following reclassification of the stock, any dividends paid or accrued on such shares are recorded as interest expense in the statement of income. Repurchase or redemption of these mandatorily redeemable financial instruments is reported as a cash outflow in the financing activities section of the statement of cash flows.
If
a member cancels a written redemption or withdrawal notice, the Bank reclassifies the shares subject to the cancellation notice from liabilities back to equity. Following this reclassification to equity, dividends on the capital stock are once again recorded as a reduction of retained earnings.
Although mandatorily redeemable capital stock is excluded from capital for financial reporting purposes, it is considered capital for regulatory purposes. See Note 15 for more information, including restrictions on stock redemption.
iAffordable
Housing Program. The FHLB Act requires each FHLBank to establish and fund an Affordable Housing Program (“AHP”) (see Note 12). The Bank charges the required funding for AHP to earnings and establishes a liability. The Bank makes AHP funds available to members in the form of direct grants to assist in the purchase, construction, or rehabilitation of housing for very low-, low-, and moderate-income households.
iPrepayment Fees. The Bank charges
a prepayment fee when members/borrowers prepay certain advances before their original maturities. The Bank records prepayment fees received from members/borrowers net of hedging adjustments included in the book basis of the prepaid advance, if any, as interest income on advances in the statements of income either immediately (as prepayment fees on advances) or over time (as interest income on advances), as further described below. In cases in which the Bank funds a new advance concurrent with or within a short period of time before or after the prepayment of an existing advance, the Bank evaluates whether the new advance meets the accounting criteria to qualify as a modification of an existing advance. If the new advance qualifies as a modification of the existing advance, the net prepayment fee on the prepaid advance is deferred, recorded in the basis of the modified advance, and amortized into interest income over the life of the modified advance using the level-yield
method. This amortization is recorded in interest income on advances. If the Bank determines that the advance should be treated as a new advance, or in instances where no new advance is funded, it records the net fees as “prepayment fees on advances” in the interest income section of the statements of income.
iCommitment Fees. The Bank defers commitment fees for advances and amortizes them to interest income using the level-yield method over the life of the advance. The Bank records commitment fees for letters
of credit as a deferred credit when it receives the fees and amortizes them over the term of the letter of credit using the straight-line method.
iConcessions on Consolidated Obligations. The Bank defers and amortizes, using the level-yield method, the amounts paid to securities dealers in connection with the sale of consolidated obligation bonds over the term to maturity of the related bonds. The Office of Finance prorates the amount of the concession to the Bank based upon the percentage of the debt issued
that is assumed by the Bank. Unamortized concessions were $i2,882,000 and $i4,479,000 at December 31, 2020
and 2019, respectively, and are recorded as a reduction in the balance of consolidated obligation bonds on the statements of condition. Amortization of such concessions is included in consolidated obligation bond interest expense and totaled $i5,334,000, $i3,553,000
and $i835,000 during the years ended December 31, 2020, 2019 and 2018, respectively. The Bank charges to expense as incurred the concessions applicable to the sale of consolidated obligation discount notes because of the short maturities of these notes. Concessions related to the sale of discount notes totaling $i3,948,000,
$i4,716,000 and $i4,586,000 are included in interest expense on consolidated obligation discount
notes in the statements of income for the years ended December 31, 2020, 2019 and 2018, respectively./
Discounts and Premiums on Consolidated Obligations. The Bank expenses the discounts on consolidated obligation discount notes using the level-yield method over the term to maturity of the related notes. It accretes the discounts and amortizes the premiums on consolidated obligation bonds to expense using the level-yield method over the term to maturity of the bonds.
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iFinance
Agency and Office of Finance Expenses. The Bank is assessed its proportionate share of the costs of operating the Finance Agency and the Office of Finance. The assessment for the FHLBanks’ portion of the Finance Agency’s operating and capital expenditures is allocated among the FHLBanks based on the ratio between each FHLBank’s minimum required regulatory capital and the aggregate minimum required regulatory capital of all FHLBanks determined as of June 30 of each year. The expenses of the Office of Finance are shared on a pro rata basis with two-thirds based on each FHLBank’s total consolidated obligations outstanding (as of the current month-end) and one-third divided equally among all of the FHLBanks. These costs are included in the other expense section of the statements of income.
iEstimated
Fair Values. Some of the Bank’s financial instruments (e.g., advances) lack an available trading market characterized by transactions between a willing buyer and a willing seller engaging in an exchange transaction. Therefore, the Bank uses internal models employing assumptions regarding interest rates, volatilities, prepayments, and other factors to perform present-value calculations when disclosing estimated fair values for these financial instruments. The Bank assumes that book value approximates fair value for certain financial instruments with three months or less to repricing or maturity. For a discussion of the Bank's valuation techniques for financial instruments measured at fair value on the statement of condition and the estimated fair values of all of its financial instruments, see Note 17.
iCash
Flows. The Bank considers cash and due from banks as cash and cash equivalents in the statements of cash flows.
Note 2— iRecently Issued Accounting Guidance
Credit Losses on Financial Instruments. On
June 16, 2016, the FASB issued ASU 2016-13, which amends the guidance for the accounting for credit losses on financial instruments by replacing the incurred loss methodology with an expected credit loss methodology. Among other things, ASU 2016-13 requires:
• entities to present financial assets, or groups of financial assets, measured at amortized cost at the net amount expected to be collected, which is computed by deducting an allowance for credit losses from the amortized cost basis of the financial asset(s);
• the measurement of expected credit losses to be based upon relevant information about past events, including historical experience, current conditions, and reasonable and supportable forecasts that affect the collectability of the reported amount;
•
the statement of income to reflect the measurement of credit losses for newly recognized financial assets, as well as the expected increases or decreases in expected credit losses that have taken place during the period;
• entities to determine the allowance for credit losses for purchased financial assets with a more-than-insignificant amount of credit deterioration since origination ("PCD assets") that are measured at amortized cost in a manner similar to other financial assets measured at amortized cost (the initial allowance for credit losses on PCD assets is added to the purchase price rather than being reported as a credit loss expense);
• credit losses relating to available-for-sale debt securities to be recorded through an allowance for credit losses, the amount of which is limited to the amount by which fair value is
below amortized cost; and
• public business entities to further disaggregate the current disclosure of credit quality indicators in relation to the amortized cost of financing receivables by year of origination.
For public business entities that file with the Securities and Exchange Commission, the guidance in ASU 2016-13 is effective for fiscal years beginning after December 15, 2019 (January 1, 2020 for the Bank), and interim periods within those fiscal years. Early adoption was permitted for fiscal years beginning after December 15, 2018, including interim periods within those fiscal years. The guidance is to be applied on a modified retrospective basis through a cumulative-effect adjustment to retained earnings
as of the beginning of the period in which the amendments are adopted. However, entities are required to use a prospective transition approach for debt securities for which an other-than-temporary impairment had been recognized before the date of adoption. The Bank adopted ASU 2016-13 effective January 1, 2020. In conjunction with the adoption of this guidance, the Bank recorded (on January 1, 2020) a cumulative effect adjustment to retained earnings of $i2,191,000
and a corresponding increase in the allowance for credit losses on mortgage loans held for portfolio.
Fair Value Measurement Disclosures. On August 28, 2018, the FASB issued ASU 2018-13, "Disclosure Framework - Changes to the Disclosure Requirements for Fair Value Measurement" ("ASU 2018-13"), which modifies the disclosure requirements on fair value measurements in an effort to improve disclosure effectiveness. ASU 2018-13 removes or modifies certain existing disclosure requirements regarding fair value measurements, including a clarification that the measurement uncertainty disclosure is intended to communicate information about the uncertainty in measurement as of the reporting date. In addition to the limited removals and modifications, the guidance requires public business entities to disclose:
(i) the changes in unrealized gains and losses for the period included in other comprehensive income for recurring Level 3 fair value
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measurements held at the end of the reporting period and (ii) the range and weighted average of significant unobservable inputs used to develop Level 3 fair value measurements (together, the "new disclosure requirements").
The amendments in ASU 2018-13 are effective for fiscal years, and interim periods within those fiscal years, beginning after December 15, 2019 (January 1, 2020 for the Bank). The new disclosure requirements and the narrative description of measurement uncertainty are
to be applied prospectively for only the most recent interim or annual period presented in the initial fiscal year of adoption. All other amendments are to be applied retrospectively to all periods presented upon their effective date. Early adoption is permitted. In addition, an entity is permitted to early adopt any removed or modified disclosures and delay adoption of the additional disclosures until their effective date. The adoption of ASU 2018-13 on January 1, 2020 did not have any impact on the Bank's results of operations or financial condition, nor did it require any additional disclosures.
Implementation Costs Associated with Cloud Computing Arrangements. On August 29, 2018, the FASB issued ASU 2018-15, "Customer's Accounting for Implementation Costs Incurred in a Cloud
Computing Arrangement That Is a Service Contract" ("ASU 2018-15"), which clarifies the accounting for implementation costs associated with a hosting arrangement that is a service contract. ASU 2018-15 aligns the requirements for capitalizing implementation costs incurred in a hosting arrangement that is a service contract with the requirements for capitalizing implementation costs incurred to develop or obtain internal-use software (and hosting arrangements that include an internal-use software license). ASU 2018-15 also addresses the term over which these capitalized implementation costs should be expensed. ASU 2018-15 does not affect the accounting for the service
element of a hosting arrangement that is a service contract.
For public business entities, ASU 2018-15 is effective for fiscal years, and interim periods within those fiscal years, beginning after December 15, 2019 (January 1, 2020 for the Bank). Early adoption is permitted, including adoption in any interim period. The guidance is to be applied either retrospectively or prospectively to all implementation costs incurred after the date of adoption. The adoption of this guidance on January 1, 2020 did not have a material impact on the Bank's results of operations or financial condition.
Defined Benefit Plan Disclosures. On
August 28, 2018, the FASB issued ASU 2018-14, "Disclosure Framework - Changes to the Disclosure Requirements for Defined Benefit Plans" ("ASU 2018-14"), which modifies the disclosure requirements for defined benefit pension and other postretirement benefit plans in an effort to improve disclosure effectiveness. ASU 2018-14 removes specified disclosures that no longer are considered cost beneficial, clarifies the specific requirements of certain other disclosures, and requires new disclosures regarding (i) the weighted-average interest crediting rates for cash balance plans and other plans with promised interest crediting rates and (ii) an explanation of the reasons for significant gains and losses related to changes in the benefit obligation for the period.
For public business entities, ASU 2018-14 is effective for
fiscal years ending after December 15, 2020. Early adoption is permitted. The guidance is to be applied on a retrospective basis to all periods presented. The adoption of ASU 2018-14 did not impact the Bank's disclosures, nor did it have any impact on the Bank's results of operations or financial condition.
Troubled Debt Restructuring Relief. On March 27, 2020, the CARES Act was signed into law by the President of the United States. The CARES Act includes provisions that allow optional, temporary relief from accounting for certain modifications of loans that were not more than 30 days past due as of December 31, 2019 as TDRs. Specifically, under the provisions of the CARES Act, a qualifying financial institution may elect to suspend: (1) the requirements
under U.S. GAAP for certain loan modifications that would otherwise be categorized as TDRs and (2) any determination that such loan modifications would be considered TDRs, including the related impairment for accounting purposes. The TDR relief provisions of the CARES Act apply to any modification that is related to an economic hardship as a result of the COVID-19 pandemic, including a forbearance arrangement, an interest rate modification, a repayment plan, or any other similar arrangement that defers or delays the payment of principal or interest, that occurs during the period from March 1, 2020 through the earlier of December 31, 2020 or the date that is 60 days after the termination of the national emergency concerning the COVID-19 pandemic. On December 27, 2020, the Consolidated Appropriations Act, 2021 (the "CAA")
was signed into law by the President of the United States. The CAA includes provisions that extend the temporary relief provided under the CARES Act to modifications that occur through the earlier of January 1, 2022 or the date that is 60 days after the termination of the national emergency concerning the COVID-19 pandemic.
The Bank has elected to apply the TDR relief provided by the CARES Act (as extended by the CAA). Accordingly, all modifications meeting the provisions of the CARES Act will be excluded from TDR classification, accounting and disclosure. Loan modifications that do not meet the provisions of the CARES Act will continue to be assessed for TDR classification under the Bank’s existing accounting practices. Through December 31, 2020, the Bank did not have a significant number of qualifying
loan modifications and, therefore, the election to apply the TDR relief provisions of the CARES Act has thus far not had a material impact on the Bank's financial condition, results of operations or disclosures.
F-18
Reference Rate Reform. On March 12, 2020, the FASB issued ASU 2020-04, "Facilitation of the Effects of Reference Rate Reform on Financial Reporting" ("ASU 2020-04"), which provides optional guidance for a limited period of time to ease the potential burden in accounting for (or recognizing the effects of) reference rate reform on financial reporting. ASU 2020-04 provides
optional expedients and exceptions for applying U.S. GAAP to transactions affected by reference rate reform if certain criteria are met. These transactions include: (i) contract modifications, (ii) hedging relationships, and (iii) sales or transfers of debt securities classified as held-to-maturity.
ASU 2020-04 is effective from March 12, 2020 through December 31, 2022. An entity may elect to adopt the amendments for contract modifications as of any date from the beginning of an interim period that includes or is subsequent to March 12, 2020, or prospectively from a date within an interim period
that includes or is subsequent to March 12, 2020, up to the date that the financial statements are available to be issued. An entity may elect to apply the amendments in ASU 2020-04 to eligible hedging relationships existing as of the beginning of the interim period that includes March 12, 2020 and to new eligible hedging relationships entered into after the beginning of the interim period that includes March 12, 2020. The one-time election to sell, transfer, or both sell and transfer debt securities classified as held-to-maturity may be made at any time after March 12, 2020 but no later than December 31, 2022.
On January 7, 2021,
the FASB issued ASU 2021-01, "Reference Rate Reform" ("ASU 2021-01"), which clarifies that an entity may elect to apply the optional expedients and exceptions in ASU 2020-04 for contract modifications and hedge accounting to derivative instruments that use an interest rate for margining, discounting or contract price alignment that is modified as a result of reference rate reform. An entity may elect to apply the amendments in ASU 2021-01 on a full retrospective basis as of any date from the beginning of an interim period that includes or is subsequent to March 12, 2020 or on a prospective basis to new modifications from any date within an interim period that includes or is subsequent
to January 7, 2021, up to the date the financial statements are available to be issued. The amendments in ASU 2021-01 do not apply to contract modifications made after December 31, 2022, new hedging relationships entered into after December 31, 2022, and existing hedging relationships evaluated for effectiveness in periods after December 31, 2022, except for hedging relationships existing as of December 31, 2022 that apply certain optional expedients in which the accounting effects are recorded through the end of the hedging relationship (including periods after December 31, 2022).
In
October 2020, the third-party central clearinghouses with which the Bank transacts transitioned to the use of the Secured Overnight Financing Rate ("SOFR") for margining, discounting and contract price alignment. The Bank elected to retroactively apply the optional expedients and exceptions in ASU 2021-01 to its derivative contracts that were affected by these changes.
The Bank expects that it will elect to apply some of the expedients and exceptions provided in ASU 2020-04 relating to contract modifications, hedging relationships, and sales or transfers of held-to-maturity securities and it could apply the expedients and exceptions in ASU 2021-01
to additional derivative contracts in the future. However, the Bank has not yet determined the extent to which it will utilize these expedients and exceptions, nor the timing of when the expedients and exceptions will be elected and therefore the impact of the adoption of ASU 2020-04 and ASU 2021-01 on the Bank's financial condition and results of operations has not yet been determined.
Note 3—iiTrading
Securities/
iMajor Security Types. Trading securities as of December 31, 2020 and 2019 were as follows (in thousands):
Included
in the table above are U.S. Treasury Bills that were purchased but which had not yet settled as of December 31, 2020. The aggregate amount due of $i299,921,000 is included in other liabilities on the statement of condition at that date.
Net gains (losses) on trading securities during the years ended December 31, 2020, 2019 and 2018 included changes in net
unrealized holding gain (loss) of $i8,729,000, $i11,528,000 and $(i1,160,000)
for securities that were held on December 31, 2020, 2019 and 2018, respectively.
F-19
Note 4—iAvailable-for-Sale
Securities
Major Security Types.iAvailable-for-sale securities as of December 31, 2020 were as follows (in thousands):
Amortized Cost
Gross
Unrealized Gains
Gross Unrealized Losses
Estimated Fair Value
Debentures
U.S. government-guaranteed obligations
$
i437,351
$
i4,100
$
i—
$
i441,451
GSE
obligations
i4,950,604
i84,538
i3,209
i5,031,933
Other
i45,706
i214
i—
i45,920
i5,433,661
i88,852
i3,209
i5,519,304
GSE
commercial MBS
i11,181,740
i103,934
i17,216
i11,268,458
Total
$
i16,615,401
$
i192,786
$
i20,425
$
i16,787,762
Available-for-sale
securities as of December 31, 2019 were as follows (in thousands):
Amortized Cost
Gross Unrealized Gains
Gross Unrealized Losses
Estimated Fair Value
Debentures
U.S.
government-guaranteed obligations
$
i447,072
$
i6,124
$
i—
$
i453,196
GSE
obligations
i5,501,456
i84,911
i1,986
i5,584,381
Other
i45,217
i342
i—
i45,559
i5,993,745
i91,377
i1,986
i6,083,136
GSE
commercial MBS
i10,627,922
i79,875
i24,433
i10,683,364
Total
$
i16,621,667
$
i171,252
$
i26,419
$
i16,766,500
In
the tables above, the amortized cost of the Bank's available-for-sale securities includes premiums, discounts and hedging adjustments. Amortized cost excludes accrued interest of $i62,056,000 and $i66,931,000
at December 31, 2020 and 2019, respectively.
Other debentures are comprised of securities issued by the Private Export Funding Corporation. These debentures are fully secured by U.S. government-guaranteed obligations and the payment of interest on the debentures is guaranteed by an agency of the U.S. government.
i
The following table summarizes (dollars
in thousands) the available-for-sale securities with unrealized losses as of December 31, 2020. The unrealized losses are aggregated by major security type and length of time that individual securities have been in a continuous loss position.
Less
than 12 Months
12 Months or More
Total
Number of Positions
Estimated Fair Value
Gross Unrealized Losses
Number of Positions
Estimated Fair Value
Gross Unrealized Losses
Number of Positions
Estimated Fair Value
Gross Unrealized Losses
GSE
debentures
i6
$
i120,876
$
i1,492
i1
$
i51,151
$
i1,717
i7
$
i172,027
$
i3,209
GSE
commercial MBS
i11
i262,908
i2,240
i75
i2,502,312
i14,976
i86
i2,765,220
i17,216
Total
i17
$
i383,784
$
i3,732
i76
$
i2,553,463
$
i16,693
i93
$
i2,937,247
$
i20,425
/
F-20
The
following table summarizes (dollars in thousands) the available-for-sale securities with unrealized losses as of December 31, 2019. The unrealized losses are aggregated by major security type and length of time that individual securities have been in a continuous loss position.
Less
than 12 Months
12 Months or More
Total
Number of Positions
Estimated Fair Value
Gross Unrealized Losses
Number of Positions
Estimated Fair Value
Gross Unrealized Losses
Number of Positions
Estimated Fair Value
Gross Unrealized Losses
GSE
debentures
i—
$
i—
$
i—
i3
$
i128,794
$
i1,986
i3
$
i128,794
$
i1,986
GSE
commercial MBS
i34
i1,031,193
i3,331
i67
i2,222,955
i21,102
i101
i3,254,148
i24,433
Total
i34
$
i1,031,193
$
i3,331
i70
$
i2,351,749
$
i23,088
i104
$
i3,382,942
$
i26,419
Redemption
Terms.iThe amortized cost and estimated fair value of available-for-sale securities by contractual maturity at December 31, 2020 and 2019 are presented below (in thousands).
Interest
Rate Payment Terms. At December 31, 2020 and 2019, all of the Bank’s available-for-sale securities were fixed rate securities that were swapped to a variable rate.
Sales of Securities. During the year ended December 31, 2020, the Bank sold available-for-sale securities with an amortized cost (determined by the specific identification method) of $i604,594,000.
Proceeds from the sales totaled $i605,423,000, resulting in realized gains of $i829,000.
During the year ended December 31, 2019, the Bank sold available-for-sale securities with an amortized cost (determined by the specific identification method) of $i510,342,000. Proceeds from the sales totaled $i511,194,000,
resulting in realized gains of $i852,000. There were no sales of available-for-sale securities during the year ended December 31, 2018.
Note 5—iHeld-to-Maturity
Securities
Major Security Types.iHeld-to-maturity securities as of December 31, 2020 were as follows (in thousands):
Amortized Cost
OTTI
Recorded in AOCI
Carrying Value
Gross Unrecognized Holding Gains
Gross Unrecognized Holding Losses
Estimated Fair Value
Debentures
U.S.
government-guaranteed obligations
$
i4,119
$
i—
$
i4,119
$
i5
$
i—
$
i4,124
State
housing agency obligations
i109,698
i—
i109,698
i228
i438
i109,488
i113,817
i—
i113,817
i233
i438
i113,612
Mortgage-backed
securities
GSE residential MBS
i740,108
i—
i740,108
i4,213
i148
i744,173
Non-agency
residential MBS
i49,703
i6,402
i43,301
i8,476
i932
i50,845
i789,811
i6,402
i783,409
i12,689
i1,080
i795,018
Total
$
i903,628
$
i6,402
$
i897,226
$
i12,922
$
i1,518
$
i908,630
F-21
Held-to-maturity
securities as of December 31, 2019 were as follows (in thousands):
Amortized Cost
OTTI
Recorded in AOCI
Carrying Value
Gross Unrecognized Holding Gains
Gross Unrecognized Holding Losses
Estimated Fair Value
Debentures
U.S.
government-guaranteed obligations
$
i5,862
$
i—
$
i5,862
$
i12
$
i—
$
i5,874
State
housing agency obligations
i109,478
i—
i109,478
i—
i908
i108,570
i115,340
i—
i115,340
i12
i908
i114,444
Mortgage-backed
securities
GSE residential MBS
i1,036,585
i—
i1,036,585
i2,581
i3,435
i1,035,731
Non-agency
residential MBS
i62,885
i8,640
i54,245
i11,641
i481
i65,405
i1,099,470
i8,640
i1,090,830
i14,222
i3,916
i1,101,136
Total
$
i1,214,810
$
i8,640
$
i1,206,170
$
i14,234
$
i4,824
$
i1,215,580
In
the tables above, amortized cost includes premiums, discounts and the credit portion of OTTI recorded prior to January 1, 2020. Amortized cost excludes accrued interest of $i235,000 and $i1,005,000
at December 31, 2020 and 2019, respectively.
i
The following table summarizes (dollars in thousands) the held-to-maturity securities with unrealized losses as of December 31, 2019. The unrealized losses include other-than-temporary impairments recorded in AOCI and gross unrecognized holding losses (or, in the case of the Bank's holdings of non-agency residential MBS, gross unrecognized holding gains)
and are aggregated by major security type and length of time that individual securities have been in a continuous loss position.
Less
than 12 Months
12 Months or More
Total
Number of Positions
Estimated Fair Value
Gross Unrealized Losses
Number of Positions
Estimated Fair Value
Gross Unrealized Losses
Number
of Positions
Estimated Fair Value
Gross Unrealized Losses
Debentures
State
housing agency obligations
i1
$
i74,033
$
i446
i1
$
i34,538
$
i462
i2
$
i108,571
$
i908
Mortgage-backed
securities
GSE
residential MBS
i41
i412,701
i975
i32
i414,818
i2,460
i73
i827,519
i3,435
Non-agency
residential MBS
i—
i—
i—
i13
i34,563
i1,329
i13
i34,563
i1,329
Total
i42
$
i486,734
$
i1,421
i46
$
i483,919
$
i4,251
i88
$
i970,653
$
i5,672
/
Under
the provisions of ASU 2016-13, the information presented in the table above is no longer required beginning January 1, 2020.
Redemption Terms.iThe amortized cost, carrying value and estimated fair value of held-to-maturity securities by contractual maturity at December 31, 2020 and 2019
are presented below (in thousands). The expected maturities of some debentures could differ from the contractual maturities presented because issuers may have the right to call such debentures prior to their final stated maturities.
The
amortized cost of the Bank’s mortgage-backed securities classified as held-to-maturity includes net purchase discounts of $i1,338,000 and $i1,952,000
at December 31, 2020 and 2019, respectively.
Interest Rate Payment Terms.iThe following table provides interest rate payment terms for investment securities classified as held-to-maturity at December 31, 2020 and 2019 (in
thousands):
2020
2019
Amortized cost of variable-rate held-to-maturity securities other than MBS
$
i113,817
$
i115,340
Amortized
cost of held-to-maturity MBS
Fixed-rate pass-through securities
i19
i36
Collateralized
mortgage obligations
Fixed-rate
i11
i57
Variable-rate
i789,781
i1,099,377
i789,811
i1,099,470
Total
$
i903,628
$
i1,214,810
All
of the Bank’s variable-rate collateralized mortgage obligations classified as held-to-maturity securities have coupon rates that are subject to interest rate caps, none of which were reached during the years ended December 31, 2020 or 2019.
Sales of Securities. The Bank did not sell any held-to-maturity securities during the years ended December 31, 2020 or 2019. During the year ended December 31, 2018, the Bank sold held-to-maturity securities with an amortized cost (determined by the specific identification method) of $i97,596,000.
Proceeds from the sales totaled $i99,267,000, resulting in realized gains of $i1,671,000.
For each of these securities, the Bank had previously collected at least 85 percent of the principal outstanding at the time of acquisition. As such, the sales were considered maturities for purposes of security classification.
Note 6—iAdvances
Redemption Terms.iAt
December 31, 2020 and 2019, the Bank had advances outstanding at interest rates ranging from i0.06 percent to i8.27 percent
and from i0.48 percent to i8.27 percent, respectively, as summarized below (dollars in thousands)./
2020
2019
Contractual
Maturity
Amount
Weighted Average Interest Rate
Amount
Weighted Average Interest Rate
Overdrawn demand deposit accounts
$
i6
i0.20
%
$
i613
i1.45
%
Due
in one year or less
i11,341,900
i0.47
i16,683,401
i1.72
Due
after one year through two years
i1,123,710
i1.98
i1,491,736
i2.35
Due
after two years through three years
i1,145,383
i1.77
i1,125,342
i2.38
Due
after three years through four years
i1,310,258
i1.67
i742,698
i2.67
Due
after four years through five years
i1,626,621
i0.86
i1,435,402
i2.11
Due
after five years
i15,367,071
i0.77
i15,464,698
i1.69
Total
par value
i31,914,949
i0.79
%
i36,943,890
i1.79
%
Deferred
net prepayment fees
(i7,168)
(i6,657)
Commitment
fees
(i91)
(i99)
Hedging
adjustments
i571,254
i180,321
Total
$
i32,478,944
$
i37,117,455
Advances
presented in the table above exclude accrued interest of $i21,131,000 and $i49,096,000
at December 31, 2020 and 2019, respectively.
The Bank offers advances to members that may be prepaid on specified dates without the member incurring prepayment or termination fees (prepayable and callable advances). The prepayment of other advances requires the payment of a fee to the Bank (prepayment fee) if necessary to make the Bank financially indifferent to the prepayment of the advance. At December 31, 2020 and 2019, the Bank had aggregate prepayable and callable advances totaling $i8,688,158,000
and $i10,428,894,000, respectively.
F-23
i
The
following table summarizes advances outstanding at December 31, 2020 and 2019, by the earlier of contractual maturity or next call date, or the first date on which prepayable advances can be repaid without a prepayment fee (in thousands):
Contractual Maturity or Next Call Date
2020
2019
Overdrawn
demand deposit accounts
$
i6
$
i613
Due
in one year or less
i19,845,878
i26,716,128
Due
after one year through two years
i1,037,233
i1,408,317
Due
after two years through three years
i1,113,822
i1,018,388
Due
after three years through four years
i966,200
i691,905
Due
after four years through five years
i837,869
i1,030,243
Due
after five years
i8,113,941
i6,078,296
Total
par value
$
i31,914,949
$
i36,943,890
/
The
Bank also offers putable advances. With a putable advance, the Bank purchases a put option from the member that allows the Bank to terminate the fixed-rate advance on specified dates and offer, subject to certain conditions, replacement funding at prevailing market rates. At December 31, 2020 and 2019, the Bank had putable advances outstanding totaling $i7,495,800,000 and $i6,796,500,000,
respectively.
i
The following table summarizes advances at December 31, 2020 and 2019, by the earlier of contractual maturity or next possible put date (in thousands):
Contractual
Maturity or Next Put Date
2020
2019
Overdrawn demand deposit accounts
$
i6
$
i613
Due
in one year or less
i18,172,700
i21,999,901
Due
after one year through two years
i1,678,710
i1,851,736
Due
after two years through three years
i1,229,183
i1,195,342
Due
after three years through four years
i1,266,258
i791,498
Due
after four years through five years
i1,571,621
i1,191,402
Due
after five years
i7,996,471
i9,913,398
Total
par value
$
i31,914,949
$
i36,943,890
/
Credit
Concentrations. Due to the composition of its shareholders, the Bank’s potential credit risk from advances is concentrated in commercial banks, insurance companies, savings institutions and credit unions. No borrower represented more than 10 percent of advances outstanding at December 31, 2020 or more than 10 percent of interest income on advances for the years ended December 31, 2020 or 2018. At December 31, 2019, the Bank had advances of $i3,800,000,000
outstanding to its then largest borrower, Comerica Bank, which represented approximately i10.3 percent of advances outstanding at that date. Interest income on advances to Comerica Bank totaled $i96,367,000
for the year ended December 31, 2019. No other borrower represented more than 10 percent of advances outstanding at December 31, 2019 or more than 10 percent of interest income on advances for the year ended December 31, 2019.
Interest Rate Payment Terms.iThe
following table provides interest rate payment terms for advances outstanding at December 31, 2020 and 2019 (in thousands):
2020
2019
Fixed-rate
Due
in one year or less
$
i11,131,901
$
i16,054,501
Due
after one year
i11,961,692
i9,911,487
Total
fixed-rate
i23,093,593
i25,965,988
Variable-rate
Due
in one year or less
i210,005
i629,513
Due
after one year
i8,611,351
i10,348,389
Total
variable-rate
i8,821,356
i10,977,902
Total
par value
$
i31,914,949
$
i36,943,890
F-24
At
December 31, 2020 and 2019, i57 percent and i39 percent,
respectively, of the Bank’s fixed-rate advances were swapped to a variable rate.
Prepayment Fees. When a member/borrower prepays an advance, the Bank could suffer lower future income if the principal portion of the prepaid advance is reinvested in lower-yielding assets. To protect against this risk, the Bank generally charges a prepayment fee that makes it financially indifferent to a borrower’s decision to prepay an advance. As discussed in Note 1, the Bank records prepayment fees received from members/borrowers on prepaid advances net of any associated hedging adjustments on those advances. Gross advance prepayment fees received from members/borrowers during the years ended December 31, 2020, 2019 and 2018 were $i86,530,000,
$i2,130,000 and $i1,807,000, respectively. During the year ended December 31, 2020, the
Bank deferred $i2,687,000 of the gross advance prepayment fees received during the year. None of the gross advance prepayment fees received during the years ended December 31, 2019 and 2018 were deferred.
The Bank also offers advances that include a symmetrical prepayment feature which allows a member to prepay an advance at the lower of par value or fair value plus a make-whole amount
payable to the Bank. There were no prepayments of symmetrical prepayment advances during the years ended December 31, 2020 or 2018. During the year ended December 31, 2019, a symmetrical prepayment advance with a par value of $i5,000,000 was prepaid. The difference by which the par value of the advance exceeded its fair value, less the make-whole amount, totaled $i68,000
and was recorded in prepayment fees on advances, net of the associated hedging adjustments on the advance.
Note 7—iMortgage Loans Held for Portfolio
Mortgage loans held for portfolio represent held-for-investment loans acquired through the MPF program (see
Note 1). Under the MPF program, the Bank purchased conventional mortgage loans and government-guaranteed/insured mortgage loans (i.e., those insured or guaranteed by the Federal Housing Administration (“FHA”) or the Department of Veterans Affairs (“DVA”)) during the period from 1998 to mid-2003. The Bank resumed acquiring conventional mortgage loans under this program in 2016. Since 2016, all of the acquired mortgage loans were originated by certain of the Bank's member institutions that participate in the MPF program ("Participating Financial Institutions" or “PFIs”) and the Bank acquired a 100 percent interest in such loans. For loans that were acquired from its members during the period from 1998 to mid-2003, the Bank retained title to the mortgage loans, subject to any participation interest in such loans that was sold to the FHLBank of Chicago; the interest in these loans that was retained by the Bank ranged from 1 percent to 49 percent.
Additionally, during the period from 1998 to 2000, the Bank also acquired from the FHLBank of Chicago a percentage interest (ranging up to 75 percent) in certain MPF loans originated by PFIs of other FHLBanks. The Bank manages the liquidity, interest rate and prepayment risk of these loans, while the PFIs or their designees retain the servicing activities. The Bank and the PFIs share in the credit risk of the loans with the Bank assuming the first loss obligation limited by the First Loss Account (“FLA”), and the PFIs assuming credit losses in excess of the FLA, up to the amount of the credit enhancement obligation as specified in the master agreement (“Second Loss Credit Enhancement”). The Bank assumes all losses in excess of the Second Loss Credit Enhancement. iThe
following table presents information as of December 31, 2020 and 2019 for mortgage loans held for portfolio (in thousands):
2020
2019
Fixed-rate medium-term* single-family mortgages
$
i98,957
$
i33,954
Fixed-rate
long-term single-family mortgages
i3,252,276
i3,960,393
Premiums
i66,008
i78,643
Discounts
(i1,267)
(i1,821)
Deferred
net derivative gains associated with mortgage delivery commitments
i10,637
i5,444
Total
mortgage loans held for portfolio
i3,426,611
i4,076,613
Less:
allowance for credit losses on mortgage loans
(i3,925)
(i1,149)
Total
mortgage loans held for portfolio, net of allowance for credit losses
$
i3,422,686
$
i4,075,464
________________________________________
*Medium-term
is defined as an original term of i15 years or less.
Mortgage loans presented in the table above exclude accrued interest receivable of $i16,765,000
and $i21,863,000 at December 31, 2020 and 2019, respectively.
The unpaid principal balance of mortgage loans held for portfolio at December 31, 2020 and 2019 was comprised of conventional loans totaling $i3,340,535,000
and $i3,980,970,000, respectively, and government-guaranteed/insured loans totaling $i10,698,000
and $i13,377,000, respectively.
F-25
PFIs are paid a credit enhancement fee (“CE fee”) as an incentive to minimize credit losses, to share in the risk of loss on MPF loans and to pay for supplemental mortgage insurance, rather than paying a guaranty fee to other secondary market purchasers. CE fees are paid monthly and are determined
based on the remaining unpaid principal balance of the MPF loans. The required credit enhancement obligation varies depending upon the MPF product type. CE fees, payable to a PFI as compensation for assuming credit risk, are recorded as a reduction to mortgage loan interest income when paid by the Bank. During the years ended December 31, 2020, 2019 and 2018, mortgage loan interest income was reduced by CE fees totaling $i2,363,000,
$i2,134,000 and $i1,306,000, respectively. The Bank also pays performance-based CE fees that are based on the actual performance of the pool of MPF loans under each individual master commitment.
To the extent that losses in the current month exceed accrued performance-based CE fees, the remaining losses may be recovered from future performance-based CE fees payable to the PFI. During the years ended December 31, 2020, 2019 and 2018, performance-based CE fees that were forgone and not paid to the Bank’s PFIs totaled $i5,000, $i6,000
and $i8,000, respectively.
Note 8—iAccrued
Interest Receivable
i
The components of accrued interest receivable as of December 31, 2020 and 2019 were as follows (in thousands):
As discussed in Note 2, on January 1, 2020, the Bank adopted new accounting guidance pertaining to the measurement of credit losses on financial instruments. As of the balance sheet date, an allowance for credit losses is separately established, if necessary, for each of the Bank’s financial instruments carried at amortized cost, its available-for-sales securities and its off-balance sheet credit exposures. Expected credit losses on these financial
instruments are recorded through an allowance for credit losses. The allowance for credit losses is the amount necessary to reduce the amortized cost of financial instruments carried at amortized cost to the net amount expected to be collected and the amortized cost of available-for-sale securities to the higher of the security's fair value or the present value of the cash flows expected to be collected from the security. To the extent necessary, an allowance for credit losses for off-balance sheet credit exposures is recorded as a liability.
Short-Term Investments. The Bank invests in overnight interest-bearing deposits, overnight Federal Funds sold and overnight securities sold under agreements to repurchase. These investments provide short-term liquidity and are carried at amortized cost. At December 31, 2020, all investments in Federal Funds sold,
interest-bearing deposits and securities purchased under agreements to resell were repaid according to the contractual terms. Accordingly, no allowance for credit losses was recorded on these assets at December 31, 2020.
Long-Term Investments. The Bank evaluates its available-for-sale securities for impairment by comparing the security's fair value to its amortized cost. Impairment exists when the fair value of the investment is less than its amortized cost (i.e., when the security is in an unrealized loss position). The Bank evaluates each impaired security to determine whether the impairment is due to credit losses. Held-to-maturity securities are evaluated for impairment on a pooled basis, unless an individual assessment is deemed necessary because the securities do not contain similar risk characteristics.
At
December 31, 2020, the gross unrealized losses on the Bank’s available-for-sale securities were $i20,425,000, all of which related to securities that are issued and guaranteed by GSEs. At December 31, 2020, the gross unrealized losses on the Bank’s held-to-maturity securities (computed as the difference between the amortized cost and the fair value of the securities) were $i2,357,000,
of which $i1,771,000 were attributable to its holdings of non-agency (i.e., private label) residential MBS ("RMBS"), $i148,000
were attributable to securities that are issued and guaranteed by GSEs and $i438,000 were attributable to securities issued by a state housing agency.
F-26
Government-Guaranteed and GSE Investments. As of December 31,
2020, the U.S. government and the issuers of the Bank’s holdings of GSE debentures, GSE commercial MBS ("CMBS") and GSE RMBS were rated triple-A by Moody’s Investors Service (“Moody’s”) and AA+ by S&P Global Ratings (“S&P”). Through December 31, 2020, the Bank has not experienced any defaults on its government-guaranteed debentures or GSE RMBS and it has experienced only one default on its GSE CMBS, which default occurred in August 2020. In the event of a default, the guarantor is required to repurchase the security at its par value and thus the Bank's exposure is limited to the amount of any unamortized premiums and/or positive fair value hedge accounting adjustments included in the amortized cost basis of the investment. Based upon the Bank's assessment of the creditworthiness of the issuers of the GSE debentures that were in an unrealized loss position at December 31,
2020 and the credit ratings assigned by Moody's and S&P, the Bank expects that these debentures would not be settled at an amount less than the Bank's amortized cost bases in these investments. In addition, based upon the Bank's assessment of the strength of the GSEs' guarantees of the Bank's holdings of GSE CMBS and GSE RMBS and the credit ratings assigned by Moody's and S&P, the Bank expects that the amounts to be collected on its holdings of GSE MBS will not be less than the Bank's amortized cost bases in these investments (or, in the rare circumstance of a default, the amount to be collected would not be expected to be significantly less than the Bank’s amortized cost basis in the investment). The Bank does not intend to sell the investments and it is not more likely than not that the Bank will be required to sell the investments before recovery of their amortized cost bases. Because the current market value deficits associated with the Bank's available-for-sale
securities are not attributable to credit quality, and because the amount expected to be collected on its held-to-maturity securities is not less than the amortized cost of these investments, the Bank has determined that the credit losses on its government-guaranteed and GSE investments, if any, would be insignificant and, therefore, the Bank did not provide an allowance for credit losses on these investments at December 31, 2020.
State Housing Agency Debentures. As of December 31, 2020, the Bank's holdings of state housing agency bonds are rated triple-A by both Moody's and S&P. The Bank has not experienced any defaults on its state housing agency debentures, nor does it expect to experience any defaults on these securities. Based upon the Bank's assessment of the creditworthiness of the state housing
agency and the credit ratings assigned by Moody's and S&P, the Bank expects that the amounts to be collected on its holdings of state housing agency debentures will not be less than the amortized cost basis of these investments. Because the Bank does not intend to sell the investments and it is not more likely than not that the Bank will be required to sell the investments before recovery of their amortized cost bases, the Bank does not consider an allowance for credit losses on its state housing debentures to be necessary at December 31, 2020.
Non-Agency RMBS. As of December 31, 2020, i5
of the Bank's non-agency RMBS with an aggregate amortized cost of $i10,108,000 were rated investment grade (i.e., triple-B or higher by Moody's and/or S&P), i16
non-agency RMBS with an aggregate amortized cost of $i39,550,000 were rated below investment grade and i1
non-agency RMBS with an amortized cost of $i45,000 was unrated. In periods prior to 2017, 15 of the non-agency RMBS that were rated below investment grade at December 31, 2020 had been determined to be other-than-temporarily impaired. At December 31, 2020 and 2019,
the amortized cost of the Bank's non-agency RMBS included credit losses of $i6,293,000 and $i6,765,000,
respectively, on these previously impaired securities.
Because the ultimate receipt of contractual payments on the Bank’s non-agency RMBS will depend upon the credit and prepayment performance of the underlying loans and the credit enhancements for the senior securities owned by the Bank, the Bank monitors these investments in an effort to determine whether the credit enhancement associated with each security is sufficient to protect against potential losses of principal and interest on the underlying mortgage loans. The credit enhancement for each of the Bank’s non-agency RMBS is provided by a senior/subordinate structure, and none of the securities owned by the Bank are insured by third-party bond insurers. More specifically, each of the Bank’s non-agency RMBS represents a single security class within a securitization that has multiple classes of securities. Each security class has a distinct claim on the cash flows from
the underlying mortgage loans, with the subordinate securities having a junior claim relative to the more senior securities. The Bank’s non-agency RMBS have a senior claim on the cash flows from the underlying mortgage loans.
To assess whether an allowance for credit losses was needed on its i22 non-agency RMBS holdings, the Bank considered the results of the cash flow analyses that it performed for each security as of December
31, 2019 under both a best estimate scenario and a more stressful housing price scenario (as further described below) and the impact that changes in economic and housing market conditions in 2020 could have on those cash flow analyses. More specifically, at December 31, 2020, the Bank evaluated the potential impact that recent changes in economic and housing market conditions could have on the collectibility of these securities relative to the assumptions that were used in the cash flow projections under the more stressful housing price scenario as of December 31, 2019 to determine whether it expected to incur any additional credit losses on these securities. Based on the results of these cash flow analyses, the payment status of the securities and the considerations regarding the potential impact that recent changes in economic and housing market conditions could
have on the securities' cash flows, the Bank determined it is likely that it will fully recover the remaining amortized cost bases of all of its non-agency RMBS. Because the Bank does not intend to sell the investments and it is not more likely than not that the Bank will be required to sell the investments before recovery of their remaining amortized cost bases, no allowance for credit losses on the Bank's non-agency RMBS was deemed to be necessary at December 31, 2020.
F-27
The Bank's cash flow analyses as of December 31, 2019 were performed for each security using two third-party models. The first model considered borrower characteristics and the particular attributes of
the loans underlying the Bank’s securities, in conjunction with assumptions about future changes in home prices and interest rates, to project prepayments, defaults and loss severities. A significant input to the first model was the forecast of future housing price changes for the relevant states and core based statistical areas (“CBSAs”), which were based upon an assessment of the individual housing markets. (The term “CBSA” refers collectively to metropolitan and micropolitan statistical areas as defined by the U.S. Office of Management and Budget; as currently defined, a CBSA must contain at least one urban area of 10,000 or more people.) The Bank’s housing price forecast as of December 31, 2019 assumed changes in home prices ranging from declines of i4
percent to increases of i8 percent over the 12-month period beginning October 1, 2019. For the vast majority of markets, the changes were projected to range from increases of i2
percent to i6 percent. Thereafter, home price changes for each market were projected to return (at varying rates and over varying transition periods based on historical housing price patterns) to their long-term historical equilibrium levels. Following these transition periods, the constant long-term annual rates of appreciation for the vast majority of markets were projected to range between i2
percent and i5 percent.
The month-by-month projections of future loan performance derived from the first model, which reflected projected prepayments, defaults and loss severities, were then input into a second model that allocated the projected loan level cash flows and losses to the various security classes in the securitization structure in accordance with its prescribed cash flow and loss allocation rules. In a securitization in which
the credit enhancement for the senior securities is derived from the presence of subordinate securities, losses are generally allocated first to the subordinate securities until their principal balance is reduced to zero.
Based on the results of its cash flow analyses, the Bank determined it was likely that it would fully recover the remaining amortized cost bases of all of its non-agency RMBS. Because the Bank did not intend to sell the investments and it was not more likely than not that the Bank would be required to sell the investments before recovery of their remaining amortized cost bases, none of the Bank's non-agency RMBS were deemed to be other-than-temporarily impaired at December 31, 2019.
In addition to evaluating its non-agency RMBS under a best estimate scenario, the Bank also performed a cash flow analysis for each of
these securities as of December 31, 2019 under a more stressful housing price scenario. This more stressful scenario was based on a housing price forecast that assumed home price changes for the 12-month period beginning October 1, 2019 were 5 percentage points lower than the base case scenario followed by home price changes that were 33 percent lower than those used in the base case scenario. As of December 31, 2019, none of the Bank's non-agency RMBS would have been deemed to be other-than-temporarily impaired under the more stressful housing price scenario.
Standby Bond Purchase Agreements. The Bank has entered into standby bond purchase agreements with a state housing finance agency within its district whereby, for a fee, the Bank agrees to serve as
a standby liquidity provider. If required, the Bank will purchase and hold the housing finance agency's bonds until the designated marketing agent can find a suitable investor or the housing finance agency repurchases the bonds according to a schedule established by the agreement. To date, the Bank has never been required to purchase a bond under its standby bond purchase agreements. In addition, the agreements contain provisions that allow the Bank to terminate the agreement if the housing finance agency's credit rating, or the rating of the bonds underlying the agreements, decline to a level below investment grade. Based on these provisions, the high credit quality of the housing finance agency and the unlikelihood that the Bank will be required to repurchase the bonds, an allowance for credit losses on standby bond purchase agreements was not considered necessary at December 31, 2020.
Financing
Receivables. A portfolio segment is defined as the level at which an entity develops and documents a systematic method for determining its allowance for credit losses on financing receivables which, for the Bank, includes off-balance sheet credit exposures to members. The Bank has developed and documented a systematic methodology for determining an allowance for credit losses for the following portfolio segments: (1) advances and other extensions of credit to members/borrowers, collectively referred to as “extensions of credit to members;” (2) government-guaranteed/insured mortgage loans held for portfolio; and (3) conventional mortgage loans held for portfolio.
Classes of financing receivables are generally a disaggregation of a portfolio segment and are determined on the basis of their initial measurement attribute, the risk characteristics of the financing receivable and an entity’s method
for monitoring and assessing credit risk. Because the credit risk arising from the Bank’s financing receivables is assessed and measured at the portfolio segment level, the Bank does not have separate classes of financing receivables within each of its portfolio segments.
Advances and Other Extensions of Credit to Members. In accordance with federal statutes, including the FHLB Act, the Bank lends to financial institutions within its five-state district that are involved in housing finance. The FHLB Act requires the Bank to obtain and maintain sufficient collateral for advances and other extensions of credit to protect against losses. The Bank makes advances and otherwise extends credit only against eligible collateral, as defined by regulation. Eligible collateral includes whole first mortgages on improved residential real property
(not more than 90 days delinquent), or securities representing a whole interest in such mortgages; securities issued, insured, or guaranteed by the U.S. government or any of its agencies, including mortgage-backed and other debt securities issued or guaranteed by the Federal National Mortgage
F-28
Association (“Fannie Mae”), the Federal Home Loan Mortgage Corporation (“Freddie Mac”), or the Government National Mortgage Association (“Ginnie Mae”); term deposits in the Bank; and other real estate-related collateral acceptable to the Bank, provided that such collateral has a readily ascertainable value and the Bank can perfect a security interest in such property. In the case of Community Financial Institutions (which for 2020 included all FDIC-insured
institutions with average total assets as of December 31, 2019, 2018 and 2017 of less than $i1.224 billion), the Bank may also accept as eligible collateral secured small business, small farm and small agribusiness loans, securities representing a whole interest in such loans, and secured loans for community development activities. To ensure the value of collateral pledged to the Bank is sufficient to secure its advances and other extensions
of credit, the Bank applies various haircuts, or discounts, to the collateral to determine the value against which borrowers may borrow. As additional security, the Bank has a statutory lien on each borrower’s capital stock in the Bank. The Bank has procedures in place for validating the reasonableness of its collateral valuations. In addition, collateral verifications and on-site reviews are performed based on the risk profile of the borrower.
Each member/borrower of the Bank executes a security agreement pursuant to which such member/borrower grants a security interest in favor of the Bank in certain assets of such member/borrower. The agreements under which a member grants a security interest fall into one of two general structures. In the first structure, the member grants a security interest in all of its assets that are included in the eligible collateral categories, as described in the preceding paragraph, which the
Bank refers to as a “blanket lien.” A member may request that its blanket lien be modified, such that the member grants in favor of the Bank a security interest limited to certain of the eligible collateral categories (i.e., whole first residential mortgages, securities, term deposits in the Bank and other real estate-related collateral). In the second structure, the member grants a security interest in specifically identified assets rather than in the broad categories of eligible collateral covered by the blanket lien and the Bank identifies such members as being on “specific collateral only status.”
The basis upon which the Bank will lend to a member that has granted the Bank a blanket lien depends on numerous factors, including, among others, that member’s financial condition and general creditworthiness. Generally, and subject to certain limitations, a member that has granted the Bank a blanket lien may borrow
up to a specified percentage of the value of eligible collateral categories, as determined from such member’s financial reports filed with its federal regulator, without specifically identifying each item of collateral or delivering the collateral to the Bank. Under certain circumstances, including, among others, a deterioration of a member’s financial condition or general creditworthiness, the amount a member may borrow is determined on the basis of only that portion of the collateral subject to the blanket lien that such member delivers to the Bank. Under these circumstances, the Bank places the member on “custody status.” In addition, members on blanket lien status may choose to deliver some or all of the collateral to the Bank.
The members/borrowers that are granted specific collateral only status by the Bank are typically either insurance companies or members/borrowers with an investment grade credit rating from
at least two nationally recognized statistical rating organizations ("NRSROs") that have requested this type of structure. Insurance companies are permitted to borrow only against the eligible collateral that is delivered to the Bank or a third-party custodian approved by the Bank, and insurance companies generally grant a security interest only in collateral they have delivered. Members/borrowers with an investment grade credit rating from at least two NRSROs may grant a security interest in, and would only be permitted to borrow against, delivered eligible securities and specifically identified, eligible first-lien mortgage loans. Such loans must be delivered to the Bank or a third-party custodian approved by the Bank, or the Bank and such member/borrower must otherwise take actions that ensure the priority of the Bank’s security interest in such loans. Investment grade rated members/borrowers that choose this option are subject to fewer provisions that allow
the Bank to demand additional collateral or exercise other remedies based on the Bank’s discretion; however, the collateral they pledge is generally subject to larger haircuts (depending on the credit rating of the member/borrower from time to time) than are applied to similar types of collateral pledged by members under a blanket lien arrangement.
The Bank perfects its security interests in borrowers’ collateral in a number of ways. The Bank usually perfects its security interest in collateral by filing a Uniform Commercial Code financing statement against the borrower. In the case of certain borrowers, the Bank perfects its security interest by taking possession or control of the collateral, which may be in addition to the filing of a financing statement. In these cases, the Bank also generally takes assignments of most of the mortgages and deeds of trust that are designated as collateral. Instead of requiring delivery of
the collateral to the Bank, the Bank may allow certain borrowers to deliver specific collateral to a third-party custodian approved by the Bank or otherwise take actions that ensure the priority of the Bank’s security interest in such collateral.
With certain exceptions set forth below, Section 10(e) of the FHLB Act affords any security interest granted to the Bank by any member/borrower of the Bank, or any affiliate of any such member/borrower, priority over the claims and rights of any party, including any receiver, conservator, trustee, or similar party having rights of a lien creditor. However, the Bank’s security interest is not entitled to priority over the claims and rights of a party that (i) would be entitled to priority under otherwise applicable law and (ii) is an actual bona fide purchaser for value or is a secured party who has a perfected security interest in such collateral in accordance with applicable law (e.g.,
a prior perfected security interest under the Uniform Commercial Code or other applicable law). For example, in a case in which the Bank has perfected its security interest in collateral by filing a
F-29
Uniform Commercial Code financing statement against the borrower, another secured party’s security interest in that same collateral that was perfected by possession and without prior knowledge of the Bank's lien may be entitled to priority over the Bank’s security interest that was perfected by filing a Uniform Commercial Code financing statement.
From time to time, the Bank agrees to subordinate its security interest in certain assets or categories of assets granted by a member/borrower of the Bank to the security interest of
another creditor (typically, a Federal Reserve Bank or another FHLBank). If the Bank agrees to subordinate its security interest in certain assets or categories of assets granted by a member/borrower of the Bank to the security interest of another creditor, the Bank will not extend credit against those assets or categories of assets.
On at least a quarterly basis, the Bank evaluates all outstanding extensions of credit to members/borrowers for potential credit losses. These evaluations include a review of: (1) the amount, type and performance of collateral available to secure the outstanding obligations; (2) metrics that may be indicative of changes in the financial condition and general creditworthiness of the member/borrower; and (3) the payment status of the obligations. Any outstanding extensions of credit that exhibit a potential credit weakness that could jeopardize the full collection of the outstanding obligations would
be classified as substandard, doubtful or loss. The Bank did not have any advances or other extensions of credit to members/borrowers that were classified as substandard, doubtful or loss at December 31, 2020 or 2019.
The Bank considers the amount, type and performance of collateral to be the primary indicator of credit quality with respect to its extensions of credit to members/borrowers. At December 31, 2020 and 2019, the Bank had rights to collateral on a borrower-by-borrower basis with an estimated value in excess of each borrower’s outstanding extensions of credit.
The Bank continues to evaluate and, as necessary, modify its credit extension and collateral policies based on market conditions. At December 31,
2020 and 2019, the Bank did not have any advances that were past due or on nonaccrual status. There have been no troubled debt restructurings related to advances.
The Bank has never experienced a credit loss on an advance or any other extension of credit to a member/borrower and, based on its credit extension and collateral policies, management currently does not anticipate any credit losses on its extensions of credit to members/borrowers. Accordingly, the Bank has not provided any allowance for credit losses on advances, nor has it recorded any liabilities to reflect an allowance for credit losses related to its off-balance sheet credit exposures to members.
Mortgage Loans — Government-guaranteed or government-insured. The Bank’s
government-guaranteed or government-insured fixed-rate mortgage loans are guaranteed or insured by the FHA or the DVA. Any losses from these loans are expected to be recovered from those entities. Any losses from these loans that are not recovered from those entities are absorbed by the servicers. Therefore, the Bank has not established an allowance for credit losses on government-guaranteed or government-insured mortgage loans.
Mortgage Loans — Conventional Mortgage Loans.The allowance for credit losses on conventional mortgage loans is determined by an analysis that includes consideration of various data such as past performance, current performance, projected performance, loan portfolio characteristics, collateral-related characteristics, prevailing economic conditions and reasonable and supportable forecasts of expected
economic conditions. The allowance for credit losses on conventional mortgage loans also factors in the credit enhancement under the MPF program. Any credit losses that are expected to be recovered from the credit enhancements are not reserved as part of the Bank’s allowance for credit losses.
F-30
The Bank considers the key credit quality indicator for conventional mortgage loans to be the payment status of each loan. iThe
table below summarizes the amortized cost (excluding accrued interest receivable) by payment status for mortgage loans at December 31, 2020 and the recorded investment (which includes accrued interest receivable) by payment status for mortgage loans at December 31, 2019 (dollars in thousands).
Past
due 90 days or more and still accruing interest (4)
$
i—
$
i239
$
i239
$
i—
$
i80
$
i80
Nonaccrual
loans (5)
$
i117,958
$
i—
$
i117,958
$
i7,304
$
i—
$
i7,304
Troubled
debt restructurings
$
i—
$
i—
$
i—
$
i—
$
i—
$
i—
_____________________________
(1)All
of the Bank's government-guaranteed/insured loans were originated in years prior to 2004.
(2)Includes loans where the decision of foreclosure or similar alternative such as pursuit of deed-in-lieu has been made.
(3)Loans that are 90 days or more past due or in the process of foreclosure expressed as a percentage of the loan portfolio.
(4)Only government-guaranteed/insured mortgage loans continue to accrue interest after they become 90 days or more past due.`
(5)The Bank did not have any specific allowance for credit losses on nonaccrual loans at December 31, 2020.
As of December 31,
2020, approximately $i90,354,000 (unpaid principal balance) of past due conventional loans were in forbearance as a result of COVID-19. Approximately $i6,615,000
were 30 to 59 days past due, $i6,724,000 were 60 to 89 days past due, and $i77,015,000 were 90 days or more past due
and in nonaccrual status. At December 31, 2020 and 2019, the Bank’s other assets included $i300,000 and $i15,000,
respectively, of real estate owned.
The Bank individually reviews each seriously delinquent mortgage loan and each TDR for credit losses. At December 31, 2020 and 2019, the Bank did not have any TDRs related to mortgage loans. At these dates, the estimated value of the collateral securing each seriously delinquent loan, plus the estimated amount that can be recovered through credit enhancements and mortgage insurance, if any, exceeded the amortized cost bases of the loans. Therefore, no allowance for credit losses was established for any of the seriously delinquent mortgage loans. The remaining conventional mortgage loans were evaluated for credit losses on a pool basis. Based upon the current and past performance of these loans, current economic conditions, reasonable and supportable forecasts of expected economic conditions
(taking into account the forecasted impact of the COVID-19 pandemic) and expected recoveries from credit enhancements, the Bank determined that an allowance for credit losses of $i3,925,000 was adequate to reserve for credit losses in its conventional mortgage loan portfolio at December 31, 2020.
F-31
i
The
following table presents the activity in the allowance for credit losses on conventional mortgage loans held for portfolio during the years ended December 31, 2020, 2019 and 2018 (in thousands):
Adjustment
to initially apply new credit loss accounting guidance (Note 2)
i2,191
i—
i—
Provision
for credit losses
i585
i656
i222
Balance,
end of year
$
i3,925
$
i1,149
$
i493
/
Prior
to January 1, 2020, an allowance for credit losses was separately established to provide for probable losses inherent in the Bank's conventional mortgage loan portfolio as of the balance sheet date. A loan was considered impaired when, based on then-current information and events, it was considered probable that the Bank would be unable to collect all amounts due according to the contractual terms of the loan agreement. iThe
following table presents information regarding the balances of the Bank's conventional mortgage loans held for portfolio that were individually or collectively evaluated for impairment as well as information regarding the ending balance of the allowance for credit losses as of December 31, 2019 (in thousands).
Ending
balance of allowance for credit losses related to loans collectively evaluated for impairment
$
i1,149
Recorded
investment
Individually evaluated for impairment
$
i6,106
Collectively evaluated for
impairment
i4,078,815
$
i4,084,921
Note
10—iDeposits
The Bank offers demand and overnight deposits for members and qualifying non-members. In addition, the Bank offers short-term interest-bearing deposit programs to members and qualifying non-members. Interest-bearing deposits classified as demand and overnight pay interest based on a daily interest rate. Term deposits pay interest based on a fixed rate, or a stepped fixed rate schedule, that is determined on the issuance date of the deposit. The weighted average interest rates paid on average outstanding
deposits were i0.29 percent, i2.05 percent and i1.75 percent
during 2020, 2019 and 2018, respectively. None of the deposits are federally insured. For additional information regarding other interest-bearing deposits, see Note 14.
i
The following table details interest-bearing and non-interest bearing deposits as of December 31, 2020 and 2019 (in thousands):
2020
2019
Interest-bearing
Demand
and overnight
$
i1,532,029
$
i1,190,967
Term
i51,071
i95,232
Non-interest
bearing (other)
i20
i20
Total
deposits
$
i1,583,120
$
i1,286,219
/
Note
11—iConsolidated Obligations
Consolidated obligations are the joint and several obligations of the FHLBanks and consist of consolidated obligation bonds and discount notes. Consolidated obligations are backed only by the financial resources of the 11 FHLBanks. Consolidated obligations are not obligations of, nor are they guaranteed by, the U.S. government. The FHLBanks issue consolidated obligations through the Office of Finance as their agent. In connection with each debt issuance, one or more of the FHLBanks specifies the amount of debt it wants
issued on its behalf; the Bank receives the proceeds of only the debt issued on its behalf and records on its statements of condition only that portion of the consolidated obligations for which it has received the proceeds. The Finance Agency and the U.S. Secretary of the Treasury have oversight over the issuance of FHLBank debt through the Office of Finance. Consolidated obligation bonds are issued primarily to raise intermediate- and long-term funds for the FHLBanks and are not subject to any statutory or regulatory limits on maturity. Consolidated obligation discount notes are
F-32
issued to raise short-term funds and have maturities of one year or less. These notes are issued at a price that is less than their face amount and are redeemed at par value when they mature.
For additional information regarding the FHLBanks’ joint and several liability on consolidated obligations, see Note 18.
The par amounts of the FHLBanks’ outstanding consolidated obligations, including consolidated obligations held as investments by other FHLBanks, were approximately $i747 billion and $i1.026
trillion at December 31, 2020 and 2019, respectively. The Bank was the primary obligor on approximately $i59.2 billion and $i70.1 billion (at par value), respectively,
of these consolidated obligations. Regulations require each of the FHLBanks to maintain unpledged qualifying assets equal to its participation in the consolidated obligations outstanding. Qualifying assets are defined as cash; secured advances; obligations of or fully guaranteed by the U.S. government; obligations, participations, mortgages, or other instruments of or issued by Fannie Mae or Ginnie Mae; mortgages, obligations or other securities which are or have ever been sold by Freddie Mac under the FHLB Act; and such securities as fiduciary and trust funds may invest in under the laws of the state in which the FHLBank is located. Any assets subject to a lien or pledge for the benefit of holders of any issue of consolidated obligations are treated as if they were free from lien or pledge for purposes of compliance with these regulations.
General Terms. Consolidated obligation
bonds are issued with either fixed-rate coupon payment terms or variable-rate coupon payment terms that use a variety of indices for interest rate resets such as SOFR, LIBOR or the federal funds rate. On and after July 1, 2020, the Bank is prohibited from issuing LIBOR-indexed bonds which mature after December 31, 2021. To meet the specific needs of certain investors in consolidated obligations, both fixed-rate bonds and variable-rate bonds may contain complex coupon payment terms and call options. When such consolidated obligations are issued, the Bank generally enters into interest rate exchange agreements containing offsetting features that effectively convert the terms of the bond to those of a simple variable-rate bond.
The consolidated obligation bonds typically issued by the Bank, beyond having fixed-rate or simple variable-rate
coupon payment terms, may also have the following broad terms regarding either principal repayment or coupon payment terms:
Optional principal redemption bonds (callable bonds) may be redeemed in whole or in part at the Bank's discretion on predetermined call dates according to the terms of the bond offerings;
Step-up bonds pay interest at increasing fixed rates for specified intervals over the life of the bond. These bonds generally contain provisions that enable the Bank to call the bonds at its option on predetermined call dates;
Step-down bonds pay interest at decreasing fixed rates for specified intervals over the life of the bond. These bonds generally contain provisions that enable the Bank to call the bonds at its option on predetermined call dates.
Interest
Rate Payment Terms.iThe following table summarizes the Bank’s consolidated obligation bonds outstanding by interest rate payment terms at December 31, 2020 and 2019 (in thousands, at par value).
2020
2019
Fixed-rate
$
i11,492,355
$
i21,529,815
Variable-rate
SOFR-indexed
i24,419,625
i9,532,000
LIBOR-indexed
i1,000,000
i3,110,000
Step-up
i75,000
i1,337,500
Step-down
i—
i175,000
Total
par value
$
i36,986,980
$
i35,684,315
At December
31, 2020 and 2019, i40 percent and i86
percent, respectively, of the Bank’s fixed-rate consolidated obligation bonds were swapped to a variable rate.
F-33
Redemption Terms.iThe following is a summary of the Bank’s consolidated obligation bonds outstanding at December 31, 2020
and 2019, by contractual maturity (dollars in thousands):
2020
2019
Contractual
Maturity
Amount
Weighted Average Interest Rate
Amount
Weighted Average Interest Rate
Due in one year or less
$
i21,392,110
i0.37
%
$
i16,900,625
i1.75
%
Due
after one year through two years
i12,236,725
i0.46
i7,849,605
i1.76
Due
after two years through three years
i1,419,695
i2.25
i2,269,005
i2.21
Due
after three years through four years
i799,975
i1.99
i1,912,490
i2.42
Due
after four years through five years
i513,475
i1.44
i3,811,615
i2.16
Due
after five years
i625,000
i1.74
i2,940,975
i2.52
Total
par value
i36,986,980
i0.55
%
i35,684,315
i1.93
%
Premiums
i620
i1,091
Discounts
(i366)
(i781)
Debt
issuance costs
(i2,882)
(i4,479)
Hedging
adjustments
i128,369
i65,681
Total
$
i37,112,721
$
i35,745,827
i
At
December 31, 2020 and 2019, the Bank’s consolidated obligation bonds outstanding included the following (in thousands, at par value):
2020
2019
Non-callable bonds
$
i34,861,980
$
i22,188,915
Callable
bonds
i2,125,000
i13,495,400
Total
par value
$
i36,986,980
$
i35,684,315
/i
The
following table summarizes the Bank’s consolidated obligation bonds outstanding at December 31, 2020 and 2019, by the earlier of contractual maturity or next possible call date (in thousands, at par value):
Contractual Maturity or Next Call Date
2020
2019
Due in one year
or less
$
i23,302,110
$
i25,936,025
Due
after one year through two years
i11,751,725
i6,397,605
Due
after two years through three years
i1,374,695
i1,649,005
Due
after three years through four years
i459,975
i1,193,590
Due
after four years through five years
i98,475
i409,615
Due
after five years
i—
i98,475
Total
par value
$
i36,986,980
$
i35,684,315
/
Discount
Notes.iAt December 31, 2020 and 2019, the Bank’s consolidated obligation discount notes, all of which are due within one year, were as follows (dollars in thousands):
Section 10(j)
of the FHLB Act requires each FHLBank to establish an AHP. Each FHLBank provides subsidies in the form of direct grants and/or below market interest rate advances to members who use the funds to assist with the purchase, construction, or rehabilitation of housing for very low-, low-, and moderate-income households. The Bank provides subsidies
F-34
under its AHP solely in the form of direct grants. Annually, each FHLBank must set aside for the AHP i10
percent of its current year’s income before charges for AHP (as adjusted for interest expense on mandatorily redeemable capital stock), subject to a collective minimum contribution for all i11 FHLBanks of $i100
million. The exclusion of interest expense on mandatorily redeemable capital stock is required pursuant to a Finance Agency regulatory interpretation. If the result of the aggregate i10 percent calculation is less than $i100
million for all i11 FHLBanks, then the FHLB Act requires the shortfall to be allocated among the FHLBanks based on the ratio of each FHLBank’s income before AHP to the sum of the income before AHP of all of the FHLBanks provided, however, that each FHLBank’s required annual AHP contribution is limited to its annual net earnings before the contribution. There was no shortfall during the years ended December 31, 2020, 2019 or 2018. If a FHLBank determines that its required contributions are contributing
to its financial instability, it may apply to the Finance Agency for a temporary suspension of its AHP contributions. No FHLBank applied for a suspension of its AHP contributions in 2020, 2019 or 2018.
The Bank’s AHP assessment is derived by adding interest expense on mandatorily redeemable capital stock (see Note 15) to reported income before assessments; the result of this calculation is then multiplied by i10 percent. The Bank charges the amount set
aside for AHP to income and recognizes it as a liability. The Bank relieves the AHP liability as members receive AHP grants. If the Bank experiences a loss during a calendar quarter but still has income for the calendar year, the Bank’s obligation to the AHP is based upon its year-to-date/annual income. In years where the Bank’s income before assessments (as adjusted for interest expense on mandatorily redeemable capital stock) is zero or less, the amount of the AHP assessment is typically equal to zero, and the Bank would not typically be entitled to a credit that could be used to reduce required contributions in future years.
i
The
following table summarizes the changes in the Bank’s AHP liability during the years ended December 31, 2020, 2019 and 2018 (in thousands):
2020
2019
2018
Balance,
beginning of year
$
i57,247
$
i44,358
$
i31,246
AHP
assessment
i22,087
i25,272
i22,097
Grants
funded, net of recaptured amounts
(i16,181)
(i12,383)
(i8,985)
Balance,
end of year
$
i63,153
$
i57,247
$
i44,358
/
Note 13—iAssets and Liabilities Subject to Offsetting
The Bank has derivatives and securities purchased under agreements to resell that are subject to enforceable master netting agreements or similar arrangements. For purposes of reporting derivative assets and derivative liabilities, the Bank offsets the fair value amounts recognized for derivative instruments (including the right to reclaim cash collateral and the obligation to return cash collateral) where a legally
enforceable right of setoff exists. The Bank did not have any liabilities that were eligible to offset its securities purchased under agreements to resell (i.e., securities sold under agreements to repurchase) as of December 31, 2020 or 2019.
The Bank's derivative transactions are executed either bilaterally or, if required, cleared through a third-party central clearinghouse. The Bank has entered into master agreements with each of its bilateral derivative counterparties that provide for the netting of all transactions with each of these counterparties. Under its master agreements with its non-member bilateral derivative counterparties, collateral is delivered (or returned) daily when certain thresholds (ranging from $i50,000
to $i500,000) are met. The Bank offsets the fair value amounts recognized for bilaterally traded derivatives executed with the same counterparty, including any cash collateral remitted to or received from the counterparty. When entering into derivative transactions with its members, the Bank requires the member to post eligible collateral in an amount equal to the sum of the net market value of the member’s derivative transactions with the Bank (if the value is positive to the Bank) plus a percentage of the notional amount of any interest rate swaps, with market values determined on at least
a monthly basis. Eligible collateral for derivative transactions with members consists of collateral that is eligible to secure advances and other obligations under the member's Advances and Security Agreement with the Bank. The Bank is not required to pledge collateral to its members to secure derivative positions.
For cleared derivatives, all transactions with each clearing member of each clearinghouse are netted pursuant to legally enforceable setoff rights. Cleared derivatives are subject to initial and variation margin requirements established by the clearinghouse and its clearing members. Effective January 3, 2017, one of the Bank's two clearinghouse counterparties made certain amendments to its rulebook that changed the legal characterization of variation margin payments on cleared derivatives to settlements on the contracts.
Effective January 16, 2018, the Bank's other clearinghouse counterparty made similar amendments to its rulebook. Prior to the dates upon which these amendments became effective, the variation margin payments were in each case characterized as collateral pledged to secure outstanding credit exposure on the derivative contracts. Initial and variation margin (regardless of whether it is characterized as collateral or settlements) is typically delivered/paid (or returned/received) daily and is not subject to any maximum unsecured thresholds. The Bank offsets the fair value amounts
F-35
recognized for cleared derivatives transacted with
each clearing member of each clearinghouse (which fair value amounts include variation margin paid or received) and any cash collateral pledged or received.
i
The following table presents derivative instruments and securities purchased under agreements to resell with the legal right of offset, including the related collateral received from or pledged to counterparties as of December 31, 2020 and 2019 (in thousands). For daily settled derivative contracts,
the variation margin payments/receipts are included in the gross amounts of derivative assets and liabilities.
Gross Amounts of Recognized Financial Instruments
Gross
Amounts Offset in the Statement of Condition
Net Amounts Presented in the Statement of Condition
(1)Any
overcollateralization or any excess variation margin associated with daily settled contracts at an individual clearinghouse/clearing member or bilateral counterparty level is not included in the determination of the net unsecured amount.
(2)Consists of collateral pledged by member counterparties.
(3) Consists of securities pledged by the Bank. In addition to the amount needed to secure the counterparties' exposure to the Bank, the Bank had pledged securities with an aggregate fair value of $i723,903,000
at December 31, 2020 to further secure its cleared derivatives, which is a result of the initial margin requirements imposed upon the Bank.
(4) The Bank had pledged securities with an aggregate fair value of $i842,256,000 at December
31, 2019 to further secure its cleared derivatives, which is a result of the initial margin requirements imposed upon the Bank.
/
F-36
Note 14—iDerivatives
and Hedging Activities
Hedging Activities. As a financial intermediary, the Bank is exposed to interest rate risk. This risk arises from a variety of financial instruments that the Bank enters into on a regular basis in the normal course of its business. The Bank enters into interest rate swap, swaption, cap and forward rate agreements (collectively, interest rate exchange agreements) to manage its exposure to changes in interest rates. The Bank may use these instruments to adjust the effective maturity, repricing frequency, or option characteristics of financial instruments to achieve risk management objectives. In addition, the Bank may use these instruments to hedge the variable cash flows associated with forecasted transactions. The Bank has not entered into any credit default swaps or foreign exchange-related derivatives and, as of December 31,
2020, it was not a party to any forward rate agreements.
The Bank uses interest rate exchange agreements in three ways: (1) by designating the agreement as a fair value hedge of a specific financial instrument or firm commitment; (2) by designating the agreement as a cash flow hedge of a forecasted transaction; or (3) by designating the agreement as a hedge of some other defined risk (referred to as an “economic hedge”). For example, the Bank uses interest rate exchange agreements in its overall interest rate risk management activities to adjust the interest rate sensitivity of consolidated obligations to approximate more closely the interest rate sensitivity of its assets (both advances and investments), and/or to adjust the interest rate sensitivity of advances or investments to approximate more closely the interest rate sensitivity of its liabilities. In addition to using interest rate exchange agreements to manage
mismatches between the coupon features of its assets and liabilities, the Bank also uses interest rate exchange agreements to, among other things, manage embedded options in assets and liabilities, to preserve the market value of existing assets and liabilities, to hedge the duration risk of prepayable instruments, to hedge the variable cash flows associated with forecasted transactions, to offset interest rate exchange agreements entered into with members (the Bank serves as an intermediary in these transactions), and to reduce funding costs.
The Bank, consistent with Finance Agency regulations, enters into interest rate exchange agreements only to reduce potential market risk exposures inherent in otherwise unhedged assets and liabilities or anticipated transactions, or to act as an intermediary between its members and the Bank’s non-member derivative counterparties. The Bank is not a derivatives dealer and it does not trade
derivatives for short-term profit.
At inception, the Bank formally documents the relationships between derivatives designated as hedging instruments and their hedged items, its risk management objectives and strategies for undertaking the hedge transactions, and its method for assessing the effectiveness of the hedging relationships. For fair value hedges, this process includes linking the derivatives to: (1) specific assets and liabilities on the statements of condition or (2) firm commitments. For cash flow hedges, this process includes linking the derivatives to forecasted transactions. The Bank also formally assesses (both at the inception of the hedging relationship and on a monthly basis thereafter) whether the derivatives that are used in hedging transactions have been effective in offsetting changes in the fair value of hedged items or the cash flows associated with forecasted transactions and whether those derivatives
may be expected to remain effective in future periods. The Bank uses regression analyses to assess the effectiveness of its hedges.
Investment Securities and Mortgage Loans Held for Portfolio — The Bank has invested in agency and non-agency MBS and residential mortgage loans. The interest rate and prepayment risk associated with these investments is managed through consolidated obligations and/or derivatives. The Bank may manage prepayment and duration risk presented by some of these investments with either callable and/or non-callable consolidated obligations and/or interest rate exchange agreements, including interest rate swaps, swaptions and caps.
A substantial portion of the Bank’s held-to-maturity securities are variable-rate MBS that include caps that would limit the variable-rate coupons if short-term interest rates rise
dramatically. To hedge a portion of the potential cap risk embedded in these securities, the Bank entered into interest rate cap agreements, only one of which remained outstanding at December 31, 2020. These derivatives are treated as economic hedges.
All of the Bank's available-for-sale securities are fixed-rate agency and other highly rated debentures and agency CMBS. To hedge the interest rate risk associated with these fixed-rate investment securities, the Bank has entered into fixed-for-floating interest rate exchange agreements, which are designated as fair value hedges.
The Bank's trading securities include both fixed-rate and variable-rate U.S. Treasury Notes. To convert most of its fixed-rate U.S. Treasury Notes to a short-term floating rate, the Bank has entered into fixed-for-floating interest rate exchange agreements that
are primarily indexed to the overnight index swap ("OIS") rate. These derivatives are treated as economic hedges.
The interest rate swaps and swaptions that are used by the Bank to hedge the risks associated with its mortgage loan portfolio are treated as economic hedges.
F-37
Advances — The Bank issues both fixed-rate and variable-rate advances. When appropriate, the Bank uses interest rate exchange agreements to adjust the interest rate sensitivity of its fixed-rate advances to approximate more closely the interest rate sensitivity of its liabilities. With issuances of putable advances, the Bank purchases from the member a put option that enables the Bank to terminate a fixed-rate advance on specified
future dates. This embedded option is clearly and closely related to the host advance contract. The Bank typically hedges a putable advance by entering into a cancelable interest rate exchange agreement where the Bank pays a fixed-rate coupon and receives a variable-rate coupon, and sells an option to cancel the swap to the swap counterparty. This type of hedge is treated as a fair value hedge. The swap counterparty can cancel the interest rate exchange agreement on the call date and the Bank can cancel the putable advance and offer, subject to certain conditions, replacement funding at prevailing market rates.
From time to time, a small portion of the Bank’s variable-rate advances may be subject to interest rate caps that would limit the variable-rate coupons if short-term interest rates rise above a predetermined level. To hedge the
cap risk embedded in these advances, the Bank will generally enter into interest rate cap agreements. This type of hedge is treated as a fair value hedge.
The Bank may hedge a firm commitment for a forward-starting advance through the use of an interest rate swap. In this case, the swap will function as the hedging instrument for both the firm commitment and the subsequent advance. The carrying value of the firm commitment will be included in the basis of the advance at the time the commitment is terminated and the advance is issued. The basis adjustment will then be amortized into interest income over the life of the advance.
The Bank enters into optional advance commitments with its members. In an optional advance commitment, the Bank sells an option to the member that provides the member with the right to increase the amount of an existing advance at a specified fixed rate and
term on a specified future date, provided the member has satisfied all of the customary requirements for such advance. This embedded option is clearly and closely related to the host contract. The Bank may hedge an optional advance commitment through the use of an interest rate swaption. In this case, the swaption will function as the hedging instrument for both the commitment and, if the option is exercised by the member, the subsequent advance. These swaptions are treated as fair value hedges.
Consolidated Obligations— While consolidated obligations are the joint and several obligations of the FHLBanks, each FHLBank is the primary obligor for the consolidated obligations it has issued or assumed from another FHLBank. The Bank generally
enters into derivative contracts to hedge the interest rate risk associated with its specific debt issuances.
To manage the interest rate risk of certain of its consolidated obligations, the Bank will match the cash outflow on a consolidated obligation with the cash inflow of an interest rate exchange agreement. With issuances of fixed-rate consolidated obligation bonds, the Bank typically enters into a matching interest rate exchange agreement in which the counterparty pays fixed cash flows to the Bank that are designed to mirror in timing and amount the cash outflows the Bank pays on the consolidated obligation. In this transaction, the Bank pays a variable cash flow that more closely matches the interest payments it receives on short-term or variable-rate assets. These transactions are treated as fair value hedges. On occasion, the
Bank may enter into fixed-for-floating interest rate exchange agreements to hedge the interest rate risk associated with certain of its consolidated obligation discount notes. The derivatives associated with the Bank’s fair value discount note hedging are indexed to the OIS rate and are treated as economic hedges. The Bank may also use interest rate exchange agreements to convert variable-rate consolidated obligation bonds from one index rate to another index rate. These transactions are treated as economic hedges.
The Bank has not issued consolidated obligations denominated in currencies other than U.S. dollars.
Forecasted Issuances of Consolidated Obligations— The Bank uses derivatives to hedge the variability of cash flows over a specified period of time as a result of the forecasted issuances and maturities
of short-term, fixed-rate instruments, such as three-month consolidated obligation discount notes. Although each short-term consolidated obligation discount note has a fixed rate of interest, a portfolio of rolling consolidated obligation discount notes effectively has a variable interest rate. The variable cash flows associated with these liabilities are converted to fixed-rate cash flows by entering into receive-variable, pay-fixed interest rate swaps. The maturity dates of the cash flow streams are closely matched to the interest rate reset dates of the derivatives. These derivatives are treated as cash flow hedges.
Balance Sheet Management — From time to time, the Bank may enter into interest rate basis swaps to reduce its exposure to changing spreads between different interest rate indices. In addition, to reduce its exposure to reset risk, the Bank may occasionally
enter into forward rate agreements. These derivatives are treated as economic hedges.
Intermediation — The Bank offers interest rate swaps, caps and floors to its members to assist them in meeting their hedging needs. In these transactions, the Bank acts as an intermediary for its members by entering into an interest rate exchange agreement with a member and then entering into an offsetting interest rate exchange agreement with one of the Bank’s approved derivative counterparties. All interest rate exchange agreements related to the Bank’s intermediary activities with its members are accounted for as economic hedges.
F-38
Other —
From time to time, the Bank may enter into derivatives to hedge risks to its earnings that are not directly linked to specific assets, liabilities or forecasted transactions. These derivatives are treated as economic hedges.
Impact of Derivatives and Hedging Activities.iThe following table summarizes the notional balances and estimated fair values of the Bank’s outstanding derivatives (inclusive of variation
margin on daily settled contracts) and the amounts offset against those values in the statement of condition at December 31, 2020 and 2019 (in thousands).
Interest
rate swaptions related to mortgage loans held for portfolio
i1,280,000
i7,376
i—
i145,000
i381
i—
Mortgage
delivery commitments
i21,569
i140
i—
i31,765
i94
i—
Interest
rate caps
Held-to-maturity securities
i250,000
i—
i—
i500,000
i—
i—
Intermediary
transactions
i80,000
i1
i1
i80,000
i12
i12
Total
derivatives not designated as
hedging instruments under ASC 815
i5,034,407
i15,948
i11,137
i7,821,545
i6,670
i4,578
Total
derivatives before collateral and netting adjustments
$
i38,974,891
i37,969
i510,859
$
i54,943,177
i56,339
i172,435
Cash
collateral and related accrued interest
(i9,798)
(i465,606)
(i3,440)
(i156,903)
Cash
received or remitted in excess of variation margin requirements
i8
i—
(i5)
(i54)
Netting
adjustments
(i20,204)
(i20,204)
(i11,623)
(i11,623)
Total
collateral and netting adjustments(3)
(i29,994)
(i485,810)
(i15,068)
(i168,580)
Net
derivative balances reported in statements of condition
$
i7,975
$
i25,049
$
i41,271
$
i3,855
________________________________________
(1)Derivatives
designated as fair value hedges.
(2)Derivatives designated as cash flow hedges.
(3)Amounts represent the effect of legally enforceable master netting agreements or other legally enforceable arrangements between the Bank and its derivative counterparties that allow the Bank to offset positive and negative positions as well as any cash collateral held or placed with those same counterparties.
F-39
i
The
following table presents the components of net gains (losses) on qualifying fair value and cash flow hedging relationships for the years ended December 31, 2020, 2019 and 2018 (in thousands).
Interest
Income (Expense)
Advances
Available-for-Sale Securities
Consolidated Obligation Bonds
Consolidated Obligation Discount Notes
Net Gains (Losses) on Derivatives and Hedging Activities
Net
gains (losses) on cash flow hedging relationships
$
—
$
—
$
—
$
i950
$
—
$
(i1,773)
_____________________________
(1)The
amounts for 2018 have not been reclassified to conform to the new hedge accounting presentation requirements which became effective on January 1, 2019.
(2)Excludes amortization/accretion on closed fair value relationships.
For the years ended December 31, 2020, 2019 and 2018, there were no amounts reclassified from AOCI into earnings as a result of the discontinuance of cash flow hedges because the original forecasted transactions occurred by the end of the originally specified time periods or within two-month periods thereafter. At December 31, 2020, $i22,167,000
of deferred net losses on derivative instruments in AOCI are expected to be reclassified to earnings during the next 12 months. At December 31, 2020, the maximum length of time over which the Bank is hedging its exposure to the variability in future cash flows for forecasted transactions is i9.1 years.
i
The
following table presents the cumulative basis adjustments on hedged items either designated or previously designated as fair value hedges and the related amortized cost of those items as of December 31, 2020 and 2019 (in thousands).
Line Item in Statement of
Condition of Hedged Item
Amortized Cost of Hedged Asset/(Liability) (1)
Basis Adjustments for Active Hedging Relationships Included in Amortized Cost
Basis Adjustments for Discontinued Hedging Relationships Included in Amortized Cost
(1)Reflects
the amortized cost of hedged items in active or discontinued fair value hedging relationships, which includes fair value hedging basis adjustments.
(2)Reflects the cumulative life-to-date unamortized hedging gains (losses) on the hedged items.
/
F-41
i
The
following table presents the components of net gains (losses) on derivatives and hedging activities that are reported in other income (loss) for the years ended December 31, 2020, 2019 and 2018 (in thousands).
Gain (Loss) Recognized in Other Income (Loss) for the Year Ended December 31,
2020
2019
2018
Derivatives
and hedged items in ASC 815 fair value hedging relationships(1)
Interest rate swaps
$
i—
$
i—
$
i1,866
Interest
rate swaptions
i—
i—
(i44)
Total
net gain related to fair value hedge ineffectiveness
i—
i—
i1,822
Derivatives
not designated as hedging instruments under ASC 815
Interest rate swaps
i19,224
i28,408
(i2,586)
Net
interest expense on interest rate swaps
(i20,682)
(i3,414)
(i1,389)
Interest
rate swaptions
(i4,524)
(i2,728)
(i239)
Interest
rate caps and floors
i—
i86
i116
Mortgage
delivery commitments
i8,507
i2,097
i1,912
Total
net gain (loss) related to derivatives not designated as hedging instruments under ASC 815
i2,525
i24,449
(i2,186)
Price
alignment amount on variation margin for daily settled derivative contracts(2)
i362
i238
(i9,892)
Net
gains (losses) on derivatives and hedging activities reported in other income (loss)
$
i2,887
$
i24,687
$
(i10,256)
________________________
(1)For
the years ended December 31, 2020 and 2019, all of the effects of derivatives and associated hedged items in ASC 815 fair value hedging relationships are reported in net interest income.
(2)The amounts reported for the years ended December 31, 2020 and 2019 reflect the price alignment amounts on variation margin for daily settled derivative contracts that are not designated as hedging instruments under ASC 815. The price alignment amounts on variation margin for daily settled derivative contracts that are designated as hedging
instruments under ASC 815 are recorded in the same line item as the earnings effect of the hedged item. The amount reported for the year ended December 31, 2018 reflects the price alignment amount on variation margin for all daily settled derivative contracts.
/
Credit Risk Related to Derivatives. The Bank is subject to credit risk due to the risk of nonperformance by counterparties to its derivative agreements. The Bank manages derivative counterparty credit risk through the use of master netting agreements or other
similar collateral exchange arrangements, credit analysis, and adherence to the requirements set forth in the Bank’s Enterprise Market Risk Management Policy, Enterprise Credit Risk Management Policy and Finance Agency regulations. The majority of the Bank's derivative transactions have been cleared through third-party central clearinghouses (as of December 31, 2020, the notional balance of cleared transactions outstanding totaled $i28.2 billion). With cleared transactions, the Bank is exposed to credit risk in the event that the
clearinghouse or the clearing member fails to meet its obligations to the Bank. The remainder of the Bank's derivative contracts have been transacted bilaterally with large financial institutions under master netting agreements or, to a much lesser extent, with member institutions (as of December 31, 2020, the notional balance of outstanding transactions with non-member bilateral counterparties and member counterparties totaled $i10.7 billion
and $i0.1 billion, respectively). Some of these institutions (or their affiliates) buy, sell, and distribute consolidated obligations.
The notional amount of the Bank's interest rate exchange agreements does not reflect its credit risk exposure, which is much less than the notional amount. The Bank's net credit risk exposure is based on the current estimated cost, on a present value basis, of replacing at current market rates all interest rate exchange agreements with individual counterparties, if those counterparties were to default,
after taking into account the value of any cash and/or securities collateral held or remitted by the Bank. For counterparties with which the Bank is in a net gain position, the Bank has credit exposure when the collateral it is holding (if any) has a value less than the amount of the gain. For counterparties with which the Bank is in a net loss position, the Bank has credit exposure when it has delivered collateral with a value greater than the amount of the loss position. The net exposure on derivative agreements is presented in Note 13. Based on the netting provisions and collateral requirements associated with its derivative agreements and the creditworthiness of its derivative counterparties, Bank management does not currently anticipate any credit losses on its derivative agreements.
Note
15—iCapital
Under the Gramm-Leach-Bliley Act of 1999 (the “GLB Act”) and the Finance Agency’s capital regulations, each FHLBank may issue Class A stock or Class B stock, or both, to its members. The Bank’s Capital Plan provides that it will issue only Class B capital stock. The Class B stock has a par value of $ii100/
per share and is purchased, redeemed, repurchased and, with the prior approval of the Bank, transferred only at its par value. As required by statute and regulation, members may request the
F-42
Bank to redeem excess Class B stock, or withdraw from membership and request the Bank to redeem all outstanding capital stock, with five years’ written notice to the Bank. The regulations also allow the Bank, in its sole discretion, to repurchase members’ excess stock at any time without regard for the five-year notification period as long as the Bank continues to meet its regulatory capital requirements following any stock repurchases, as described below.
Members are required to maintain an investment in Class B Stock equal to the sum
of a membership investment requirement and an activity-based investment requirement. The membership investment requirement is currently i0.04 percent of each member’s total assets as of the previous calendar year-end, subject to a minimum of $i1,000
and a maximum of $i7,000,000. Except as described below, the activity-based investment requirement is (and has been) i4.1
percent of outstanding advances. Members and institutions that acquire members must comply with the activity-based investment requirements for as long as the relevant activity remains outstanding. The Bank’s Board of Directors has the authority to adjust these requirements periodically within ranges established in the Capital Plan, as amended from time to time, to ensure that the Bank remains adequately capitalized.
The Bank has two sub-classes of Class B Stock. Class B-1 Stock is used to meet the membership investment requirement and Class B-2 Stock is used to meet the activity-based investment requirement. Daily, subject to the limitations in the Capital Plan, the Bank converts shares of one sub-class of Class B Stock to the other sub-class of Class B Stock under the following circumstances: (i) shares of Class B-2 Stock held by a shareholder in excess of its activity-based investment requirement are converted into Class
B-1 Stock, if necessary, to meet that shareholder’s membership investment requirement and (ii) shares of Class B-1 Stock held by a shareholder in excess of the amount required to meet its membership investment requirement are converted into Class B-2 Stock as needed in order to satisfy that shareholder’s activity-based investment requirement.
Under the Bank's Capital Plan, the permissible range for the advances-based component of the activity-based investment requirement is a range of i2.0
percent to i5.0 percent of members’ advances outstanding. The Bank’s Board of Directors may establish one or more separate advances investment requirement percentages (each an "advance type specific percentage") within the range described above to be applied to a specific category of advances in lieu of the generally applicable advances-related investment requirement percentage in effect at the time. Such category of advances may be defined as a particular advances product offering, advances
with particular maturities or other features, advances that represent an increase in member borrowing, or such other criteria as the Bank’s Board of Directors may determine. Any advance type specific percentage may be established for an indefinite period of time, or for a specific time period, at the discretion of the Bank’s Board of Directors. Any changes to the activity-based investment requirement require at least 30 days advance notice to the Bank’s members.
On September 21, 2015, the Bank announced a Board-authorized reduction in the activity-based stock investment requirement from i4.1
percent to i2.0 percent for certain advances that were funded during the period from October 21, 2015 through December 31, 2015. To be eligible for the reduced activity-based investment requirement, advances funded during this period had to have a minimum maturity of one year or greater, among other things. The standard activity-based stock investment requirement of 4.1 percent continued to apply to all other advances that
were funded during the period from October 21, 2015 through December 31, 2015. All other minimum investment requirements also continued to apply.
On February 28, 2020, the Bank announced another Board-authorized reduction in the activity-based stock investment requirement from i4.1 percent to
i2.0 percent for up to $i5.0 billion of advances that: (1) were funded during the period
from April 1, 2020 through December 31, 2020 and (2) had a maturity of one year or greater. On July 1, 2020, the Bank announced a Board-authorized modification to this special advances offering. As modified, the Bank's activity-based capital stock investment requirement was reduced from i4.1 percent to i2.0
percent for advances that: (1) were funded during the period from August 1, 2020 through December 31, 2020 and (2) had a maturity of 28 days or greater. On December 7, 2020, the Bank announced that its Board of Directors had authorized the Bank to extend the expiration date of the special advances offering from December 31, 2020 to June 30, 2021. On March 17, 2021, the Bank announced another Board-authorized modification and extension to this special advances offering. As modified and extended, the Bank's activity-based capital stock investment requirement will be reduced from i4.1
percent to i2.0 percent for advances that: (1) are funded during the period from April 19, 2021 through December 31, 2021 and (2) have a maturity of 32 days or greater. For advances that are funded on or prior to April 18, 2021, the current reduced activity-based capital stock investment requirement will continue to apply to advances that have a
maturity of 28 days or greater. Under the special advances offering described in this paragraph, the maximum balance of advances to which the reduced activity-based stock investment requirement can be applied is $i5.0 billion. Except as described in this paragraph, the standard activity-based stock investment requirement of 4.1 percent continues to apply to all other advances that are funded during the period from April 1, 2020 through December
31, 2021.
On April 19, 2021, the Bank will implement an amendment to its Capital Plan. The amended Capital Plan provides for the imposition of an activity-based investment requirement ranging from i0.10 percent to i2.0
percent of members' outstanding letters of credit (the "LC Percentage"), as specified from time to time by the Bank's Board of Directors. The Board of Directors has established an initial LC Percentage of i0.10 percent which will apply only to letters of credit that are issued or renewed on and after April 19, 2021. The LC Percentage will be applied to the issued amount of the letter of credit rather than, if applicable, the
F-43
amount
of the letter of credit that is used from time to time during the term of the letter of credit. Further, renewals for this purpose will include amendments that extend the expiration date of the letter of credit.
Excess stock is defined as the amount of stock held by a member (or former member) in excess of that institution’s minimum investment requirement (i.e., the amount of stock held in excess of its activity-based investment requirement and, in the case of a member, its membership investment requirement). All excess stock is held as Class B-1 Stock at all times. At any time, shareholders may request the Bank to repurchase excess capital stock. Although the Bank is not obligated to repurchase excess stock prior to the expiration of a five-year redemption or withdrawal notification period, it will typically endeavor to honor such requests within a reasonable period of time (generally not exceeding 30 days) so long as the
Bank will continue to meet its regulatory capital requirements following the repurchase.
The Bank’s Member Products and Credit Policy provides that the Bank may periodically repurchase a portion of members’ excess capital stock. The Bank generally repurchases surplus stock quarterly. For the repurchases that occurred during 2020, 2019 and 2018, surplus stock was defined as the amount of stock held by a shareholder in excess of iiii125///
percent of the shareholder’s minimum investment requirement. For the repurchase that occurred on December 30, 2020, a shareholder's surplus stock was not repurchased if: (1) the amount of that shareholder's surplus stock was $i2,000,000 or less, (2) the shareholder elected to opt out of the repurchase, or (3) the shareholder was on restricted collateral status (subject to certain exceptions). For the other repurchases that occurred during 2020, 2019 and 2018, a shareholder's surplus stock was not
repurchased if: (1) the amount of that shareholder's surplus stock was $iii2,500,000//
or less, (2) the shareholder elected to opt out of the repurchase, or (3) the shareholder was on restricted collateral status (subject to certain exceptions). During the years ended December 31, 2020, 2019 and 2018, the Bank repurchased surplus stock totaling $i471,326,000, $i739,733,000
and $i764,264,000, respectively, none of which was classified as mandatorily redeemable capital stock at the time of repurchase. From time to time, the Bank may modify the definition of surplus stock or the timing and/or frequency of surplus stock repurchases.
Concurrent with the quarterly repurchases of surplus stock that occurred in 2020, 2019 and 2018, the Bank also repurchased all excess stock held by non-member shareholders as of the repurchase dates. This excess stock, all of which was classified
as mandatorily redeemable capital stock at those dates, totaled $i53,992,300, $i2,296,000 and $i5,501,000,
respectively.
i
The following table presents total excess stock at December 31, 2020 and 2019 (in thousands).
2020
2019
Excess
stock
Capital stock
$
i519,870
$
i624,902
Mandatorily
redeemable capital stock
i9,025
i2,066
Total
$
i528,895
$
i626,968
/
Under
the Finance Agency’s regulations, the Bank is subject to ithree capital requirements. First, the Bank must maintain at all times permanent capital (defined under the Finance Agency’s rules and regulations as retained earnings and all Class B stock regardless of its classification for financial reporting purposes) in an amount at least equal to its risk-based capital requirement, which is the sum of its credit risk capital requirement, its market risk capital requirement, and its operations risk capital requirement, calculated
in accordance with the rules and regulations of the Finance Agency. The Finance Agency may require the Bank to maintain a greater amount of permanent capital than is required by the risk-based capital requirements as defined. Second, the Bank must, at all times, maintain total capital in an amount at least equal to i4.0 percent of its total assets (capital-to-assets ratio). For the Bank, total capital is defined by Finance Agency rules and regulations as the Bank’s permanent capital and the amount of any general allowance for losses (i.e., those reserves that are
not held against specific assets). Finally, the Bank is required to maintain at all times a minimum leverage capital-to-assets ratio in an amount at least equal to i5.0 percent of its total assets. In applying this requirement to the Bank, leverage capital includes the Bank’s permanent capital multiplied by a factor of i1.5
plus the amount of any general allowance for losses. The Bank did not have any general reserves at December 31, 2020 or 2019. Under the regulatory definitions, total capital and permanent capital exclude AOCI. Additionally, mandatorily redeemable capital stock is considered capital for purposes of determining the Bank’s compliance with its regulatory capital requirements.
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At all times during the three years ended December 31, 2020, the Bank was in compliance with the aforementioned capital requirements. iThe
following table summarizes the Bank’s compliance with the Finance Agency’s capital requirements as of December 31, 2020 and 2019 (dollars in thousands):
Beginning
in February 2020, the Bank must also maintain (pursuant to an Advisory Bulletin issued by the Finance Agency) a minimum capital stock-to-assets ratio of i2.0 percent, as measured on a daily average basis at each month end. The Bank was in compliance with this requirement at each of the applicable month ends in 2020.
On August 4, 2009, the Finance Agency adopted a final rule establishing capital classifications and critical capital levels for the FHLBanks. The rule defines
critical capital levels for the FHLBanks and establishes criteria for each of the following capital classifications identified in the Safety and Soundness Act, as amended by the Housing and Economic Recovery Act of 2008: adequately capitalized, undercapitalized, significantly undercapitalized and critically undercapitalized. An adequately capitalized FHLBank meets all existing risk-based and minimum capital requirements. An undercapitalized FHLBank does not meet one or more of its risk-based or minimum capital requirements, but nonetheless has total capital equal to or greater than 75 percent of all capital requirements. A significantly undercapitalized FHLBank does not have total capital equal to or greater than 75 percent of all capital requirements, but the FHLBank does have total capital greater than 2 percent of its total assets. A critically undercapitalized FHLBank has total capital that is less than or equal to 2 percent of its total assets. The Bank has been
classified as adequately capitalized since the rule became effective.
In addition to restrictions on capital distributions by a FHLBank that does not meet all of its risk-based and minimum capital requirements, a FHLBank that is classified as undercapitalized, significantly undercapitalized or critically undercapitalized is required to take certain actions, such as submitting a capital restoration plan to the Director of the Finance Agency for approval. Additionally, with respect to a FHLBank that is less than adequately capitalized, the Director of the Finance Agency may take other actions that he or she determines will help ensure the safe and sound operation of the FHLBank and its compliance with its risk-based and minimum capital requirements in a reasonable period of time.
The GLB Act made membership voluntary for all members. Members that withdraw from membership may not be
readmitted to membership in any FHLBank for at least five years following the date that their membership was terminated and all of their shares of stock were redeemed or repurchased.
Effective February 28, 2011, the Bank entered into a Joint Capital Enhancement Agreement (the “JCE Agreement”) with the other FHLBanks. Effective August 5, 2011, the FHLBanks amended the JCE Agreement, and the Finance Agency approved an amendment to the Bank's capital plan to incorporate its provisions on that same date. The amended JCE Agreement provides that the Bank (and each of the other FHLBanks) will, on a quarterly basis, allocate at least i20
percent of its net income to a restricted retained earnings account (“RRE Account”). Pursuant to the provisions of the amended JCE Agreement, the Bank is required to build its RRE Account to an amount equal to ione percent of its total outstanding consolidated obligations, which for this purpose is based on the most recent quarter’s
average carrying value of all outstanding consolidated obligations, excluding hedging adjustments. Amounts allocated to the Bank’s RRE Account are not available to pay dividends.
The Bank’s Board of Directors may declare dividends at the same rate for all shares of Class B Stock, or at different rates for Class B-1 Stock and Class B-2 Stock, provided that in no event can the dividend rate on Class B-2 Stock be lower than the dividend rate on Class B-1 Stock. Dividend payments may be made in the form of cash, additional shares of either, or both, sub-classes of Class B Stock, or a combination thereof as determined by the Bank’s Board of Directors and can be paid only from unrestricted retained earnings or a portion of current earnings. The Bank’s Board of Directors may not declare or pay a dividend if the Bank is not in compliance with its minimum capital requirements or if the Bank would fail to meet its minimum capital requirements
after paying such dividend. In addition, the Bank’s Board of Directors may not declare or pay a dividend based on projected or anticipated earnings; further, the Bank may not declare or pay any dividends in the form of capital stock if its excess stock is greater than 1 percent of its total assets or if, after the issuance of such shares, the Bank’s outstanding excess stock would be greater than 1 percent of its total assets.
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Mandatorily Redeemable Capital Stock. As discussed in Note 1, the Bank’s capital stock is classified as equity (capital) for financial reporting purposes until either a written redemption or withdrawal notice is received from a member or a membership withdrawal or termination is otherwise initiated,
at which time the capital stock is reclassified to liabilities. The Finance Agency has confirmed that the accounting classification of certain shares of its capital stock as liabilities does not affect the definition of capital for purposes of determining the Bank’s compliance with its regulatory capital requirements.
At December 31, 2020, the Bank had $i13,864,000 in outstanding capital stock subject to mandatory
redemption held by i6 institutions. As of December 31, 2019, the Bank had $i7,140,000
in outstanding capital stock subject to mandatory redemption held by i6 institutions. These amounts are classified as liabilities in the statements of condition. During the years ended December 31, 2020, 2019 and 2018, dividends on mandatorily redeemable capital stock in the amount of $i83,000,
$i189,000 and $i101,000, respectively, were recorded as interest expense in the statements of income.
The
Bank is not required to redeem or repurchase activity-based stock until the later of the expiration of a notice of redemption or withdrawal or the date the activity no longer remains outstanding. If activity-based stock becomes excess stock as a result of reduced activity, the Bank, in its discretion and subject to certain regulatory restrictions, may repurchase excess stock prior to the expiration of the notice of redemption or withdrawal. The Bank will generally repurchase such excess stock as long as it expects to continue to meet its minimum capital requirements following the repurchase.
i
The
following table summarizes the Bank’s mandatorily redeemable capital stock at December 31, 2020 by year of earliest mandatory redemption (in thousands). The earliest mandatory redemption reflects the earliest time at which the Bank is required to redeem the shareholder’s capital stock, and is based on the assumption that the activities associated with the activity-based stock have concluded by the time the notice of redemption or withdrawal expires.
2021
$
i203
2022
i130
2023
i6,228
2024
i176
2025
i7,127
Total
$
i13,864
/i
The
following table summarizes the Bank’s mandatorily redeemable capital stock activity during 2020, 2019 and 2018 (in thousands).
A member may cancel a previously submitted redemption or withdrawal notice by providing a written
cancellation notice to the Bank prior to the expiration of the five-year redemption/withdrawal notice period. A member that cancels a stock redemption or withdrawal notice more than 30 days after it is received by the Bank and prior to its expiration is subject to a cancellation fee equal to a percentage of the par value of the capital stock subject to the cancellation notice.
F-46
i
The
following table provides the number of institutions that held mandatorily redeemable capital stock and the number that submitted a withdrawal notice or otherwise initiated a termination of their membership and the number of terminations completed during 2020, 2019 and 2018:
2020
2019
2018
Number
of institutions, beginning of year
i6
i8
i15
Due
to mergers and acquisitions
i2
i2
i1
Due
to withdrawals
i—
i—
i1
Due
to liquidation
i—
i—
i1
Recission
of withdrawal notice
i—
i—
(i1)
Terminations
completed during the year
(i2)
(i4)
(i9)
Number
of institutions, end of year
i6
i6
i8
/
The
Bank did not receive any stock redemption notices in 2020, 2019 or 2018.
Limitations on Redemption or Repurchase of Capital Stock. The GLB Act imposes the following restrictions on the redemption or repurchase of the Bank’s capital stock.
•In no event may the Bank redeem or repurchase capital stock if the Bank is not in compliance with its minimum capital requirements or if the redemption or repurchase would cause the Bank to be out of compliance with its minimum capital requirements, or if the redemption or repurchase would cause the member to be out of compliance with its minimum investment requirement. In addition, the Bank’s Board of Directors may suspend redemption of capital stock if the Bank reasonably believes that continued redemption of capital stock would cause the Bank to fail to meet its minimum
capital requirements in the future, would prevent the Bank from maintaining adequate capital against a potential risk that may not be adequately reflected in its minimum capital requirements, or would otherwise prevent the Bank from operating in a safe and sound manner.
•In no event may the Bank redeem or repurchase capital stock without the prior written approval of the Finance Agency if the Finance Agency or the Bank’s Board of Directors has determined that the Bank has incurred, or is likely to incur, losses that result in, or are likely to result in, charges against the capital of the Bank. For this purpose, charges against the capital of the Bank means an other than temporary decline in the Bank’s total equity that causes the value of total equity to fall below the Bank’s aggregate capital stock amount. Such a determination may be made by the Finance Agency or the Board of Directors even if the
Bank is in compliance with its minimum capital requirements.
•The Bank may not repurchase any capital stock without the written consent of the Finance Agency during any period in which the Bank has suspended redemptions of capital stock. The Bank is required to notify the Finance Agency if it suspends redemptions of capital stock and set forth its plan for addressing the conditions that led to the suspension. The Finance Agency may require the Bank to reinstate redemptions of capital stock.
•In no event may the Bank redeem or repurchase shares of capital stock if the principal and interest due on any FHLBank System consolidated obligations issued through the Office of Finance have not been paid in full or, under certain circumstances, if the Bank becomes a non-complying FHLBank under Finance Agency regulations as a result of its inability
to comply with regulatory liquidity requirements or to satisfy its current obligations.
•If at any time the Bank determines that the total amount of capital stock subject to outstanding stock redemption or withdrawal notices with expiration dates within the following 12 months exceeds the amount of capital stock the Bank could redeem and still comply with its minimum capital requirements, the Bank will determine whether to suspend redemption and repurchase activities altogether, to fulfill requests for redemption sequentially in the order in which they were received, to fulfill the requests on a pro rata basis, or to take other action deemed appropriate by the Bank.
Distribution from Financing Corporation. The Financing Corporation ("FICO") was formed pursuant to the Competitive Equality Banking Act of 1987
to provide financing for the resolution of failed savings and loan associations. The capitalization of FICO was provided by capital distributions from the FHLBanks in exchange for non-voting capital stock of FICO. The Bank's capital distributions were made in 1987, 1988 and 1989. Upon passage of the Financial Institutions Reform, Recovery and Enforcement Act of 1989, the Bank's capital stock investment in FICO was determined to be non-redeemable and, in 1989, the Bank charged off its investment in FICO directly against retained earnings. After satisfying its obligations in September 2019, FICO commenced a process to dissolve in accordance with relevant statutory requirements and the terms of a plan of dissolution approved by the Director of the Finance Agency. During the second quarter of 2020, in connection with the dissolution of FICO, the Bank received a distribution of $i17,639,000,
representing the Bank's proportionate share of FICO’s surplus and remaining cash on hand. The receipt of this distribution was treated as a partial return of the Bank's prior investment in FICO and credited to unrestricted retained earnings.
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Note 16—iEmployee
Retirement Plans
The Bank participates in the Pentegra Defined Benefit Plan for Financial Institutions (“Pentegra DB Plan”), a tax-qualified defined benefit pension plan. The Pentegra DB Plan covers substantially all officers and employees of the Bank who were hired prior to January 1, 2007, and any new employee of the Bank who was hired on or after January 1, 2007, provided that the employee had prior service with a financial services institution that participated in the Pentegra DB Plan, during which service the employee was covered by such plan. In addition, effective July 1, 2015, coverage was extended to include all of the Bank's non-highly compensated employees (as defined by Internal Revenue Service rules) who were hired on and after January
1, 2007 but before August 1, 2010. The Pentegra DB Plan is treated as a multiemployer plan for accounting purposes, but operates as a multiple-employer plan under the Employee Retirement Income Security Act of 1974 ("ERISA") and the Internal Revenue Code. As a result, certain multiemployer plan disclosures, including the certified zone status, are not applicable to the Pentegra DB Plan. Under the Pentegra DB Plan, contributions made by a participating employer may be used to provide benefits to employees of other participating employers because assets contributed by an employer are not segregated in a separate account or restricted to provide benefits only to employees of that employer. In addition, in the event a participating employer is unable to meet its contribution requirements, the required contributions for the other participating employers could increase proportionately.
The
Pentegra DB Plan operates on a fiscal year from July 1 through June 30. The Pentegra DB Plan files one Form 5500 on behalf of all employers who participate in the plan. The Employer Identification Number is 13-5645888 and the three-digit plan number is i333. There are no collective bargaining agreements in place at the Bank.
The Pentegra DB Plan's annual valuation process includes separate calculations of the plan's funded status as well as the funded status of each participating employer. Participating employers in an under-funded position are billed for their required contributions
while those in an over-funded position can use their surplus to offset all or a portion of their contribution requirement. The funded status is defined as the market value of assets divided by the funding target (an amount equal to 100 percent of the present value of all benefit liabilities accrued at the valuation date) and is calculated as of the beginning of the Pentegra DB Plan year. As permitted by ERISA, the Pentegra DB Plan accepts contributions for a plan year up to eight and a half months after the end of that plan year and, as a result, the market value of assets at the valuation date (July 1) is increased by any subsequent contributions that are designated for the immediately preceding plan year ended June 30.
The most recent Form 5500 available for the Pentegra DB Plan is for the year ended June 30, 2019. The Bank's contributions for the year ended December
31, 2018 did not represent more than 5 percent of the total contributions to the plan for the plan year ended June 30, 2019.
i
The following table presents the Bank's net pension cost and its funded status, as well as the funded status of the Pentegra DB Plan (dollars in thousands, including amounts presented in the footnotes to the table).
2020
2019
2018
Net
pension cost charged to compensation and benefit expense for the year ended December 31
$
i18,675
$
i5,200
$
i5,200
Pentegra
DB Plan funded status as of July 1
i108.2
%
(a)
i108.6
%
(b)
i111.0
%
Bank's
funded status as of July 1
i90.1
%
i94.8
%
i97.4
%
____________
(a) The
Pentegra DB Plan's funded status as of July 1, 2020 is preliminary and may increase because the plan's participants were permitted to make contributions for the plan year ended June 30, 2020 through March 15, 2021. Contributions made during the period from July 1, 2020 through March 15, 2021 and designated for the plan year ended June 30, 2020 will be included in the final valuation as of July 1, 2020. The final funded status as of July 1, 2020 will not be available until the Form 5500 for the plan year July 1, 2020 through June
30, 2021 is filed (this Form 5500 is due to be filed no later than April 2022).
(b) The Pentegra DB Plan's funded status as of July 1, 2019 is preliminary and may increase because the plan's participants were permitted to make contributions for the plan year ended June 30, 2019 through March 15, 2020. Contributions made during the period from July 1, 2019 through March 15, 2020 and designated for the plan year ended June 30, 2019 will be included in the final valuation as of July 1, 2019. The final funded status as of July
1, 2019 will not be available until the Form 5500 for the plan year July 1, 2019 through June 30, 2020 is filed (this Form 5500 is due to be filed no later than April 2021).
/
Prior to December 1, 2018, the Bank participated in the Pentegra Defined Contribution Plan for Financial Institutions (“Pentegra DC Plan”), a tax-qualified defined contribution plan. Effective December 1, 2018, the Bank established the FHLBank of Dallas 401(k) Retirement Plan (the "FHLB Dallas DC Plan"), a tax-qualified defined contribution plan which replaced the Pentegra DC Plan for all active
employees. In connection with the establishment of the FHLB Dallas DC Plan, substantially all active employee account balances were transferred from the Pentegra DC Plan to the FHLB Dallas DC Plan. The Bank’s contributions to the FHLB Dallas DC Plan (and, previously, the Pentegra DC Plan) are (were) equal to a percentage
F-48
of voluntary employee contributions, subject to certain limitations. During the years ended December 31, 2020, 2019 and 2018, the Bank contributed an aggregate amount of $i1,747,000,
$i1,651,000 and $i1,440,000, respectively, to these plans.
Additionally,
the Bank maintains a non-qualified deferred compensation plan that is available to some employees, which is, in substance, an unfunded supplemental retirement plan. The Bank’s liability, which consists of the accumulated employee compensation deferrals, accrued earnings (or losses) on those deferrals and matching Bank contributions corresponding to the contribution percentages applicable to the defined contribution plan, was $i8,445,000 and $i6,998,000
at December 31, 2020 and 2019, respectively. Compensation and benefits expense includes accrued earnings (losses) on deferred employee compensation and Bank contributions totaling $i1,100,000, $i1,136,000
and $(i268,000) for the years ended December 31, 2020, 2019 and 2018, respectively.
The Bank's non-qualified deferred compensation plan is also available to all of its directors. The Bank’s liability for directors' deferred compensation, which consists of the accumulated compensation
deferrals (representing directors’ fees) and the accrued earnings (losses) on those deferrals, was $i3,942,000 and $i3,338,000
at December 31, 2020 and 2019, respectively. Other operating expense includes accrued earnings (losses) on deferred director compensation totaling $i320,000, $i343,000
and $(i113,000) for the years ended December 31, 2020, 2019 and 2018, respectively.
The Bank maintains a Special Non-Qualified Deferred Compensation Plan (the “SERP”), a defined contribution plan that was established primarily to provide supplemental retirement benefits
to those employees who were serving as the Bank’s executive officers at the time the SERP was established. Each participant’s benefit under the SERP consists of contributions that were made by the Bank on the participant’s behalf, plus an allocation of the investment gains or losses on the assets used to fund the SERP. Contributions to the SERP are determined solely at the discretion of the Bank’s Board of Directors; the Bank has no obligation or current intention to make future contributions to the SERP. The Bank’s accrued liability under this plan was $i3,396,000
and $i3,809,000 at December 31, 2020 and 2019, respectively. The Bank did not make any contributions to the SERP during the years ended December 31, 2020, 2019 or 2018.
The Bank sponsors a retirement benefits program that includes health care and life insurance
benefits for eligible retirees. The health care portion of the program is contributory while the life insurance benefits, which are available to retirees with at least 20 years of service, are offered on a noncontributory basis. Prior to January 1, 2005, retirees were eligible to remain enrolled in the Bank’s health care benefits plan if age 50 or older with at least 10 years of service at the time of retirement. In December 2004, the Bank modified the eligibility requirements relating to retiree health care continuation benefits. Effective January 1, 2005, retirees are eligible to remain enrolled in the Bank’s health care benefits plan if age 55 or older with at least 15 years of service at the time of retirement. Employees who were age 50 or older with 10 years of service and those who had 20 years of service as of December 31,
2004 were not subject to the revised eligibility requirements. Additionally, then current retiree benefits were unaffected by these modifications. In October 2005, the Bank modified the participant contribution requirements relating to its retirement benefits program. Effective December 31, 2005, retirees who are age 55 or older with at least 15 years of service at the time of retirement can remain enrolled in the Bank’s health care benefits program by paying 100% of the expected plan cost. Previously, participant contributions were subsidized by the Bank; this subsidy was based upon the Bank’s COBRA premium rate and the employee’s age and length of service with the Bank. Then current retirees, employees who were hired prior to January 1, 1991 and those who, as of December 31, 2004, had at least 20 years of service or were age 50 or older with 10 years of service are
not subject to these revised contribution requirements prior to age 65. Under the revised plan, at age 65, all plan participants are required to pay 100% of the expected plan cost. The Bank does not have any plan assets set aside for the retirement benefits program.
F-49
i
The Bank uses a December 31 measurement
date for its retirement benefits program. A reconciliation of the accumulated postretirement benefit obligation (“APBO”) and funding status of the retirement benefits program for the years ended December 31, 2020 and 2019 is as follows (in thousands):
The
amounts in AOCI include $i20,000 of prior service cost and $i66,000
of net actuarial gains that are expected to be recognized as components of net periodic benefit credit in 2021.
The actuarial assumptions used in the measurement of the Bank’s benefit obligation included a gross health care cost trend rate of i7.5 percent for 2021. For 2020, 2019 and 2018, gross health care cost trend rates of i5.2 percent,
i5.5 percent and i6.6 percent, respectively, were used. The gross
health care cost trend rate is assumed to idecline by 0.13 percent per year to a final rate of i4.5
percent in i2045 and thereafter. To compute the APBO at December 31, 2020 and 2019, weighted average discount rates of i2.61
percent and i3.34 percent were used. Weighted average discount rates of i3.34 percent,
i4.10 percent and i3.74 percent
were used to compute the net periodic benefit cost (credit) for 2020, 2019 and 2018, respectively.
i
Components of net periodic benefit cost (credit) for the years ended December 31, 2020, 2019 and 2018 were as follows (in thousands):
The
Bank reports the service cost component of its net periodic postretirement benefit cost (credit) in compensation and benefits expense and the other components of net periodic postretirement benefit cost (credit) in "other, net" in the other income (loss) section of the statement of income.
Under U.S. GAAP, the Bank is required to recognize the overfunded or underfunded status of its retirement benefits program as an asset or liability in its statement of condition and to recognize changes in that funded status in the year in which the changes occur through other comprehensive income. iChanges
in benefit obligations recognized in other comprehensive income during the years ended December 31, 2020, 2019 and 2018 were as follows (in thousands):
Amortization
of prior service cost included in net periodic benefit cost
$
i20
$
i20
$
i20
Actuarial
loss
(i87)
(i152)
(i161)
Amortization
of net actuarial gain included in net periodic benefit cost
(i80)
(i94)
(i100)
Total
changes in benefit obligations recognized in other comprehensive income
$
(i147)
$
(i226)
$
(i241)
A
1 percent increase or decrease in the health care cost trend rate would have had an insignificant effect on the APBO at December 31, 2020 and the aggregate of the service and interest cost components of the net periodic benefit cost for the year ended December 31, 2020.
i
The following net postretirement benefit payments, which reflect expected future service, as appropriate, are expected to be paid (in thousands):
Year
Ended December 31,
Expected Benefits Payments, Net of Participant Contributions
2021
$
i89
2022
i87
2023
i60
2024
i41
2025
i40
2026-2030
i68
$
i385
/
Note 17—iEstimated Fair Values
Fair value is defined under U.S. GAAP as the price that would be received to sell an asset or paid to transfer a liability in an orderly transaction between market participants at the measurement date. A fair value measurement assumes that the transaction to sell the asset or transfer the liability occurs in the principal market for the asset or liability or, in the absence of a principal market, the most advantageous market for the asset or liability. U.S. GAAP establishes a fair value hierarchy and requires
an entity to maximize the use of observable inputs and minimize the use of unobservable inputs when measuring fair value. U.S. GAAP also requires an entity to disclose the level within the fair value hierarchy in which each measurement is classified. The fair value hierarchy prioritizes the inputs used to measure fair value into three broad levels:
Level 1 Inputs — Quoted prices (unadjusted) in active markets for identical assets or liabilities that the reporting entity can access at the measurement date.
Level 2 Inputs — Inputs other than quoted prices included in Level 1 that are observable for the asset or liability, either directly or indirectly. If the asset or liability has a specified (contractual) term, a Level 2 input must be observable for substantially the full term of the asset or liability. Level
2 inputs include the following: (1) quoted prices for similar assets or liabilities in active markets; (2) quoted prices for identical or similar assets or liabilities in markets that are not active or in which little information is released publicly; (3) inputs other than quoted prices that are observable for the asset or liability (e.g., interest rates and yield curves that are observable at commonly quoted intervals and implied volatilities); and (4) inputs that are derived principally from or corroborated by observable market data (e.g., implied spreads).
Level 3 Inputs — Unobservable inputs for the asset or liability that are supported by little or no market activity. None of the Bank’s assets or liabilities that are recorded at fair value on a recurring basis were measured using significant Level 3 inputs.
F-51
For
financial instruments carried at fair value, the Bank reviews the fair value hierarchy classifications on a quarterly basis. Changes in the observability of the valuation inputs may result in a reclassification of certain assets or liabilities. For the years ended December 31, 2020 and 2019, the Bank did not reclassify any fair value measurements.
The following estimated fair value amounts have been determined by the Bank using available market information and management's best judgment of appropriate valuation methods. These estimates are based on pertinent information available to the Bank as of December 31, 2020 and 2019. Although management uses its best judgment in estimating the fair value of these financial instruments,
there are inherent limitations in any estimation technique or valuation methodology. For example, because an active secondary market does not exist for many of the Bank’s financial instruments (e.g., advances, non-agency RMBS and mortgage loans held for portfolio), in certain cases their fair values are not subject to precise quantification or verification. Therefore, the estimated fair values presented below in the Fair Value Summary Tables may not be indicative of the amounts that would have been realized in market transactions at the reporting dates. Further, the fair values do not represent an estimate of the overall market value of the Bank as a going concern, which would take into account future business opportunities.
The valuation techniques used to measure the fair values of the Bank’s financial instruments that are measured at fair value on the statement of condition are described below.
Trading
and available-for-sale securities. To value its U.S. Treasury Notes and U.S. Treasury Bills classified as trading securities and all of its available-for-sale securities, the Bank obtains prices from three designated third-party pricing vendors when available.
The pricing vendors use various proprietary models to price these securities. The inputs to those models are derived from various sources including, but not limited to, benchmark yields, reported trades, dealer estimates, issuer spreads, benchmark securities, bids, offers and other market-related data. Because many securities do not trade on a daily basis, the pricing vendors use available information as applicable such as benchmark curves, benchmarking of like securities, sector groupings and matrix pricing to determine the prices for individual securities. Each pricing vendor has an established challenge process in place for all security valuations,
which facilitates resolution of potentially erroneous prices identified by the Bank.
Recently, the Bank conducted reviews of the three pricing vendors to reconfirm its understanding of the vendors' pricing processes, methodologies and control procedures and was satisfied that those processes, methodologies and control procedures were adequate and appropriate.
A “median” price is first established for each security using a formula that is based upon the number of prices received. If three prices are received, the middle price is the median price; if two prices are received, the average of the two prices is the median price; and if one price is received, it is the median price (and also the final price) subject to some type of validation similar to the evaluation of outliers described below. All prices that are within a specified tolerance threshold of the median price are
included in the “cluster” of prices that are averaged to compute a “default” price. All prices that are outside the threshold (“outliers”) are subject to further analysis (including, but not limited to, comparison to prices provided by an additional third-party valuation service, prices for similar securities, and/or non-binding dealer estimates) to determine if an outlier is a better estimate of fair value. If an outlier (or some other price identified in the analysis) is determined to be a better estimate of fair value, then the outlier (or the other price, as appropriate) is used as the final price rather than the default price. If, on the other hand, the analysis confirms that an outlier (or outliers) is (are) in fact not representative of fair value and the default price is the best estimate, then the default price is used as the final price. In all cases, the final price is used to determine the fair value of the security.
If all prices received for a security are outside the tolerance threshold level of the median price, then there is no default price, and the final price is determined by an evaluation of all outlier prices as described above.
As of December 31, 2020 and 2019, three vendor prices were received for substantially all of the Bank's trading and available-for-sale securities and the final prices for substantially all of those securities were computed by averaging the three prices. Based on the Bank's understanding of the pricing methods employed by the third-party pricing vendors and the relative lack of dispersion among the vendor prices (or, in those instances in which there were outliers, the Bank's additional analyses), the Bank believes its final prices result in reasonable estimates of the fair values
and that the fair value measurements are classified appropriately in the fair value hierarchy.
Derivative assets/liabilities. The fair values of the Bank’s interest rate swap and swaption agreements are estimated using a pricing model with inputs that are observable in the market (e.g., the relevant interest rate curves (that is, the relevant LIBOR swap curve, the SOFR curve or the OIS curve and, for purposes of discounting, either the OIS curve for bilateral contracts or the SOFR curve for cleared contracts) and, for agreements containing options, swaption volatility). The fair values of the Bank’s interest rate caps and floors are also estimated using a pricing model with inputs that are observable in the market (that
is, cap/floor volatility, the relevant LIBOR swap curve and, for purposes of discounting, the OIS curve). Prior to October 2020, the Bank used the OIS curve to discount cash flows when determining the fair values of all of its interest rate exchange
F-52
agreements. As further discussed in Note 2, in October 2020, the central clearinghouses with which the Bank transacts began using the SOFR curve as the discount curve for purposes of valuing interest rate exchange agreements and, as a result, the Bank concurrently replaced the OIS curve with the SOFR curve for purposes of valuing its cleared derivatives. The impact of this change was not significant.
As the collateral (or variation margin in the case of daily settled contracts)
and netting provisions of the Bank’s arrangements with its derivative counterparties significantly reduce the risk from nonperformance (see Note 13), the Bank does not consider its own nonperformance risk or the nonperformance risk associated with each of its counterparties to be a significant factor in the valuation of its derivative assets and liabilities. The Bank compares the fair values obtained from its pricing model to clearinghouse valuations (in the case of cleared derivatives) and non-binding dealer estimates (in the case of bilateral derivatives) and may also compare its fair values to those of similar instruments to ensure that the fair values are reasonable.
The fair values of the Bank’s derivative assets and liabilities include accrued interest receivable/payable and cash collateral remitted to/received from counterparties; the estimated fair values of the accrued interest receivable/payable and cash collateral
approximate their carrying values due to their short-term nature. The fair values of the Bank's bilateral derivatives are netted by counterparty pursuant to the provisions of the credit support annexes to the Bank’s master netting agreements with its non-member bilateral derivative counterparties. The Bank's cleared derivative transactions with each clearing member of each clearinghouse are netted pursuant to the Bank's arrangements with those parties. In each case, if the netted amounts are positive, they are classified as an asset and, if negative, as a liability.
The Bank estimates the fair values of mortgage delivery commitments based upon the prices for to-be-announced ("TBA") securities, which represent quoted market prices for forward-settling agency MBS. The prices are adjusted for differences in coupon, cost to carry, vintage, remittance type and product type between the Bank's mortgage loan commitments and
the referenced TBA MBS.
Other assets held at fair value. To value its mutual fund investments included in other assets, the Bank obtains quoted prices for the mutual funds.
F-53
i
The following table presents the carrying values and estimated fair values of the Bank’s
financial instruments at December 31, 2020 (in thousands), as well as the level within the fair value hierarchy in which the measurements are classified. Financial assets and liabilities are classified in their entirety based on the lowest level input that is significant to the fair value estimate.
FAIR VALUE SUMMARY TABLE
Estimated
Fair Value
Financial Instruments
Carrying Value
Total
Level 1
Level 2
Level 3
Netting Adjustment(4)
Assets:
Cash
and due from banks
$
i3,178,281
$
i3,178,281
$
i3,178,281
$
i—
$
i—
$
—
Interest-bearing
deposits
i759,240
i759,240
i—
i759,240
i—
—
Securities
purchased under agreements to resell
i1,000,000
i1,000,000
i—
i1,000,000
i—
—
Federal
funds sold
i915,000
i915,000
i—
i915,000
i—
—
Trading
securities (1)
i5,301,468
i5,301,468
i—
i5,301,468
i—
—
Available-for-sale
securities (1)
i16,787,762
i16,787,762
i—
i16,787,762
i—
—
Held-to-maturity
securities
i897,226
i908,630
i—
i857,785
(2)
i50,845
(3)
—
Advances
i32,478,944
i32,536,792
i—
i32,536,792
i—
—
Mortgage
loans held for portfolio, net
i3,422,686
i3,503,137
i—
i3,503,137
i—
—
Accrued
interest receivable
i106,322
i106,322
i—
i106,322
i—
—
Derivative
assets (1)
i7,975
i7,975
i—
i37,969
i—
(i29,994)
Other
assets held at fair value (1)
i15,839
i15,839
i15,839
i—
i—
—
Liabilities:
Deposits
i1,583,120
i1,583,131
i—
i1,583,131
i—
—
Consolidated
obligations
Discount notes
i22,171,296
i22,170,858
i—
i22,170,858
i—
—
Bonds
i37,112,721
i37,197,548
i—
i37,197,548
i—
—
Mandatorily
redeemable capital stock
i13,864
i13,864
i13,864
i—
i—
—
Accrued
interest payable
i42,039
i42,039
i—
i42,039
i—
—
Derivative
liabilities (1)
i25,049
i25,049
i—
i510,859
i—
(i485,810)
___________________________
(1)Financial
instruments measured at fair value on a recurring basis as of December 31, 2020.
(2)Consists of the Bank's holdings of U.S. government-guaranteed debentures, state housing agency obligations and GSE RMBS.
(3)Consists of the Bank's holdings of non-agency RMBS.
(4)Amounts represent the impact of legally enforceable master netting agreements or other legally enforceable arrangements between the Bank and its derivative counterparties that allow the Bank to offset positive and negative positions (inclusive of variation margin for daily settled contracts) as well as any cash collateral held or placed with those same counterparties.
/
F-54
The
following table presents the carrying values and estimated fair values of the Bank’s financial instruments at December 31, 2019 (in thousands), as well as the level within the fair value hierarchy in which the measurements are classified. Financial assets and liabilities are classified in their entirety based on the lowest level input that is significant to the fair value estimate.
FAIR VALUE SUMMARY TABLE
Estimated
Fair Value
Financial Instruments
Carrying Value
Total
Level 1
Level 2
Level 3
Netting Adjustment(4)
Assets:
Cash
and due from banks
$
i20,551
$
i20,551
$
i20,551
$
i—
$
i—
$
—
Interest-bearing
deposits
i1,670,249
i1,670,249
i—
i1,670,249
i—
—
Securities
purchased under agreements to resell
i4,310,000
i4,310,000
i—
i4,310,000
i—
—
Federal
funds sold
i4,505,000
i4,505,000
i—
i4,505,000
i—
—
Trading
securities (1)
i5,460,136
i5,460,136
i—
i5,460,136
i—
—
Available-for-sale
securities (1)
i16,766,500
i16,766,500
i—
i16,766,500
i—
—
Held-to-maturity
securities
i1,206,170
i1,215,580
i—
i1,150,175
(2)
i65,405
(3)
—
Advances
i37,117,455
i37,092,230
i—
i37,092,230
i—
—
Mortgage
loans held for portfolio, net
i4,075,464
i4,109,758
i—
i4,109,758
i—
—
Accrued
interest receivable
i154,218
i154,218
i—
i154,218
i—
—
Derivative
assets (1)
i41,271
i41,271
i—
i56,339
i—
(i15,068)
Other
assets held at fair value (1)
i14,222
i14,222
i14,222
i—
i—
—
Liabilities:
Deposits
i1,286,219
i1,286,258
i—
i1,286,258
i—
—
Consolidated
obligations
Discount notes
i34,327,886
i34,325,476
i—
i34,325,476
i—
—
Bonds
i35,745,827
i35,757,691
i—
i35,757,691
i—
—
Mandatorily
redeemable capital stock
i7,140
i7,140
i7,140
i—
i—
—
Accrued
interest payable
i115,350
i115,350
i—
i115,350
i—
—
Derivative
liabilities (1)
i3,855
i3,855
i—
i172,435
i—
(i168,580)
___________________________
(1)Financial
instruments measured at fair value on a recurring basis as of December 31, 2019.
(2)Consists of the Bank's holdings of U.S. government-guaranteed debentures, state housing agency obligations and GSE RMBS.
(3)Consists of the Bank's holdings of non-agency RMBS.
(4)Amounts represent the impact of legally enforceable master netting agreements or other legally enforceable arrangements between the Bank and its derivative counterparties that allow the Bank to offset positive and negative positions (inclusive of variation margin for daily settled contracts) as well as any cash collateral held or placed with those same counterparties.
Note 18—iCommitments and Contingencies
Joint and several liability. As described in Note 11, the Bank is jointly and severally liable with the other 10 FHLBanks for the payment of principal and interest on all of the consolidated obligations issued by the FHLBanks. At December 31, 2020 and 2019, the par amounts of the other
10 FHLBanks’ outstanding consolidated obligations totaled $i688 billion and $i956 billion, respectively. The Finance Agency, in its discretion, may require any FHLBank to make principal or interest payments due on any consolidated obligation, regardless of
whether there has been a default by a FHLBank having primary liability. To the extent that a FHLBank makes any consolidated obligation payment on behalf of another FHLBank, the paying FHLBank is entitled to reimbursement from the FHLBank with primary liability. However, if the Finance Agency determines that the primary obligor is unable to satisfy its obligations, then the Finance Agency may allocate the outstanding liability among the remaining FHLBanks on a pro rata basis in proportion to each FHLBank’s participation in all consolidated obligations outstanding, or on any other basis that the Finance Agency may determine. No FHLBank has ever failed to make any payment on a consolidated obligation for which it was the primary obligor; as a result, the regulatory provisions for directing other
F-55
FHLBanks
to make payments on behalf of another FHLBank or allocating the liability among other FHLBanks have never been invoked.
The joint and several obligations are mandated by Finance Agency regulations and are not the result of arms-length transactions among the FHLBanks. As described above, the FHLBanks have no control over the amount of the guaranty or the determination of how each FHLBank would perform under the joint and several liability. If the Bank expected that it would be required to pay any amounts on behalf of its co-obligors under its joint and several liability, the Bank would charge to income the amount of the expected payment. Based upon the creditworthiness of the other FHLBanks, the Bank currently believes that the likelihood that it would have to pay any amounts beyond those for which it is primarily liable is remote.
Other commitments and contingencies.
At December 31, 2020 and 2019, the Bank had commitments to make additional advances totaling approximately $i7,161,000 and $i19,397,000,
respectively. At December 31, 2020, $i6,113,000 of the outstanding commitments to make additional advances expire in 2021 and the remainder expire in 2022.
The Bank issues standby letters of credit for a fee on behalf of its members. Standby letters of credit serve as performance guarantees. If the Bank is required to make payment for a beneficiary’s draw on the letter of credit, the
amount funded is converted into a collateralized advance to the member. Letters of credit are fully collateralized in the same manner as advances (see Note 6). Outstanding standby letters of credit totaled $i22,402,688,000 and $i21,781,829,000
at December 31, 2020 and 2019, respectively. At December 31, 2020, outstanding letters of credit had original terms of up to i15 years with a final expiration in i2035.
Unearned fees on standby letters of credit are recorded in other liabilities and totaled $i5,621,000 and $i5,518,000 at December
31, 2020 and 2019, respectively. Based on management’s credit analyses and collateral requirements, the Bank does not deem it necessary to have any provision for credit losses on these letters of credit (see Note 9).
The Bank has entered into standby bond purchase agreements with a state housing finance agency within its district whereby, for a fee, the Bank agrees to serve as a standby liquidity provider. If required, the Bank will purchase and hold the housing finance agency's bonds until the designated marketing agent can find a suitable investor or the housing finance agency repurchases the bonds according to a schedule established by the agreement. Each standby bond purchase agreement includes the provisions under which the Bank would be required to purchase the bonds. At December 31, 2020 and 2019,
the Bank had outstanding standby bond purchase agreements totaling $i709,300,000 and $i484,872,000,
respectively. At December 31, 2020, standby bond purchase agreements totaling $i175,428,000, $i231,095,000,
$i51,277,000 and $i251,500,000
expire in 2022, 2023, 2024 and 2025, respectively. The Bank was not required to purchase any bonds under these agreements during the years ended December 31, 2020 or 2019.
At December 31, 2020 and 2019, the Bank had commitments to purchase conventional mortgage loans totaling $i21,569,000 and $i31,765,000,
respectively, from certain of its PFIs.
At December 31, 2019, the Bank had commitments to issue $i115,000,000 (par value) of consolidated obligation bonds, all of which were hedged with interest rate swaps. The Bank did not have any commitments to issue consolidated obligation bonds at December 31, 2020. In addition, at December
31, 2020 and 2019, the Bank had commitments to issue $i521,760,000 and $i679,510,000
(par value), respectively, of consolidated obligation discount notes, none of which were hedged.
The Bank has transacted interest rate exchange agreements with large financial institutions and third-party clearinghouses that are subject to collateral exchange arrangements. As of December 31, 2020 and 2019, the Bank had pledged cash collateral of $i466,068,000 and $i156,676,000,
respectively, to those parties that had credit risk exposure to the Bank related to interest rate exchange agreements. The pledged cash collateral (i.e., interest-bearing deposit asset) is netted against derivative assets and liabilities in the statements of condition. In addition, as of December 31, 2020 and 2019, the Bank had pledged securities with carrying values (and fair values) of $i737,500,000 and $i842,256,000,
respectively, to parties that had credit risk exposure to the Bank related to interest rate exchange agreements. The pledged securities may be rehypothecated and are not netted against derivative assets and liabilities in the statement of condition.
i
During the years ended December 31, 2020, 2019 and 2018, the Bank charged to operating expenses net rental costs
of approximately $i388,000, $i360,000 and $i329,000,
respectively. Future minimum rentals at December 31, 2020 were as follows (in thousands):
Year
Premises
Equipment
Total
2021
$
i471
$
i32
$
i503
2022
i420
i—
i420
2023
i432
i—
i432
2024
i293
i—
i293
2025
i258
i—
i258
Thereafter
i1,180
i—
i1,180
Total
$
i3,054
$
i32
$
i3,086
/
F-56
Lease
agreements for Bank premises generally provide for increases in the base rentals resulting from increases in property taxes and maintenance expenses. These increases are not expected to have a material effect on the Bank.
i
The Bank has entered into certain lease agreements to rent space to outside parties in its building. Future minimum rentals under these operating leases at December 31, 2020 were as follows (in thousands):
Year
Total
2021
$
i1,009
2022
i236
2023
i106
2024
i5
Total
$
i1,356
/
In
the ordinary course of its business, the Bank is subject to the risk that litigation may arise. Currently, the Bank is not a party to any material pending legal proceedings.
For a discussion of other commitments and contingencies, see Notes 12, 13 and 16.
Note 19 — iTransactions with Shareholders
As
a cooperative, the Bank’s capital stock is owned by its members, by former members that retain the stock as provided in the Bank’s Capital Plan or by non-member institutions that have acquired members and must retain the stock to support advances or other activities with the Bank. No shareholder owns more than 10% of the voting interests of the Bank due to statutory limits on members’ voting rights. As of December 31, 2020, nine of the Bank’s directors were member directors. By law, member directors must be officers or directors of a member of the Bank.
Substantially all of the Bank’s advances are made to its shareholders (while eligible to borrow from the Bank, housing associates are not required or allowed to hold capital stock). In addition, substantially all of its mortgage loans held for portfolio were purchased from certain of its shareholders. The Bank maintains demand
deposit accounts for shareholders primarily as an investment alternative for their excess cash and to facilitate settlement activities that are directly related to advances. As an additional service to members, the Bank also offers term deposit accounts. Further, the Bank offers interest rate swaps, caps and floors to its members. Periodically, the Bank may sell (or purchase) federal funds to (or from) shareholders and/or their affiliates. These transactions are executed on terms that are the same as those with other eligible third-party market participants, except that the Bank’s underwriting guidelines specify a lower minimum threshold for the amount of capital that members must have to be an eligible federal funds counterparty than non-members. The Bank has never held any direct equity investments in its shareholders or their affiliates.
Affiliates of two of the Bank’s derivative counterparties (Citigroup and Wells Fargo)
acquired member institutions on March 31, 2005 and October 1, 2006, respectively. Since the acquisitions were completed, the Bank has continued to enter into interest rate exchange agreements with Citigroup and Wells Fargo in the normal course of business and under the same terms and conditions as before. In addition, the Bank maintains interest-bearing deposits with affiliates of Citigroup and Wells Fargo. Effective October 1, 2006, Citigroup terminated the Ninth District charter of the affiliate that acquired the member institution and, as a result, an affiliate of Citigroup became a non-member shareholder of the Bank. The Bank repurchased all of the affiliate's outstanding capital stock in 2019; accordingly, the affiliate of Citigroup is no longer a shareholder of the Bank.
The
Bank did not purchase any debt or equity securities issued by any of its shareholders or their affiliates during the years ended December 31, 2020, 2019 or 2018.
All transactions with shareholders are entered into in the ordinary course of business. The Bank provides the same pricing for advances and other services to all similarly situated members regardless of asset or transaction size, charter type, or geographic location.
The Bank provides, in the ordinary course of its business, products and services to members whose officers or directors may serve as directors of the Bank (“Directors’ Financial Institutions”). Finance Agency regulations require that transactions with Directors’ Financial Institutions be made on the same terms as those with any other member. As of December
31, 2020 and 2019, advances outstanding to Directors’ Financial Institutions aggregated $i1,108,011,000 and $i1,044,633,000,
respectively, representing i3.5 percent and i2.8
percent, respectively, of the Bank’s total outstanding advances as of those dates. The Bank did not acquire any mortgage loans from Directors’ Financial Institutions during the years ended December 31, 2020, 2019 or 2018. As of December 31, 2020 and 2019, capital stock outstanding to Directors’ Financial Institutions aggregated $i51,313,000 and $i72,789,000,
respectively, representing i2.4 percent and i2.9 percent of the Bank’s outstanding capital stock at each of those
F-57
dates.
For purposes of this determination, the Bank’s outstanding capital stock includes those shares that are classified as mandatorily redeemable.
Note 20 — iTransactions with Other FHLBanks
Occasionally, the Bank loans (or borrows) short-term federal funds to (from) other FHLBanks. The Bank did not loan any short-term federal funds to other FLHBanks
during the years ended December 31, 2020 or 2018. During the year ended December 31, 2019, interest income on loans to other FHLBanks totaled $i20,000; this amount is reported as interest income from federal funds sold in the statement of income. iThe
following table summarizes the Bank’s loans to other FHLBanks during the year ended December 31, 2019 (in thousands).
During the years ended December 31, 2020, 2019 and 2018, interest expense on borrowings from other FHLBanks totaled $i506,
$i109,000 and $i76,000, respectively. iThe
following table summarizes the Bank’s borrowings from other FHLBanks during the years ended December 31, 2020, 2019 and 2018 (in thousands).
The
Bank has, from time to time, assumed the outstanding debt of another FHLBank rather than issue new debt. In connection with these transactions, the Bank becomes the primary obligor for the transferred debt. The Bank did not assume any debt from other FHLBanks during the years ended December 31, 2020, 2019 or 2018. When they occur, the Bank accounts for these transfers in the same manner as it accounts for new debt issuances (see Note 1).
Occasionally, the Bank transfers debt that it no longer needs to other FHLBanks. In connection with these transactions, the assuming FHLBanks become the primary obligors for the transferred debt. The Bank did not transfer any debt to other FHLBanks during the years ended December 31, 2020, 2019
or 2018.
F-58
Note 21 — iAccumulated Other Comprehensive Income (Loss)
i
The
following table presents the changes in the components of AOCI for the years ended December 31, 2020, 2019 and 2018 (in thousands).
Net
Unrealized
Gains (Losses) on
Available-for-Sale
Securities (1)
Net Unrealized Gains (Losses) on Cash Flow Hedges
Non-Credit Portion of Other-than-Temporary Impairment Losses on Held-to-Maturity Securities
(1) Net
unrealized gains (losses) on available-for-sale securities are net of unrealized gains and losses relating to hedged interest rate risk included in net income.
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