Attached files

file filename
EX-31.3 - EXHIBIT 31.3 CFO/COO 302 CERTIFICATION - Federal Home Loan Bank of Des Moinesexhibit313september302015.htm
EX-31.2 - EXHIBIT 31.2 CEO 302 CERTIFICATION - Federal Home Loan Bank of Des Moinesexhibit312september302015.htm
EX-31.1 - EXHIBIT 31.1 PRESIDENT 302 CERTIFICATION - Federal Home Loan Bank of Des Moinesexhibit311september302015.htm
EX-32.2 - EXHIBIT 32.2 CEO 906 CERTIFICATION - Federal Home Loan Bank of Des Moinesexhibit322september302015.htm
EX-32.3 - EXHIBIT 32.3 CFO/COO 906 CERTIFICATION - Federal Home Loan Bank of Des Moinesexhibit323september302015.htm
EX-32.1 - EXHIBIT 32.1 PRESIDENT 906 CERTIFICATION - Federal Home Loan Bank of Des Moinesexhibit321september302015.htm
 
 
 
 
 
UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-Q
 
 
x
 
QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
 

For the quarterly period ended September 30, 2015
OR
 
o
 
TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
 

Commission File Number: 000-51999
 

FEDERAL HOME LOAN BANK OF DES MOINES
(Exact name of registrant as specified in its charter)
 
Federally chartered corporation
(State or other jurisdiction of incorporation or organization)
 
42-6000149
(I.R.S. employer identification number)
 
 
 
 
 
 
 
Skywalk Level
801 Walnut Street, Suite 200
Des Moines, IA
(Address of principal executive offices)
 


50309
(Zip code)
 

Registrant's telephone number, including area code: (515) 281-1000
 

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.
x Yes o No
Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T (section 232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files).
x Yes o No
Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, or a smaller reporting company. See the definitions of large accelerated filer, accelerated filer and smaller reporting company in Rule 12b-2 of the Exchange Act.
Large accelerated filer o
 
Accelerated filer o
 
Non-accelerated filer x
 
Smaller reporting company o

Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act).

o Yes x No
Indicate the number of shares outstanding of each of the issuer's classes of common stock, as of the latest practicable date.
 
 
Shares outstanding as of October 31, 2015
 
Class B Stock, par value $100
 
41,897,735
 
 
 
 
 
 
 
 
 




Table of Contents
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Note 2 - Merger
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Note 16 - Activities with Stockholders
 
 
 
 
 
 
Note 17 - Activities with Other FHLBanks
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 



PART I - FINANCIAL INFORMATION

ITEM 1. FINANCIAL STATEMENTS (UNAUDITED)

FEDERAL HOME LOAN BANK OF DES MOINES
STATEMENTS OF CONDITION
(dollars and shares in thousands, except capital stock par value)
(Unaudited)
 
 
September 30,
2015
 
December 31,
2014
ASSETS
 
 
 
 
Cash and due from banks
 
$
765,478

 
$
495,197

Interest-bearing deposits
 
1,943

 
1,942

Securities purchased under agreements to resell
 
5,000,000

 
5,091,000

Federal funds sold
 
2,180,000

 
1,860,000

Investment securities
 
 
 
 
Trading securities (Note 4)
 
2,572,725

 
2,530,490

Available-for-sale securities (Note 5)
 
21,755,407

 
12,383,792

Held-to-maturity securities (fair value of $6,485,530 and $1,299,048) (Note 6)
 
6,400,683

 
1,211,460

Total investment securities
 
30,728,815

 
16,125,742

Advances (includes $7,981 and $0 at fair value under the fair value option) (Note 8)
 
74,484,088

 
65,168,274

Mortgage loans held for portfolio, net
 
 
 
 
Mortgage loans held for portfolio (Note 9)
 
6,879,410

 
6,567,369

Allowance for credit losses on mortgage loans (Note 10)
 
(1,252
)
 
(4,900
)
Total mortgage loans held for portfolio, net
 
6,878,158

 
6,562,469

Accrued interest receivable
 
130,590

 
84,440

Premises, software, and equipment, net
 
22,485

 
18,794

Derivative assets, net (Note 11)
 
116,251

 
80,112

Other assets
 
52,514

 
35,975

TOTAL ASSETS
 
$
120,360,322

 
$
95,523,945

LIABILITIES
 
 
 
 
Deposits
 
 
 
 
Interest-bearing
 
$
936,265

 
$
417,348

Non-interest-bearing
 
69,735

 
95,210

Total deposits
 
1,006,000

 
512,558

Consolidated obligations (Note 12)
 
 
 
 
Discount notes (includes $1,999,966 and $0 at fair value under the fair value option)
 
77,246,870

 
57,772,890

Bonds (includes $1,581,583 and $0 at fair value under the fair value option)
 
36,488,058

 
32,362,110

Total consolidated obligations
 
113,734,928

 
90,135,000

Mandatorily redeemable capital stock (Note 13)
 
105,916

 
24,367

Accrued interest payable
 
148,830

 
89,509

Affordable Housing Program payable
 
60,727

 
41,232

Derivative liabilities, net (Note 11)
 
127,750

 
76,632

Other liabilities
 
57,849

 
332,499

TOTAL LIABILITIES
 
115,242,000

 
91,211,797

Commitments and contingencies (Note 15)
 

 

CAPITAL (Note 13)
 
 
 
 
Capital stock - Class B putable ($100 par value); 41,260 and 34,685 issued and outstanding shares
 
4,126,027

 
3,468,503

Additional capital from merger
 
220,581

 

Retained earnings
 
 
 
 
Unrestricted
 
675,255

 
645,434

Restricted
 
95,050

 
74,989

Total retained earnings
 
770,305

 
720,423

Accumulated other comprehensive income
 
1,409

 
123,222

TOTAL CAPITAL
 
5,118,322

 
4,312,148

TOTAL LIABILITIES AND CAPITAL
 
$
120,360,322

 
$
95,523,945

The accompanying notes are an integral part of these financial statements.

3


FEDERAL HOME LOAN BANK OF DES MOINES
STATEMENTS OF INCOME
(dollars in thousands)
(Unaudited)

 
 
For the Three Months Ended
 
For the Nine Months Ended
 
 
September 30,
 
September 30,
 
 
2015
 
2014
 
2015
 
2014
INTEREST INCOME
 
 
 
 
 
 
 
 
Advances
 
$
80,371

 
$
59,662

 
$
209,628

 
$
166,525

Prepayment fees on advances, net
 
283

 
(401
)
 
9,323

 
2,983

Interest-bearing deposits
 
160

 
65

 
418

 
174

Securities purchased under agreements to resell
 
1,674

 
1,251

 
4,329

 
2,868

Federal funds sold
 
1,333

 
737

 
3,620

 
1,533

Trading securities
 
9,353

 
8,231

 
26,997

 
24,714

Available-for-sale securities
 
48,072

 
27,531

 
115,369

 
74,790

Held-to-maturity securities
 
18,916

 
10,253

 
39,563

 
33,892

Mortgage loans held for portfolio
 
62,789

 
60,584

 
182,369

 
184,167

Total interest income
 
222,951

 
167,913

 
591,616

 
491,646

INTEREST EXPENSE
 
 
 
 
 
 
 
 
Consolidated obligations - Discount notes
 
22,928

 
12,314

 
52,628

 
31,705

Consolidated obligations - Bonds
 
111,511

 
91,607

 
301,636

 
283,102

Deposits
 
92

 
13

 
146

 
55

Borrowings from other FHLBanks
 

 

 
1

 
1

Mandatorily redeemable capital stock
 
982

 
43

 
1,614

 
134

Total interest expense
 
135,513

 
103,977

 
356,025

 
314,997

NET INTEREST INCOME
 
87,438

 
63,936

 
235,591

 
176,649

Provision (reversal) for credit losses on mortgage loans
 
469

 
(1,412
)
 
1,367

 
(1,746
)
NET INTEREST INCOME AFTER PROVISION (REVERSAL) FOR CREDIT LOSSES
 
86,969

 
65,348

 
234,224

 
178,395

OTHER INCOME (LOSS)
 
 
 
 
 
 
 
 
Net gains (losses) on trading securities
 
16,814

 
641

 
8,588

 
47,175

Net gains (losses) from sale of available-for-sale securities
 

 

 

 
826

Net gains (losses) from sale of held-to-maturity securities
 

 
6,404

 

 
8,887

Net gains (losses) on financial instruments held at fair value
 
461

 

 
71

 
2

Net gains (losses) on derivatives and hedging activities
 
(43,602
)
 
(16,833
)
 
(38,767
)
 
(78,793
)
Net gains (losses) on extinguishment of debt
 

 
(9,915
)
 

 
(12,651
)
Gains on litigation settlements, net
 
12,500

 

 
12,500

 

Other, net
 
2,070

 
1,645

 
2,942

 
5,289

Total other income (loss)
 
(11,757
)
 
(18,058
)
 
(14,666
)
 
(29,265
)
OTHER EXPENSE
 
 
 
 
 
 
 
 
Compensation and benefits
 
12,439

 
8,663

 
33,939

 
24,267

Contractual services
 
3,830

 
1,136

 
8,454

 
4,995

Professional fees
 
4,531

 
1,090

 
6,436

 
2,767

Merger related expenses
 
2,767

 
732

 
38,119

 
732

Other operating expenses
 
4,178

 
2,325

 
10,111

 
6,895

Federal Housing Finance Agency
 
1,930

 
720

 
5,030

 
2,377

Office of Finance
 
1,372

 
1,036

 
3,758

 
2,797

Other, net
 
797

 
2,049

 
2,083

 
3,633

Total other expense
 
31,844

 
17,751

 
107,930

 
48,463

NET INCOME BEFORE ASSESSMENTS
 
43,368

 
29,539

 
111,628

 
100,667

Affordable Housing Program assessments
 
4,434

 
2,959

 
11,324

 
10,081

NET INCOME
 
$
38,934

 
$
26,580

 
$
100,304

 
$
90,586

The accompanying notes are an integral part of these financial statements.

4



FEDERAL HOME LOAN BANK OF DES MOINES
STATEMENTS OF COMPREHENSIVE INCOME
(dollars in thousands)
(Unaudited)

 
 
For the Three Months Ended
 
For the Nine Months Ended
 
 
September 30,
 
September 30,
 
 
2015
 
2014
 
2015
 
2014
Net income
 
$
38,934

 
$
26,580

 
$
100,304

 
$
90,586

Other comprehensive income (loss)
 
 
 
 
 
 
 
 
Net unrealized gains (losses) on available-for-sale securities
 
 
 
 
 
 
 
 
Unrealized gains (losses)
 
(119,929
)
 
17,531

 
(122,289
)
 
65,190

Reclassification of realized net gains included in net income
 

 

 

 
(826
)
Total net unrealized gains (losses) on available-for-sale securities
 
(119,929
)
 
17,531

 
(122,289
)
 
64,364

Pension and postretirement benefits
 
92

 
98

 
476

 
187

Total other comprehensive income (loss)
 
(119,837
)
 
17,629

 
(121,813
)
 
64,551

TOTAL COMPREHENSIVE INCOME (LOSS)
 
$
(80,903
)
 
$
44,209

 
$
(21,509
)
 
$
155,137

The accompanying notes are an integral part of these financial statements.




5


FEDERAL HOME LOAN BANK OF DES MOINES
STATEMENTS OF CAPITAL
(dollars and shares in thousands)
(Unaudited)

 
 
Capital Stock Class A (putable)
 
Capital Stock Class B (putable)
 
Total Capital Stock
 
 
Shares
 
Par Value
 
Shares
 
Par Value
 
Shares
 
Par Value
BALANCE, DECEMBER 31, 2013
 

 
$

 
26,916

 
$
2,691,568

 
26,916

 
$
2,691,568

Proceeds from issuance of capital stock
 

 

 
20,293

 
2,029,303

 
20,293

 
2,029,303

Repurchases/redemptions of capital stock
 

 

 
(12,607
)
 
(1,260,698
)
 
(12,607
)
 
(1,260,698
)
Net shares reclassified (to) from mandatorily redeemable capital stock
 

 

 
(45
)
 
(4,444
)
 
(45
)
 
(4,444
)
Comprehensive income (loss)
 

 

 

 

 

 

Cash dividends on capital stock
 

 

 

 

 

 

BALANCE, SEPTEMBER 30, 2014
 

 
$

 
34,557

 
$
3,455,729

 
34,557

 
$
3,455,729

 
 
 
 
 
 
 
 
 
 
 
 
 
BALANCE, DECEMBER 31, 2014
 

 
$

 
34,685

 
$
3,468,503

 
34,685

 
$
3,468,503

Proceeds from issuance of capital stock
 

 

 
22,345

 
2,234,472

 
22,345

 
2,234,472

Capital stock issued from merger
 
313

 
31,340

 
8,631

 
863,055

 
8,944

 
894,395

Repurchases/redemptions of capital stock
 
(313
)
 
(31,340
)
 
(25,152
)
 
(2,515,136
)
 
(25,465
)
 
(2,546,476
)
Net shares reclassified (to) from mandatorily redeemable capital stock
 

 

 
751

 
75,133

 
751

 
75,133

Additional capital from merger
 

 

 

 

 

 

Comprehensive income (loss)
 

 

 

 

 

 

Cash dividends on capital stock
 

 

 

 

 

 

BALANCE, SEPTEMBER 30, 2015
 

 
$

 
41,260

 
$
4,126,027

 
41,260

 
$
4,126,027

The accompanying notes are an integral part of these financial statements.





























6




FEDERAL HOME LOAN BANK OF DES MOINES
STATEMENTS OF CAPITAL (continued from previous page)
(dollars and shares in thousands)
(Unaudited)

 
 
Additional Capital from Merger
 
Retained Earnings
 
Accumulated Other Comprehensive Income
 
Total
Capital
 
 
 
Unrestricted
 
Restricted
 
Total
 
 
BALANCE, DECEMBER 31, 2013
 
$

 
$
627,473

 
$
50,782

 
$
678,255

 
$
87,044

 
$
3,456,867

Proceeds from issuance of capital stock
 

 

 

 

 

 
2,029,303

Repurchases/redemptions of capital stock
 

 

 

 

 

 
(1,260,698
)
Net shares reclassified (to) from mandatorily redeemable capital stock
 

 

 

 

 

 
(4,444
)
Comprehensive income (loss)
 

 
72,468

 
18,118

 
90,586

 
64,551

 
155,137

Cash dividends on capital stock
 

 
(56,635
)
 

 
(56,635
)
 

 
(56,635
)
BALANCE, SEPTEMBER 30, 2014
 
$

 
$
643,306

 
$
68,900

 
$
712,206

 
$
151,595

 
$
4,319,530

 
 
 
 
 
 
 
 
 
 
 
 
 
BALANCE, DECEMBER 31, 2014
 
$

 
$
645,434

 
$
74,989

 
$
720,423

 
$
123,222

 
$
4,312,148

Proceeds from issuance of capital stock
 

 

 

 

 

 
2,234,472

Capital stock issued from merger
 

 

 

 

 

 
894,395

Repurchases/redemptions of capital stock
 

 

 

 

 

 
(2,546,476
)
Net shares reclassified (to) from mandatorily redeemable capital stock
 

 

 

 

 

 
75,133

Additional capital from merger
 
246,462

 

 

 

 

 
246,462

Comprehensive income (loss)
 

 
80,243

 
20,061

 
100,304

 
(121,813
)
 
(21,509
)
Cash dividends on capital stock
 
(25,881
)
 
(50,422
)
 

 
(50,422
)
 

 
(76,303
)
BALANCE, SEPTEMBER 30, 2015
 
$
220,581

 
$
675,255

 
$
95,050

 
$
770,305

 
$
1,409

 
$
5,118,322

The accompanying notes are an integral part of these financial statements.


7


FEDERAL HOME LOAN BANK OF DES MOINES
STATEMENTS OF CASH FLOWS
(dollars in thousands)
(Unaudited)

 
 
For the Nine Months Ended
 
 
September 30,
 
 
2015
 
2014
OPERATING ACTIVITIES
 
 
 
 
Net income
 
$
100,304

 
$
90,586

Adjustments to reconcile net income to net cash provided by (used in) operating activities
 
 
 
 
Depreciation and amortization
 
25,243

 
10,742

Net (gains) losses on trading securities
 
(8,588
)
 
(47,175
)
Net (gains) losses from sale of available-for-sale securities
 

 
(826
)
Net (gains) losses from sale of held-to-maturity securities
 

 
(8,887
)
Net (gains) losses on financial instruments held at fair value
 
(71
)
 
(2
)
Net change in derivatives and hedging activities
 
(611
)
 
58,227

Net (gains) losses on extinguishment of debt
 

 
12,651

Other adjustments
 
1,199

 
(4,226
)
Net change in:
 
 
 
 
Accrued interest receivable
 
(10,074
)
 
(16,124
)
Other assets
 
(3,574
)
 
2,882

Accrued interest payable
 
20,914

 
20,748

Other liabilities
 
(9,479
)
 
4,605

Total adjustments
 
14,959

 
32,615

Net cash provided by (used in) operating activities
 
115,263

 
123,201

INVESTING ACTIVITIES
 
 
 
 
Net change in:
 
 
 
 
Interest-bearing deposits
 
(155,471
)
 
(50,079
)
Securities purchased under agreements to resell
 
91,000

 
6,140,000

Federal funds sold
 
(320,000
)
 
(1,435,000
)
Premises, software, and equipment
 
(5,402
)
 
(2,645
)
Cash transferred for merger
 
2,341,201

 

Trading securities
 
 
 
 
Proceeds from maturities of long-term
 
519,126

 
18,800

Available-for-sale securities
 
 
 
 
Proceeds from sales and maturities of long-term
 
1,316,663

 
905,699

Purchases of long-term
 
(1,108,162
)
 
(3,749,223
)
Held-to-maturity securities
 
 
 
 
Proceeds from sales and maturities of long-term
 
723,795

 
460,307

Purchases of long-term
 
(88,805
)
 

Advances
 
 
 
 
Principal collected
 
88,353,644

 
66,484,479

Originated
 
(88,454,466
)
 
(85,144,126
)
Mortgage loans held for portfolio
 
 
 
 
Principal collected
 
930,807

 
657,185

Originated or purchased
 
(652,282
)
 
(635,972
)
Proceeds from sales of foreclosed assets
 
10,254

 
12,498

Net cash provided by (used in) investing activities
 
3,501,902

 
(16,338,077
)
The accompanying notes are an integral part of these financial statements.

8


FEDERAL HOME LOAN BANK OF DES MOINES
STATEMENTS OF CASH FLOWS (continued from previous page)
(dollars in thousands)
(Unaudited)

 
 
For the Nine Months Ended
 
 
September 30,
 
 
2015
 
2014
FINANCING ACTIVITIES
 
 
 
 
Net change in deposits
 
122,728

 
(297,163
)
Net payments on derivative contracts with financing elements
 
(5,872
)
 
(6,022
)
Net proceeds from issuance of consolidated obligations
 
 
 
 
Discount notes
 
198,088,318

 
159,080,542

Bonds
 
15,564,414

 
21,536,831

Payments for maturing and retiring consolidated obligations
 
 
 
 
Discount notes
 
(191,073,337
)
 
(134,416,372
)
Bonds
 
(25,086,683
)
 
(21,360,910
)
Proceeds from issuance of capital stock
 
2,234,472

 
2,029,303

Payments for repurchases/redemptions of capital stock
 
(2,546,476
)
 
(1,260,698
)
Net payments for repurchases/redemptions of mandatorily redeemable capital stock
 
(568,145
)
 
(4,763
)
Cash dividends paid
 
(76,303
)
 
(56,635
)
Net cash provided by (used in) financing activities
 
(3,346,884
)
 
25,244,113

Net increase (decrease) in cash and due from banks
 
270,281

 
9,029,237

Cash and due from banks at beginning of the period
 
495,197

 
448,278

Cash and due from banks at end of the period
 
$
765,478

 
$
9,477,515

 
 
 
 
 
SUPPLEMENTAL DISCLOSURES
 
 
 
 
Cash Transactions:
 
 
 
 
Interest paid
 
$
798,304

 
$
602,319

Affordable Housing Program payments
 
8,957

 
6,369

Non-Cash Transactions:
 
 
 
 
Capitalized interest on reverse mortgage securities
 
11,430

 
2,583

Mortgage loan charge-offs
 
5,421

 
654

Transfers of mortgage loans to real estate owned
 
6,463

 
7,221

Capital stock issued from merger
 
894,395

 

Assets acquired (liabilities assumed) from merger:
 
 
 
 
Interest-bearing deposits
 
202

 

Trading securities
 
550,473

 

Available-for-sale securities
 
9,825,223

 

Held-to-maturity securities
 
5,829,043

 

Advances
 
9,190,741

 

Mortgage loans held for portfolio
 
614,829

 

Accrued interest receivable
 
47,570

 

Premises, software, and equipment
 
3,239

 

Derivative assets
 
39,777

 

Other assets
 
22,412

 

Deposits
 
(370,814
)
 

Consolidated obligation discount notes
 
(12,448,960
)
 

Consolidated obligation bonds
 
(13,613,400
)
 

Mandatorily redeemable capital stock
 
(724,827
)
 

Accrued interest payable
 
(38,198
)
 

Affordable Housing Program payable
 
(17,128
)
 

Derivative liabilities
 
(74,110
)
 

Other liabilities
 
(36,415
)
 

The accompanying notes are an integral part of these financial statements.


9


FEDERAL HOME LOAN BANK OF DES MOINES
CONDENSED NOTES TO THE UNAUDITED FINANCIAL STATEMENTS

Background Information

The Federal Home Loan Bank of Des Moines (the Bank or the Des Moines Bank) is a federally chartered corporation organized on October 31, 1932, that is exempt from all federal, state, and local taxation (except real property taxes) and is one of 11 district Federal Home Loan Banks (FHLBanks). The FHLBanks were created under the authority of the Federal Home Loan Bank Act of 1932 (FHLBank Act). With the passage of the Housing and Economic Recovery Act of 2008 (Housing Act), the Federal Housing Finance Agency (Finance Agency) was established and became the new independent federal regulator of Federal National Mortgage Association (Fannie Mae) and Federal Home Loan Mortgage Corporation (Freddie Mac) (collectively, Enterprises), as well as the FHLBanks and FHLBanks' Office of Finance, effective July 30, 2008. The Finance Agency's mission is to ensure that the Enterprises and 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. The Finance Agency establishes policies and regulations governing the operations of the Enterprises and FHLBanks. Each FHLBank operates as a separate entity with its own management, employees, and board of directors.

The FHLBanks are government-sponsored enterprises (GSEs) that serve the public by enhancing the availability of funds for residential mortgages and targeted community development. The Bank provides a readily available source of funding to its member institutions and eligible housing associates. Commercial banks, thrifts, credit unions, insurance companies, and community development financial institutions (CDFIs) may apply for membership. State and local housing associates 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 permitted to hold capital stock.

The Bank is a cooperative. This means the Bank is owned by its customers, whom the Bank calls members. As a condition of membership in the Bank, all members must purchase and maintain membership capital stock based on a percentage of their total assets as of the preceding December 31st. Each member is also required to purchase and maintain activity-based capital stock to support certain business activities with the Bank.

The Bank's current members own nearly all of the outstanding capital stock of the Bank. Former members own the remaining capital stock, included in mandatorily redeemable capital stock, to support business transactions still carried on the Bank's Statements of Condition. All stockholders, including current and former members, may receive dividends on their capital stock investment to the extent declared by the Bank's Board of Directors.

MERGER

On June 1, 2015, the Bank announced the successful completion of the merger with the Federal Home Loan Bank of Seattle (Seattle Bank), (the Merger), pursuant to the definitive merger agreement (Merger Agreement) dated September 25, 2014. The Merger closed on May 31, 2015 and the two Banks were operational as one Bank, the Federal Home Loan Bank of Des Moines (the combined Bank), on June 1, 2015.
The combined Bank remains a member-owned and member-centric cooperative, focused on helping its members strengthen their institutions to better serve their customers and communities. It now provides funding solutions and liquidity to nearly 1,500 member financial institutions in Alaska, Hawaii, Idaho, Iowa, Minnesota, Missouri, Montana, North Dakota, Oregon, South Dakota, Utah, Washington, Wyoming, and the U.S. Pacific territories of American Samoa, Guam, and the Commonwealth of the Northern Mariana Islands. The headquarters remain in Des Moines with a western regional office in Seattle. For additional discussion on the Merger, refer to "Note 2 — Merger".


10


Note 1 — Basis of Presentation

The accompanying unaudited financial statements have been prepared in accordance with accounting principles generally accepted in the United States of America (GAAP) for interim financial information. Accordingly, they do not include all of the disclosures required by GAAP for annual financial statements and should be read in conjunction with the audited financial statements for the year ended December 31, 2014, which are contained in the Bank's 2014 Annual Report on Form 10-K filed with the SEC on March 6, 2015 (2014 Form 10-K).

In the opinion of management, the unaudited financial information is complete and reflects all adjustments, consisting of normal recurring adjustments, necessary for a fair statement of results for the interim periods. The preparation of financial statements in accordance with GAAP requires management to make assumptions and estimates that affect the amounts reported in the financial statements and accompanying notes. Actual results could differ from these estimates. The results of operations for interim periods are not necessarily indicative of the results to be expected for the full year ending December 31, 2015.

The operations of the merged Seattle Bank have been included in the Bank's financial statements since June 1, 2015. The Merger had a significant impact on all aspects of the Bank's financial condition, results of operations, and cash flows. As a result, financial results for the current period are not directly comparable to financial results prior to the Merger. For additional information on the Merger, refer to "Note 2 — Merger".

RECLASSIFICATIONS

Certain amounts in the Bank's 2014 financial statements and footnotes have been reclassified to conform to the presentation for the three and nine months ended September 30, 2015.

REVISIONS TO SECOND QUARTER 2015 FINANCIAL STATEMENTS

 During the third quarter of 2015, the Bank identified certain immaterial errors in its previously issued financial statements and footnotes for the three and six months ended June 30, 2015. These errors related to hedge ineffectiveness calculations on swapped available-for-sale (AFS) investments acquired from the Seattle Bank. The errors caused the amortized cost of AFS securities to be understated by $6.4 million at June 30, 2015; however, the total fair value for these investments recorded in the Bank’s Statements of Condition was accurate. The errors also caused “net gains (losses) on derivatives and hedging activities” reported in “other income (loss)” to be understated by $6.4 million for the three and six months ended June 30, 2015 and “net income” to be understated by $5.7 million net of the Affordable Housing Program assessment for these same periods in the Bank’s second quarter 2015 Statements of Income. Additional financial statement lines in the Bank’s Statements of Condition, Statements of Income, Statements of Comprehensive Income, Statements of Capital, Statements of Cash Flows, and footnotes were also impacted by these errors. The financial statement lines impacted are summarized in the following table.

Management has determined after evaluating the quantitative and qualitative aspects of these corrections that the previously issued financial statements and footnotes were not materially misstated. The Bank has chosen to revise the information for the three and six months ended June 30, 2015 in this third quarter 2015 Form 10-Q filing. Accordingly, where presented, the June 30, 2015 balance sheet data has been revised for these errors. In addition, the impact of the revision is reflected in the Bank’s Statements of Income, Statements of Comprehensive Income, Statements of Capital, Statements of Cash Flows, and footnotes, where shown, for the nine months ended September 30, 2015.

11


The following table summarizes the financial statement lines impacted by this error for the period ending June 30, 2015 (dollars in thousands):  
Line Item
 
As Previously Reported
 
Adjustment
 
As Revised
Statement of Condition as of June 30, 2015
 
 
 
 
 
 
     Affordable Housing Program Payable
 
$
60,029

 
$
637

 
$
60,666

     Total Liabilities
 
113,773,299

 
637

 
113,773,936

     Unrestricted Retained Earnings
 
639,526

 
4,582

 
644,108

     Restricted Retained Earnings
 
86,117

 
1,146

 
87,263

     Total Retained Earnings
 
725,643

 
5,728

 
731,371

     Accumulated Other Comprehensive Income
 
127,611

 
(6,365
)
 
121,246

     Total Capital
 
4,984,403

 
(637
)
 
4,983,766

 
 
 
 
 
 
 
Statement of Income for the Three Months Ended June 30, 2015
 
 
 
 
 
 
     Net Gains (Losses) on Derivatives and Hedging Activities
 
29,381

 
6,365

 
35,746

     Total Other Income
 
187

 
6,365

 
6,552

     Net Income Before Assessments
 
23,423

 
6,365

 
29,788

     Affordable Housing Program Assessments
 
2,388

 
637

 
3,025

     Net Income
 
21,035

 
5,728

 
26,763

 
 
 
 
 
 
 
Statement of Income for the Six Months Ended June 30, 2015
 
 
 
 
 
 
     Net Gains (Losses) on Derivatives and Hedging Activities
 
(1,530
)
 
6,365

 
4,835

     Total Other Income
 
(9,274
)
 
6,365

 
(2,909
)
     Net Income Before Assessments
 
61,895

 
6,365

 
68,260

     Affordable Housing Program Assessments
 
6,253

 
637

 
6,890

     Net Income
 
55,642

 
5,728

 
61,370

 
 
 
 
 
 
 
Statement of Comprehensive Income for the Three Months Ended June 30, 2015
 
 
 
 
 
 
     Net Income
 
21,035

 
5,728

 
26,763

     Net Unrealized Gains (Losses) on Available-For-Sale Securities
 
(2,831
)
 
(6,365
)
 
(9,196
)
Total Net Unrealized Gains (Losses) on Available-For-Sale Securities
 
(2,831
)
 
(6,365
)
 
(9,196
)
     Total Other Comprehensive Income
 
(2,639
)
 
(6,365
)
 
(9,004
)
     Total Comprehensive Income
 
18,396

 
(637
)
 
17,759

 
 
 
 
 
 
 
Statement of Comprehensive Income for the Six Months Ended June 30, 2015
 
 
 
 
 
 
     Net Income
 
55,642

 
5,728

 
61,370

     Net Unrealized Gains (Losses) on Available-For-Sale Securities
 
4,005

 
(6,365
)
 
(2,360
)
Total Net Unrealized Gains (Losses) on Available-For-Sale Securities
 
4,005

 
(6,365
)
 
(2,360
)
     Total Other Comprehensive Income
 
4,389

 
(6,365
)
 
(1,976
)
     Total Comprehensive Income
 
60,031

 
(637
)
 
59,394




12


The following table summarizes the financial statement lines impacted by this error for the period ending June 30, 2015 (dollars in thousands) (continued):  
Line Item
 
As Previously Reported
 
Adjustment
 
As Revised
Statement of Capital
 
 
 
 
 
 
For the Six Months Ended June 30, 2015
 
 
 
 
 
 
     Comprehensive Income (Loss) - Unrestricted Retained Earnings
 
44,514

 
4,582

 
49,096

     Comprehensive Income (Loss) - Restricted Retained Earnings
 
11,128

 
1,146

 
12,274

     Comprehensive Income (Loss) - Total Retained Earnings
 
55,642

 
5,728

 
61,370

Comprehensive Income (Loss) - Total Accumulated Other Comprehensive Income
 
4,389

 
(6,365
)
 
(1,976
)
     Comprehensive Income (Loss) - Total
 
60,031

 
(637
)
 
59,394

As of June 30, 2015
 
 
 
 
 
 
     Unrestricted Retained Earnings
 
639,526

 
4,582

 
644,108

     Restricted Retained Earnings
 
86,117

 
1,146

 
87,263

     Total Retained Earnings
 
725,643

 
5,728

 
731,371

     Accumulated Other Comprehensive Income
 
127,611

 
(6,365
)
 
121,246

     Total Capital
 
4,984,403

 
(637
)
 
4,983,766

 
 
 
 
 
 
 
Statement of Cash Flows for the Six Months Ended June 30, 2015
 
 
 
 
 
 
     Net Income
 
55,642

 
5,728

 
61,370

     Net Change in Derivatives and Hedging Activities
 
(20,423
)
 
(6,365
)
 
(26,788
)
     Net Change in Other Liabilities
 
9,663

 
637

 
10,300

     Total Operating Adjustments
 
11,902

 
(5,728
)
 
6,174


SIGNIFICANT ACCOUNTING POLICIES

There have been no material changes to the Bank's significant accounting policies during the nine months ended September 30, 2015. However, as a result of the Merger, the Bank revised its allowance for credit losses accounting policy to incorporate the credit loss protection on conventional mortgage loans acquired under the Mortgage Purchase Program (MPP). For additional information on changes to the Bank's allowance for credit losses accounting policy, refer to “Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations — Critical Accounting Policies and Estimates”. In addition, the Bank established a significant accounting policy on business combinations.

Business Combinations

The Bank applies the acquisition method of accounting for business combinations of mutual entities. Under the acquisition method, the Bank recognizes the identifiable assets acquired and liabilities assumed at their acquisition date fair values. Management utilizes valuation techniques appropriate for the asset or liability being measured in determining these fair values. Any excess of the purchase price over amounts allocated to assets acquired, including identifiable intangible assets, and liabilities assumed, is recorded as goodwill.

Consideration transferred includes (i) equity interests of the Bank (i.e. par value of capital stock exchanged on a one-for-one basis for Seattle capital stock outstanding) and (ii) member interests in the Bank (i.e. the post-merger interest of Seattle members in the Bank, including a proportionate interest in the liquidation value of the Bank). Consideration transferred is recognized by recording the par value of capital stock issued in the transaction as capital stock, with the remaining portion being reflected in a new capital account captioned as “Additional capital from merger.” Acquisition-related costs are expensed as incurred.

Descriptions of all other significant accounting policies are included in “Note 1 — Summary of Significant Accounting Policies” in the 2014 Form 10-K.


13


Note 2 — Merger

Effective May 31, 2015, the Bank and the Seattle Bank, two mutual entities for accounting purposes, completed the previously announced merger pursuant to the Merger Agreement, dated September 25, 2014. Similar to the Bank, the Seattle Bank, a cooperative owned by its members, was one of the 12 district Federal Home Loan Banks and served the public by enhancing the availability of funds for residential mortgages and targeted community development. The Bank believes the Merger combines two complementary organizations with similar cultures that emphasized service to members, membership characteristics, and solid financial positions. At closing, the Seattle Bank merged with and into the Des Moines Bank, with the Des Moines Bank surviving the Merger as the continuing Bank. The first date of operations for the combined Bank was June 1, 2015.

As part of the Merger, on the effective date of the Merger (merger date), each share of Seattle Bank Class A stock outstanding was converted into one share of Des Moines Bank Class A stock and each share of Seattle Bank Class B stock outstanding was converted into one share of Des Moines Bank Class B stock. Immediately following the Merger, all shares of Des Moines Bank Class A stock and excess shares of Class B stock were repurchased and Des Moines Class B stock was issued as needed to meet the Bank's activity and membership stock requirements in accordance with the combined Bank's Capital Plan. No shares of Seattle Bank capital stock remained outstanding. The Merger did not have an impact on the total capital stock held by Des Moines Bank stockholders.

At the time of the Merger, the corporate existence of the Seattle Bank ceased, and each member of the Seattle Bank automatically ceased to be a member of the Seattle Bank and automatically became a member of the Des Moines Bank. In addition, the geographical territory previously included in the district for the Seattle Bank (Alaska, Hawaii, Idaho, Montana, Oregon, Utah, Washington, Wyoming, and the U.S. Pacific territories of American Samoa, Guam, and the Commonwealth of the Northern Mariana Islands) is now included in the district for the Des Moines Bank.

The operations of the merged Seattle Bank have been included in the Bank's financial statements since June 1, 2015. However, the former Seattle Bank is not a separate reporting segment and the Bank does not separately account for the amounts of revenues, expenses, and net income of the former Seattle Bank. To do so would involve significant estimates of amounts, distinct segregation of operational and business practices inconsistent with the benefits of the Merger, and would require management to subjectively distinguish information about specific assets and liabilities transacted. As such, it is impracticable to determine such amounts for the period from June 1, 2015 through September 30, 2015.

PRO FORMA FINANCIAL INFORMATION

The following unaudited pro forma summary has been prepared by adjusting the Bank's historical data to give effect to the Merger as if it had occurred on January 1, 2014 (dollars in thousands):
 
Nine Months Ended
 
Nine Months Ended
 
September 30, 2015
 
September 30, 2014
Interest income
$
707,218

 
$
672,897

Net income
$
109,955

 
$
103,691


The unaudited pro forma financial information was prepared in accordance with the acquisition method of accounting for mutual entities under existing standards and is not necessarily indicative of the results of operations that would have occurred if the Merger had been completed on the date indicated, nor is it indicative of the future operating results of the Bank.

The unaudited pro forma results have been adjusted with respect to certain aspects of the Merger to reflect:

additional premium/discount amortization as well as depreciation expense that would have been recognized assuming fair value adjustments to the assets acquired and liabilities assumed;

inclusion of merger related expenses incurred by the Bank totaling $39.7 million in the pro forma nine months ended September 30, 2014; and

higher (lower) Affordable Housing Program assessments due to higher (lower) combined net income.

The above pro forma adjustments do not reflect the impact of anticipated future cost savings resulting from the Merger. The adjustments included in these unaudited pro forma results are preliminary and may be revised.


14


CONSIDERATION TRANSFERRED AND ASSETS ACQUIRED AND LIABILITIES ASSUMED

The Merger purchase accounting entries were recorded in accordance with business combination accounting guidance prescribed in Accounting Standard Codification Topic 805 with the Bank considered the acquirer of the Seattle Bank for accounting purposes. Consideration transferred included (i) equity interests of the Bank (i.e. par value of capital stock to be exchanged on a one-for-one basis for Seattle capital stock outstanding) and (ii) member interests in the Bank (i.e. the post-merger interest of Seattle members in the Bank, including a proportionate interest in the liquidation value of the Bank). The amount of consideration transferred was compared to the acquisition date fair value of the net identifiable assets acquired. Based on the consideration transferred, no goodwill was recorded.

The Bank recognized net assets acquired by recording the par value of capital stock issued in the transaction as capital stock, with the remaining portion of net assets acquired reflected in a new capital account captioned as “Additional capital from merger.” This balance primarily represents the amount of the Seattle Bank's closing retained earnings balance, adjusted for fair value and other purchase accounting adjustments, and identified intangible assets. The Bank treats this additional capital from merger as a component of total capital for regulatory capital purposes and, subject to the Bank's Board of Directors' discretion and applicable regulatory requirements, plans to distribute dividends to the Bank’s members from this account until the additional capital from merger balance is depleted.

The following table discloses the fair value of the consideration transferred and the total identifiable net assets acquired relating to the Merger (dollars in thousands):
 
May 31, 2015
Fair value of consideration transferred:
 
Fair value of shares issued
$
894,395

Member interests
246,462

Total fair value of consideration transferred
$
1,140,857

 
 
Assets acquired:
 
Cash and due from banks
$
141

Interest-bearing deposits
202

Accounts receivable1
2,341,059

Trading securities
550,473

Available-for-sale securities
9,825,223

Held-to-maturity securities
5,829,043

Advances
9,190,741

Mortgage loans held for portfolio
614,829

Accrued interest receivable
47,570

Premises, software, and equipment
3,239

Derivative assets
39,777

Other assets
22,412

Total assets acquired
$
28,464,709

 
 
Liabilities assumed:
 
Deposits
$
370,814

Consolidated obligation discount notes
12,448,960

Consolidated obligation bonds
13,613,400

Mandatorily redeemable capital stock
724,827

Accrued interest payable
38,198

Affordable Housing Program payable
17,128

Derivative liabilities
74,110

Other liabilities
36,415

Total liabilities assumed
27,323,852

Net assets acquired
$
1,140,857


1
In anticipation of the closing of the Merger, on Friday, May 29, 2015, the Seattle Bank transferred $2.3 billion in cash to the Bank. The transfer was made to ensure the Bank had access to the Seattle Bank's cash balances on the first day of operations for the combined Bank, Monday, June 1, 2015. The Bank recorded a liability for this cash and the Seattle Bank recorded a receivable for this cash in their respective Statements of Condition for May 31, 2015. These balances were eliminated to arrive at the combined opening Statement of Condition.

15


The fair value of financial assets acquired included $9.2 billion of advances and $0.6 billion of mortgage loans. The gross contractual amounts receivable for acquired advances were $9.5 billion, none of which were expected to be uncollectible. The gross contractual amounts receivable for acquired mortgage loans were $0.7 billion, of which an immaterial amount was expected to be uncollectible.

INTANGIBLES

On the merger date, the Bank recognized a customer relationship intangible asset through "Other assets" in the Statements of Condition and determined that amortization would be calculated on a straight-line basis using an estimated life of 20 years (with no residual value). The Bank will assess the customer relationship intangible asset for impairment on at least an annual basis. As of September 30, 2015, this intangible asset had a gross carrying value of $3.0 million and accumulated amortization of $49 thousand. Going forward, the Bank expects to recognize $148 thousand of amortization expense on an annual basis for the life of the intangible asset.

MERGER RELATED EXPENSES

The following table provides a summary of merger related expenses incurred during the three and nine months ended September 30, 2015 and 2014 (dollars in thousands):
 
For the Three Months Ended
 
For the Nine Months Ended
 
September 30,
 
September 30,
 
2015
 
2014
 
2015
 
2014
Compensation and benefits1
$
1,368

 
$

 
$
28,433

 
$

Contractual services and professional fees
1,280

 
725

 
7,949

 
725

Other merger related expenses
119

 
7

 
1,737

 
7

Total
$
2,767

 
$
732

 
$
38,119

 
$
732


1
Primarily includes expenses related to change in control, severance, and retention agreements. Also includes a $10.2 million discretionary contribution made to bring the Seattle qualified defined benefit pension plan to a similar funding status as the Des Moines qualified defined benefit pension plan during the nine months ended September 30, 2015.

CONTINGENCIES
As a result of the Merger, the Bank is currently involved in a number of legal proceedings initiated by the Seattle Bank against various entities relating to its purchases and subsequent impairment of certain private-label mortgage-backed securities (the Private-Label MBS Litigation). Although the Seattle Bank sold all private-label MBS during the first quarter of 2015, the Bank continues to be involved in these proceedings. After consultation with legal counsel, other than the Private-Label MBS Litigation, the Bank does not believe any legal proceedings to which it is a party could have a material impact on its financial condition, results of operations, or cash flows.
Litigation settlement gains are considered realized and recorded when the Bank receives cash or assets that are readily convertible to known amounts of cash or claims to cash. In addition, litigation settlement gains are considered realizable and recorded when the Bank enters into a signed agreement that is not subject to appeal, where the counterparty has the ability to pay, and the amount to be received can be reasonably estimated. Prior to being realized or realizable, the Bank considers potential litigation settlement gains to be gain contingencies, and therefore they are not recorded in the Statements of Income.
The Bank records legal expenses related to litigation settlements as incurred in "other expenses" in the Statements of Income with the exception of certain legal expenses related to litigation settlement awards that are contingent based fees for the attorneys representing the Bank. The Bank incurs and recognizes these contingent based legal fees only when litigation settlement awards are received, at which time these fees are netted against the gains received on the litigation settlement. During the three and nine months ended September 30, 2015, the Bank recognized $12.5 million in a gain on a litigation settlement.

16


Note 3 — Recently Adopted and Issued Accounting Guidance

ADOPTED ACCOUNTING GUIDANCE

Classification of Certain Government-Guaranteed Mortgage Loans upon Foreclosure

On August 8, 2014, the Financial Accounting Standards Board (FASB) issued amended guidance relating to the classification and measurement of certain government-guaranteed mortgage loans upon foreclosure. The amendments in this guidance require that a mortgage loan be de-recognized and that a separate other receivable be recognized upon foreclosure if certain conditions are met. This guidance became effective for the Bank beginning on January 1, 2015 and was adopted prospectively. The adoption of this guidance did not have a material effect on the Bank's financial condition, results of operations, or cash flows.

Repurchase-to-Maturity Transactions, Repurchase Financings, and Disclosures

On June 12, 2014, the FASB issued amended guidance for repurchase-to-maturity transactions and repurchase agreements executed as repurchase financing. This amendment requires secured borrowing accounting treatment for repurchase-to-maturity transactions and provides guidance on accounting for repurchase financing arrangements. In addition, this guidance requires additional disclosures, particularly on transfers accounted for as sales that are economically similar to repurchase agreements and on the nature of collateral pledged in repurchase agreements accounted for as secured borrowings. This guidance became effective for the Bank beginning on January 1, 2015. The adoption of this guidance did not have an effect on the Bank's financial condition, results of operations, cash flows, or financial statement disclosures.

Reclassification of Residential Real Estate Collateralized Consumer Mortgage Loans upon Foreclosure

On January 17, 2014, the FASB issued guidance clarifying when consumer mortgage loans collateralized by real estate should be reclassified to real estate owned (REO). Specifically, such collateralized mortgage loans should be reclassified to REO when either the creditor obtains legal title to the residential real estate property upon completion of a foreclosure or the borrower conveys all interest in the residential real estate property to the creditor to satisfy that loan through completion of a deed in lieu of foreclosure or through a similar legal agreement. This guidance became effective for the Bank beginning on January 1, 2015 and was adopted prospectively. The adoption of this guidance did not have an effect on the Bank’s financial condition, results of operations, or cash flows.

Finance Agency Advisory Bulletin on Asset Classification

On April 9, 2012, the Finance Agency issued Advisory Bulletin 2012-02, Framework for Adversely Classifying Loans, Other Real Estate Owned, and Other Assets and Listing Assets for Special Mention (AB 2012-02). AB 2012-02 establishes a standard and uniform methodology for classifying assets and prescribes the timing of asset charge-offs, excluding investment securities. The guidance in AB 2012-02 is generally consistent with the Uniform Retail Credit Classification and Account Management Policy issued by the federal banking regulators in June 2000. The adverse classification requirements were implemented as of January 1, 2014 and the charge-off requirements were implemented on January 1, 2015. This guidance did not have a material effect on the Bank's financial condition, results of operations, or cash flows.

ISSUED ACCOUNTING GUIDANCE

Simplifying the Accounting for Measurement-Period Adjustments

On September 25, 2015, the FASB issued guidance to simplify the accounting for measurement-period adjustments recognized in a business combination. This guidance requires that an acquirer recognize adjustments to provisional amounts that are identified during the measurement period in the reporting period in which the adjustment amounts are determined. It also requires that the acquirer present separately on the face of the income statement or disclose in the notes the portion of the amount recorded in current period earnings by line item that would have been recorded in previous reporting periods if the adjustment to the provisional amounts had been recognized as of the acquisition date. This guidance becomes effective for the Bank for the interim and annual periods beginning January 1, 2016, and should be applied prospectively. This guidance is not expected to affect the Bank’s financial condition, results of operations, or cash flows.


17


Cloud Computing Arrangements

On April 15, 2015, the FASB issued amendments to clarify a customer's accounting for fees paid in a cloud computing arrangement. The amendments provide guidance to customers on determining whether a cloud computing arrangement includes a software license that should be accounted for as internal-use software. If the arrangement does not contain a software license, it would be accounted for as a service contract. This guidance becomes effective for the Bank for the interim and annual periods beginning on January 1, 2016, and early adoption is permitted. The Bank can elect to adopt the amendments either (i) prospectively to all arrangements entered into or materially modified after the effective date or (ii) retrospectively. This guidance is not expected to affect the Bank’s financial condition, results of operations, or cash flows.

Simplifying the Presentation of Debt Issuance Costs

On April 7, 2015, the FASB issued guidance to simplify the presentation of debt issuance costs. This guidance requires that debt issuance costs related to a recognized debt liability be presented on the statement of condition as a direct deduction from the carrying amount of that debt liability, consistent with the presentation of debt discounts. This guidance becomes effective for the Bank for the interim and annual periods beginning on January 1, 2016, and early adoption is permitted for financial statements that have not been previously issued. The guidance is required to be applied on a retrospective basis to each individual period presented on the statement of condition. The adoption of this guidance will result in a reclassification of unamortized debt issuance costs from other assets to consolidated obligations on the Bank's Statement of Condition. The Bank is in the process of evaluating this guidance and its effect on the Bank's financial condition, results of operations, or cash flows is not expected to be material.

Amendments to the Consolidation Analysis

On February 18, 2015, the FASB issued amended guidance intended to enhance consolidation guidance for legal entities such as limited partnerships, limited liability corporations, and securitization structures (collateralized debt obligations, collateralized loan obligations, and mortgage-backed security transactions). The new guidance primarily focuses on the following:

Placing more emphasis on risk of loss when determining a controlling financial interest. A reporting organization may no longer have to consolidate a legal entity in certain circumstances based solely on its fee arrangement, when certain criteria are met. 

Reducing the frequency of the application of related-party guidance when determining a controlling financial interest in a variable interest entity (VIE).

Changing consolidation conclusions for entities in several industries that typically make use of limited partnerships or VIEs.

This guidance becomes effective for the Bank for the interim and annual periods beginning on January 1, 2016, and early adoption is permitted, including adoption in an interim period. This guidance is not expected to affect the Bank’s financial condition, results of operations, or cash flows.

Disclosure of Uncertainties about an Entity's Ability to Continue as a Going Concern

On August 27, 2014, the FASB issued guidance about management’s responsibility to evaluate whether there is substantial doubt about an entity’s ability to continue as a going concern and to provide related footnote disclosures. This guidance requires management to perform interim and annual assessments of an entity’s ability to continue as a going concern within one year after the date the financial statements are issued or within one year after the financial statements are available to be issued, when applicable. Substantial doubt exists if it is probable that the entity will be unable to meet its obligations for the assessed period. This guidance becomes effective for the Bank for the interim and annual periods beginning January 1, 2017, and early application is permitted. Management will be required to make the initial assessment required by this guidance as of December 31, 2016. This guidance is not expected to have an effect on the Bank's financial condition, results of operations, cash flows, or financial statement disclosures.


18


Revenue from Contracts with Customers

On May 28, 2014, the FASB issued guidance on revenue from contracts with customers. This guidance outlines a single comprehensive model for recognizing revenue arising from contracts with customers and supersedes most current revenue recognition guidance. In addition, this guidance amends the existing requirements for the recognition of a gain or loss on the transfer of non-financial assets that are not in a contract with a customer. This guidance applies to all contracts with customers except those that are within the scope of certain other standards, such as financial instruments, certain guarantees, insurance contracts, and lease contracts. The guidance provides entities with the option of using either of the following adoption methods: a full retrospective method, retrospectively to each prior reporting period presented; or a modified retrospective method, retrospectively with the cumulative effect of initially applying this guidance recognized at the date of initial application. The Bank is in the process of evaluating this guidance and its effect on the Bank's financial condition, results of operations, or cash flows is not expected to be material.

On August 12, 2015, the FASB issued an amendment to defer the effective date of this guidance issued in May 2014 by one year. The guidance is effective for the Bank for interim and annual periods beginning on January 1, 2018. Early application is permitted only as of the interim and annual reporting periods beginning after December 15, 2016.

Note 4 — Trading Securities

MAJOR SECURITY TYPES

Trading securities were as follows (dollars in thousands):
 
September 30,
2015
 
December 31,
2014
Non-mortgage-backed securities
 
 
 
Other U.S. obligations1
$
244,936

 
$
256,267

GSE obligations
1,579,725

 
1,531,811

Other2
281,177

 
280,215

     Total non-mortgage-backed securities
2,105,838

 
2,068,293

Mortgage-backed securities
 
 
 
GSE multifamily
466,887

 
462,197

Total fair value
$
2,572,725

 
$
2,530,490


1
Represents investment securities backed by the full faith and credit of the U.S. Government.

2
Consists of taxable municipal bonds.

NET GAINS (LOSSES) ON TRADING SECURITIES

During the three and nine months ended September 30, 2015, the Bank recorded net holding gains of $16.8 million and $8.6 million on its trading securities compared to net holding gains of $0.7 million and $47.2 million for the same periods in 2014. The Bank did not sell any trading securities during the three and nine months ended September 30, 2015 and 2014.


19


Note 5 — Available-for-Sale Securities

MAJOR SECURITY TYPES

AFS securities were as follows (dollars in thousands):
 
September 30, 2015
 
Amortized
Cost
1
 
Gross
Unrealized
Gains
 
Gross
Unrealized
Losses
 

Fair
Value
Non-mortgage-backed securities
 
 
 
 
 
 
 
Other U.S. obligations2
$
4,128,157

 
$
3,892

 
$
(23,925
)
 
$
4,108,124

GSE obligations
2,220,815

 
18,161

 
(18,508
)
 
2,220,468

State or local housing agency obligations
1,069,524

 
531

 
(186
)
 
1,069,869

Other3
300,015

 
4,487

 
(1,363
)
 
303,139

Total non-mortgage-backed securities
7,718,511

 
27,071

 
(43,982
)
 
7,701,600

Mortgage-backed securities
 
 
 
 
 
 
 
Other U.S. obligations single-family2
2,340,704

 
1,610

 
(975
)
 
2,341,339

GSE single-family
1,681,927

 
20,339

 
(16
)
 
1,702,250

GSE multifamily
10,009,923

 
45,290

 
(44,995
)
 
10,010,218

Total mortgage-backed securities
14,032,554

 
67,239

 
(45,986
)
 
14,053,807

Total
$
21,751,065

 
$
94,310

 
$
(89,968
)
 
$
21,755,407


 
December 31, 2014
 
Amortized
Cost
1
 
Gross
Unrealized
Gains
 
Gross
Unrealized
Losses
 

Fair
Value
Non-mortgage-backed securities
 
 
 
 
 
 
 
Other U.S. obligations2
$
158,864

 
$
4,761

 
$
(56
)
 
$
163,569

GSE obligations
993,681

 
22,682

 
(4,055
)
 
1,012,308

State or local housing agency obligations
36,320

 
176

 
(148
)
 
36,348

Other3
176,277

 
7,425

 

 
183,702

Total non-mortgage-backed securities
1,365,142

 
35,044

 
(4,259
)
 
1,395,927

Mortgage-backed securities
 
 
 
 
 
 
 
Other U.S. obligations single-family2
1,979,226

 
340

 
(3,875
)
 
1,975,691

GSE single-family
1,991,471

 
17,586

 
(150
)
 
2,008,907

GSE multifamily
6,921,322

 
85,334

 
(3,389
)
 
7,003,267

Total mortgage-backed securities
10,892,019

 
103,260

 
(7,414
)
 
10,987,865

Total
$
12,257,161

 
$
138,304

 
$
(11,673
)
 
$
12,383,792


1
Amortized cost includes adjustments made to the cost basis of an investment for accretion, amortization, and/or fair value hedge accounting adjustments.

2
Represents investment securities backed by the full faith and credit of the U.S. Government.

3
Consists of taxable municipal bonds and Private Export Funding Corporation bonds. The Bank did not hold any Private Export Funding Corporation bonds in 2014.



20


UNREALIZED LOSSES

The following tables summarize AFS securities with unrealized losses by major security type and length of time that individual securities have been in a continuous unrealized loss position (dollars in thousands):
 
September 30, 2015
 
Less than 12 Months
 
12 Months or More
 
Total
 
Fair
Value
 
Unrealized
Losses
 
Fair
Value
 
Unrealized
Losses
 
Fair
Value
 
Unrealized
Losses
Non-mortgage-backed securities
 
 
 
 
 
 
 
 
 
 
 
Other U.S. obligations
$
3,968,240

 
$
(23,925
)
 
$

 
$

 
$
3,968,240

 
$
(23,925
)
GSE obligations
1,279,632

 
(18,508
)
 

 

 
1,279,632

 
(18,508
)
State or local housing agency obligations
186,371

 
(121
)
 
5,970

 
(65
)
 
192,341

 
(186
)
Other
118,524

 
(1,363
)
 

 

 
118,524

 
(1,363
)
Total non-mortgage-backed securities
5,552,767

 
(43,917
)
 
5,970

 
(65
)
 
5,558,737

 
(43,982
)
Mortgage-backed securities
 
 
 
 
 
 
 
 
 
 
 
Other U.S. obligations single-family
1,233,145

 
(975
)
 

 

 
1,233,145

 
(975
)
GSE single-family

 

 
35,563

 
(16
)
 
35,563

 
(16
)
GSE multifamily
7,980,130

 
(39,145
)
 
332,487

 
(5,850
)
 
8,312,617

 
(44,995
)
Total mortgage-backed securities
9,213,275

 
(40,120
)
 
368,050

 
(5,866
)
 
9,581,325

 
(45,986
)
Total
$
14,766,042

 
$
(84,037
)
 
$
374,020

 
$
(5,931
)
 
$
15,140,062

 
$
(89,968
)

 
December 31, 2014
 
Less than 12 Months
 
12 Months or More
 
Total
 
Fair
Value
 
Unrealized
Losses
 
Fair
Value
 
Unrealized
Losses
 
Fair
Value
 
Unrealized
Losses
Non-mortgage-backed securities
 
 
 
 
 
 
 
 
 
 
 
Other U.S. obligations
$
34,993

 
$
(56
)
 
$

 
$

 
$
34,993

 
$
(56
)
GSE obligations
230,965

 
(286
)
 
109,669

 
(3,769
)
 
340,634

 
(4,055
)
State or local housing agency obligations

 

 
6,527

 
(148
)
 
6,527

 
(148
)
Total non-mortgage-backed securities
265,958

 
(342
)
 
116,196

 
(3,917
)
 
382,154

 
(4,259
)
Mortgage-backed securities
 
 
 
 
 
 
 
 
 
 
 
Other U.S. obligations single-family
1,698,157

 
(3,875
)
 

 

 
1,698,157

 
(3,875
)
GSE single-family

 

 
107,910

 
(150
)
 
107,910

 
(150
)
GSE multifamily
1,331,057

 
(3,053
)
 
74,806

 
(336
)
 
1,405,863

 
(3,389
)
Total mortgage-backed securities
3,029,214

 
(6,928
)
 
182,716

 
(486
)
 
3,211,930

 
(7,414
)
Total
$
3,295,172

 
$
(7,270
)
 
$
298,912

 
$
(4,403
)
 
$
3,594,084

 
$
(11,673
)


21


CONTRACTUAL MATURITY

The following table summarizes AFS securities by contractual maturity. Expected maturities of some securities may differ from contractual maturities as borrowers may have the right to call or prepay obligations with or without call or prepayment fees (dollars in thousands):
 
 
September 30, 2015
 
December 31, 2014
Year of Contractual Maturity
 
Amortized
Cost
 
Fair
Value
 
Amortized
Cost
 
Fair
Value
Non-mortgage-backed securities
 
 
 
 
 
 
 
 
Due in one year or less
 
$
438,484

 
$
439,416

 
$
66,673

 
$
66,904

Due after one year through five years
 
1,008,022

 
1,023,422

 
898,464

 
915,574

Due after five years through ten years
 
4,125,522

 
4,104,978

 
247,821

 
255,333

Due after ten years
 
2,146,483

 
2,133,784

 
152,184

 
158,116

Total non-mortgage-backed securities
 
7,718,511

 
7,701,600

 
1,365,142

 
1,395,927

Mortgage-backed securities
 
14,032,554

 
14,053,807

 
10,892,019

 
10,987,865

Total
 
$
21,751,065

 
$
21,755,407

 
$
12,257,161

 
$
12,383,792


NET GAINS (LOSSES) FROM SALE OF AFS SECURITIES

During the three and nine months ended September 30, 2015 and the three months ended September 30, 2014, the Bank did not sell any AFS securities. During the nine months ended September 30, 2014, the Bank received $97.2 million in proceeds from the sale of an AFS security and recognized a gross gain of $0.8 million.

PREPAYMENT FEES

During both the three and nine months ended September 30, 2015, an AFS MBS with an outstanding par value of $34.2 million was prepaid and the Bank received a $3.1 million prepayment fee. The prepayment fee was recorded as interest income on AFS securities in the Statements of Income, and was offset in part by amortization on fair value hedging adjustments related to the prepayment of $(1.4) million. During the three and nine months ended September 30, 2014, the Bank did not receive any prepayment fees on AFS securities.


22


Note 6 — Held-to-Maturity Securities

MAJOR SECURITY TYPES

Held-to-maturity (HTM) securities were as follows (dollars in thousands):
 
September 30, 2015
 
Amortized
Cost
1
 
Gross
Unrealized
Gains
 
Gross
Unrealized
Losses
 
Fair
Value
Non-mortgage-backed securities
 
 
 
 
 
 
 
GSE obligations
$
402,091

 
$
64,445

 
$
(863
)
 
$
465,673

State or local housing agency obligations
959,549

 
10,429

 
(123
)
 
969,855

Total non-mortgage-backed securities
1,361,640

 
74,874

 
(986
)
 
1,435,528

Mortgage-backed securities
 
 
 
 
 
 
 
Other U.S. obligations single-family2
53,923

 
19

 
(2
)
 
53,940

Other U.S. obligations commercial2
6,270

 

 
(1
)
 
6,269

GSE single-family
4,957,374

 
13,091

 
(1,568
)
 
4,968,897

Private-label residential
21,476

 
98

 
(678
)
 
20,896

Total mortgage-backed securities
5,039,043

 
13,208

 
(2,249
)
 
5,050,002

Total
$
6,400,683

 
$
88,082

 
$
(3,235
)
 
$
6,485,530


 
December 31, 2014
 
Amortized
Cost
1
 
Gross
Unrealized
Gains
 
Gross
Unrealized
Losses
 
Fair
Value
Non-mortgage-backed securities
 
 
 
 
 
 
 
GSE obligations
$
305,126

 
$
69,730

 
$

 
$
374,856

State or local housing agency obligations
59,963

 
6,042

 

 
66,005

Total non-mortgage-backed securities
365,089

 
75,772

 

 
440,861

Mortgage-backed securities
 
 
 
 
 
 
 
Other U.S. obligations single-family2
3,247

 
11

 

 
3,258

Other U.S. obligations commercial2
1,415

 

 
(1
)
 
1,414

GSE single-family
816,793

 
12,302

 
(31
)
 
829,064

Private-label residential
24,916

 
58

 
(523
)
 
24,451

Total mortgage-backed securities
846,371

 
12,371

 
(555
)
 
858,187

Total
$
1,211,460

 
$
88,143

 
$
(555
)
 
$
1,299,048


1
Amortized cost includes adjustments made to the cost basis of an investment for accretion and/or amortization.

2
Represents investment securities backed by the full faith and credit of the U.S. Government.



23


UNREALIZED LOSSES

The following tables summarize HTM securities with unrealized losses by major security type and the length of time that individual securities have been in a continuous unrealized loss position (dollars in thousands):
 
September 30, 2015
 
Less than 12 Months
 
12 Months or More
 
Total
 
Fair
Value
 
Unrealized
Losses
 
Fair
Value
 
Unrealized
Losses
 
Fair
Value
 
Unrealized
Losses
Non-mortgage-backed securities
 
 
 
 
 
 
 
 
 
 
 
GSE obligations
$
97,460

 
$
(863
)
 
$

 
$

 
$
97,460

 
$
(863
)
State or local housing agency obligations
54,399

 
(123
)
 

 

 
54,399

 
(123
)
Total non-mortgage-backed securities
151,859

 
(986
)
 

 

 
151,859

 
(986
)
Mortgage-backed securities
 
 
 
 
 
 
 
 
 
 
 
Other U.S. obligations single-family
7,902

 
(2
)
 

 

 
7,902

 
(2
)
Other U.S. obligations commercial
3,903

 
(1
)
 

 

 
3,903

 
(1
)
GSE single-family
1,360,098

 
(1,541
)
 
21,503

 
(27
)
 
1,381,601

 
(1,568
)
Private-label residential

 

 
13,759

 
(678
)
 
13,759

 
(678
)
Total mortgage-backed securities
1,371,903

 
(1,544
)
 
35,262

 
(705
)
 
1,407,165

 
(2,249
)
Total
$
1,523,762

 
$
(2,530
)
 
$
35,262

 
$
(705
)
 
$
1,559,024

 
$
(3,235
)

 
December 31, 2014
 
Less than 12 Months
 
12 Months or More
 
Total
 
Fair
Value
 
Unrealized
Losses
 
Fair
Value
 
Unrealized
Losses
 
Fair
Value
 
Unrealized
Losses
Mortgage-backed securities
 
 
 
 
 
 
 
 
 
 
 
Other U.S. obligations commercial
$

 
$

 
$
248

 
$
(1
)
 
$
248

 
$
(1
)
GSE single-family
1,436

 
(4
)
 
38,607

 
(27
)
 
40,043

 
(31
)
Private-label residential

 

 
16,243

 
(523
)
 
16,243

 
(523
)
Total mortgage-backed securities
$
1,436

 
$
(4
)
 
$
55,098

 
$
(551
)
 
$
56,534

 
$
(555
)

CONTRACTUAL MATURITY

The following table summarizes HTM securities by contractual maturity. Expected maturities of some securities may differ from contractual maturities as borrowers may have the right to call or prepay obligations with or without call or prepayment fees (dollars in thousands):
 
 
September 30, 2015
 
December 31, 2014
Year of Contractual Maturity
 
Amortized
Cost
 
Fair
Value
 
Amortized
Cost
 
Fair
Value
Non-mortgage-backed securities
 
 
 
 
 
 
 
 
Due in one year or less
 
$
18,052

 
$
18,039

 
$

 
$

Due after one year through five years
 
130,971

 
131,044

 

 

Due after five years through ten years
 
138,165

 
138,303

 

 

Due after ten years
 
1,074,452

 
1,148,142

 
365,089

 
440,861

Total non-mortgage-backed securities
 
1,361,640

 
1,435,528

 
365,089

 
440,861

Mortgage-backed securities
 
5,039,043

 
5,050,002

 
846,371

 
858,187

Total
 
$
6,400,683

 
$
6,485,530

 
$
1,211,460

 
$
1,299,048



24


NET GAINS (LOSSES) FROM SALE OF HTM SECURITIES

During both the three and nine months ended September 30, 2015, the Bank did not sell any HTM securities. During the three months ended September 30, 2014, the Bank sold an HTM security with a carrying amount of $45.7 million and recognized a gross gain of $6.4 million. During the nine months ended September 30, 2014, the Bank sold HTM securities with a carrying amount of $65.7 million and recognized gross gains of $8.9 million. The HTM securities sold had less than 15 percent of the acquired principal outstanding at the time of sale. As such, the sales were considered maturities for purposes of security classification and did not impact the Bank's ability and intent to hold the remaining HTM securities through their stated maturities.

Note 7 — Other-Than-Temporary Impairment

The Bank evaluates its individual AFS and HTM securities in an unrealized loss position for other-than-temporary impairment (OTTI) on a quarterly basis. As part of its evaluation of securities for OTTI, the Bank considers its intent to sell each debt security and whether it is more likely than not that it will be required to sell the security before its anticipated recovery. If either of these conditions is met, the Bank will recognize an OTTI charge to earnings equal to the entire difference between the security's amortized cost basis and its fair value at the reporting date. For securities in an unrealized loss position that meet neither of these conditions, the Bank performs analyses to determine if any of these securities are other-than-temporarily impaired.

PRIVATE-LABEL MORTGAGE-BACKED SECURITIES

On a quarterly basis, the Bank engages other designated FHLBanks to perform cash flow analyses on its private-label MBS using two third-party models in order to assess whether the entire amortized cost bases of these securities will be recovered. For a description of these models, refer to "Item 8. Financial Statements and Supplementary Data - Note 7 - Other-than-Temporary Impairment" in the Bank's 2014 Form 10-K.

The FHLBanks' OTTI Governance Committee developed a short-term housing price forecast with projected changes ranging from a decrease of three percent to an increase of eight percent over the twelve month period beginning July 1, 2015. For the vast majority of markets, the projected short-term housing price changes range from an increase of two percent to an increase of five percent. Thereafter, a unique path is projected for each geographical area based on an internally developed framework derived from historical data.

The Bank compared the present value of the cash flows expected to be collected with respect to its private-label MBS to the amortized cost bases of the securities to determine whether a credit loss existed. At September 30, 2015, the Bank's cash flow analyses for private-label MBS did not project any credit losses. Even under an adverse scenario that delays recovery of the housing price index, no credit losses were projected. The Bank does not intend to sell its private-label MBS and it is not more likely than not that the Bank will be required to sell its private-label MBS before recovery of their amortized cost bases. As a result, the Bank did not consider any of its private-label MBS to be other-than-temporarily impaired at September 30, 2015.

ALL OTHER AFS AND HTM INVESTMENT SECURITIES

On a quarterly basis, the Bank reviews all remaining AFS and HTM securities in an unrealized loss position to determine whether they are other-than temporarily impaired. The following was determined for the Bank's other investment securities in an unrealized loss position at September 30, 2015:

Other U.S. obligations and GSE securities. The unrealized losses were due primarily to interest rate volatility. The strength of the issuers' guarantees through direct obligations or support from the U.S. Government was sufficient to protect the Bank from losses based on current expectations. The Bank expects to recover the amortized cost bases on these securities and neither intends to sell these securities nor considers it more likely than not that it will be required to sell these securities before recovery of their amortized cost bases. As such, the Bank did not consider these securities to be other-than-temporarily impaired at September 30, 2015.



25


State or local housing agency obligations. The unrealized losses were due to changes in interest rates, credit spreads, and illiquidity in the credit markets, and not to a significant deterioration in the fundamental credit quality of the obligations. The creditworthiness of the issuers and the strength of the underlying collateral and credit enhancements were sufficient to protect the Bank from losses based on current expectations. The Bank does not intend to sell these securities nor is it more likely than not that it will be required to sell these securities before recovery of their amortized cost bases. As such, the Bank did not consider these securities to be other-than-temporarily impaired at September 30, 2015.

Other - PEFCO Bonds. The unrealized losses were due to changes in interest rates, credit spreads, and illiquidity in the credit markets, and not to a significant deterioration in the fundamental credit quality of the bonds. The Bank does not intend to sell these securities nor is it more likely than not that it will be required to sell these securities before recovery of the amortized cost basis. As such, the Bank did not consider these securities to be other-than-temporarily impaired at September 30, 2015. Additionally, the strength of the issuer’s guarantee by an agency of the U.S. Government or a trust consisting of pledged collateral, which may include guaranteed importer notes, securities guaranteed by the full faith and credit of the U.S. Government, or cash, is sufficient to protect the Bank from loss based on current expectations.

Note 8 — Advances

CONTRACTUAL MATURITY

The following table summarizes the Bank's advances outstanding by contractual maturity (dollars in thousands):
 
 
September 30, 2015
 
December 31, 2014
Year of Contractual Maturity
 
Amount
 
Weighted
Average
Interest
Rate
 
Amount
 
Weighted
Average
Interest
Rate
Overdrawn demand deposit accounts
 
$
52

 
3.30
 
$
66

 
3.28
Due in one year or less
 
14,981,454

 
0.76
 
7,997,497

 
0.66
Due after one year through two years
 
6,021,645

 
1.61
 
4,028,617

 
1.45
Due after two years through three years
 
16,143,660

 
0.86
 
4,437,280

 
1.68
Due after three years through four years
 
18,805,431

 
0.51
 
20,706,329

 
0.56
Due after four years through five years
 
8,841,161

 
0.60
 
21,447,326

 
0.33
Thereafter
 
9,279,781

 
1.12
 
6,335,093

 
0.98
Total par value
 
74,073,184

 
0.82
 
64,952,208

 
0.67
Premiums
 
145,371

 
 
 
137

 
 
Discounts
 
(9,885
)
 
 
 
(6,388
)
 
 
Fair value hedging adjustments
 
275,412

 
 
 
222,317

 
 
Fair value option adjustments
 
6

 
 
 

 
 
Total
 
$
74,484,088

 
 
 
$
65,168,274

 
 
 
The Bank offers advances to members and eligible housing associates that may be prepaid on pertinent dates (call dates) prior to maturity without incurring prepayment fees (callable advances). If the call option is exercised, replacement funding may be available. At September 30, 2015 and December 31, 2014, the Bank had callable advances outstanding totaling $43.2 billion and $44.6 billion.

The Bank also offers putable advances. With a putable advance, the Bank has the right to terminate the advance from the borrower on predetermined exercise dates, and the borrower may then apply for a new advance at the prevailing market rate. Generally, put options are exercised when interest rates increase. At September 30, 2015 and December 31, 2014, the Bank had putable advances outstanding totaling $2.8 billion and $2.1 billion.


26


PREPAYMENT FEES

The Bank generally charges a prepayment fee for advances that a borrower elects to terminate prior to the stated maturity or outside of a predetermined call or put date. The fees charged are priced to make the Bank financially indifferent to the prepayment of the advance. For certain advances with symmetrical prepayment features, the Bank may charge the borrower a prepayment fee or pay the borrower a prepayment credit, depending on certain circumstances, such as movements in interest rates, when the advance is prepaid. Prepayment fees and credits are recorded net of fair value hedging adjustments in the Statements of Income.  
    
The following table summarizes the Bank's prepayment fees on advances, net (dollars in thousands):
 
For the Three Months Ended
 
For the Nine Months Ended
 
September 30,
 
September 30,
 
2015
 
2014
 
2015
 
2014
Prepayment fee income
$
454

 
$
4,643

 
$
14,416

 
$
21,810

Fair value hedging adjustments1
(171
)
 
(5,044
)
 
(5,093
)
 
(18,827
)
Prepayment fees on advances, net
$
283

 
$
(401
)
 
$
9,323

 
$
2,983


1
Represents the amortization/accretion of fair value hedging adjustments on closed advance hedge relationships resulting from advance prepayments.

For information related to the Bank's credit risk exposure on advances, refer to "Note 10 — Allowance for Credit Losses."

Note 9 — Mortgage Loans Held for Portfolio

The Bank participates in the Mortgage Partnership Finance (MPF) program (Mortgage Partnership Finance and MPF are registered trademarks of the FHLBank of Chicago). This program involves investment by the Bank in single-family mortgage loans held for portfolio that are either purchased from participating financial institutions (PFIs) or funded by the Bank through PFIs. MPF loans may also be acquired through participations in pools of eligible mortgage loans purchased from other FHLBanks. The Bank's MPF PFIs generally originate, service, and credit enhance mortgage loans that are sold to the Bank. MPF PFIs participating in the servicing release program do not service the loans owned by the Bank. The servicing on these loans is sold concurrently by the MPF PFI to a designated mortgage service provider.

Effective May 31, 2015, as a part of the Merger, the Bank acquired mortgage loans previously purchased by the Seattle Bank under the MPP. This program involved investment by the Seattle Bank in single-family mortgage loans that were purchased directly from MPP PFIs. Similar to the MPF program, MPP PFIs generally originated, serviced, and credit enhanced the mortgage loans sold to the Seattle Bank. In 2005, the Seattle Bank ceased entering into new MPP master commitment contracts and therefore all MPP loans acquired by the Bank were originated prior to 2006. The Bank does not currently purchase mortgage loans under this program. For additional information on the Merger, refer to "Note 2 — Merger".

The following table presents information on the Bank's mortgage loans held for portfolio (dollars in thousands):
 
September 30, 2015
 
MPF
 
MPP
 
Total
Fixed rate, long-term single-family mortgage loans
$
4,925,504

 
$
529,710

 
$
5,455,214

Fixed rate, medium-term1 single-family mortgage loans
1,313,118

 
16,380

 
1,329,498

Total unpaid principal balance
6,238,622

 
546,090

 
6,784,712

Premiums
77,401

 
18,762

 
96,163

Discounts
(9,861
)
 
(1,636
)
 
(11,497
)
Basis adjustments from mortgage loan commitments
10,032

 

 
10,032

Total mortgage loans held for portfolio
$
6,316,194

 
$
563,216

 
$
6,879,410


1
Medium-term is defined as a term of 15 years or less.


27


The following table presents information on the Bank's mortgage loans held for portfolio (dollars in thousands):
 
December 31, 2014
 
MPF
 
MPP
 
Total
Fixed rate, long-term single-family mortgage loans
$
5,024,393

 
$

 
$
5,024,393

Fixed rate, medium-term1 single-family mortgage loans
1,462,014

 

 
1,462,014

Total unpaid principal balance
6,486,407

 

 
6,486,407

Premiums
82,206

 

 
82,206

Discounts
(12,191
)
 

 
(12,191
)
Basis adjustments from mortgage loan commitments
10,947

 

 
10,947

Total mortgage loans held for portfolio
$
6,567,369

 
$

 
$
6,567,369


1
Medium-term is defined as a term of 15 years or less.

The following tables present the Bank's mortgage loans held for portfolio by collateral or guarantee type (dollars in thousands):
 
September 30, 2015
 
MPF
 
MPP
 
Total
Conventional mortgage loans
$
5,685,881

 
$
493,317

 
$
6,179,198

Government-insured mortgage loans
552,741

 
52,773

 
605,514

Total unpaid principal balance
$
6,238,622

 
$
546,090

 
$
6,784,712

 
December 31, 2014
 
MPF
 
MPP
 
Total
Conventional mortgage loans
$
5,916,651

 
$

 
$
5,916,651

Government-insured mortgage loans
569,756

 

 
569,756

Total unpaid principal balance
$
6,486,407

 
$

 
$
6,486,407


For information related to the Bank's credit risk exposure on mortgage loans held for portfolio, refer to "Note 10 — Allowance for Credit Losses."

Note 10 — Allowance for Credit Losses

The Bank has established an allowance for credit losses methodology for each of its financing receivable portfolio segments: advances, standby letters of credit, and other extensions of credit to borrowers (collectively, credit products), government-insured mortgage loans held for portfolio, conventional mortgage loans held for portfolio, and term securities purchased under agreements to resell.

CREDIT PRODUCTS

The Bank manages its credit exposure to credit products through an approach that includes establishing a credit limit for each borrower, ongoing reviews of each borrower's financial condition, and detailed collateral and lending policies to limit risk of loss while balancing borrowers' needs for a reliable source of funding. In addition, the Bank lends to eligible borrowers in accordance with the FHLBank Act, Finance Agency regulations, and other applicable laws.

The Bank is required by regulation to obtain sufficient collateral to fully secure credit products. The estimated value of the collateral required to secure each borrower's credit products is calculated by applying collateral discounts, or haircuts, to the unpaid principal balance or market value, if available, of the collateral. Eligible collateral includes (i) whole first mortgages on improved residential real property or securities representing a whole interest in such mortgages, (ii) loans and securities issued, insured, or guaranteed by the U.S. Government or any agency thereof, including mortgage-backed securities (MBS) issued or guaranteed by Fannie Mae, Freddie Mac, or Government National Mortgage Association and Federal Family Education Loan Program guaranteed student loans, (iii) cash deposited with the Bank, and (iv) other real estate-related collateral acceptable to the Bank provided such collateral has a readily ascertainable value and the Bank can perfect a security interest in such property. In addition, community financial institutions may also pledge collateral consisting of secured small business, small agri-business, or small farm loans. As additional security, the FHLBank Act provides that the Bank has a lien on each member's capital stock investment; however, capital stock cannot be pledged as collateral to secure credit exposures.


28


Collateral arrangements may vary depending upon borrower credit quality, financial condition and performance, borrowing capacity, and overall credit exposure to the borrower. The Bank can also require additional or substitute collateral to protect its security interest. The Bank periodically evaluates and makes changes to its collateral guidelines and collateral haircuts.

Borrowers may pledge collateral to the Bank by executing a blanket lien, specifically assigning collateral, or placing physical possession of collateral with the Bank or its custodians. The Bank perfects its security interest in all pledged collateral by filing Uniform Commercial Code financing statements or by taking possession or control of the collateral. Under the FHLBank Act, any security interest granted to the Bank by its members, or any affiliates of its members, has priority over the claims and rights of any party (including any receiver, conservator, trustee, or similar party having rights of a lien creditor), unless those claims and rights would be entitled to priority under otherwise applicable law and are held by actual purchasers or by parties that have perfected security interests.
Under a blanket lien, the Bank is granted a security interest in all financial assets of the borrower to fully secure the borrower's obligation. Other than securities and cash deposits, the Bank does not initially take delivery of collateral pledged by blanket lien borrowers. In the event of deterioration in the financial condition of a blanket lien borrower, the Bank has the ability to require delivery of pledged collateral sufficient to secure the borrower's obligation. With respect to non-blanket lien borrowers that are federally insured, the Bank generally requires collateral to be specifically assigned. With respect to non-blanket lien borrowers that are not federally insured (typically insurance companies, CDFIs, and housing associates), the Bank generally takes control of collateral through the delivery of cash, securities, or loans to the Bank or its custodians.

Using a risk-based approach and taking into consideration each borrower's financial strength, the Bank considers the types and level of collateral to be the primary indicator of credit quality on its credit products. At September 30, 2015 and December 31, 2014, the Bank had rights to collateral on a borrower-by-borrower basis with an unpaid principal balance or market value, if available, in excess of its outstanding extensions of credit.

At September 30, 2015 and December 31, 2014, none of the Bank's credit products were past due, on non-accrual status, or considered impaired. In addition, there were no troubled debt restructurings (TDRs) related to credit products during the nine months ended September 30, 2015 and 2014.

The Bank has never experienced a credit loss on its credit products. Based upon the Bank's collateral and lending policies, the collateral held as security, and the repayment history on credit products, management has determined that there were no probable credit losses on its credit products as of September 30, 2015 and December 31, 2014. Accordingly, the Bank has not recorded any allowance for credit losses for its credit products.

Government-Insured Mortgage Loans

The Bank invests in government-insured fixed rate mortgage loans that are insured or guaranteed by the Federal Housing Administration, the Department of Veterans Affairs, and/or the Rural Housing Service of the Department of Agriculture. The servicer or PFI obtains and maintains insurance or a guaranty from the applicable government agency. The servicer or PFI is responsible for compliance with all government agency requirements and for obtaining the benefit of the applicable guarantee or insurance with respect to defaulted government-insured mortgage loans. Any losses incurred on these loans that are not recovered from the insurer/guarantor are absorbed by the servicers. As such, the Bank only has credit risk for these loans if the servicer or PFI fails to pay for losses not covered by the guarantee or insurance. Management views this risk as remote and has never experienced a credit loss on its government-insured mortgage loans. As a result, the Bank did not establish an allowance for credit losses for its government-insured mortgage loans at September 30, 2015 and December 31, 2014. Furthermore, none of these mortgage loans have been placed on non-accrual status because of the U.S. Government guarantee or insurance on these loans and the contractual obligation of the loan servicer to repurchase the loans when certain criteria are met.

Conventional Mortgage Loans

The Bank's management of credit risk in the MPF program and MPP involves several layers of legal loss protection that are defined in agreements among the Bank and its participating PFIs.


29


MPF Loans

For the Bank's conventional MPF loans, the availability of loss protection may differ slightly among MPF products. The Bank's loss protection consists of the following loss layers, in order of priority:

Homeowner Equity.

Primary Mortgage Insurance (PMI). At the time of origination, PMI is required on all loans with homeowner equity of less than 20 percent of the original purchase price or appraised value, whichever is less and as applicable to the specific loan.

First Loss Account (FLA). The FLA is a memorandum account used to track the Bank's potential loss exposure under each master commitment prior to the PFI's credit enhancement obligation.

Credit Enhancement Obligation of PFI. PFIs have a credit enhancement obligation at the time a mortgage loan is purchased to absorb certain losses in excess of the FLA in order to limit the Bank's loss exposure to that of an investor in an MBS that is rated the equivalent of AA by a nationally recognized statistical rating organization (NRSRO). PFIs pledge collateral to secure this obligation. For absorbing losses in excess of the FLA, PFIs are paid a credit enhancement fee, a portion of which may be performance-based.

MPP Loans

Effective May 31, 2015, as a part of the Merger with the Seattle Bank, the Bank acquired mortgage loans previously purchased by the Seattle Bank under the MPP. For the Bank's conventional MPP loans, the loss protection consists of the following loss layers, in order of priority:

Homeowner Equity.

Primary Mortgage Insurance. At the time of origination, PMI is required on all loans with homeowner equity of less than 20 percent of the original purchase price or appraised value, whichever is less and as applicable to the specific loan.

Lender Risk Account (LRA). The LRA is a lender-specific account originally funded by the Seattle Bank in an amount approximately sufficient to cover expected losses on the pool of mortgages either up front as a portion of the purchase proceeds or through a portion of the net interest remitted monthly by the member. To the extent available, LRA funds are used to offset any losses that occur. Typically, after five years, excess funds over required balances are distributed to the member in accordance with a step-down schedule that is established upon execution of a master commitment contract.  

ALLOWANCE METHODOLOGY

The Bank utilizes an allowance for credit losses to reserve for estimated losses in its conventional MPF mortgage loan portfolio at the balance sheet date. The measurement of the Bank's MPF allowance for credit losses is determined by (i) reviewing similar conventional mortgage loans for impairment on a collective basis, (ii) reviewing conventional mortgage loans for impairment on an individual basis, (iii) estimating additional credit losses in the conventional mortgage loan portfolio, (iv) considering the recapture of performance-based credit enhancement fees from the PFI, if available, and (v) considering the credit enhancement obligation of the PFI, if estimated losses exceed the FLA.

The Bank utilizes an allowance for credit losses to reserve for estimated losses in its conventional MPP mortgage loan portfolio at the balance sheet date. The establishment of the Bank's MPP allowance for credit losses is determined by (i) reviewing similar conventional mortgage loans for impairment on a collective basis, (ii) reviewing conventional mortgage loans for impairment on an individual basis, (iii) estimating additional credit losses in the conventional mortgage loan portfolio, and (iv) considering the LRA if estimated losses exceed the losses paid by homeowner equity or PMI.

  

30


Collectively Evaluated Conventional Mortgage Loans. The Bank collectively evaluates the majority of its conventional MPF and MPP mortgage loan portfolios for impairment and estimates an allowance for credit losses based upon factors that include, but are not limited to, (i) loan delinquencies, (ii) loans migrating to collateral-dependent status, (iii) actual historical loss severities, and (iv) certain quantifiable economic factors, such as unemployment rates and home prices. The Bank utilizes a roll-rate methodology when estimating its allowance for credit losses. This methodology projects loans migrating to collateral-dependent status based on historical average rates of delinquency. The Bank then applies a loss severity factor to calculate an estimate of credit losses.

Individually Identified Conventional Mortgage Loans. The Bank individually evaluates certain MPF and MPP conventional mortgage loans, including TDRs and collateral-dependent loans, for impairment. The Bank's TDRs include loans granted under its loan modification plans and loans discharged under Chapter 7 bankruptcy that have not been reaffirmed by the borrower. The Bank generally measures impairment of TDRs based on the present value of expected future cash flows discounted at the loan's effective interest rate. Collateral-dependent loans are loans in which repayment is expected to be provided solely by the sale of the underlying collateral. The Bank's collateral-dependent loans include loans in process of foreclosure, loans 180 days or more past due, and bankruptcy loans and TDRs 60 days or more past due. The Bank measures impairment of collateral-dependent loans based on the estimated fair value of the underlying collateral, which is determined using property values, less selling costs and expected proceeds from PMI.

A charge-off is recorded if it is estimated that the recorded investment in a loan will not be recovered. The Bank evaluates whether to record a charge-off based upon the occurrence of a confirming event. Prior to January 1, 2015, charge-offs generally were recorded at the time a mortgage loan was transferred to REO. Beginning January 1, 2015, the Bank began to also charge-off the portion of the outstanding conventional mortgage loan balance in excess of the fair value of the underlying collateral for all collateral-dependent mortgage loans. This change did not have a material effect on the Bank's financial condition or results of operations.

Estimating Additional Credit Loss in the MPF and MPP Conventional Mortgage Loan Portfolios. The Bank may make adjustments for certain limitations in its estimation of credit losses. These adjustments recognize the imprecise nature of an estimate and represents a subjective management judgment that is intended to cover losses resulting from other factors that may not be captured in the methodology previously described at the balance sheet date.

MPF Performance-Based Credit Enhancement Fees. When reserving for estimated credit losses, the Bank may take into consideration performance-based credit enhancement fees available for recapture from the PFIs. Performance-based credit enhancement fees available for recapture, if any, consist of accrued performance-based credit enhancement fees to be paid to the PFIs and projected performance-based credit enhancement fees to be paid to the PFIs over the next 12 months, less any losses incurred that are in the process of recapture.

Available performance-based credit enhancement fees cannot be shared between master commitments and, as a result, some master commitments may have sufficient performance-based credit enhancement fees to recapture losses while other master commitments may not. At September 30, 2015 and December 31, 2014, the Bank determined that the amount of performance-based credit enhancement fees available for recapture from the PFIs at the master commitment level was immaterial. As such, it did not factor credit enhancement fees into its estimate of the allowance for credit losses.

MPF PFI Credit Enhancement Obligation. When reserving for estimated credit losses, the Bank may take into consideration the PFI credit enhancement obligation, which is intended to absorb losses in excess of the FLA. At September 30, 2015 and December 31, 2014, the Bank determined that the amount of credit enhancement obligation available to offset losses was immaterial. As such, it did not factor credit enhancement obligation into its estimate of the allowance for credit losses.

MPP Lender Risk Account. The LRA was established by the Seattle Bank for each MPP master commitment to cover losses not anticipated to be paid by homeowner's equity or PMI. At September 30, 2015, the Bank determined the amount of LRA to be immaterial. As such, it did not factor LRA into its estimate of the allowance for loan losses.  


31


ALLOWANCE FOR CREDIT LOSSES ON CONVENTIONAL MORTGAGE LOANS

The following table presents a rollforward of the allowance for credit losses on the Bank's conventional mortgage loan portfolio (dollars in thousands):
 
MPF
 
MPP
 
Total
Balance, June 30, 2014
$
7,200

 
$

 
$
7,200

Charge-offs
(188
)
 

 
(188
)
Provision (reversal) for credit losses
(1,412
)
 

 
(1,412
)
Balance, September 30, 2014
$
5,600

 
$

 
$
5,600

 
 
 
 
 
 
Balance, June 30, 2015
$
902

 
$
194

 
$
1,096

Charge-offs
(245
)
 
(260
)
 
(505
)
Recoveries
192

 

 
192

Provision (reversal) for credit losses
160

 
309

 
469

Balance, September 30, 2015
$
1,009

 
$
243

 
$
1,252

 
 
 
 
 
 
Balance, December 31, 2013
$
8,000

 
$

 
$
8,000

Charge-offs
(654
)
 

 
(654
)
Provision (reversal) for credit losses
(1,746
)
 

 
(1,746
)
Balance, September 30, 2014
$
5,600

 
$

 
$
5,600

 
 
 
 
 
 
Balance, December 31, 2014
$
4,900

 
$

 
$
4,900

Charge-offs
(5,160
)
 
(261
)
 
(5,421
)
Recoveries
406

 

 
406

Provision (reversal) for credit losses
863

 
504

 
1,367

Balance, September 30, 2015
$
1,009

 
$
243

 
$
1,252


The following table summarizes the allowance for credit losses and recorded investment of the Bank's conventional mortgage loan portfolio by impairment methodology (dollars in thousands):
 
MPF
 
MPP
 
Total
Allowance for credit losses, September 30, 2015
 
 
 
 
 
Collectively evaluated for impairment
$
1,009

 
$
243

 
$
1,252

Individually evaluated for impairment

 

 

Total allowance for credit losses
$
1,009

 
$
243

 
$
1,252

 
 
 
 
 
 
Allowance for credit losses, December 31, 2014
 
 
 
 
 
Collectively evaluated for impairment
$
1,500

 
$

 
$
1,500

Individually evaluated for impairment
3,400

 

 
3,400

Total allowance for credit losses
$
4,900

 
$

 
$
4,900

 
 
 
 
 
 
Recorded investment, September 30, 20151
 
 
 
 
 
Collectively evaluated for impairment
$
5,740,998

 
$
477,654

 
$
6,218,652

Individually evaluated for impairment, with or without a related allowance
39,954

 
31,847

 
71,801

Total recorded investment
$
5,780,952

 
$
509,501

 
$
6,290,453

 
 
 
 
 
 
Recorded investment, December 31, 20141
 
 
 
 
 
Collectively evaluated for impairment
$
5,966,025

 
$

 
$
5,966,025

Individually evaluated for impairment, with or without a related allowance
50,151

 

 
50,151

Total recorded investment
$
6,016,176

 
$

 
$
6,016,176


1
Represents the unpaid principal balance adjusted for accrued interest, unamortized premiums, discounts, basis adjustments, and direct write-downs.


32


CREDIT QUALITY INDICATORS

Key credit quality indicators for mortgage loans include the migration of past due loans, loans in process of foreclosure, and non-accrual loans. The tables below summarize the Bank's key credit quality indicators for mortgage loans (dollars in thousands):
 
September 30, 2015
 
MPF
 
MPP
 
 
 
Conventional
 
Government
 
Conventional
 
Government
 
Total
Past due 30 - 59 days
$
51,688

 
$
20,775

 
$
14,813

 
$
4,181

 
$
91,457

Past due 60 - 89 days
15,932

 
4,768

 
4,817

 
1,788

 
27,305

Past due 90 - 179 days
11,447

 
5,777

 
3,489

 
1,319

 
22,032

Past due 180 days or more
31,115

 
4,097

 
17,365

 
3,343

 
55,920

Total past due mortgage loans
110,182

 
35,417

 
40,484

 
10,631

 
196,714

Total current mortgage loans
5,670,770

 
532,331

 
469,017

 
45,440

 
6,717,558

Total recorded investment of mortgage loans1
$
5,780,952

 
$
567,748

 
$
509,501

 
$
56,071

 
$
6,914,272

 
 
 
 
 
 
 
 
 
 
In process of foreclosure (included above)2
$
23,144

 
$
1,876

 
$
10,321

 
$

 
$
35,341

Serious delinquency rate3
0.7
%
 
1.7
%
 
4.1
%
 
8.3
%
 
1.1
%
Past due 90 days or more and still accruing interest4
$

 
$
9,874

 
$

 
$
4,662

 
$
14,536

Non-accrual mortgage loans5
$
46,619

 
$

 
$
34,223

 
$

 
$
80,842


 
December 31, 2014
 
MPF
 
MPP
 
 
 
Conventional
 
Government
 
Conventional
 
Government
 
Total
Past due 30 - 59 days
$
70,646

 
$
20,279

 
$

 
$

 
$
90,925

Past due 60 - 89 days
22,000

 
7,036

 

 

 
29,036

Past due 90 - 179 days
16,355

 
4,644

 

 

 
20,999

Past due 180 days or more
38,157

 
6,155

 

 

 
44,312

Total past due mortgage loans
147,158

 
38,114

 

 

 
185,272

Total current mortgage loans
5,869,018

 
547,686

 

 

 
6,416,704

Total recorded investment of mortgage loans1
$
6,016,176

 
$
585,800

 
$

 
$

 
$
6,601,976

 
 
 
 
 
 
 
 
 
 
In process of foreclosure (included above)2
$
26,715

 
$
4,111

 
$

 
$

 
$
30,826

Serious delinquency rate3
0.9
%
 
1.8
%
 
%
 
%
 
1.0
%
Past due 90 days or more and still accruing interest4
$

 
$
10,799

 
$

 
$

 
$
10,799

Non-accrual mortgage loans5
$
58,832

 
$

 
$

 
$

 
$
58,832


1
Represents the unpaid principal balance adjusted for accrued interest, unamortized premiums, discounts, basis adjustments, and direct write-downs.

2
Includes loans where the decision of foreclosure or similar alternative such as pursuit of deed-in-lieu has been reported. Loans in process of foreclosure are included in past due or current loans depending on their payment status.

3
Represents mortgage loans that are 90 days or more past due or in the process of foreclosure expressed as a percentage of the total recorded investment.

4
Represents government-insured mortgage loans that are 90 days or more past due.

5
Represents conventional mortgage loans that are 90 days or more past due and TDRs.


33


INDIVIDUALLY EVALUATED IMPAIRED LOANS

As previously described, the Bank evaluates certain conventional mortgage loans for impairment individually. A loan is considered impaired when, based on current information and events, it is probable that the Bank will be unable to collect all amounts due according to the contractual terms of the loan agreement.

The following table summarizes the recorded investment and related allowance of the Bank's individually evaluated impaired loans (dollars in thousands):
 
September 30, 2015
 
December 31, 2014
 
Recorded Investment
 
Related Allowance1
 
Recorded Investment
 
Related Allowance
Impaired loans with an allowance
 
 
 
 
 
 
 
Conventional MPF Loans
$

 
$

 
$
19,342

 
$
3,400

Conventional MPP Loans

 

 

 

Impaired loans without an allowance
 
 
 
 
 
 
 
Conventional MPF Loans
39,954

 

 
30,809

 

Conventional MPP Loans
31,847

 

 

 

Total
 
 
 
 
 
 
 
Conventional MPF Loans
$
39,954

 
$

 
$
50,151

 
$
3,400

Conventional MPP Loans
$
31,847

 
$

 
$

 
$


1
Beginning January 1, 2015, the Bank began to charge-off the portion of the outstanding conventional mortgage loan balance in excess of the fair value of the underlying collateral for all collateral-dependent mortgage loans. As such, those loans no longer have an associated allowance.

The Bank did not recognize any interest income on impaired loans during the three and nine months ended September 30, 2015 and 2014.

The following table summarizes the average recorded investment of the Bank's individually evaluated impaired loans (dollars in thousands):
 
For the Three Months Ended
 
For the Nine Months Ended
 
September 30,
 
September 30,
 
2015
 
2014
 
2015
 
2014
Impaired loans with an allowance
 
 
 
 
 
 
 
Conventional MPF Loans
$

 
$
21,770

 
$

 
$
20,231

Conventional MPP Loans

 

 

 

Impaired loans without an allowance
 
 
 
 
 
 
 
Conventional MPF Loans
41,428

 
30,933

 
45,052

 
25,936

Conventional MPP Loans
33,007

 

 
14,928

 

Total
 
 
 
 
 
 
 
Conventional MPF Loans
$
41,428

 
$
52,703

 
$
45,052

 
$
46,167

Conventional MPP Loans
$
33,007

 
$

 
$
14,928

 
$


REAL ESTATE OWNED

At September 30, 2015 and December 31, 2014, the Bank had $8.2 million and $8.9 million of REO recorded as a component of "Other assets" in the Statements of Condition.


34


TERM SECURITIES PURCHASED UNDER AGREEMENTS TO RESELL

Term securities purchased under agreements to resell are considered collateralized financing agreements and represent short-term investments. The terms of these investments are structured such that if the market value of the underlying securities decreases below the market value required as collateral, the counterparty must place an equivalent amount of additional securities as collateral or remit an equivalent amount of cash. Otherwise, the dollar value of the resale agreement will decrease accordingly. If an agreement to resell is deemed to be impaired, the difference between the fair value of the collateral and the amortized cost of the agreement will be charged to earnings to establish an allowance for credit losses. Based upon the collateral held as security, the Bank determined that no allowance for credit losses was needed for its term securities purchased under agreements to resell at September 30, 2015 and December 31, 2014.

OFF-BALANCE SHEET CREDIT EXPOSURES

At September 30, 2015 and December 31, 2014, the Bank did not record a liability to reflect an allowance for credit losses for off-balance sheet credit exposures. For additional information on the Bank's off-balance sheet credit exposures, see "Note 15 — Commitments and Contingencies."

Note 11 — Derivatives and Hedging Activities

NATURE OF BUSINESS ACTIVITY

The Bank is exposed to interest rate risk primarily from the effect of interest rate changes on its interest-earning assets and its related funding sources. The goal of the Bank's interest rate risk management strategy is not to eliminate interest rate risk, but to manage it within appropriate limits. To mitigate the risk of loss, the Bank has established policies and procedures, which include guidelines on the amount of exposure to interest rate changes it is willing to accept.

The Bank enters into derivative contracts to manage the interest rate risk exposures inherent in its otherwise unhedged assets and funding positions. Finance Agency regulations and the Bank's Enterprise Risk Management Policy (ERMP) establish guidelines for derivatives, prohibit trading in or the speculative use of derivatives, and limit credit risk arising from derivatives.

The most common ways in which the Bank uses derivatives are to:

reduce the interest rate sensitivity and repricing gaps of assets and liabilities;

preserve a favorable interest rate spread between the yield of an asset and the cost of the related liability. Without the use of derivatives, this interest rate spread could be reduced or eliminated when a change in the interest rate on the asset does not match a change in the interest rate on the liability;

mitigate the adverse earnings effects of the shortening or extension of certain assets and liabilities;

manage embedded options in assets and liabilities; and

reduce funding costs by combining a derivative with a consolidated obligation, as the cost of a combined funding structure can be lower than the cost of a comparable consolidated obligation.

APPLICATION OF DERIVATIVES
 
Derivative instruments are accounted for by the Bank in two ways:
 
as a fair value hedge of an associated financial instrument or firm commitment for those items qualifying under applicable accounting guidance (fair value hedge); or

as an economic hedge to manage certain defined risks in its Statements of Condition. These hedges are primarily used to manage mismatches between the coupon features of the Bank's assets and liabilities and offset prepayment risk in certain assets (economic hedge).

Derivative instruments are used by the Bank when they are considered to be a cost-effective alternative to achieve the Bank's financial and risk management objectives. The Bank reevaluates its hedging strategies from time to time and may change the hedging techniques it uses or adopt new strategies.

35



The Bank transacts most of its derivative transactions with large banks and major broker-dealers. Over-the-counter derivative transactions may be either executed directly with a counterparty (uncleared derivatives) or cleared through a Futures Commission Merchant (i.e., clearing agent) with a Derivative Clearing Organization (cleared derivatives). Once a derivative transaction has been accepted for clearing by a Derivative Clearing Organization (Clearinghouse), the derivative transaction is novated and the executing counterparty is replaced with the Clearinghouse.

TYPES OF DERIVATIVES

The Bank may use the following derivative instruments:

interest rate swaps;

options;

swaptions;

interest rate caps and floors; and

future/forward contracts.

TYPES OF HEDGED ITEMS

The Bank documents at inception all fair value hedging relationships between derivatives designated as hedging instruments and hedged items, its risk management objectives and strategies for undertaking various hedge transactions, and its method of assessing effectiveness. This process includes linking all derivatives that are designated as fair value hedges to assets and liabilities in the Statements of Condition or firm commitments. The Bank also formally assesses (both at the hedge's inception and at least quarterly) whether the derivatives it uses in hedging transactions have been effective in offsetting changes in the fair value of hedged items attributable to the hedged risk and whether those derivatives are expected to remain effective in future periods. The Bank uses regression analyses to assess the effectiveness of its hedges.

The Bank may have the following types of hedged items:

investment securities;

advances;
       
mortgage loans;
  
consolidated obligations; and
  
firm commitments.

FINANCIAL STATEMENT EFFECT AND ADDITIONAL FINANCIAL INFORMATION

The notional amount of derivatives serves as a factor in determining periodic interest payments and cash flows received and paid. However, the notional amount of derivatives represents neither the actual amounts exchanged nor the overall exposure of the Bank to credit and market risk. The risks of derivatives can be measured meaningfully on a portfolio basis that takes into account the counterparties, the types of derivatives, the items being hedged, and any offsets between the derivatives and the items being hedged.


36


The following table summarizes the Bank's notional amount and the fair value of derivative instruments, including the effect of netting adjustments and cash collateral. For purposes of this disclosure, the derivative values include the fair value of derivatives and the related accrued interest (dollars in thousands):
 
 
September 30, 2015
 
December 31, 2014
 
 
Notional
Amount
 
Derivative
Assets
 
Derivative
 Liabilities
 
Notional
Amount
 
Derivative
Assets
 
Derivative
 Liabilities
Derivatives designated as hedging instruments (fair value hedges)
 
 
 
 
 
 
 
 
 
 
 
 
Interest rate swaps
 
$
42,157,753

 
$
188,840

 
$
852,498

 
$
38,703,467

 
$
84,362

 
$
459,437

Derivatives not designated as hedging instruments (economic hedges)
 
 
 
 
 
 
 
 
 
 
 
 
Interest rate swaps
 
5,014,994

 
24,450

 
86,537

 
1,012,577

 
11,714

 
51,260

Interest rate swaption
 
200,000

 

 

 

 

 

Forward settlement agreements (TBAs)
 
36,000

 

 
249

 
65,000

 
1

 
322

Mortgage delivery commitments
 
41,748

 
218

 

 
70,106

 
245

 
7

Total derivatives not designated as hedging instruments
 
5,292,742

 
24,668

 
86,786

 
1,147,683

 
11,960

 
51,589

Total derivatives before netting and collateral adjustments
 
$
47,450,495

 
213,508

 
939,284

 
$
39,851,150

 
96,322

 
511,026

Netting adjustments and cash collateral1
 
 
 
(97,257
)
 
(811,534
)
 
 
 
(16,210
)
 
(434,394
)
Total derivative assets and derivative liabilities
 
 
 
$
116,251

 
$
127,750

 
 
 
$
80,112

 
$
76,632


1
Amounts represent the application of the netting requirements that allow the Bank to net settle positive and negative positions and also cash collateral and the related accrued interest held or placed with the same clearing agent and/or counterparty. Cash collateral posted by the Bank (including accrued interest) was $714.4 million and $418.2 million at September 30, 2015 and December 31, 2014. Cash collateral received by the Bank (including accrued interest) was $0.1 million at September 30, 2015. At December 31, 2014, the Bank had not received any cash collateral from clearing agents and/or counterparties.

The following table summarizes the components of “Net gains (losses) on derivatives and hedging activities” as presented in the Statements of Income (dollars in thousands):
 
For the Three Months Ended
 
For the Nine Months Ended
 
September 30,
 
September 30,
 
2015
 
2014
 
2015
 
2014
Derivatives designated as hedging instruments (fair value hedges)
 
 
 
 
 
 
 
Interest rate swaps
$
(6,490
)
 
$
(12,114
)
 
$
716

 
$
(30,819
)
Derivatives not designated as hedging instruments (economic hedges)
 
 
 
 
 
 
 
Interest rate swaps
(32,211
)
 
892

 
(23,841
)
 
(32,978
)
Interest rate swaption
(20
)
 

 
(109
)
 

Forward settlement agreements (TBAs)
(901
)
 
(138
)
 
(1,020
)
 
(3,058
)
Mortgage delivery commitments
823

 
133

 
886

 
2,878

Net interest settlements
(4,803
)
 
(5,606
)
 
(15,399
)
 
(14,816
)
Total net gains (losses) related to derivatives not designated as hedging instruments
(37,112
)
 
(4,719
)
 
(39,483
)
 
(47,974
)
Net gains (losses) on derivatives and hedging activities
$
(43,602
)
 
$
(16,833
)
 
$
(38,767
)
 
$
(78,793
)


37


The following tables summarize, by type of hedged item, the gains (losses) on derivatives and the related hedged items in fair value hedging relationships, the net fair value hedge ineffectiveness, and the effect of those derivatives on the Bank's net interest income (dollars in thousands):
 
 
For the Three Months Ended September 30, 2015
Hedged Item Type
 
Gains (Losses) on
Derivatives
 
Gains (Losses) on
Hedged Items
 
Net Fair Value
Hedge
Ineffectiveness
 
Effect on
Net Interest
Income1
Available-for-sale investments
 
$
(241,549
)
 
$
237,746

 
$
(3,803
)
 
$
(44,140
)
Advances2
 
(90,519
)
 
90,495

 
(24
)
 
(48,398
)
Consolidated obligation bonds
 
70,946

 
(73,609
)
 
(2,663
)
 
32,772

Total
 
$
(261,122
)
 
$
254,632

 
$
(6,490
)
 
$
(59,766
)
 
 
For the Three Months Ended September 30, 2014
Hedged Item Type
 
Gains (Losses) on
Derivatives
 
Gains (Losses) on
Hedged Items
 
Net Fair Value
Hedge
Ineffectiveness
 
Effect on
Net Interest
Income1
Available-for-sale investments
 
$
7,361

 
$
(22,040
)
 
$
(14,679
)
 
$
(30,235
)
Advances
 
66,115

 
(65,635
)
 
480

 
(40,989
)
Consolidated obligation bonds
 
(21,753
)
 
23,838

 
2,085

 
18,735

Total
 
$
51,723

 
$
(63,837
)
 
$
(12,114
)
 
$
(52,489
)
 
 
For the Nine Months Ended September 30, 2015
Hedged Item Type
 
Gains (Losses) on
Derivatives
 
Gains (Losses) on
Hedged Items
 
Net Fair Value
Hedge
Ineffectiveness
 
Effect on
Net Interest
Income1
Available-for-sale investments
 
$
(161,402
)
 
$
160,945

 
$
(457
)
 
$
(111,209
)
Advances2
 
(57,968
)
 
59,476

 
1,508

 
(130,454
)
Consolidated obligation bonds
 
68,014

 
(68,349
)
 
(335
)
 
87,460

Total
 
$
(151,356
)
 
$
152,072

 
$
716

 
$
(154,203
)
 
 
For the Nine Months Ended September 30, 2014
Hedged Item Type
 
Gains (Losses) on
Derivatives
 
Gains (Losses) on
Hedged Items
 
Net Fair Value
Hedge
Ineffectiveness
 
Effect on
Net Interest
Income1
Available-for-sale investments
 
$
(182,908
)
 
$
147,763

 
$
(35,145
)
 
$
(83,608
)
Advances
 
67,342

 
(66,015
)
 
1,327

 
(121,861
)
Consolidated obligation bonds
 
26,414

 
(23,415
)
 
2,999

 
45,659

Total
 
$
(89,152
)
 
$
58,333

 
$
(30,819
)
 
$
(159,810
)

1
Represents the net interest settlements on derivatives in fair value hedge relationships and the amortization of the financing element of off-market derivatives, both of which are included in the interest income or interest expense line item of the respective hedged item type. This amortization for off-market derivatives totaled $9.7 million and $12.6 million for the three and nine months ended September 30, 2015. In 2014, the Bank did not record any amortization for off-market derivatives through net interest income.

2
Includes net gains (losses) on fair value hedge firm commitments of forward starting advances. The Bank did not hedge firm commitments of forward starting advances in 2014.

MANAGING CREDIT RISK ON DERIVATIVES

The Bank is subject to credit risk due to the risk of nonperformance by counterparties to its derivative contracts. The Bank manages credit risk through credit analyses, collateral requirements, and adherence to the requirements set forth in the Bank's policies, U.S. Commodity Futures Trading Commission regulations, and Finance Agency regulations. For uncleared derivatives, the degree of credit risk depends on the extent to which master netting arrangements are included in these contracts to mitigate the risk. The Bank requires collateral agreements with collateral delivery thresholds on the majority of its uncleared derivatives.


38


For cleared derivatives, the Clearinghouse is the Bank's counterparty. The Clearinghouse notifies the clearing agent of the required initial and variation margin and the clearing agent in turn notifies the Bank. The requirement that the Bank post initial and variation margin through the clearing agent, to the Clearinghouse, exposes the Bank to institutional credit risk if the clearing agent or the Clearinghouse fails to meet its obligations. The use of cleared derivatives is intended to mitigate credit risk exposure because a central counterparty is substituted for individual counterparties and collateral for changes in the fair value of cleared derivatives is posted daily through a clearing agent.

The Bank has analyzed the enforceability of offsetting rights incorporated in its cleared derivative transactions and has determined that the exercise of those offsetting rights by a non-defaulting party under these transactions should be upheld under applicable law upon an event of default, including a bankruptcy, insolvency, or similar proceeding involving the Clearinghouse or the clearing agent, or both. Based on this analysis, the Bank presents a net derivative receivable or payable for all of its transactions through a particular clearing agent with a particular Clearinghouse.

A majority of the Bank's uncleared derivative contracts contain provisions that require the Bank to post additional collateral with its counterparties if there is deterioration in the Bank's credit rating. If the Bank's credit rating is lowered by an NRSRO, the Bank may be required to deliver additional collateral on uncleared derivative instruments in net liability positions. The aggregate fair value of all uncleared derivative instruments with credit-risk related contingent features that were in a net liability position (before cash collateral and related accrued interest) at September 30, 2015 was $387.2 million, for which the Bank posted collateral of $259.9 million in the normal course of business. If the Bank's credit rating had been lowered from its current rating to the next lower rating that would have triggered additional collateral to be delivered, the Bank would have been required to deliver an additional $109.7 million of collateral to its uncleared derivative counterparties at September 30, 2015.

For cleared derivatives, the Clearinghouse determines initial margin requirements and generally credit ratings are not factored into the initial margin. However, clearing agents may require additional initial margin to be posted based on credit considerations, including but not limited to, credit rating downgrades. The Bank was not required to post additional initial margin by its clearing agents, based on credit considerations, at September 30, 2015.

OFFSETTING OF DERIVATIVE ASSETS AND DERIVATIVE LIABILITIES

The Bank presents derivative instruments, related cash collateral, including initial and variation margin, received or pledged, and associated accrued interest on a net basis by clearing agent and/or by counterparty when it has met the netting requirements. The following table presents the fair value of derivative instruments meeting or not meeting the netting requirements, including the related collateral received from or pledged to counterparties (dollars in thousands):
 
September 30, 2015
 
December 31, 2014
 
Derivative Assets
 
Derivative Liabilities
 
Derivative Assets
 
Derivative Liabilities
Derivative instruments meeting netting requirements
 
 
 
 
 
 
 
Gross recognized amount
 
 
 
 
 
 
 
Uncleared derivatives
$
148,053

 
$
535,056

 
$
59,574

 
$
316,472

Cleared derivatives
65,237

 
404,228

 
36,503

 
194,547

Total gross recognized amount
213,290

 
939,284

 
96,077

 
511,019

Gross amounts of netting adjustments and cash collateral
 
 
 
 
 
 
 
Uncleared derivatives
(147,482
)
 
(407,306
)
 
(56,327
)
 
(239,847
)
Cleared derivatives
50,225

 
(404,228
)
 
40,117

 
(194,547
)
Total gross amounts of netting adjustments and cash collateral
(97,257
)
 
(811,534
)
 
(16,210
)
 
(434,394
)
Net amounts after netting adjustments and cash collateral
 
 
 
 
 
 
 
Uncleared derivatives
571

 
127,750

 
3,247

 
76,625

Cleared derivatives
115,462

 

 
76,620

 

Total net amounts after netting adjustments and cash collateral
116,033

 
127,750

 
79,867

 
76,625

Uncleared derivatives instruments not meeting netting requirements1
218

 

 
245

 
7

Total derivative assets and derivative liabilities
 
 
 
 
 
 
 
Uncleared derivatives
789

 
127,750

 
3,492

 
76,632

Cleared derivatives
115,462

 

 
76,620

 

Total derivative assets and total derivative liabilities
$
116,251

 
$
127,750

 
$
80,112

 
$
76,632


1
Represents mortgage delivery commitments that are not subject to an enforceable netting agreement.


39


Note 12 — Consolidated Obligations

Consolidated obligations consist of bonds and discount notes. The FHLBanks issue consolidated obligations through the Office of Finance as their agent. Bonds are issued primarily to raise intermediate- and long-term funds for the Bank and are not subject to any statutory or regulatory limits on their maturity. Discount notes are issued primarily to raise short-term funds for the Bank and have original maturities of up to one year. Discount notes sell at or below their face amount and are redeemed at par value when they mature.

Although the Bank is primarily liable for the portion of consolidated obligations issued on its behalf, it is also jointly and severally liable with the other FHLBanks for the payment of principal and interest on all FHLBank System consolidated obligations. The Finance Agency, at its discretion, may require any FHLBank to make principal and/or interest payments due on any consolidated obligation, whether or not the primary obligor FHLBank has defaulted on the payment of that consolidated obligation. The Finance Agency has never exercised this discretionary authority. At September 30, 2015 and December 31, 2014, the total par value of outstanding consolidated obligations of the FHLBanks was $856.5 billion and $847.2 billion.

DISCOUNT NOTES

The following table summarizes the Bank's discount notes (dollars in thousands):
 
September 30, 2015
 
December 31, 2014
 
Amount
 
Weighted
Average
Interest
Rate
 
Amount
 
Weighted
Average
Interest
Rate
Par value
$
77,272,109

 
0.17
 
$
57,781,155

 
0.09
Discounts
(25,277
)
 
 
 
(8,265
)
 
 
Fair value option adjustments
38

 
 
 

 
 
Total
$
77,246,870

 
 
 
$
57,772,890

 
 

BONDS

The following table summarizes the Bank's bonds outstanding by contractual maturity (dollars in thousands):
 
 
September 30, 2015
 
December 31, 2014
Year of Contractual Maturity
 
Amount
 
Weighted
Average
Interest
Rate
 
Amount
 
Weighted
Average
Interest
Rate
Due in one year or less
 
$
18,402,160

 
0.83
 
$
18,392,675

 
0.59
Due after one year through two years
 
3,736,285

 
2.33
 
3,144,800

 
2.31
Due after two years through three years
 
3,756,240

 
2.25
 
2,731,455

 
3.39
Due after three years through four years
 
1,792,125

 
3.66
 
632,740

 
1.47
Due after four years through five years
 
2,760,965

 
2.43
 
1,883,450

 
2.02
Thereafter
 
5,535,815

 
3.13
 
5,382,770

 
3.06
Index amortizing notes
 
119,418

 
5.22
 
165,016

 
5.21
Total par value
 
36,103,008

 
1.76
 
32,332,906

 
1.53
Premiums
 
334,487

 
 
 
21,045

 
 
Discounts
 
(38,317
)
 
 
 
(18,289
)
 
 
Fair value hedging adjustments
 
87,297

 
 
 
26,448

 
 
Fair value option adjustments
 
1,583

 
 
 

 
 
Total
 
$
36,488,058

 
 
 
$
32,362,110

 
 

    

40


The following table summarizes the Bank's bonds outstanding by call features (dollars in thousands):
 
September 30,
2015
 
December 31,
2014
Noncallable or nonputable
$
31,389,358

 
$
19,667,906

Callable
4,713,650

 
12,665,000

Total par value
$
36,103,008

 
$
32,332,906

 

EXTINGUISHMENT OF DEBT

During both the three and nine months ended September 30, 2015, the Bank did not extinguish any debt. During the three and nine months ended September 30, 2014, the Bank extinguished bonds with a total par value of $91.3 million and $115.0 million and recognized losses of $10.0 million and $12.7 million in other income (loss).

Note 13 — Capital

CAPITAL STOCK

The Bank's capital stock has a par value of $100 per share, and all shares are issued, redeemed, or repurchased by the Bank at the stated par value. The Bank generally issues a single class of capital stock (Class B stock). The Bank has two subclasses of capital stock: membership and activity-based. Each member must purchase and hold membership capital stock in an amount equal to 0.12 percent of its total assets as of the preceding December 31st, subject to a cap of $10.0 million and a floor of $10,000. Each member is also required to purchase activity-based capital stock equal to 4.00 percent of its advances and mortgage loans outstanding in the Bank's Statements of Condition. All Class B stock issued is subject to a five year notice of redemption period.

The capital stock requirements established in the Bank's Capital Plan are designed so that the Bank can remain adequately capitalized as member activity changes. The Bank's Board of Directors may make adjustments to the capital stock requirements within ranges established in the Capital Plan. The Bank amended its Capital Plan effective at the closing of the Merger to, among other things (i) authorize two classes of capital stock of the Bank, consisting of the Bank’s Class A stock (to accommodate former Seattle Bank Class A stock) and Class B stock; and (ii) authorize the distribution of additional capital from merger, either as a dividend or capital distribution, if and when declared by the Bank's Board of Directors.

As a part of the Merger with the Seattle Bank, on the merger date, each share of Seattle Bank Class A stock outstanding was converted into one share of Des Moines Bank Class A stock and each share of Seattle Bank Class B stock outstanding was converted into one share of Des Moines Bank Class B stock. Immediately following the Merger, all shares of Des Moines Bank Class A stock and excess shares of Class B stock were repurchased and Des Moines Class B stock was issued as needed to meet the Bank's activity and membership stock requirements in accordance with the combined Bank's Capital Plan. No shares of Seattle Bank capital stock remain outstanding. The Merger did not have an impact on the total capital stock held by Des Moines Bank stockholders.

MANDATORILY REDEEMABLE CAPITAL STOCK

The Bank reclassifies capital stock subject to redemption from equity to a liability (mandatorily redeemable capital stock) when a member engages in any of the following activities: (i) submits a written notice to redeem all or part of its capital stock, (ii) submits a written notice of its intent to withdraw from membership, or (iii) terminates its membership voluntarily as a result of a consolidation into a non-member or into a member of another FHLBank. Dividends on mandatorily redeemable capital stock are classified as interest expense in the Statements of Income. At September 30, 2015 and December 31, 2014, the Bank's mandatorily redeemable capital stock totaled $105.9 million and $24.4 million.

As a part of the Merger, on the merger date, the Bank assumed Seattle Bank's mandatorily redeemable capital stock. The Bank immediately redeemed all shares of this stock, with the exception of shares required to meet members' activity and membership stock requirements, and shares subject to the mandatory five year waiting period upon written notice of a member's intent to withdraw from membership in accordance with the combined Bank's Capital Plan.


41


The following table summarizes changes in mandatorily redeemable capital stock (dollars in thousands):
Balance, June 30, 2014
$
8,574

Capital stock reclassified to (from) mandatorily redeemable capital stock, net
704

Repurchases/redemptions of mandatorily redeemable capital stock
(878
)
Balance, September 30, 2014
$
8,400

 
 
Balance, June 30, 2015
$
118,748

Capital stock reclassified to (from) mandatorily redeemable capital stock, net
13,946

Repurchases/redemptions of mandatorily redeemable capital stock
(26,778
)
Balance, September 30, 2015
$
105,916

 
 
Balance, December 31, 2013
$
8,719

Proceeds from issuance of mandatorily redeemable capital stock
145

Capital stock reclassified to (from) mandatorily redeemable capital stock, net
4,444

Repurchases/redemptions of mandatorily redeemable capital stock
(4,908
)
Balance, September 30, 2014
$
8,400

 
 
Balance, December 31, 2014
$
24,367

Proceeds from issuance of mandatorily redeemable capital stock
467

Mandatorily redeemable capital stock assumed from merger
724,827

Capital stock reclassified to (from) mandatorily redeemable capital stock, net
(75,133
)
Repurchases/redemptions of mandatorily redeemable capital stock
(568,612
)
Balance, September 30, 2015
$
105,916


ADDITIONAL CAPITAL FROM MERGER

The Bank recognized the net assets acquired from the Seattle Bank by recording the par value of capital stock issued in the transaction as capital stock, with the remaining portion of net assets acquired reflected in a new capital account captioned as “Additional capital from merger.” This balance primarily represents the amount of the Seattle Bank's closing retained earnings balance, adjusted for fair value and other purchase accounting adjustments, and identified intangible assets. The Bank treats this additional capital from merger as a component of total capital for regulatory capital purposes. Dividends to the Bank's members have been paid from this account since the merger date. The Bank intends to pay future dividends to members, when and if declared, from this account until the additional capital from merger balance is depleted. During the three months ended September 30, 2015, the Bank began distributing dividends from additional capital from merger in the amount of $25.9 million, resulting in an ending additional capital from merger balance of $220.6 million.

RESTRICTED RETAINED EARNINGS

The Bank entered into a Joint Capital Enhancement Agreement (JCE Agreement) with all of the other FHLBanks in February 2011. The JCE Agreement, as amended, is intended to enhance the capital position of the Bank over time. It requires the Bank to allocate 20 percent of its quarterly net income to a separate restricted retained earnings account until the balance of that account equals at least one percent of its average balance of outstanding consolidated obligations for the previous quarter. The restricted retained earnings are not available to pay dividends. At September 30, 2015 and December 31, 2014, the Bank's restricted retained earnings account totaled $95.1 million and $75.0 million.


42


ACCUMULATED OTHER COMPREHENSIVE INCOME

The following table summarizes changes in accumulated other comprehensive income (AOCI) (dollars in thousands):
 
Net unrealized gains (losses) on AFS securities (Note 5)
 
Pension and postretirement benefits
 
Total AOCI
Balance, June 30, 2014
$
135,232

 
$
(1,266
)
 
$
133,966

Other comprehensive income (loss) before reclassifications
 
 
 
 
 
Net unrealized gains (losses)
17,531

 

 
17,531

Reclassifications from other comprehensive income (loss) to net income
 
 
 
 
 
Amortization - pension and postretirement

 
98

 
98

Net current period other comprehensive income (loss)
17,531

 
98

 
17,629

Balance, September 30, 2014
$
152,763

 
$
(1,168
)
 
$
151,595

 
 
 
 
 
 
Balance, June 30, 2015
$
124,271

 
$
(3,025
)
 
$
121,246

Other comprehensive income (loss) before reclassifications
 
 
 
 
 
Net unrealized gains (losses)
(119,929
)
 

 
(119,929
)
Reclassifications from other comprehensive income (loss) to net income
 
 
 
 
 
Amortization - pension and postretirement

 
92

 
92

Net current period other comprehensive income (loss)
(119,929
)
 
92

 
(119,837
)
Balance, September 30, 2015
$
4,342

 
$
(2,933
)
 
$
1,409

 
 
 
 
 
 
Balance, December 31, 2013
$
88,399

 
$
(1,355
)
 
$
87,044

Other comprehensive income (loss) before reclassifications
 
 
 
 
 
Net unrealized gains (losses)
65,190

 

 
65,190

Reclassifications from other comprehensive income (loss) to net income
 
 
 
 
 
Net realized (gains) losses on sale of securities
(826
)
 

 
(826
)
Amortization - pension and postretirement

 
187

 
187

Net current period other comprehensive income (loss)
64,364

 
187

 
64,551

Balance, September 30, 2014
$
152,763

 
$
(1,168
)
 
$
151,595

 
 
 
 
 
 
Balance, December 31, 2014
$
126,631

 
$
(3,409
)
 
$
123,222

Other comprehensive income (loss) before reclassifications
 
 
 
 
 
Net unrealized gains (losses)
(122,289
)
 

 
(122,289
)
Reclassifications from other comprehensive income (loss) to net income
 
 
 
 
 
Amortization - pension and postretirement

 
476

 
476

Net current period other comprehensive income (loss)
(122,289
)
 
476

 
(121,813
)
Balance, September 30, 2015
$
4,342

 
$
(2,933
)
 
$
1,409


REGULATORY CAPITAL REQUIREMENTS

The Bank is subject to three regulatory capital requirements:

Risk-based capital. The Bank must maintain at all times permanent capital greater than or equal to the sum of its credit, market, and operations risk capital requirements, all calculated in accordance with Finance Agency regulations. Only permanent capital, defined as Class B stock (including mandatorily redeemable capital stock), and retained earnings can satisfy this risk-based capital requirement.



43


Regulatory capital. The Bank is required to maintain a minimum four percent capital-to-asset ratio, which is defined as total regulatory capital divided by total assets. Total regulatory capital includes Class B stock (including mandatorily redeemable capital stock), additional capital from merger, and retained earnings. It does not include AOCI.

Leverage capital. The Bank is required to maintain a minimum five percent leverage ratio, which is defined as the sum of permanent capital weighted 1.5 times and nonpermanent capital weighted 1.0 times, divided by total assets. At September 30, 2015, nonpermanent capital included additional capital from merger. At December 31, 2014, the Bank did not have any nonpermanent capital.

If the Bank's capital falls below the required levels, the Finance Agency has authority to take actions necessary to return it to levels that it deems to be consistent with safe and sound business operations.

The following table shows the Bank's compliance with the Finance Agency's regulatory capital requirements (dollars in thousands):
 
September 30, 2015
 
December 31, 2014
 
Required
 
Actual
 
Required
 
Actual
Regulatory capital requirements
 
 
 
 
 
 
 
Risk-based capital
$
912,732

 
$
5,002,248

 
$
579,898

 
$
4,213,293

Regulatory capital
$
4,814,413

 
$
5,222,829

 
$
3,820,958

 
$
4,213,293

Leverage capital
$
6,018,016

 
$
7,723,952

 
$
4,776,197

 
$
6,319,939

Capital-to-assets ratio
4.00
%
 
4.34
%
 
4.00
%
 
4.41
%
Leverage ratio
5.00
%
 
6.42
%
 
5.00
%
 
6.62
%

Note 14 — Fair Value

Fair value amounts are determined by the Bank using available market information and reflect the Bank's best judgment of appropriate valuation methods. The fair value hierarchy requires an entity to maximize the use of observable inputs and minimize the use of unobservable inputs when measuring fair value. The inputs are evaluated and an overall level for the fair value measurement is determined. This overall level is an indication of market observability of the fair value measurement for the asset or liability.

The fair value hierarchy prioritizes the inputs used to measure fair value into three broad levels:

Level 1 Inputs. Quoted prices (unadjusted) for identical assets or liabilities in an active market that the Bank can access on the measurement date.

Level 2 Inputs. Inputs other than quoted prices within Level 1 that are observable inputs 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: (i) quoted prices for similar assets or liabilities in active markets, (ii) quoted prices for identical or similar assets or liabilities in markets that are not active, (iii) 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, implied volatilities, and credit spreads), and (iv) market-corroborated inputs.

Level 3 Inputs. Unobservable inputs for the asset or liability.

The Bank reviews its 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. These reclassifications are reported as transfers in/out as of the beginning of the quarter in which the changes occur. There were no such transfers during the nine months ended September 30, 2015 and 2014.


44


The following table summarizes the carrying value, fair value, and fair value hierarchy of the Bank's financial instruments at September 30, 2015 (dollars in thousands). 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 and the net profitability of assets and liabilities.
 
 
 
 
Fair Value
Financial Instruments
 
Carrying Value
 
Level 1
 
Level 2
 
Level 3
 
Netting Adjustment1
 
Total
Assets
 
 
 
 
 
 
 
 
 
 
 

Cash and due from banks
 
$
765,478

 
$
765,478

 
$

 
$

 
$

 
$
765,478

Interest-bearing deposits
 
1,943

 

 
1,930

 

 

 
1,930

Securities purchased under agreements to resell
 
5,000,000

 

 
5,000,000

 

 

 
5,000,000

Federal funds sold
 
2,180,000

 

 
2,180,000

 

 

 
2,180,000

Trading securities
 
2,572,725

 

 
2,572,725

 

 

 
2,572,725

Available-for-sale securities
 
21,755,407

 

 
21,755,407

 

 

 
21,755,407

Held-to-maturity securities
 
6,400,683

 

 
6,464,634

 
20,896

 

 
6,485,530

Advances
 
74,484,088

 

 
74,578,135

 

 

 
74,578,135

Mortgage loans held for portfolio, net
 
6,878,158

 

 
6,966,061

 
112,612

 

 
7,078,673

Accrued interest receivable
 
130,590

 

 
130,590

 

 

 
130,590

Derivative assets, net
 
116,251

 

 
213,508

 

 
(97,257
)
 
116,251

Other assets
 
14,914

 
14,914

 

 

 

 
14,914

Liabilities
 
 
 
 
 
 
 
 
 
 
 
 
Deposits
 
(1,006,000
)
 

 
(1,005,920
)
 

 

 
(1,005,920
)
Consolidated obligations
 
 
 
 
 
 
 
 
 
 
 
 
Discount notes
 
(77,246,870
)
 

 
(77,256,301
)
 

 

 
(77,256,301
)
Bonds
 
(36,488,058
)
 

 
(37,046,000
)
 

 

 
(37,046,000
)
Total consolidated obligations
 
(113,734,928
)
 

 
(114,302,301
)
 

 

 
(114,302,301
)
Mandatorily redeemable capital stock
 
(105,916
)
 
(105,916
)
 

 

 

 
(105,916
)
Accrued interest payable
 
(148,830
)
 

 
(148,830
)
 

 

 
(148,830
)
Derivative liabilities, net
 
(127,750
)
 
(249
)
 
(939,035
)
 

 
811,534

 
(127,750
)
Other
 
 
 
 
 
 
 
 
 
 
 
 
Commitments to fund advances
 

 

 
264

 

 

 
264

Standby letters of credit
 
(2,621
)
 

 

 
(2,621
)
 

 
(2,621
)
Standby bond purchase agreements
 

 

 
1,844

 

 

 
1,844


1
Amounts represent the application of the netting requirements that allow the Bank to net settle positive and negative positions and also cash collateral and the related accrued interest held or placed with the same clearing agent and/or counterparty.


45


The following table summarizes the carrying value, fair value, and fair value hierarchy of the Bank's financial instruments at December 31, 2014 (dollars in thousands):
 
 
 
 
Fair Value
Financial Instruments
 
Carrying Value
 
Level 1
 
Level 2
 
Level 3
 
Netting Adjustment1
 
Total
Assets
 
 
 
 
 
 
 
 
 
 
 
 
Cash and due from banks
 
$
495,197

 
$
495,197

 
$

 
$

 
$

 
$
495,197

Interest-bearing deposits
 
1,942

 

 
1,921

 

 

 
1,921

Securities purchased under agreements to resell
 
5,091,000

 

 
5,091,000

 

 

 
5,091,000

Federal funds sold
 
1,860,000

 

 
1,860,000

 

 

 
1,860,000

Trading securities
 
2,530,490

 

 
2,530,490

 

 

 
2,530,490

Available-for-sale securities
 
12,383,792

 

 
12,383,792

 

 

 
12,383,792

Held-to-maturity securities
 
1,211,460

 

 
1,274,597

 
24,451

 

 
1,299,048

Advances
 
65,168,274

 

 
65,293,461

 

 

 
65,293,461

Mortgage loans held for portfolio, net
 
6,562,469

 

 
6,833,531

 
62,218

 

 
6,895,749

Accrued interest receivable
 
84,440

 

 
84,440

 

 

 
84,440

Derivative assets, net
 
80,112

 
1

 
96,321

 

 
(16,210
)
 
80,112

Other assets
 
12,069

 
12,069

 

 

 

 
12,069

Liabilities
 
 
 
 
 
 
 
 
 
 
 
 
Deposits
 
(512,558
)
 

 
(512,553
)
 

 

 
(512,553
)
Consolidated obligations
 
 
 
 
 
 
 
 
 
 
 
 
Discount notes
 
(57,772,890
)
 

 
(57,773,924
)
 

 

 
(57,773,924
)
Bonds
 
(32,362,110
)
 

 
(32,958,871
)
 

 

 
(32,958,871
)
Total consolidated obligations
 
(90,135,000
)
 

 
(90,732,795
)
 

 

 
(90,732,795
)
Mandatorily redeemable capital stock
 
(24,367
)
 
(24,367
)
 

 

 

 
(24,367
)
Accrued interest payable
 
(89,509
)
 

 
(89,509
)
 

 

 
(89,509
)
Derivative liabilities, net
 
(76,632
)
 
(322
)
 
(510,704
)
 

 
434,394

 
(76,632
)
Other
 
 
 
 
 
 
 
 
 
 
 
 
Commitments to fund advances
 

 

 
194

 

 

 
194

Standby letters of credit
 
(1,978
)
 

 

 
(1,978
)
 

 
(1,978
)
Standby bond purchase agreements
 

 

 
1,809

 

 

 
1,809


1
Amounts represent the application of the netting requirements that allow the Bank to net settle positive and negative positions and also cash collateral and the related accrued interest held or placed with the same clearing agent and/or counterparty.

SUMMARY OF VALUATION TECHNIQUES AND PRIMARY INPUTS
 
Cash and Due from Banks. The fair value equals the carrying value.

Interest-Bearing Deposits. For interest-bearing deposits with less than three months to maturity, the fair value approximates the carrying value. For interest-bearing deposits with more than three months to maturity, the fair value is determined by calculating the present value of the expected future cash flows and reducing the amount for accrued interest receivable.

Securities Purchased under Agreements to Resell. For overnight and term securities purchased under agreements to resell with less than three months to maturity, the fair value approximates the carrying value. For term securities purchased under agreements to resell with more than three months to maturity, the fair value is determined by calculating the present value of the expected future cash flows and reducing the amount for accrued interest receivable. The discount rates used in these calculations are the rates for securities with similar terms.

Overnight Federal Funds Sold. The fair value approximates the carrying value.


46


Investment Securities. The Bank's valuation technique incorporates prices from four designated third-party pricing vendors, when available. The pricing vendors generally use various proprietary models to price investment securities. The inputs to those models are derived from various sources including, but not limited to, benchmark securities and yields, reported trades, dealer estimates, issuer spreads, bids, offers, and other market-related data. Since many investment 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 process in place to challenge investment valuations, which facilitates resolution of questionable prices identified by the Bank. Annually, the Bank conducts reviews of the four pricing vendors to confirm and further augment its understanding of the vendors' pricing processes, methodologies, and control procedures for investment securities.

The Bank's valuation technique for estimating the fair values of its investment securities first requires the establishment of a “median” price for each security. If four prices are received, the average of the middle two prices is the median price; 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 validation of outliers.

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. Alternatively, if 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. In limited instances, when no prices are available from the four designated pricing services, the Bank obtains prices from dealers.

As of September 30, 2015 and December 31, 2014, four prices were received for the majority of the Bank's investment securities and the final prices for those securities were computed by averaging the prices received. Based on the Bank's review of the pricing methods and controls employed by the third-party pricing vendors and the relative lack of dispersion among the vendor prices, the Bank believes its final prices are representative of the prices that would have been received if the assets had been sold at the measurement date (i.e., exit prices) and further, that the fair value measurements are classified appropriately in the fair value hierarchy.

As an additional step, the Bank reviews the final fair value estimates of its private-label MBS holdings quarterly for reasonableness using an implied yield test. The Bank calculated an implied yield for each of its private-label MBS using the estimated fair value derived from the process previously described and the security's projected cash flows from the Bank's OTTI process. These yields were compared to the market yield of comparable securities according to dealers and/or other third-party sources. This analysis did not indicate any significant variances. Therefore, the Bank determined that its fair value estimates for private-label MBS were appropriate at September 30, 2015.

Advances. The fair value of advances is determined by calculating the present value of the expected future cash flows and reducing the amount for accrued interest receivable. For advances elected under the fair value option, fair value includes accrued interest receivable. The discount rates used in these calculations are equivalent to the replacement advance rates for advances with similar terms. In accordance with Finance Agency regulations, advances generally require a prepayment fee sufficient to make the Bank financially indifferent to a borrower's decision to prepay the advances. Therefore, the fair value of advances assumes no prepayment risk.

The Bank uses the following inputs for measuring the fair value of advances:

Consolidated Obligation Curve (CO Curve). The Office of Finance constructs a market-observable curve referred to as the CO Curve. The CO Curve is constructed using the U.S. Treasury Curve as a base curve which is then adjusted by adding indicative spreads obtained largely from market-observable sources. These market indications are generally derived from pricing indications from dealers, historical pricing relationships, recent GSE trades, and secondary market activity. The Bank utilizes the CO Curve as its input to fair value for advances because it represents the Bank's cost of funds and is used to price advances.

Volatility assumption. Market-based expectations of future interest rate volatility implied from current market prices for similar options.

Spread assumption. Represents a spread adjustment to the CO Curve.

47



Mortgage Loans Held for Portfolio. The fair value of mortgage loans held for portfolio is estimated based on quoted market prices of similar mortgage loans available in the market, if available, or modeled prices. The modeled prices start with prices for new MBS issued by GSEs or similar new mortgage loans. The prices are adjusted for credit risk, servicing spreads, seasoning, liquidity, and cash flow remittances. The prices for new MBS or similar new mortgage loans are highly dependent upon the underlying prepayment assumptions priced in the secondary market. Changes in expected prepayment rates often have a material effect on the fair value estimates.

Impaired Mortgage Loans Held for Portfolio. The fair value of impaired mortgage loans held for portfolio is estimated by obtaining property values from an external pricing vendor. This vendor utilizes multiple pricing models that generally factor in market observable inputs, including actual sales transactions and home price indices. The Bank applies an adjustment to these values to capture certain limitations in the estimation process and takes into consideration estimated selling costs and expected PMI proceeds. In limited instances, the Bank may estimate the fair value of an impaired mortgage loan by calculating the present value of expected future cash flows discounted at the loan's effective interest rate.  

Real Estate Owned. The fair value of REO is estimated using a current property value or a broker price opinion adjusted for estimated selling costs and expected PMI proceeds.

Accrued Interest Receivable and Payable. The fair value approximates the carrying value.

Derivative Assets and Liabilities. The fair value of derivatives is generally estimated using standard valuation techniques such as discounted cash flow analyses and comparisons to similar instruments. In limited instances, fair value estimates for interest-rate related derivatives may be obtained using an external pricing model that utilizes observable market data. The Bank is subject to credit risk in derivatives transactions due to the potential nonperformance of its derivatives counterparties. The use of cleared derivatives is intended to mitigate credit risk exposure because a central counterparty is substituted for individual counterparties and collateral is posted daily, through a clearing agent, for changes in the fair value of cleared derivatives. To mitigate credit risk on uncleared derivatives, the Bank enters into master netting agreements with its counterparties as well as collateral agreements that provide for the delivery of collateral at specified levels tied to those counterparties' credit ratings. The Bank has evaluated the potential for the fair value of its derivatives to be affected by counterparty credit risk and its own credit risk and has determined that no adjustments were significant to the overall fair value measurements.

The fair values of the Bank's derivative assets and derivative 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 derivatives are netted by clearing agent and/or counterparty if the netting requirements are met. If these netted amounts are positive, they are classified as an asset and, if negative, they are classified as a liability.

The Bank's discounted cash flow model utilizes market-observable inputs (inputs that are actively quoted and can be validated to external sources). The Bank uses the following inputs for measuring the fair value of interest-related derivatives:

Discount rate assumption. The Bank utilizes the Overnight-Index Swap (OIS) curve. 

Forward interest rate assumption. The Bank utilizes the London Interbank Offered Rate (LIBOR) swap curve.

Volatility assumption. Market-based expectations of future interest rate volatility implied from current market prices for similar options.

For forward settlement agreements (TBAs), the Bank utilizes TBA securities prices that are determined by coupon class and expected term until settlement. For mortgage delivery commitments, the Bank utilizes TBA securities prices adjusted for factors such as credit risk and servicing spreads.
 
Other Assets. These represent assets held in Rabbi Trust accounts for the Bank's nonqualified retirement plans. These assets include cash equivalents and mutual funds, both of which are carried at estimated fair value based on quoted market prices as of the last business day of the reporting period.


48


Deposits. For deposits with three months or less to maturity, the fair value approximates the carrying value. For deposits with more than three months to maturity, the fair value is determined by calculating the present value of the expected future cash flows and reducing the amount for accrued interest payable. The discount rates used in these calculations are the cost of deposits with similar terms.

Consolidated Obligations. The fair value of consolidated obligations is based on prices received from pricing vendors (consistent with the methodology for investment securities discussed above) or determined by calculating the present value of the expected future cash flows and reducing the amount for accrued interest payable. For consolidated obligations elected under the fair value option, fair value includes accrued interest payable. The discount rates used in these calculations are for consolidated obligations with similar terms. The Bank uses the CO Curve and a volatility assumption for measuring the fair value of these consolidated obligations.

Mandatorily Redeemable Capital Stock. The fair value of capital stock subject to mandatory redemption is generally reported at par value. Fair value also includes an estimated dividend earned at the time of reclassification from equity to a liability (if applicable), until such amount is paid. Capital stock can only be acquired by members at par value and redeemed at par value. Capital stock is not publicly traded and no market mechanism exists for the exchange of stock outside the cooperative structure.
 
Commitments to Fund Advances. The fair value of advance commitments is based on the present value of fees currently charged for similar agreements, taking into account the remaining terms of the agreement and the difference between current levels of interest rates and the committed rates.

Standby Letters of Credit. The fair value of standby letters of credit is based on either the fees currently charged for similar agreements or the estimated cost to terminate the agreement or otherwise settle the obligation with the counterparty.

Standby Bond Purchase Agreements. The fair value of standby bond purchase agreements is calculated using the present value of the expected future fees related to the agreements. The discount rates used in the calculations are based on municipal spreads over the U.S. Treasury Curve, which are comparable to discount rates used to value the underlying bonds. Upon purchase of any bonds under these agreements, the Bank estimates fair value using the "Investment Securities" fair value methodology.

Subjectivity of Estimates. Estimates of the fair value of financial assets and liabilities using the methods previously described are highly subjective and require judgments regarding significant matters, such as the amount and timing of future cash flows, prepayment speed assumptions, expected interest rate volatility, possible distributions of future interest rates used to value options, and the selection of discount rates that appropriately reflect market and credit risks. The use of different assumptions could have a material effect on the fair value estimates.


49


FAIR VALUE ON A RECURRING BASIS

The following table summarizes, for each hierarchy level, the Bank's assets and liabilities that are measured at fair value in the Statements of Condition at September 30, 2015 (dollars in thousands):
Recurring Fair Value Measurements
 
Level 1
 
Level 2
 
Level 3
 
Netting Adjustment1
 
Total
Assets
 
 
 
 
 
 
 
 
 
 
Trading securities
 
 
 
 
 
 
 
 
 
 
Other U.S. obligations
 
$

 
$
244,936

 
$

 
$

 
$
244,936

GSE obligations
 

 
1,579,725

 

 

 
1,579,725

Other non-MBS
 

 
281,177

 

 

 
281,177

GSE multifamily MBS
 

 
466,887

 

 

 
466,887

Total trading securities
 

 
2,572,725

 

 

 
2,572,725

Available-for-sale securities
 
 
 
 
 
 
 
 
 
 
Other U.S. obligations
 

 
4,108,124

 

 

 
4,108,124

GSE obligations
 

 
2,220,468

 

 

 
2,220,468

State or local housing agency obligations
 

 
1,069,869

 

 

 
1,069,869

Other non-MBS
 

 
303,139

 

 

 
303,139

Other U.S. obligations single-family MBS
 

 
2,341,339

 

 

 
2,341,339

GSE single-family MBS
 

 
1,702,250

 

 

 
1,702,250

GSE multifamily MBS
 

 
10,010,218

 

 

 
10,010,218

Total available-for-sale securities
 

 
21,755,407

 

 

 
21,755,407

Advances2
 

 
7,981

 

 

 
7,981

Derivative assets, net
 
 
 
 
 
 
 
 
 
 
Interest-rate related
 

 
213,290

 

 
(97,257
)
 
116,033

Mortgage delivery commitments
 

 
218

 

 

 
218

Total derivative assets, net
 

 
213,508

 

 
(97,257
)
 
116,251

Other assets
 
14,914

 

 

 

 
14,914

Total recurring assets at fair value
 
$
14,914

 
$
24,549,621

 
$

 
$
(97,257
)
 
$
24,467,278

Liabilities
 
 
 
 
 
 
 
 
 
 
Discount notes2
 
$

 
$
(1,999,966
)
 
$

 
$

 
$
(1,999,966
)
Bonds2
 

 
(1,581,583
)
 

 

 
(1,581,583
)
Derivative liabilities, net
 
 
 
 
 
 
 
 
 
 
Interest-rate related
 

 
(939,035
)
 

 
811,534

 
(127,501
)
Forward settlement agreements (TBAs)
 
(249
)
 

 

 

 
(249
)
Total derivative liabilities, net
 
(249
)
 
(939,035
)
 

 
811,534

 
(127,750
)
Total recurring liabilities at fair value
 
$
(249
)
 
$
(4,520,584
)
 
$

 
$
811,534

 
$
(3,709,299
)

1
Amounts represent the application of the netting requirements that allow the Bank to net settle positive and negative positions and also cash collateral and the related accrued interest held or placed with the same clearing agent and/or counterparty.

2
Represents financial instruments recorded under the fair value option.


50


The following table summarizes, for each hierarchy level, the Bank's assets and liabilities that are measured at fair value in the Statements of Condition at December 31, 2014 (dollars in thousands):
Recurring Fair Value Measurements
 
Level 1
 
Level 2
 
Level 3
 
Netting Adjustment1
 
Total
Assets
 
 
 
 
 
 
 
 
 
 
Trading securities
 
 
 
 
 
 
 
 
 
 
Other U.S. obligations
 
$

 
$
256,267

 
$

 
$

 
$
256,267

GSE obligations
 

 
1,531,811

 

 

 
1,531,811

Other non-MBS
 

 
280,215

 

 

 
280,215

GSE multifamily MBS
 

 
462,197

 

 

 
462,197

Total trading securities
 

 
2,530,490

 

 

 
2,530,490

Available-for-sale securities
 
 
 
 
 
 
 
 
 
 
Other U.S. obligations
 

 
163,569

 

 

 
163,569

GSE obligations
 

 
1,012,308

 

 

 
1,012,308

State or local housing agency obligations
 

 
36,348

 

 

 
36,348

Other non-MBS
 

 
183,702

 

 

 
183,702

Other U.S. obligations single-family MBS
 

 
1,975,691

 

 

 
1,975,691

GSE single-family MBS
 

 
2,008,907

 

 

 
2,008,907

GSE multifamily MBS
 

 
7,003,267

 

 

 
7,003,267

Total available-for-sale securities
 

 
12,383,792

 

 

 
12,383,792

Derivative assets, net
 
 
 
 
 
 
 
 
 
 
Interest-rate related
 

 
96,076

 

 
(16,209
)
 
79,867

Forward settlement agreements (TBAs)
 
1

 

 

 
(1
)
 

Mortgage delivery commitments
 

 
245

 

 

 
245

Total derivative assets, net
 
1

 
96,321

 

 
(16,210
)
 
80,112

Other assets
 
12,069

 

 

 

 
12,069

Total recurring assets at fair value
 
$
12,070

 
$
15,010,603

 
$

 
$
(16,210
)
 
$
15,006,463

Liabilities
 
 
 
 
 
 
 
 
 
 
Derivative liabilities, net
 
 
 
 
 
 
 
 
 
 
Interest-rate related
 
$

 
$
(510,697
)
 
$

 
$
434,393

 
$
(76,304
)
Forward settlement agreements (TBAs)
 
(322
)
 

 

 
1

 
(321
)
Mortgage delivery commitments
 

 
(7
)
 

 

 
(7
)
Total derivative liabilities, net
 
(322
)
 
(510,704
)
 

 
434,394

 
(76,632
)
Total recurring liabilities at fair value
 
$
(322
)
 
$
(510,704
)
 
$

 
$
434,394

 
$
(76,632
)

1
Amounts represent the application of the netting requirements that allow the Bank to net settle positive and negative positions and also cash collateral and the related accrued interest held or placed with the same clearing agent and/or counterparty.

FAIR VALUE ON A NON-RECURRING BASIS

The Bank measures certain impaired mortgage loans held for portfolio and REO at level 3 fair value on a non-recurring basis. These assets are subject to fair value adjustments in certain circumstances. In the case of impaired mortgage loans, the Bank estimates fair value based primarily on property values from an external pricing vendor. The Bank applies a 20 percent haircut on these values to capture certain limitations in the estimation process and takes into consideration estimated selling costs of 10 percent and expected PMI proceeds. In the case of REO, the Bank estimates fair value based on a current property value or a broker price opinion adjusted for estimated selling costs of 10 percent and expected PMI proceeds. The following table summarizes outstanding impaired mortgage loans held for portfolio and REO that were recorded at fair value as a result of a non-recurring change in fair value having been recorded in the period then ended (dollars in thousands):
 
September 30,
2015
 
December 31,
2014
Impaired mortgage loans held for portfolio1
$
21,683

 
$
15,942

Real estate owned1
827

 
773

Total non-recurring assets1
$
22,510

 
$
16,715


1
The fair value information presented for September 30, 2015 is as of the date the fair value adjustment was recorded during the nine months ended September 30, 2015.

51



FAIR VALUE OPTION

The fair value option provides an irrevocable option to elect fair value as an alternative measurement for selected financial assets, financial liabilities, unrecognized firm commitments, and written loan commitments not previously carried at fair value. It requires entities to display the fair value of those assets and liabilities for which it has chosen to use fair value on the face of the Statements of Condition. Fair value is used for both the initial and subsequent measurement of the designated assets, liabilities, and commitments, with the changes in fair value recognized in net income.

The Bank elects the fair value option for certain financial instruments when a hedge relationship does not qualify for hedge accounting. These fair value elections are made primarily in an effort to mitigate the potential income statement volatility that can arise when an economic derivative is adjusted for changes in fair value but the related hedged item is not.

The following tables summarize the activity related to financial instruments for which the fair value option was elected. For the three months ended September 30, 2014, the Bank did not have any financial instruments for which the fair value option was elected (dollars in thousands):
 
For the Three Months Ended September 30, 2015
 
Advances
 
Discount Notes
 
Bonds
Balance, beginning of period
$
66,570

 
$
(5,248,971
)
 
$
(1,976,325
)
New financial instruments elected for fair value option

 

 

Maturities and terminations
(58,500
)
 
3,250,000

 
395,000

Net gains (losses) on financial instruments held at fair value
(30
)
 
242

 
249

Change in accrued interest or unaccreted balance
(59
)
 
(1,237
)
 
(507
)
Balance, end of period
$
7,981

 
$
(1,999,966
)
 
$
(1,581,583
)
 
For the Nine Months Ended September 30,
 
2015
 
2014
 
Advances
 
Discount Notes
 
Bonds
 
Bonds
Balance, beginning of period
$

 
$

 
$

 
$
(50,033
)
New financial instruments elected for fair value option
66,620

 
(5,248,239
)
 
(2,376,977
)
 

Maturities and terminations
(58,500
)
 
3,250,000

 
795,000

 
50,000

Net gains (losses) on financial instruments held at fair value
(78
)
 
(38
)
 
187

 
2

Change in accrued interest or unaccreted balance
(61
)
 
(1,689
)
 
207

 
31

Balance, end of period
$
7,981

 
$
(1,999,966
)
 
$
(1,581,583
)
 
$


For financial instruments recorded under the fair value option, the related contractual interest income, contractual interest expense, and the discount amortization on fair value option discount notes are recorded as part of net interest income in the Statements of Income. The remaining changes are recorded as “Net gains (losses) on financial instruments held at fair value” in the Statements of Income. At September 30, 2015 and December 31, 2014, the Bank determined no credit risk adjustments for nonperformance were necessary to the instruments recorded under the fair value option.

The following table summarizes the difference between the unpaid principal balance and fair value of outstanding instruments for which the fair value option has been elected. At December 31, 2014, the Bank did not have any financial instruments outstanding for which the fair value option was elected (dollars in thousands):
 
September 30, 2015
 
Advances1
 
Discount Notes
 
Bonds
Unpaid principal balance
$
7,975

 
$
2,000,000

 
$
1,580,000

Fair value
7,981

 
1,999,966

 
1,581,583

Fair value over unpaid principal balance
$
6

 
$
(34
)
 
$
1,583


1
At September 30, 2015, none of the advances were 90 days or more past due or had been placed on non-accrual status.


52


Note 15 — Commitments and Contingencies

Joint and Several Liability. The FHLBanks have joint and several liability for all consolidated obligations issued. Accordingly, if an FHLBank were unable to repay any consolidated obligation for which it is the primary obligor, each of the other FHLBanks could be called upon by the Finance Agency to repay all or part of such obligations. No FHLBank has ever been asked or required to repay the principal or interest on any consolidated obligation on behalf of another FHLBank. At September 30, 2015 and December 31, 2014, the total par value of outstanding consolidated obligations issued on behalf of other FHLBanks for which the Bank is jointly and severally liable was approximately $743.1 billion and $757.1 billion.

The following table summarizes additional off-balance sheet commitments for the Bank (dollars in thousands):
 
September 30, 2015
 
December 31, 2014
 
Expire
within one year
 
Expire
after one year
 
Total
 
Total
Standby letters of credit
$
4,471,747

 
$
93,617

 
$
4,565,364

 
$
4,411,783

Standby bond purchase agreements
196,025

 
419,604

 
615,629

 
557,282

Commitments to purchase mortgage loans
41,748

 

 
41,748

 
70,106

Commitments to issue bonds
4,700

 

 
4,700

 
170,000

Commitments to issue discount notes
857,125

 

 
857,125

 

Commitments to fund advances
15,000

 
75,000

 
90,000

 
14,000

Other commitments
86,580

 

 
86,580

 
86,580


Standby Letters of Credit. A standby letter of credit is a financing arrangement between the Bank and a member. Standby letters of credit are executed with members for a fee. If the Bank is required to make payment for a beneficiary's draw, the payment is withdrawn from the member's demand account. Any resulting overdraft is converted into a collateralized advance to the member. The original terms of standby letters of credit range from less than one month to 13 years, currently no later than 2025. Unearned fees for standby letters of credit are recorded in “Other liabilities” in the Statements of Condition and amounted to $2.6 million and $2.0 million at September 30, 2015 and December 31, 2014.

The Bank monitors the creditworthiness of its standby letters of credit based on an evaluation of its borrowers. The Bank has established parameters for the measurement, review, classification, and monitoring of credit risk related to these standby letters of credit. 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 standby letters of credit. All standby letters of credit are fully collateralized at the time of issuance. The estimated fair value of standby letters of credit at September 30, 2015 and December 31, 2014 is reported in “Note 14 — Fair Value.”

Standby Bond Purchase Agreements. The Bank has entered into standby bond purchase agreements with state housing associates within its district whereby, for a fee, it agrees to serve as a standby liquidity provider if required, to purchase and hold the housing associate's bonds until the designated marketing agent can find a suitable investor or the housing associate 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 September 30, 2015, the Bank had standby bond purchase agreements with five housing associates. The standby bond purchase commitments entered into by the Bank have original expiration periods of up to seven years, currently no later than 2018. During the nine months ended September 30, 2015 and 2014, the Bank was not required to purchase any bonds under these agreements. For the three and nine months ended September 30, 2015, the Bank received fees for the guarantees that amounted to $0.4 million and $1.1 million. For the three and nine months ended September 30, 2014, the Bank received fees for the guarantees that amounted to $0.4 million and $1.3 million. The estimated fair value of standby bond purchase agreements at September 30, 2015 and December 31, 2014 is reported in "Note 14 — Fair Value.”

Commitments to Purchase Mortgage Loans. The Bank enters into commitments that unconditionally obligate it to purchase mortgage loans from its members. Commitments are generally for periods not to exceed 45 days. These commitments are considered derivatives and their estimated fair value at September 30, 2015 and December 31, 2014 is reported in “Note 11 — Derivatives and Hedging Activities” as mortgage delivery commitments.

Commitments to Issue Bonds and Discount Notes. At September 30, 2015, the Bank had commitments to issue $0.9 billion of consolidated obligation discount notes and $4.7 million of consolidated obligation bonds. At December 31, 2014, the Bank had commitments to issue $170.0 million of consolidated obligation bonds. The Bank did not have any commitments to issue discount notes at December 31, 2014.

53


Commitments to Fund Advances. The Bank enters into commitments that legally bind it to fund additional advances up to 24 months in the future. At September 30, 2015 and December 31, 2014, the Bank had commitments to fund advances of $90.0 million and $14.0 million.

Other Commitments. On December 30, 2013, the Bank entered into an agreement with the Iowa Finance Authority (IFA) to purchase up to $100.0 million of taxable multi-family mortgage revenue bonds. The agreement expires on June 30, 2016. As of September 30, 2015, the Bank had a commitment to purchase $86.6 million of bonds under the IFA agreement. To the extent these bonds are purchased by the Bank, they are classified as AFS in the Bank's Statements of Condition.

As previously described in “Note 10 — Allowance for Credit Losses”, the FLA is a memorandum account used to track the
Bank's potential loss exposure under each MPF master commitment prior to the PFI's credit enhancement obligation. For absorbing certain losses in excess of the FLA, PFIs are paid a credit enhancement fee, a portion of which may be performance-based. To the extent the Bank experiences losses under the FLA, it may be able to recapture performance-based credit enhancement fees paid to the PFI to offset these losses. The FLA balance for all MPF master commitments with a PFI credit enhancement obligation was $93.2 million and $92.2 million at September 30, 2015 and December 31, 2014.
Legal Proceedings. As a result of the Merger, the Bank is currently involved in a number of legal proceedings initiated by the Seattle Bank against various entities relating to its purchases and subsequent impairment of certain private-label MBS. Although the Seattle Bank sold all private-label MBS during the first quarter of 2015, the Bank continues to be involved in these proceedings. After consultation with legal counsel, other than the private-label MBS Litigation, the Bank does not believe any legal proceedings to which it is a party could have a material impact on its financial condition, results of operations, or cash flows.
Litigation settlement gains are considered realized and recorded when the Bank receives cash or assets that are readily convertible to known amounts of cash or claims to cash. In addition, litigation settlement gains are considered realizable and recorded when the Bank enters into a signed agreement that is not subject to appeal, where the counterparty has the ability to pay, and the amount to be received can be reasonably estimated. Prior to being realized or realizable, the Bank considers potential litigation settlement gains to be gain contingencies, and therefore they are not recorded in the Statements of Income.
The Bank records legal expenses related to litigation settlements as incurred in "other expenses" in the Statements of Income with the exception of certain legal expenses related to litigation settlement awards that are contingent based fees for the attorneys representing the Bank. The Bank incurs and recognizes these contingent based legal fees only when litigation settlement awards are received, at which time these fees are netted against the gains received on the litigation settlement.  During the three and nine months ended September 30, 2015, the Bank recognized $12.5 million in a gain on a litigation settlement.

Note 16 — Activities with Stockholders

The Bank is a cooperative whose current members own nearly all of the outstanding capital stock of the Bank. Former members own the remaining capital stock to support business transactions still carried on the Bank's Statements of Condition. All stockholders, including current and former members, may receive dividends on their capital stock investment to the extent declared by the Bank's Board of Directors.

TRANSACTIONS WITH DIRECTORS' FINANCIAL INSTITUTIONS

In the normal course of business, the Bank extends credit to its members whose directors and officers serve as Bank directors (Directors' Financial Institutions). Finance Agency regulations require that transactions with Directors' Financial Institutions be made on the same terms and conditions as those with any other member.

The following table summarizes the Bank's outstanding transactions with Directors' Financial Institutions (dollars in thousands):
 
 
September 30, 2015
 
December 31, 2014
 
 
Amount
 
% of Total
 
Amount
 
% of Total
Advances
 
$
1,336,736

 
1.8
 
$
822,027

 
1.3
Mortgage loans
 
147,391

 
2.2
 
206,957

 
3.2
Deposits
 
12,061

 
1.2
 
3,362

 
0.7
Capital stock
 
109,448

 
2.6
 
55,000

 
1.6


54


BUSINESS CONCENTRATIONS

The Bank considers itself to have business concentrations with stockholders owning 10 percent or more of its total capital stock outstanding (including mandatorily redeemable capital stock). At September 30, 2015, the Bank had the following business concentrations with stockholders (dollars in thousands):
 
 
Capital Stock
 
 
 
Mortgage
 
Interest
Stockholder
 
Amount
 
% of Total
 
Advances
 
Loans
 
Income1
Wells Fargo Bank, N.A.
 
$
1,070,000

 
25.3
 
$
26,500,000

 
$

 
$
65,966

Superior Guaranty Insurance Company2
 
39,611

 
0.9
 

 
962,282

 

Wells Fargo Bank Northwest, N.A.2
 
2,036

 
0.1
 

 
50,903

 

Total
 
$
1,111,647

 
26.3
 
$
26,500,000

 
$
1,013,185

 
$
65,966


1
Represents interest income earned on advances during the nine months ended September 30, 2015. Interest income on mortgage loans is excluded from this table as this interest relates to the borrower, not to the stockholder.

2
Superior Guaranty Insurance Company and Wells Fargo Bank Northwest, N.A. are affiliates of Wells Fargo Bank, N.A.

At December 31, 2014, the Bank had the following business concentrations with stockholders (dollars in thousands):
 
 
Capital Stock
 
 
 
Mortgage
 
Interest
Stockholder
 
Amount
 
% of Total
 
Advances
 
Loans
 
Income1
Wells Fargo Bank, N.A.
 
$
1,370,000

 
39.2
 
$
34,000,000

 
$

 
$
63,462

Superior Guaranty Insurance Company2
 
47,866

 
1.4
 

 
1,173,522

 

Total
 
$
1,417,866

 
40.6
 
$
34,000,000

 
$
1,173,522

 
$
63,462


1
Represents interest income earned on advances during the year ended December 31, 2014. Interest income on mortgage loans is excluded from this table as this interest relates to the borrower, not to the stockholder.

2
Superior Guaranty Insurance Company is an affiliate of Wells Fargo Bank, N.A.
 
Note 17 — Activities with Other FHLBanks

MPF Mortgage Loans. The Bank pays a service fee to the FHLBank of Chicago (Chicago Bank) for its participation in the MPF program. This service fee expense is recorded in other expense. For both the three months ended September 30, 2015 and 2014, the Bank recorded $0.7 million in service fee expense to the Chicago Bank. For the nine months ended September 30, 2015 and 2014, the Bank recorded $2.2 million and $2.0 million in service fee expense to the Chicago Bank.

Overnight Funds. The Bank may lend or borrow unsecured overnight funds to or from other FHLBanks. All such transactions are at current market rates. The following table summarizes loan activity to other FHLBanks during the nine months ended September 30, 2015 and 2014 (dollars in thousands):
Other FHLBank
 
Beginning
Balance
 
Advance
 
Principal
Repayment
 
Ending
Balance
2015
 
 
 
 
 
 
 
 
Topeka
 
$

 
$
100,000

 
$
(100,000
)
 
$

 
 
 
 
 
 
 
 
 
2014
 
 
 
 
 
 
 
 
Chicago
 
$

 
$
10,000

 
$
(10,000
)
 
$

Topeka
 

 
10,000

 
(10,000
)
 

 
 
$

 
$
20,000

 
$
(20,000
)
 
$



55


The following table summarizes borrowing activity from other FHLBanks during the nine months ended September 30, 2015 and 2014 (dollars in thousands):
Other FHLBank
 
Beginning
Balance
 
Borrowing
 
Principal
Payment
 
Ending
Balance
2015
 
 
 
 
 
 
 
 
Dallas
 
$

 
$
200,000

 
$
(200,000
)
 
$

San Francisco
 

 
100,000

 
(100,000
)
 

 
 
$

 
$
300,000

 
$
(300,000
)
 
$

 
 
 
 
 
 
 
 
 
2014
 
 
 
 
 
 
 
 
Atlanta
 
$

 
$
70,000

 
$
(70,000
)
 
$

Chicago
 

 
150,000

 
(150,000
)
 

San Francisco
 

 
150,000

 
(150,000
)
 

 
 
$

 
$
370,000

 
$
(370,000
)
 
$


At September 30, 2015 and 2014, none of the previous transactions were outstanding on the Bank's Statements of Condition. The interest income and expense related to these transactions was immaterial.

Merger

In anticipation of the closing of the Merger, on Friday, May 29, 2015, the Seattle Bank transferred $2.3 billion in cash to the Bank. The transfer was made to ensure the Bank had access to the Seattle Bank's cash balances on the first day of operations for the combined Bank, Monday, June 1, 2015. The Bank recorded a liability for this cash and the Seattle Bank recorded a receivable for this cash in their respective Statements of Condition for May 31, 2015. These balances were eliminated to arrive at the combined opening Statement of Condition. For additional information on the Merger, refer to "Note 2 — Merger".


56


ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS

Our Management's Discussion and Analysis (MD&A) of Financial Condition and Results of Operations should be read in conjunction with our financial statements and condensed notes at the beginning of this Form 10-Q and in conjunction with our MD&A and Annual Report on Form 10-K for the fiscal year ended December 31, 2014, filed with the Securities and Exchange Commission (SEC) on March 6, 2015 (2014 Form 10-K). Our MD&A is designed to provide information that will help the reader develop a better understanding of our financial statements, key financial statement changes from quarter to quarter, and the primary factors driving those changes. Our MD&A is organized as follows:
CONTENTS
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Other Income (Loss)
 
 
 
 
 
 
 
 
Other Expense
 
 
 
 
 
 
 
 
 
 
 
 
Cash and Due from Banks
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Other Assets
 
 
 
 
 
 
 
 
 
 
 
 
Mandatorily Redeemable Capital Stock
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 

57


FORWARD-LOOKING INFORMATION

Statements contained in this report, including statements describing the objectives, projections, estimates, or future predictions in our operations, may be forward-looking statements. These statements may be identified by the use of forward-looking terminology, such as believes, projects, expects, anticipates, estimates, intends, strategy, plan, could, should, may, and will or their negatives or other variations on these terms. By their nature, forward-looking statements involve risk or uncertainty, and actual results could differ materially from those expressed or implied or could affect the extent to which a particular objective, projection, estimate, or prediction is realized. These risks and uncertainties include, but are not limited to, the following:
 
political or economic events, including legislative, regulatory, monetary, judicial, or other developments that affect us, our members, our counterparties, and/or our investors in the consolidated obligations of the 11 Federal Home Loan Banks (FHLBanks);

changes in regulatory requirements regarding the eligibility criteria of our membership;

competitive forces, including without limitation, other sources of funding available to our borrowers that could impact the demand for our advances, other entities purchasing mortgage loans in the secondary mortgage market, and other entities borrowing funds in the capital markets;

risks related to the other FHLBanks that could trigger our joint and several liability for debt issued by the other FHLBanks;

changes in the relative attractiveness of consolidated obligations due to actual or perceived changes in the FHLBanks' credit ratings as well as the U.S. Government's long-term credit rating;

the anticipated benefits and cost savings of the Merger not being realized;

changes in our capital structure and capital requirements;

reliance on a relatively small number of member institutions for a large portion of our advance business;

the volatility of credit quality, market prices, interest rates, and other indices that could affect the value of collateral held by us as security for borrower and counterparty obligations;

general economic and market conditions that could impact the volume of business we do with our members, including, but not limited to, the timing and volatility of market activity, inflation/deflation, employment rates, housing prices, the condition of the mortgage and housing markets on our mortgage-related assets, including the level of mortgage prepayments, and the condition of the capital markets on our consolidated obligations;

the availability of derivative instruments in the types and quantities needed for risk management purposes from acceptable counterparties;

increases in delinquency or loss severity on mortgage loans;

the volatility of reported results due to changes in the fair value of certain assets, liabilities, and derivative instruments;

the ability to develop and support internal controls, information systems, and other operating technologies that effectively manage the risks we face;

the ability to attract and retain key personnel; and

member consolidations and failures.
 
For additional information regarding these and other risks and uncertainties that could cause our actual results to differ materially from the expectations reflected in our forward-looking statements, see “Item 1A. Risk Factors” in this quarterly report and in our 2014 Form 10-K. You are cautioned not to place undue reliance on any forward-looking statements made by us or on our behalf. Forward-looking statements are made as of the date of this report. We undertake no obligation to update or revise any forward-looking statement.

58


EXECUTIVE OVERVIEW

Our Bank is a member-owned cooperative serving shareholder members in our region. Our mission is to provide funding and liquidity to our members and eligible housing associates so that they can meet the housing, economic development, and business needs of the communities they serve. We fulfill our mission by providing liquidity to our members and housing associates through advances, supporting residential mortgage lending, and by providing affordable housing programs that create housing opportunities for low and moderate income families. Our members include commercial banks, thrifts, credit unions, insurance companies, and community development financial institutions (CDFIs).

Merger

On June 1, 2015, we announced the successful completion of the merger with the Federal Home Loan Bank of Seattle (Seattle Bank), (the Merger), pursuant to the definitive merger agreement dated September 25, 2014. The Merger closed on May 31, 2015 and the two Banks were operational as one Bank, the Federal Home Loan Bank of Des Moines (the combined Bank), on June 1, 2015.
On the effective date of the Merger (merger date), the corporate existence of the Seattle Bank ceased, and each member of the Seattle Bank automatically ceased to be a member of the Seattle Bank and automatically became a member of the Des Moines Bank. In addition, the geographical territory previously included in the district for the Seattle Bank (Alaska, Hawaii, Idaho, Montana, Oregon, Utah, Washington, Wyoming, and the U.S. Pacific territories of American Samoa, Guam, and the Commonwealth of the Northern Mariana Islands) is now included in the district for our combined Bank.

Our combined Bank remains a member-owned and member-centric cooperative, focused on helping our members strengthen their institutions to better serve their customers and communities. We now provide funding solutions and liquidity to nearly 1,500 member financial institutions in 13 states and three U.S. Pacific territories. Our headquarters remain in Des Moines with a western regional office in Seattle.

Revisions to Second Quarter 2015 Financial Statements

During the third quarter of 2015, we identified certain immaterial errors in our previously issued financial statements and footnotes for the three and six months ended June 30, 2015. Management has determined after evaluating the quantitative and qualitative aspects of these errors that our previously issued financial statements and footnotes were not materially misstated. We have chosen to revise the information for the three and six months ended June 30, 2015 in this Third Quarter 2015 Form 10-Q filing. Accordingly, where presented in the MD&A, the June 30, 2015 balance sheet data has been revised for this error. In addition, the income statement impact of the revision is reflected in the MD&A for the nine months ended September 30, 2015. Refer to "Item 1. Financial Statements — Note 1 — Basis of Presentation” for additional information on the revisions.

Financial Results
The operations of the merged Seattle Bank have been included in our financial statements since June 1, 2015. The Merger had a significant impact on all aspects of our financial condition, results of operations, and cash flows, and as a result, financial results for the current period may not be directly comparable to financial results prior to the Merger. For additional information on the Merger, refer to "Item 1. Financial Statements — Note 2 — Merger".

For the three and nine months ended September 30, 2015, we reported net income of $38.9 million and $100.3 million compared to $26.6 million and $90.6 million for the same periods in 2014. Our net income, calculated in accordance with accounting principles generally accepted in the United States of America (GAAP), was primarily driven by net interest income, other income (loss), and other expense.

Net interest income totaled $87.4 million and $235.6 million for the three and nine months ended September 30, 2015 compared to $64.0 million and $176.7 million for the same periods last year. The increase was primarily due to an increase in interest income resulting from higher advance and investment volumes. Our net interest margin was 0.29 percent during both the three and nine months ended September 30, 2015 compared with 0.28 percent and 0.30 percent during the same periods last year.

Our other income (loss) totaled $(11.8) million and $(14.7) million for the three and nine months ended September 30, 2015 compared to $(18.1) million and $(29.3) million for the same periods last year. The primary drivers of other income (loss) were net gains (losses) on derivatives and hedging activities and net gains (losses) on trading securities, as described below.


59


We utilize derivative instruments to manage interest rate risk, including mortgage prepayment risk. Accounting rules require all derivatives to be recorded at fair value and therefore we may be subject to income statement volatility. During the three and nine months ended September 30, 2015, we recorded net losses of $43.7 million and $38.8 million on our derivatives and hedging activities through other income (loss) compared to net losses of $16.8 million and $78.8 million during the same periods last year. These fair value changes were primarily attributable to the impact of changes in interest rates on interest rate swaps that we utilize to hedge our investment securities portfolio. Refer to "Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations — Results of Operations — Hedging Activities" for additional discussion on our derivatives and hedging activities, including the net impact of economic hedge relationships.

Trading securities are recorded at fair value with changes in fair value reflected through other income (loss). During the three and nine months ended September 30, 2015, we recorded net gains on trading securities of $16.8 million and $8.6 million compared to net gains of $0.7 million and $47.2 million during the same periods in 2014. These changes in fair value were primarily due to the impact of interest rates and credit spreads on our fixed rate trading securities and were offset by changes in fair value on derivatives that we utilize to economically hedge these securities.

During the three and nine months ended September 30, 2015, other income (loss) was also impacted by a gain on a litigation settlement of $12.5 million. During the three and nine months ended September 30, 2014, other income (loss) was also impacted by losses on the extinguishment of debt of $10.0 million and $12.7 million, and realized gains on the sale of held-to-maturity (HTM) and available-for-sale (AFS) securities of $6.4 million and $9.7 million.
Other expenses totaled $31.8 million and $107.9 million for the three and nine months ended September 30, 2015 compared to $17.7 million and $48.4 million for the same periods last year. The increase was primarily due to merger related expenses of $2.7 million and $38.1 million for the three and nine months ended September 30, 2015. During both the three and nine months ended September 30, 2014, merger related expenses totaled $0.7 million. Merger related expenses primarily included compensation and benefit expenses and merger transaction and integration expenses. In addition, compensation and benefits, professional fees, contractual services, and other operating expenses also increased during the three and nine months ended September 30, 2015 when compared to the same periods last year due primarily to additional costs associated with operating a larger institution and temporary transitional expenses due to the Merger.
    
Our total assets increased to $120.4 billion at September 30, 2015 from $95.5 billion at December 31, 2014 due primarily to an increase in investments and advances. Investments increased $14.8 billion due primarily to the acquisition of investment securities as a result of the Merger. Advances increased mainly due to advances acquired as a result of the Merger, as well as increased borrowings from insurance company members, partially offset by a decrease in borrowings from a large depository institution member.

Our total liabilities increased to $115.3 billion at September 30, 2015 from $91.2 billion at December 31, 2014 due primarily to consolidated obligations assumed as a result of the Merger. Total capital increased to $5.1 billion at September 30, 2015 from $4.3 billion at December 31, 2014. The increase was primarily due to an increase of $657.5 million in capital stock outstanding due to capital stock issued as a result of the Merger and as a result of member activity. In addition, we recorded additional capital from merger on the merger date which primarily represents the amount of the Seattle Bank's closing retained earnings balance, adjusted for fair value and other purchase accounting adjustments, and identified intangible assets. Dividends to our members have been paid from this account since the merger date. We intend to pay future dividends to members, when and if declared, from this account until the additional capital from merger balance is depleted. Additional capital from merger totaled $220.6 million at September 30, 2015. Refer to “Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations — Statements of Condition” for additional discussion on our financial condition.

Adjusted Earnings

As part of evaluating financial performance, we adjust GAAP net income before assessments and GAAP net interest income for the impact of (i) market adjustments relating to derivative and hedging activities and instruments held at fair value, (ii) realized gains (losses) on investment securities, and (iii) other non-routine and unpredictable items, including asset prepayment fee income, debt extinguishment losses, merger related expenses, and gains on litigation settlements, net. The resulting non-GAAP measure, referred to as our adjusted earnings, reflects both adjusted net interest income and adjusted net income.


60


Because our business model is primarily one of holding assets and liabilities to maturity, management believes that the adjusted earnings measure is helpful in understanding our operating results and provides a meaningful period-to-period comparison of our long-term economic value in contrast to GAAP results, which can be impacted by fair value changes driven by market volatility on financial instruments recorded at fair value or transactions that are considered to be unpredictable or not routine. As a result, management uses the adjusted earnings measure to assess performance under our incentive compensation plans and to ensure management remains focused on our long-term value and performance. Non-GAAP financial measures have inherent limitations, are not required to be uniformly applied, and are not audited. While this non-GAAP measure can be used to assist in understanding the components of our earnings, it should not be considered a substitute for results reported under GAAP.

As a member-owned cooperative, we endeavor to operate with a low but stable adjusted net interest margin. As indicated in the tables that follow, our adjusted net interest income and adjusted net income increased during the three and nine months ended September 30, 2015 when compared to the same periods in 2014. The increase in our adjusted net interest income and adjusted net income was primarily due to an increase in interest income due to higher advance and investment volumes.

The following table summarizes the reconciliation between GAAP and adjusted net interest income (dollars in millions):
 
For the Three Months Ended
 
For the Nine Months Ended
 
September 30,
 
September 30,
 
2015
 
2014
 
2015
 
2014
GAAP net interest income before provision (reversal) for credit losses on mortgage loans
$
87.4

 
$
64.0

 
$
235.6

 
$
176.7

Exclude:
 
 
 
 
 
 
 
Prepayment fees on advances, net
0.3

 
(0.4
)
 
9.3

 
3.0

Prepayment fees on investments, net
1.7

 

 
1.7

 

Total adjustments
2.0

 
(0.4
)
 
11.0

 
3.0

Include items reclassified from other income (loss):
 
 
 
 
 
 
 
Net interest expense on economic hedges
(4.8
)
 
(5.6
)
 
(15.4
)
 
(14.8
)
Adjusted net interest income
$
80.6

 
$
58.8

 
$
209.2

 
$
158.9

Adjusted net interest margin
0.27
%
 
0.27
%
 
0.26
%
 
0.27
%

The following table summarizes the reconciliation between GAAP net income before assessments and adjusted net income (dollars in millions):
 
For the Three Months Ended
 
For the Nine Months Ended
 
September 30,
 
September 30,
 
2015
 
2014
 
2015
 
2014
GAAP net income before assessments
$
43.3

 
$
29.6

 
$
111.6

 
$
100.7

Exclude:
 
 
 
 
 
 
 
Prepayment fees on advances, net
0.3

 
(0.4
)
 
9.3

 
3.0

Prepayment fees on investments, net
1.7

 

 
1.7

 

Net gains (losses) on trading securities
16.8

 
0.7

 
8.6

 
47.2

Net gains (losses) from sale of available-for-sale securities

 

 

 
0.8

Net gains (losses) from sale of held-to-maturity securities

 
6.4

 

 
8.9

Net gains (losses) on financial instruments held at fair value
0.5

 

 
0.1

 

Net gains (losses) on derivatives and hedging activities
(43.7
)
 
(16.8
)
 
(38.8
)
 
(78.8
)
Net gains (losses) on extinguishment of debt

 
(10.0
)
 

 
(12.7
)
Gains on litigation settlements, net
12.5

 

 
12.5

 

Merger related expenses
(2.7
)
 
(0.7
)
 
(38.1
)
 
(0.7
)
Include:
 
 
 
 
 
 
 
Net interest expense on economic hedges
(4.8
)
 
(5.6
)
 
(15.4
)
 
(14.8
)
Adjusted net income
$
53.1

 
$
44.8

 
$
140.9

 
$
118.2


For additional discussion on items impacting our GAAP earnings, refer to “Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations — Results of Operations.”


61


CONDITIONS IN THE FINANCIAL MARKETS

Economy and Financial Markets

Economic and market data received since the Federal Open Market Committee (FOMC or Committee) meeting in September of 2015 indicates that economic activity has been expanding moderately. Conditions in the labor market have continued to show signs of improvement. Growth in household spending and business fixed investments has been moderate and the housing sector has shown further improvement while net exports have remained subdued. Inflation has continued to run below the Committee's longer-run objective of two percent, partly reflecting declines in energy prices and non-energy import prices. Market-based measurements of inflation compensation have moved lower and long-term inflation expectations have remained stable. Recent global economic and financial developments may restrain economic activity and likely put further downward pressure on inflation measurements.

In its September 17, 2015 statement, the FOMC stated it expects that, with appropriate policy accommodation, economic activity will expand at a moderate pace and labor market conditions will improve toward levels the FOMC judges consistent with its dual mandate to foster maximum employment and price stability. The FOMC sees risks to the outlook for the economy and the labor market as nearly balanced but continues to monitor global developments. In addition, the FOMC stated it anticipates that inflation will remain near recent low levels in the near term, but it anticipates inflation will rise gradually towards its two percent objective over the medium term as the labor market improves further and the effects of lower energy prices and other factors dissipate. The FOMC will continue to monitor inflation developments closely.

Mortgage Markets

The housing market has continued to improve over the past year, as indicated by rising home prices, lower inventories of properties for sale, and increased housing construction activity along with increase sales of existing homes. The improvement in the housing market has been partly attributable to the continued strengthening of the economy. The outlook for a sustainable recovery in residential sales and home prices remains promising over the long term, as consumer sentiment continues to improve and first time home buyer activity improves.

Interest Rates

The following table shows information on key market interest rates1:
 
Third Quarter 2015
3-Month
Average
 
Third Quarter 2014
3-Month
Average
 
Third Quarter 2015
9-Month
Average
 
Third Quarter 2014
9-Month
Average
 
 September 30, 2015
Ending Rate
 
December 31, 2014
Ending Rate
Federal funds
0.14
%
 
0.09
%
 
0.13
%
 
0.08
%
 
0.07
%
 
0.06
%
Three-month LIBOR
0.31

 
0.23

 
0.28

 
0.23

 
0.33

 
0.26

2-year U.S. Treasury
0.68

 
0.50

 
0.63

 
0.42

 
0.63

 
0.67

10-year U.S. Treasury
2.22

 
2.49

 
2.11

 
2.62

 
2.04

 
2.17

30-year residential mortgage note
3.96

 
4.13

 
3.83

 
4.24

 
3.86

 
3.83


1
Source is Bloomberg.

The Federal Reserve's key target interest rate, the Federal funds rate, maintained a range of 0.00 to 0.25 percent throughout 2014 and 2015. In its September 17, 2015 statement, the FOMC reaffirmed that the current exceptionally low target range for the Federal funds rate remains appropriate. The FOMC stated that it will assess progress towards its longer-run goals of maximum employment and a two percent inflation rate. The assessment will take into account measures of labor market conditions, indicators of inflation pressures, inflation expectations, and financial and international developments. The Committee anticipates it will be appropriate to increase the target range for the Federal funds rate when information indicates continued improvement in the labor market and the Committee is reasonably confident inflation will move back to its two percent objective.

The 10-year U.S. Treasury yields and mortgage rates were lower on average in the third quarter of 2015 when compared to prior year. Interest rates gradually declined as concerns of growth and declines in commodity prices have impacted markets globally. While the FOMC considers removing monetary policy accommodation as data warrants, foreign central banks have eased monetary policy further in 2015.

62


 
In its September 17, 2015 statement, the FOMC stated that it is maintaining its existing policy of reinvesting principal payments from the Federal Reserve's holdings of agency debt and agency mortgage-backed securities (MBS) into agency MBS and of rolling over maturing U.S. Treasury securities at auction. The FOMC also stated that the policy of keeping the Federal Reserve's holdings of longer-term securities at sizable levels should help maintain accommodative financial conditions and also that when the Committee decides to begin removing policy accommodation, it will take a balanced approach consistent with its longer-run goals of maximum employment and inflation of two percent. The Committee further stated that it currently anticipates that, even after employment and inflation are near mandate-consistent levels, economic conditions may, for some time, warrant keeping the target Federal funds rate below the rate that the Committee views as normal in the long run.

Funding Spreads

The following table reflects our funding spreads to LIBOR (basis points)1:
 
Third Quarter 2015
3-Month
Average
 
Third Quarter 2014
3-Month
Average
 
Third Quarter 2015
9-Month
Average
 
Third Quarter 2014
9-Month
Average
 
 September 30, 2015
Ending Spread
 
December 31, 2014
Ending Spread
3-month
(13.5
)
 
(13.7
)
 
(15.1
)
 
(14.5
)
 
(16.5
)
 
(14.8
)
2-year
(6.5
)
 
(9.0
)
 
(10.5
)
 
(7.7
)
 
(3.8
)
 
(11.1
)
5-year
9.1

 
2.3

 
3.2

 
3.8

 
11.6

 
1.5

10-year
54.7

 
31.6

 
45.1

 
35.8

 
66.6

 
39.9


1
Source is the Office of Finance.

As a result of our credit quality, we generally have ready access to funding at relatively competitive interest rates. During the third quarter of 2015, our funding spreads relative to London Interbank Offered Rate (LIBOR) deteriorated when compared to spreads at December 31, 2014. During 2015, we have utilized consolidated obligation discount notes in addition to step-up, callable, and term fixed rate consolidated obligation bonds to capture attractive funding, match the repricing structures on advances and investments, and meet liquidity requirements. Spreads relative to LIBOR increased on long term debt as investor demand remained more focused on short-term maturities.


63


SELECTED FINANCIAL DATA

The following tables present selected financial data for the periods indicated (dollars in millions):
Statements of Condition
September 30,
2015
 
June 30, 2015 Revised10
 
March 31,
2015
 
December 31,
2014
 
September 30,
2014
Investments1
$
37,911

 
$
42,754

 
$
27,059

 
$
23,079

 
$
17,948

Advances
74,484

 
68,181

 
63,562

 
65,168

 
64,220

Mortgage loans held for portfolio, gross
6,879

 
7,030

 
6,545

 
6,567

 
6,530

Allowance for credit losses
(1
)
 
(1
)
 
(1
)
 
(5
)
 
(6
)
Total assets
120,360

 
118,758

 
97,732

 
95,524

 
98,399

Consolidated obligations
 
 
 
 
 
 
 
 
 
Discount notes
77,247

 
70,227

 
60,420

 
57,773

 
62,803

Bonds
36,488

 
41,974

 
32,031

 
32,362

 
30,387

Total consolidated obligations2
113,735

 
112,201

 
92,451

 
90,135

 
93,190

Mandatorily redeemable capital stock
106

 
119

 
24

 
24

 
8

Total liabilities
115,242

 
113,774

 
93,445

 
91,212

 
94,079

Capital stock — Class B putable
4,126

 
3,885

 
3,428

 
3,469

 
3,456

Additional capital from merger
221

 
246

 

 

 

Retained earnings
770

 
731

 
729

 
720

 
712

Accumulated other comprehensive income
1

 
122

 
130

 
123

 
152

Total capital
5,118

 
4,984

 
4,287

 
4,312

 
4,320

 
For the Three Months Ended
Statements of Income
September 30,
2015
 
June 30, 2015 Revised10
 
March 31,
2015
 
December 31,
2014
 
September 30,
2014
Net interest income
$
87.4

 
$
79.7

 
$
68.5

 
$
74.0

 
$
64.0

Provision (reversal) for credit losses on mortgage loans
0.5

 
0.5

 
0.4

 
(0.7
)
 
(1.4
)
Other income (loss)3
(11.8
)
 
6.6

 
(9.5
)
 
(22.0
)
 
(18.1
)
Other expense4
31.8

 
56.0

 
20.1

 
18.9

 
17.7

Assessments
4.4

 
3.0

 
3.9

 
3.4

 
3.0

Net income
38.9

 
26.8

 
34.6

 
30.4

 
26.6

 
 
 
 
 
 
 
 
 
 
Selected Financial Ratios5
 
 
 
 
 
 
 
 
 
Net interest spread6
0.27
%
 
0.28
%
 
0.26
%
 
0.29
%
 
0.27
%
Net interest margin7
0.29

 
0.30

 
0.28

 
0.30

 
0.28

Return on average equity
3.08

 
2.35

 
3.30

 
2.80

 
2.69

Return on average capital stock
3.92

 
2.95

 
4.11

 
3.50

 
3.43

Return on average assets
0.13

 
0.10

 
0.14

 
0.12

 
0.12

Average equity to average assets
4.22

 
4.28

 
4.27

 
4.44

 
4.43

Regulatory capital ratio8
4.34

 
4.19

 
4.28

 
4.41

 
4.24

Dividend payout ratio9
66.48

 
92.56

 
74.12

 
73.01

 
73.13


1
Investments include interest-bearing deposits, securities purchased under agreements to resell, Federal funds sold, trading securities, AFS, and HTM securities.

2
The total par value of outstanding consolidated obligations of the FHLBanks was $856.5 billion, $852.8 billion, $812.2 billion, $847.2 billion, and $816.9 billion at September 30, 2015, June 30, 2015, March 31, 2015, December 31, 2014, and September 30, 2014, respectively.

3
Other income (loss) includes, among other things, net gains (losses) on investment securities, net gains (losses) on derivatives and hedging activities, net gains (losses) on the extinguishment of debt, net gain (losses) on the disposal of fixed assets, and gains on litigation settlements, net.

4
Other expense includes, among other things, compensation and benefits, professional fees, contractual services, merger related expenses, and gains and losses on real estate owned (REO).

5
Amounts used to calculate selected financial ratios are based on numbers in thousands. Accordingly, recalculations using numbers in millions may not produce the same results.

6
Represents yield on total interest-earning assets minus cost of total interest-bearing liabilities.

7
Represents net interest income expressed as a percentage of average interest-earning assets.

8
Represents period-end regulatory capital expressed as a percentage of period-end total assets. Regulatory capital includes Class B capital stock (including mandatorily redeemable capital stock), additional capital from merger, and retained earnings.

9
Represents dividends declared and paid in the stated period expressed as a percentage of net income in the stated period.

10
Amounts reported have been revised for immaterial errors identified during the third quarter of 2015. These amounts reported will differ from the previously issued financial statements and footnotes for the three and six months ended June 30, 2015. Refer to "Item 1. Financial Statements — Note 1 — Basis of Presentation” for additional information on the revisions.

64


RESULTS OF OPERATIONS

Net Income

The following table presents comparative highlights of our net income for the three and nine months ended September 30, 2015 and 2014 (dollars in millions). See further discussion of these items in the sections that follow.
 
For the Three Months Ended
 
For the Nine Months Ended
 
September 30,
 
September 30,
 
2015
 
2014
 
$ Change
 
% Change
 
2015
 
2014
 
$ Change
 
% Change
Net interest income
$
87.4

 
$
64.0

 
$
23.4

 
36.6
 %
 
$
235.6

 
$
176.7

 
$
58.9

 
33.3
 %
Provision (reversal) for credit losses on mortgage loans
0.5

 
(1.4
)
 
1.9

 
(135.7
)
 
1.4

 
(1.7
)
 
3.1

 
(182.4
)
Other income (loss)
(11.8
)
 
(18.1
)
 
6.3

 
(34.8
)
 
(14.7
)
 
(29.3
)
 
14.6

 
(49.8
)
Other expense
31.8

 
17.7

 
14.1

 
79.7

 
107.9

 
48.4

 
59.5

 
122.9

Assessments
4.4

 
3.0

 
1.4

 
46.7

 
11.3

 
10.1

 
1.2

 
11.9

Net income
$
38.9

 
$
26.6

 
$
12.3

 
46.2
 %
 
$
100.3

 
$
90.6

 
$
9.7

 
10.7
 %

65


Net Interest Income

Our net interest income is impacted by changes in average interest-earning asset and interest-bearing liability balances, and the related yields. The following table presents average balances and rates of major asset and liability categories (dollars in millions):    
 
For the Three Months Ended September 30,
 
2015
 
2014
 
Average
Balance1
 
Yield/Cost
 
Interest
Income/
Expense
 
Average
Balance1
 
Yield/Cost
 
Interest
Income/
Expense
Interest-earning assets
 
 
 
 
 
 
 
 
 
 
 
Interest-bearing deposits
$
541

 
0.12
%
 
$
0.1

 
$
354

 
0.07
%
 
$
0.1

Securities purchased under agreements to resell
5,497

 
0.12

 
1.7

 
9,599

 
0.05

 
1.3

Federal funds sold
4,221

 
0.13

 
1.3

 
3,856

 
0.08

 
0.7

Mortgage-backed securities2,3
19,784

 
0.92

 
46.0

 
10,403

 
1.17

 
30.6

    Other investments2,3,4,5
11,510

 
1.04

 
30.3

 
2,366

 
2.59

 
15.4

Advances3,6
69,693

 
0.46

 
80.7

 
54,770

 
0.43

 
59.3

Mortgage loans7
6,960

 
3.58

 
62.8

 
6,513

 
3.69

 
60.6

     Loans to other FHLBanks
1

 
0.12

 

 

 

 

Total interest-earning assets
118,207

 
0.75

 
222.9

 
87,861

 
0.76

 
168.0

Non-interest-earning assets
653

 

 

 
699

 

 

Total assets
$
118,860

 
0.74
%
 
$
222.9

 
$
88,560

 
0.75
%
 
$
168.0

Interest-bearing liabilities
 
 
 
 
 
 
 
 
 
 
 
Deposits
$
960

 
0.04
%
 
$

 
$
447

 
0.01
%
 
$
0.1

Consolidated obligations
 
 
 
 
 
 
 

 
 

 
 

Discount notes3
68,443

 
0.13

 
22.9

 
63,289

 
0.08

 
12.3

Bonds3
43,322

 
1.02

 
111.5

 
20,135

 
1.81

 
91.6

Other interest-bearing liabilities8
117

 
3.34

 
1.1

 
8

 
2.06

 

Total interest-bearing liabilities
112,842

 
0.48

 
135.5

 
83,879

 
0.49

 
104.0

Non-interest-bearing liabilities
1,003

 

 

 
761

 

 

Total liabilities
113,845

 
0.47

 
135.5

 
84,640

 
0.49

 
104.0

Capital
5,015

 

 

 
3,920

 

 

Total liabilities and capital
$
118,860

 
0.45
%
 
$
135.5

 
$
88,560

 
0.47
%
 
$
104.0

Net interest income and spread9
 
 
0.27
%
 
$
87.4

 
 
 
0.27
%
 
$
64.0

Net interest margin10
 
 
0.29
%
 
 
 
 
 
0.28
%
 
 
Average interest-earning assets to interest-bearing liabilities
 
 
104.75
%
 
 
 
 
 
104.75
%
 
 

1
Average balances are calculated on a daily weighted average basis and do not reflect the effect of derivative master netting arrangements with counterparties and/or clearing agents.

2
The average balance of AFS securities is reflected at amortized cost; therefore the resulting yields do not give effect to changes in fair value.

3
Average balances reflect the impact of fair value hedging adjustments and/or fair value option adjustments.

4
Other investments primarily include other U.S. obligations, government-sponsored enterprise (GSE) obligations, state or local housing agency obligations, and taxable municipal bonds.

5
Other investment interest income includes prepayment fee income of $3.1 million during the three months ended September 30, 2015 as a result of an AFS security prepayment. This was offset in part by the amortization of fair value hedging adjustments related to the prepayment of ($1.4) million. There were no prepayments received on investments during the three months ended September 30, 2014.

6
Advance interest income includes prepayment fee income of $0.3 million and $(0.4) million for the three months ended September 30, 2015 and 2014.

7
Non-accrual loans are included in the average balance used to determine the average yield.

8
Other interest-bearing liabilities consists of mandatorily redeemable capital stock and borrowings from other FHLBanks.

9
Represents yield on total interest-earning assets minus yield on total interest-bearing liabilities.

10
Represents net interest income expressed as a percentage of average interest-earning assets.

66


The following table presents average balances and rates of major asset and liability categories (dollars in millions):    
 
For the Nine Months Ended September 30,
 
2015
 
2014
 
Average
Balance1
 
Yield/Cost
 
Interest
Income/
Expense
 
Average
Balance1
 
Yield/Cost
 
Interest
Income/
Expense
Interest-earning assets
 
 
 
 
 
 
 
 
 
 
 
Interest-bearing deposits
$
516

 
0.11
%
 
$
0.4

 
$
339

 
0.07
%
 
$
0.2

Securities purchased under agreements to resell
6,550

 
0.09

 
4.3

 
7,915

 
0.05

 
2.9

Federal funds sold
4,282

 
0.11

 
3.6

 
2,903

 
0.07

 
1.5

Mortgage-backed securities2,3
15,774

 
0.98

 
115.8

 
9,425

 
1.23

 
86.4

    Other investments2,3,4,5
7,306

 
1.21

 
66.1

 
2,390

 
2.63

 
47.0

Advances3,6
66,675

 
0.44

 
219.0

 
49,086

 
0.46

 
169.5

Mortgage loans7
6,738

 
3.62

 
182.4

 
6,502

 
3.79

 
184.2

Total interest-earning assets
107,841

 
0.73

 
591.6

 
78,560

 
0.84

 
491.7

Non-interest-earning assets
654

 

 

 
670

 

 

Total assets
$
108,495

 
0.73
%
 
$
591.6

 
$
79,230

 
0.83
%
 
$
491.7

Interest-bearing liabilities
 
 
 
 
 
 
 
 
 
 
 
Deposits
$
745

 
0.03
%
 
$
0.1

 
$
558

 
0.01
%
 
$
0.1

Consolidated obligations
 
 
 
 
 
 
 

 
 

 
 

Discount notes3
64,869

 
0.11

 
52.6

 
50,733

 
0.08

 
31.7

Bonds3
37,146

 
1.09

 
301.6

 
23,407

 
1.62

 
283.1

Other interest-bearing liabilities8
67

 
3.24

 
1.7

 
10

 
1.84

 
0.1

Total interest-bearing liabilities
102,827

 
0.46

 
356.0

 
74,708

 
0.56

 
315.0

Non-interest-bearing liabilities
1,052

 

 

 
873

 

 

Total liabilities
103,879

 
0.46

 
356.0

 
75,581

 
0.56

 
315.0

Capital
4,616

 

 

 
3,649

 

 

Total liabilities and capital
$
108,495

 
0.44
%
 
$
356.0

 
$
79,230

 
0.53
%
 
$
315.0

Net interest income and spread9
 
 
0.27
%
 
$
235.6

 
 
 
0.28
%
 
$
176.7

Net interest margin10
 
 
0.29
%
 
 
 
 
 
0.30
%
 
 
Average interest-earning assets to interest-bearing liabilities
 
 
104.88
%
 
 
 
 
 
105.16
%
 
 

1
Average balances are calculated on a daily weighted average basis and do not reflect the effect of derivative master netting arrangements with counterparties and/or clearing agents.

2
The average balance of AFS securities is reflected at amortized cost; therefore the resulting yields do not give effect to changes in fair value.

3
Average balances reflect the impact of fair value hedging adjustments and/or fair value option adjustments.

4
Other investments primarily include other U.S. obligations, GSE obligations, state or local housing agency obligations, and taxable municipal bonds.

5
Other investment interest income includes prepayment fee income of $3.1 million during the nine months ended September 30, 2015 as a result of an AFS security prepayment. This was offset in part by the amortization of fair value hedging adjustments related to the prepayment of ($1.4) million. There were no prepayments received on investments during the nine months ended September 30, 2014.
    
6
Advance interest income includes prepayment fee income of $9.3 million and $3.0 million for the nine months ended September 30, 2015 and 2014.

7
Non-accrual loans are included in the average balance used to determine the average yield.

8
Other interest-bearing liabilities consists of mandatorily redeemable capital stock and borrowings from other FHLBanks.

9
Represents yield on total interest-earning assets minus yield on total interest-bearing liabilities.

10
Represents net interest income expressed as a percentage of average interest-earning assets.


67


The following table presents changes in interest income and interest expense. Changes in interest income and interest expense that are not identifiable as either volume-related or rate-related, but rather equally attributable to both volume and rate changes, are allocated to the volume and rate categories based on the proportion of the absolute value of the volume and rate changes (dollars in millions).
 
Three Months Ended
 
Nine Months Ended
 
September 30, 2015 vs. September 30, 2014
 
September 30, 2015 vs. September 30, 2014
 
Total Increase
(Decrease) Due to
 
Total Increase
(Decrease)
 
Total Increase
(Decrease) Due to
 
Total Increase
(Decrease)
 
Volume
 
Rate
 
 
Volume
 
Rate
 
Interest income
 
 
 
 
 
 
 
 
 
 
 
Interest-bearing deposits
$

 
$

 
$

 
$
0.1

 
$
0.1

 
$
0.2

Securities purchased under agreements to resell
(0.7
)
 
1.1

 
0.4

 
(0.6
)
 
2.0

 
1.4

Federal funds sold
0.1

 
0.5

 
0.6

 
1.0

 
1.1

 
2.1

Mortgage-backed securities
23.0

 
(7.6
)
 
15.4

 
49.7

 
(20.3
)
 
29.4

Other investments
28.9

 
(14.0
)
 
14.9

 
55.3

 
(36.2
)
 
19.1

Advances
17.0

 
4.4

 
21.4

 
64.0

 
(14.5
)
 
49.5

Mortgage loans
4.1

 
(1.9
)
 
2.2

 
7.6

 
(9.4
)
 
(1.8
)
Total interest income
72.4

 
(17.5
)
 
54.9

 
177.1

 
(77.2
)
 
99.9

Interest expense
 
 
 
 
 
 
 
 
 
 
 
Deposits
(0.1
)
 

 
(0.1
)
 

 

 

Consolidated obligations
 
 
 
 
 
 
 
 
 
 
 
Discount notes
1.2

 
9.4

 
10.6

 
8.9

 
12.0

 
20.9

Bonds
72.6

 
(52.7
)
 
19.9

 
131.0

 
(112.5
)
 
18.5

Other interest-bearing liabilities
1.1

 

 
1.1

 
1.4

 
0.2

 
1.6

Total interest expense
74.8

 
(43.3
)
 
31.5

 
141.3

 
(100.3
)
 
41.0

Net interest income
$
(2.4
)
 
$
25.8

 
$
23.4

 
$
35.8

 
$
23.1

 
$
58.9

    
NET INTEREST SPREAD

Net interest spread equals the yield on total interest-earning assets minus the yield on total interest-bearing liabilities. For both the three and nine months ended September 30, 2015, our net interest spread was 0.27 percent compared to 0.27 percent and 0.28 percent during the same periods in 2014. Our net interest spread was primarily impacted by a lower yield on total interest-earning assets, partially offset by an improved yield on total interest-bearing liabilities. The primary components of our interest income and interest expense are discussed below.

Advances

Interest income on advances (including prepayment fees on advances, net) increased 36 percent and 29 percent during the three and nine months ended September 30, 2015 when compared to the same periods in 2014 due primarily to higher average volumes and higher advance prepayment fee income, partially offset by the low interest rate environment. Average advance volumes increased primarily due to borrowings from a large depository institution member during the third quarter of 2014 that remained outstanding throughout 2015, as well as advances acquired as a result of the Merger. Advance prepayment fee income increased to $0.3 million and $9.3 million during the three and nine months ended September 30, 2015 from $(0.4) million and $3.0 million during the same periods in 2014. The prepayment fee income during the nine months ended September 30, 2015 was primarily due to a prepayment by a large depository institution member.


68


Investments

Interest income on investments increased 65 and 38 percent during the three and nine months ended September 30, 2015 when compared to the same periods in 2014 due primarily to higher average volumes of MBS and other investments, partially offset by the low interest rate environment. Average MBS volumes increased due to the purchase of GSE and other U.S. obligation MBS during the year, as well as the acquisition of certain GSE and other U.S. obligation MBS as a result of the Merger. Average other investment volumes increased due to the acquisition of certain other U.S. obligation, GSE obligation, and state or local housing agency obligation securities as a result of the Merger. In addition, we received a prepayment fee during the three and nine months ended September 30, 2015 of $3.1 million as a result of a prepayment of an other investment security. This was offset in part by the amortization of fair value adjustments related to the prepayment of ($1.4) million.

Mortgage Loans

Interest income on mortgage loans increased four percent during the three months ended September 30, 2015 when compared to the same period in 2014. The increase was primarily due to an increase in volume due to the acquisition of Mortgage Purchase Program (MPP) loans as a result of the Merger. Interest income on mortgage loans decreased one percent during the nine months ended September 30, 2015 when compared to the same period in 2014. The decrease was driven by the low interest rate environment, partially offset by an increase in volume due to the acquisition of MPP loans as a result of the Merger. Refer to "Item 1. Financial Statements — Note 9 — Mortgage Loans Held for Portfolio” for additional information on our MPP loans.

Bonds

Interest expense on bonds increased 22 percent and seven percent during the three and nine months ended September 30, 2015 when compared to the same periods in 2014 due to higher average bond volumes primarily due to bonds assumed as a result of the Merger, partially offset by the low interest rate environment.

Discount Notes

Interest expense on discount notes increased 86 and 66 percent during the three and nine months ended September 30, 2015 when compared to the same periods in 2014 due to higher discount note rates and higher average volumes. Discount notes were utilized to capture attractive funding, match repricing structures on advances and investments, and provide additional liquidity. Average volumes also increased due to the assumption of discount notes as a result of the Merger.

Provision (Reversal) for Credit Losses on Mortgage Loans

During the three and nine months ended September 30, 2015, we recorded a provision for credit losses on Mortgage Partnership Finance (MPF) program mortgage loans (Mortgage Partnership Finance and MPF are registered trademarks of the FHLBank of Chicago) of $0.2 million and $0.9 million due primarily to increased loan charge-offs. We also recorded a provision for credit losses on MPP loans acquired from the Seattle Bank of $0.3 million and $0.5 million during the three and nine months ended September 30, 2015 due to current and projected loan delinquencies and loss severity. During the three and nine months ended September 30, 2014, we recorded a reversal for credit losses on our MPF loans of $1.4 million and $1.7 million due primarily to a reduction in loan delinquencies and improvements in housing market forecasts.

A charge-off is recorded if it is estimated that the recorded investment in a loan will not be recovered. The Bank evaluates whether to record a charge-off based upon the occurrence of a confirming event. Prior to January 1, 2015, charge-offs generally were recorded at the time a mortgage loan was transferred to REO. Beginning January 1, 2015, we began to also charge-off the portion of the outstanding conventional mortgage loan balance in excess of the fair value of the underlying collateral for all collateral-dependent mortgage loans.




69


Other Income (Loss)

The following table summarizes the components of other income (loss) (dollars in millions):
 
For the Three Months Ended
 
For the Nine Months Ended
 
September 30,
 
September 30,
 
2015
 
2014
 
2015
 
2014
Net gains (losses) on trading securities
$
16.8

 
$
0.7

 
$
8.6

 
$
47.2

Net gains (losses) from sale of available-for-sale securities

 

 

 
0.8

Net gains (losses) from sale of held-to-maturity securities

 
6.4

 

 
8.9

Net gains (losses) on financial instruments held at fair value
0.5

 

 
0.1

 

Net gains (losses) on derivatives and hedging activities
(43.7
)
 
(16.8
)
 
(38.8
)
 
(78.8
)
Net gains (losses) on extinguishment of debt

 
(10.0
)
 

 
(12.7
)
Gains on litigation settlements, net
12.5

 

 
12.5

 

Other, net
2.1

 
1.6

 
2.9

 
5.3

Total other income (loss)
$
(11.8
)
 
$
(18.1
)
 
$
(14.7
)
 
$
(29.3
)
    
Other income (loss) can be volatile from period to period depending on the type of financial activity recorded. During the three and nine months ended September 30, 2015, other income (loss) was primarily impacted by net gains (losses) on derivatives and hedging activities, net gains (losses) on trading securities, and gains on litigation settlements, net.

We use derivatives to manage interest rate risk, including mortgage prepayment risk. During the three and nine months ended September 30, 2015, we recorded net losses of $43.7 million and $38.8 million on our derivatives and hedging activities through other income (loss) compared to net losses of $16.8 million and $78.8 million during the same periods in 2014. These fair value changes were primarily attributable to the impact of changes in interest rates on interest rate swaps that we utilize to hedge our investment securities portfolio. Refer to “Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations — Results of Operations — Hedging Activities” for additional discussion on our derivatives and hedging activities, including the net impact of economic hedge relationships.

Trading securities are recorded at fair value with changes in fair value reflected through other income (loss). During the three and nine months ended September 30, 2015, we recorded net gains on trading securities of $16.8 million and $8.6 million compared to net gains of $0.7 million and $47.2 million during the same periods in 2014. These changes in fair value were primarily due to the impact of interest rates and credit spreads on our fixed rate trading securities which are generally offset by the changes in fair value on derivatives that we utilize to economically hedge these securities.

During the three and nine months ended September 30, 2015, other income (loss) was also impacted by a gain on a litigation settlement totaling $12.5 million. During the three and nine months ended September 30, 2014, other income (loss) was also impacted by losses on the extinguishment of debt of $10.0 million and $12.7 million and realized gains on the sale of HTM and AFS securities of $6.4 million and $9.7 million. Refer to "Part II. Item 1. Legal Proceedings” for additional discussion on the private-label mortgage-backed security litigation (the Private-Label MBS Litigation).
Hedging Activities

We use derivatives to manage interest rate risk, including mortgage prepayment risk, in our Statements of Condition. Accounting rules affect the timing and recognition of income and expense on derivatives and therefore we may be subject to income statement volatility.

If a hedging activity qualifies for hedge accounting treatment (fair value hedge), we include the periodic cash flow components of the derivative related to interest income or expense in the relevant income statement caption consistent with the hedged asset or liability. We also record the amortization of fair value hedging adjustments from terminated hedges and the amortization of the financing element of our off market derivatives in interest income or expense or other income (loss). Changes in the fair value of both the derivative and the hedged item are recorded as a component of other income (loss) in “Net gains (losses) on derivatives and hedging activities."


70


If a hedging activity does not qualify for hedge accounting treatment (economic hedge), we record the derivative's components of interest income and expense, together with the effect of changes in fair value as a component of other income (loss) in “Net gains (losses) on derivatives and hedging activities”; however, there is no fair value adjustment for the corresponding asset or liability being hedged unless changes in the fair value of the asset or liability are normally marked to fair value through earnings (i.e., trading securities and fair value option instruments). The following tables categorize the net effect of hedging activities on net income by product (dollars in millions):
 
 
For the Three Months Ended September 30, 2015
Net Effect of
Hedging Activities
 
Advances
 
Investments
 
Mortgage
Loans
 
Bonds
 
Discount Notes
 
Balance
Sheet
 
Total
Net interest income:
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Net amortization/accretion1
 
$
8.8

 
$
1.6

 
$
(0.5
)
 
$
0.2

 
$

 
$

 
$
10.1

Net interest settlements
 
(58.9
)
 
(45.7
)
 

 
35.1

 

 

 
(69.5
)
Total impact to net interest income
 
(50.1
)
 
(44.1
)
 
(0.5
)
 
35.3

 

 

 
(59.4
)
Other income (loss):
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Net gains (losses) on derivatives and hedging activities:
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Gains (losses) on fair value hedges
 

 
(3.9
)
 

 
(2.7
)
 

 

 
(6.6
)
Gains (losses) on economic hedges
 

 
(37.4
)
 

 
0.3

 

 

 
(37.1
)
Total net gains (losses) on derivatives and hedging activities
 

 
(41.3
)
 

 
(2.4
)
 

 

 
(43.7
)
Net gains (losses) on trading securities2
 

 
17.9

 

 

 

 

 
17.9

Net gains (losses) on financial instruments held at fair value
 
(0.1
)
 

 

 
0.3

 
0.3

 

 
0.5

Total impact to other income (loss)
 
(0.1
)
 
(23.4
)
 

 
(2.1
)
 
0.3

 

 
(25.3
)
Total net effect of hedging activities3
 
$
(50.2
)
 
$
(67.5
)
 
$
(0.5
)
 
$
33.2

 
$
0.3

 
$

 
$
(84.7
)
 
 
For the Three Months Ended September 30, 2014
Net Effect of
Hedging Activities
 
Advances
 
Investments
 
Mortgage
Loans
 
Bonds
 
Discount Notes
 
Balance
Sheet
 
Total
Net interest income:
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Net amortization/accretion1
 
$
(6.9
)
 
$

 
$
(0.5
)
 
$
5.1

 
$

 
$

 
$
(2.3
)
Net interest settlements
 
(41.0
)
 
(30.2
)
 

 
18.8

 

 

 
(52.4
)
Total impact to net interest income
 
(47.9
)
 
(30.2
)
 
(0.5
)
 
23.9

 

 

 
(54.7
)
Other income (loss):
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Net gains (losses) on derivatives and hedging activities:
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Gains (losses) on fair value hedges
 
0.4

 
(14.6
)
 

 
2.1

 

 

 
(12.1
)
Gains (losses) on economic hedges
 

 
(4.7
)
 

 

 

 

 
(4.7
)
Total net gains (losses) on derivatives and hedging activities
 
0.4

 
(19.3
)
 

 
2.1

 

 

 
(16.8
)
Net gains (losses) on trading securities2
 

 
0.7

 

 

 

 

 
0.7

Net amortization/accretion4
 

 

 

 
(0.8
)
 

 

 
(0.8
)
Total impact to other income (loss)
 
0.4

 
(18.6
)
 

 
1.3

 

 

 
(16.9
)
Total net effect of hedging activities3
 
$
(47.5
)
 
$
(48.8
)
 
$
(0.5
)

$
25.2

 
$

 
$

 
$
(71.6
)

1
Represents the amortization/accretion of fair value hedging adjustments on closed hedge relationships and the amortization of the financing element of off market derivatives.

2
Represents the net gains (losses) on those trading securities in which we have entered into a corresponding economic derivative to hedge the risk of changes in fair value. As a result, this line item may not agree to the Statements of Income.
    
3
The hedging activity tables do not include the interest component on the related hedged items or the gross prepayment fee income on terminated advance and investment hedge relationships.

4
Represents the amortization/accretion of fair value hedging adjustments on closed bond hedge relationships included in other income (loss) as a result of debt extinguishments.



71


The following tables categorize the net effect of hedging activities on net income by product (dollars in millions):
 
 
For the Nine Months Ended September 30, 2015
Net Effect of
Hedging Activities
 
Advances
 
Investments
 
Mortgage
Loans
 
Bonds
 
Discount Notes
 
Balance
Sheet5
 
Total
Net interest income:
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Net amortization/accretion1
 
$
4.1

 
$
2.4

 
$
(1.8
)
 
$
5.2

 
$

 
$

 
$
9.9

Net interest settlements
 
(144.8
)
 
(113.6
)
 

 
91.6

 

 

 
(166.8
)
Total impact to net interest income
 
(140.7
)
 
(111.2
)
 
(1.8
)
 
96.8

 

 

 
(156.9
)
Other income (loss):
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Net gains (losses) on derivatives and hedging activities:
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Gains (losses) on fair value hedges
 
1.5

 
(0.5
)
 

 
(0.3
)
 

 

 
0.7

Gains (losses) on economic hedges
 

 
(40.4
)
 
(0.1
)
 
0.6

 
0.5

 
(0.1
)
 
(39.5
)
Total net gains (losses) on derivatives and hedging activities
 
1.5


(40.9
)

(0.1
)

0.3


0.5


(0.1
)
 
(38.8
)
Net gains (losses) on trading securities2
 

 
9.4

 

 

 

 

 
9.4

Net gains (losses) on financial instruments held at fair value
 
(0.1
)
 

 

 
0.2

 

 

 
0.1

Total impact to other income (loss)
 
1.4

 
(31.5
)
 
(0.1
)
 
0.5

 
0.5

 
(0.1
)
 
(29.3
)
Total net effect of hedging activities3
 
$
(139.3
)
 
$
(142.7
)
 
$
(1.9
)
 
$
97.3

 
$
0.5

 
$
(0.1
)
 
$
(186.2
)
 
 
For the Nine Months Ended September 30, 2014
Net Effect of
Hedging Activities
 
Advances
 
Investments
 
Mortgage
Loans
 
Bonds
 
Discount Notes
 
Balance
Sheet5
 
Total
Net interest income:
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Net amortization/accretion1
 
$
(24.6
)
 
$

 
$
(1.3
)
 
$
18.9

 
$

 
$

 
$
(7.0
)
Net interest settlements
 
(121.9
)
 
(83.6
)
 

 
45.7

 

 

 
(159.8
)
Total impact to net interest income
 
(146.5
)
 
(83.6
)
 
(1.3
)
 
64.6

 

 

 
(166.8
)
Other income (loss):
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Net gains (losses) on derivatives and hedging activities:
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Gains (losses) on fair value hedges
 
1.3

 
(35.1
)
 

 
3.0

 

 

 
(30.8
)
Gains (losses) on economic hedges
 
(0.1
)
 
(60.2
)
 
(0.2
)
 
12.5

 

 

 
(48.0
)
Total net gains (losses) on derivatives and hedging activities
 
1.2

 
(95.3
)
 
(0.2
)
 
15.5

 

 

 
(78.8
)
Net gains (losses) on trading securities2
 

 
47.2

 

 

 

 

 
47.2

Net amortization/accretion4
 

 

 

 
(0.4
)
 

 

 
(0.4
)
Total impact to other income (loss)
 
1.2

 
(48.1
)
 
(0.2
)
 
15.1

 

 

 
(32.0
)
Total net effect of hedging activities3
 
$
(145.3
)
 
$
(131.7
)
 
$
(1.5
)
 
$
79.7

 
$

 
$

 
$
(198.8
)

1
Represents the amortization/accretion of fair value hedging adjustments on closed hedge relationships and the amortization of the financing element of off market derivatives.

2
Represents the net gains (losses) on those trading securities in which we have entered into a corresponding economic derivative to hedge the risk of changes in fair value. As a result, this line item may not agree to the Statements of Income.
    
3
The hedging activity tables do not include the interest component on the related hedged items or the gross prepayment fee income on terminated advance and investment hedge relationships.

4
Represents the amortization/accretion of fair value hedging adjustments on closed bond hedge relationships included in other income (loss) as a result of debt extinguishments.

5
Represents net gains on interest rate swaptions. We did not hold any interest rate swaptions in 2014.




72


NET AMORTIZATION/ACCRETION

Amortization/accretion varies from period to period depending on our hedge relationship termination activities and the maturity, call, or prepayment of assets or liabilities previously in hedge relationships. In addition, amortization is impacted by the financing element of our off market derivatives. Amortization/accretion on advances, investments, mortgage loans, and consolidated obligation bonds during the three and nine months ended September 30, 2015 and 2014 resulted primarily from the normal amortization of fair value hedging adjustments.

NET INTEREST SETTLEMENTS

Net interest settlements represent the interest component on derivatives that qualify for fair value hedge accounting. These amounts vary from period to period depending on our hedging activities and interest rates and are partially offset by the interest component on the related hedged item within net interest income. The hedging activity tables do not include the impact of the interest component on the related hedged item.

GAINS (LOSSES) ON FAIR VALUE HEDGES

Gains (losses) on fair value hedges are driven by hedge ineffectiveness. Hedge ineffectiveness occurs when changes in the fair value of the derivative and the related hedged item do not perfectly offset each other. The factors that affect hedge ineffectiveness include changes in the benchmark interest rate, volatility, and the divergence in the valuation curves used to value our assets, liabilities, and derivatives.

GAINS (LOSSES) ON ECONOMIC HEDGES

We utilize economic derivatives to manage certain risks in our Statements of Condition. Gains and losses on economic derivatives are driven primarily by changes in interest rates and volatility and include interest settlements. Interest settlements represent the interest component on economic derivatives. These amounts vary from period to period depending on our hedging activities and interest rates. The following discussion highlights key items impacting gains and losses on economic derivatives.

Investments
 
We utilize interest rate swaps to economically hedge a portion of our trading securities against changes in fair value. Gains and losses on these economic derivatives are due primarily to changes in interest rates. Gains and losses on our trading securities are due primarily to changes in interest rates and credit spreads.

The following table summarizes gains and losses on these economic derivatives as well as the related trading securities (dollars in millions):
 
For the Three Months Ended
 
For the Nine Months Ended
 
September 30,
 
September 30,
 
2015
 
2014
 
2015
 
2014
Gains (losses) on interest rate swaps economically hedging our investments
$
(31.5
)
 
$
0.9

 
$
(23.5
)
 
$
(43.3
)
Gains (losses) on interest rate swaps in ineffective fair value hedge relationships
(0.5
)
 

 
(0.5
)
 

Interest settlements
(5.4
)
 
(5.6
)
 
(16.4
)
 
(16.9
)
Net gains (losses) on investment derivatives
(37.4
)
 
(4.7
)
 
(40.4
)
 
(60.2
)
Net gains (losses) on related trading securities
17.9

 
0.7

 
9.4

 
47.2

Net gains (losses) on economic investment hedge relationships
$
(19.5
)
 
$
(4.0
)
 
$
(31.0
)
 
$
(13.0
)

Consolidated Obligations
 
Derivatives used to hedge consolidated obligations in a fair value hedge relationship that fail retrospective hedge effectiveness testing are considered to be ineffective and are required to be accounted for as economic derivatives. We may also utilize interest rate swaps to economically hedge against changes in fair value on consolidated obligations elected under the fair value option. Gains and losses on these economic derivatives are primarily due to changes in interest rates.


73


The following table summarizes gains and losses on economic derivatives hedging our consolidated obligation discount notes as well as related consolidated obligation discount notes elected under the fair value option for the three and nine months ended September 30, 2015. For the three and nine months ended September 30, 2014, we did not have any economic derivatives hedging our consolidated obligation discount notes (dollars in millions):
 
For the Three Months Ended September 30,
 
For the Nine Months Ended September 30,
 
2015
 
2015
Gains (losses) on interest rate swaps economically hedging our consolidated obligation discount notes
$
(0.3
)
 
$

Interest settlements
0.3

 
0.5

Net gains (losses) on consolidated obligation discount note derivatives

 
0.5

Net gains (losses) on related consolidated obligation discount notes elected under the fair value option
0.3

 

Net gains (losses) on economic consolidated obligation discount note hedge relationships
$
0.3

 
$
0.5


The following table summarizes gains and losses on economic derivatives hedging our consolidated obligation bonds as well as related consolidated obligation bonds elected under the fair value option for the three and nine months ended September 30, 2015 and for the nine months ended September 30, 2014. For the three months ended September 30, 2014, we did not have any economic derivatives hedging our consolidated obligation bonds (dollars in millions):
 
For the Three Months Ended
 
For the Nine Months Ended
 
September 30,
 
September 30,
 
2015
 
2015
 
2014
Gains (losses) on interest rate swaps economically hedging our consolidated obligation bonds
$
(0.1
)
 
$
(0.1
)
 
$

Gains (losses) on interest rate swaps in ineffective fair value hedge relationships

 
0.1

 
10.3

Interest settlements
0.4

 
0.6

 
2.2

Net gains (losses) on consolidated obligation bond derivatives
0.3

 
0.6

 
12.5

Net gains (losses) on related consolidated obligation bonds elected under the fair value option
0.3

 
0.2

 

Net gains (losses) on economic consolidated obligation bond hedge relationships
$
0.6

 
$
0.8

 
$
12.5


Other Expense
The following table shows the components of other expense (dollars in millions):
 
For the Three Months Ended September 30,
 
For the Nine Months Ended September 30,
 
2015
 
2014
 
2015
 
2014
Compensation and benefits
$
12.4

 
$
8.7

 
$
33.9

 
$
24.3

Contractual services
3.9

 
1.1

 
8.5

 
5.0

Professional fees
4.5

 
1.1

 
6.4

 
2.7

Merger related expenses
2.7

 
0.7

 
38.1

 
0.7

Other operating expenses
4.2

 
2.3

 
10.1

 
6.9

Total operating expenses
27.7

 
13.9

 
97.0

 
39.6

Federal Housing Finance Agency
1.9

 
0.8

 
5.0

 
2.4

Office of Finance
1.4

 
1.0

 
3.8

 
2.8

Other, net
0.8

 
2.0

 
2.1

 
3.6

Total other expense
$
31.8

 
$
17.7

 
$
107.9

 
$
48.4



74


Other expenses totaled $31.8 million and $107.9 million for the three and nine months ended September 30, 2015 compared to $17.7 million and $48.4 million for the same periods last year. The increase was primarily due to merger related expenses incurred as a result of the Merger, additional costs associated with operating a larger institution, and temporary transition expenses due to the Merger.

The following table provides a summary of merger related expenses incurred during the three and nine months ended September 30, 2015 and 2014 (dollars in millions):
 
For the Three Months Ended September 30,
 
For the Nine Months Ended September 30,
 
2015
 
2014
 
2015
 
2014
Compensation and benefits1
$
1.3

 
$

 
$
28.4

 
$

Contractual services and professional fees
1.3

 
0.7

 
8.0

 
0.7

Other merger related expenses
0.1

 

 
1.7

 

Total
$
2.7

 
$
0.7

 
$
38.1

 
$
0.7


1
Primarily includes expenses related to change in control, severance, and retention agreements. Also includes a $10.2 million discretionary contribution made to bring the Seattle qualified defined benefit pension plan to a similar funding status as the Des Moines qualified defined benefit pension plan during the nine months ended September 30, 2015.

Merger related expenses primarily include compensation and benefits expenses and Merger transaction and integration expenses. Compensation and employee benefits expenses consisted substantially of change in control agreements and severance packages paid to transition employees, as well as a discretionary contribution made to bring the Seattle qualified defined benefit pension plan to a similar funding status as the Des Moines qualified defined benefit pension plan. Merger transaction and integration expenses primarily include contractual services and professional fees paid to attorneys, accountants, and consultants for work related to the Merger.

The integration approach utilized for the Merger included the transfer of all Seattle member and business data to Des Moines systems necessary to ensure that business with all members could be conducted with the combined Bank as of the merger date. Due to this approach, integration activities are substantially complete and we anticipate incurring minimal additional merger related expenses during the remainder of 2015 and 2016.

STATEMENTS OF CONDITION

Financial Highlights

Our total assets increased to $120.4 billion at September 30, 2015 from $95.5 billion at December 31, 2014. Our total liabilities increased to $115.3 billion at September 30, 2015 from $91.2 billion at December 31, 2014. Total capital increased to $5.1 billion at September 30, 2015 from $4.3 billion at December 31, 2014. See further discussion of changes in our financial condition in the appropriate sections that follow.

Cash and Due from Banks

At September 30, 2015, our total cash balance was $765.5 million compared to $495.2 million at December 31, 2014. The increase was primarily due to limited investment opportunities on the last day of the quarter.


75


Advances

The following table summarizes our advances by type of institution (dollars in millions):
 
September 30,
2015
 
December 31,
2014
Commercial banks
$
42,004

 
$
45,037

Thrifts
3,317

 
1,476

Credit unions
2,306

 
927

Insurance companies
24,389

 
17,012

Community development financial institution
3

 

Total member advances
72,019

 
64,452

Housing associates
109

 
57

Non-member borrowers
1,945

 
443

Total par value
$
74,073

 
$
64,952


Our total advance par value increased $9.1 billion or 14 percent at September 30, 2015 when compared to December 31, 2014. The increase in total par value was primarily due to advances acquired as a result of the Merger, as well as an increase in borrowings from insurance company members, partially offset by a decrease in borrowings from a large depository institution member.

The following table summarizes our advances by product type (dollars in millions):
 
September 30, 2015
 
December 31, 2014
 
Amount
 
% of Total
 
Amount
 
% of Total
Variable rate
$
46,307

 
62.5
 
$
46,717

 
71.9
Fixed rate
26,608

 
35.9
 
17,739

 
27.3
Amortizing
1,158

 
1.6
 
496

 
0.8
Total par value
74,073

 
100.0
 
64,952

 
100.0
Premiums
145

 
 
 

 
 
Discounts
(9
)
 
 
 
(6
)
 
 
Fair value hedging adjustments
275

 
 
 
222

 
 
Total advances
$
74,484

 
 
 
$
65,168

 
 

Premiums increased $145.4 million at September 30, 2015 when compared to December 31, 2014. The increase was as a result of the Merger as the fair value of the advances acquired exceeded the par value on the merger date. Fair value hedging adjustments changed $53.1 million or 24 percent at September 30, 2015 when compared to December 31, 2014 due in part to fair value adjustments on advances in new hedge relationships. In conjunction with the Merger, we swapped certain acquired advances to LIBOR in order to manage our interest rate risk.

At September 30, 2015 and December 31, 2014, advances outstanding to our five largest member borrowers totaled $38.9 billion and $42.6 billion, representing 53 and 66 percent of our total advances outstanding. The following table summarizes advances outstanding to our five largest member borrowers at September 30, 2015 (dollars in millions):
 
Amount
 
% of Total
Wells Fargo Bank, N.A.
$
26,500

 
35.8

TH Insurance Holdings Company LLC
3,710

 
5.0

Old Georgetown Insurance Company, LLC
3,502

 
4.7

HICA Education Loan Corporation
2,800

 
3.8

Transamerica Life Insurance Company1
2,350

 
3.2

Total par value
$
38,862

 
52.5


1
Excludes $400.0 million of outstanding advances with Transamerica Premier Life Insurance Company, an affiliate of Transamerica Life Insurance Company.


76


We manage our credit exposure to advances through an approach that provides for an established credit limit for each borrower, ongoing reviews of each borrower's financial condition, and detailed collateral and lending policies to limit risk of loss while balancing borrowers' needs for a reliable source of funding. In addition, we lend to our borrowers in accordance with the Federal Home Loan Bank Act of 1932 (FHLBank Act), Federal Housing Finance Agency (Finance Agency) regulations, and other applicable laws and regulations.

The FHLBank Act requires that we obtain sufficient collateral on advances to protect against losses. We have never experienced a credit loss on an advance to a member or eligible housing associate. Based upon our collateral and lending policies, the collateral held as security, and the repayment history on advances, management has determined that there were no probable credit losses on our advances as of September 30, 2015 and December 31, 2014. Accordingly, we have not recorded any allowance for credit losses on our advances. See additional discussion regarding our collateral requirements in “Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations — Risk Management — Credit Risk — Advances.”

Mortgage Loans

The following tables summarize information on our mortgage loans held for portfolio (dollars in millions):
 
September 30, 2015
 
MPF
 
MPP
 
Total
Fixed rate conventional loans
$
5,686

 
$
493

 
$
6,179

Fixed rate government-insured loans
553

 
53

 
606

Total unpaid principal balance
6,239

 
546

 
6,785

Premiums
77

 
19

 
96

Discounts
(10
)
 
(2
)
 
(12
)
Basis adjustments from mortgage loan commitments
10

 

 
10

Total mortgage loans held for portfolio
6,316

 
563

 
6,879

Allowance for credit losses
(1
)
 

 
(1
)
Total mortgage loans held for portfolio, net
$
6,315

 
$
563

 
$
6,878

        
 
December 31, 2014
 
MPF
 
MPP
 
Total
Fixed rate conventional loans
$
5,916

 
$

 
$
5,916

Fixed rate government-insured loans
570

 

 
570

Total unpaid principal balance
6,486

 

 
6,486

Premiums
82

 

 
82

Discounts
(12
)
 

 
(12
)
Basis adjustments from mortgage loan commitments
11

 

 
11

Total mortgage loans held for portfolio
6,567

 

 
6,567

Allowance for credit losses
(5
)
 

 
(5
)
Total mortgage loans held for portfolio, net
$
6,562

 
$

 
$
6,562


Our total mortgage loans increased $0.3 billion or five percent at September 30, 2015 when compared to December 31, 2014. The increase was primarily due to MPP loans acquired as a result of the Merger, partially offset by a decline in MPF loans due to principal paydowns exceeding mortgage loan purchases.

Effective May 31, 2015, as part of the Merger, we acquired mortgage loans previously purchased by the Seattle Bank under the MPP. This program involved investment by the Seattle Bank in single-family mortgage loans that were purchased directly from MPP PFIs. Similar to the MPF program, MPP PFIs generally originated, serviced, and credit enhanced the mortgage loans sold to the Seattle Bank. In 2005, the Seattle Bank ceased entering into new MPP master commitment contracts and therefore all MPP loans acquired were originated prior to 2006. We currently do not purchase mortgage loans under this program.


77


Our allowance for credit losses on MPF loans declined $3.9 million or 79 percent at September 30, 2015 when compared to December 31, 2014 due to charge-offs of $5.2 million, partially offset by recoveries of $0.4 million and a provision for credit losses on MPF loans of $0.9 million. The provision was primarily due to increased loan charge-offs. We also recorded a provision for credit losses on MPP loans acquired from the Seattle Bank of $0.3 million and $0.5 million during the three and nine months ended September 30, 2015 due to current and projected loan delinquencies and loss severity.

A charge-off is recorded if it is estimated the recorded investment in the loan will not be recovered. We evaluate whether to record a charge-off based upon the occurrence of a confirming event. Prior to January 1, 2015, charge-offs generally were recorded at the time a mortgage loan was transferred to REO. Beginning January 1, 2015, we began to also charge-off the portion of outstanding conventional mortgage loan balances in excess of the fair value of the underlying collateral for all collateral dependent mortgage loans.

For additional discussion on our mortgage loan credit risk, refer to "Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations — Risk Management — Credit Risk — Mortgage Assets.”

Investments

The following table summarizes the carrying value of our investments (dollars in millions):
 
September 30, 2015
 
December 31, 2014
 
Amount
 
% of Total
 
Amount
 
% of Total
Short-term investments1
 
 
 
 
 
 
 
Interest-bearing deposits
$
1

 
 
$
1

 
Securities purchased under agreements to resell
5,000

 
13.2
 
5,091

 
22.1
Federal funds sold
2,180

 
5.7
 
1,860

 
8.1
GSE obligations
50

 
0.1
 

 
State or local housing agency obligations
9

 
 

 
Other
20

 
0.1
 

 
Total short-term investments
7,260

 
19.1
 
6,952

 
30.2
Long-term investments2
 
 
 
 
 
 
 
Interest-bearing deposits
1

 
 
1

 
Mortgage-backed securities
 
 
 
 
 
 
 
GSE single-family
6,660

 
17.6
 
2,826

 
12.2
GSE multifamily
10,477

 
27.6
 
7,465

 
32.4
Other U.S. obligations single-family3
2,395

 
6.3
 
1,979

 
8.6
Other U.S. obligations commercial3
6

 
 
2

 
Private-label residential
22

 
0.1
 
25

 
0.1
Total mortgage-backed securities
19,560

 
51.6
 
12,297

 
53.3
Non-mortgage-backed securities
 
 
 
 
 
 
 
Other U.S. obligations3
4,353

 
11.5
 
420

 
1.8
GSE obligations
4,152

 
11.0
 
2,849

 
12.3
State or local housing agency obligations
2,021

 
5.3
 
96

 
0.4
Other
564

 
1.5
 
464

 
2.0
Total non-mortgage-backed securities
11,090

 
29.3
 
3,829

 
16.5
Total long-term investments
30,651

 
80.9
 
16,126

 
69.8
Total investments
$
37,911

 
100.0
 
$
23,079

 
100.0

1
Short-term investments have original maturities of less than one year.

2
Long-term investments have original maturities of greater than one year.

3
Represents investment securities backed by the full faith and credit of the U.S. Government.

Our investments increased $14.8 billion or 64 percent at September 30, 2015 when compared to December 31, 2014. The increase was primarily a result of the Merger. Investments acquired mainly included GSE and other U.S. obligation MBS, and other U.S. obligation, GSE obligation, and state or local housing agency obligation non-MBS securities. We also purchased certain GSE and other U.S. obligation MBS during the first half of the year that met our investment targets.


78


The Finance Agency limits our investments in MBS by requiring that the total book value of our MBS not exceed three times regulatory capital at the time of purchase. At September 30, 2015, our ratio of MBS to regulatory capital was 3.74 due to the Merger, and as a result, we are precluded from purchasing any additional MBS until this ratio fall below 3.00. At December 31, 2014, our ratio of MBS to regulatory capital was 2.89.

We evaluate AFS and HTM securities in an unrealized loss position for other-than-temporary-impairment (OTTI) on at least a quarterly basis. As part of our OTTI evaluation, we consider our intent to sell each debt security and whether it is more likely than not that we will be required to sell the security before its anticipated recovery. If either of these conditions is met, we will recognize an OTTI charge to earnings equal to the entire difference between the security's amortized cost basis and its fair value at the reporting date. For securities in an unrealized loss position that meet neither of these conditions, we perform analyses to determine if any of these securities are other-than-temporarily impaired.

Refer to “Item 1. Financial Statements — Note 7 — Other-Than-Temporary Impairment” for additional information on our OTTI analysis performed at September 30, 2015. As a result of our analysis, we determined that all gross unrealized losses on our investment portfolio are temporary. We do not intend to sell these securities, and it is not more likely than not that we will be required to sell these securities before recovery of their amortized cost bases. As a result, we did not consider any of these securities to be other-than-temporarily-impaired at September 30, 2015.

Other Assets

Our total other assets increased $16.5 million or 46 percent at September 30, 2015 when compared to December 31, 2014. The increase was primarily due to a receivable of $12.5 million recorded at September 30, 2015 related to a settlement with a defendant in connection with the Bank's Private-Label MBS Litigation. Refer to “Part II. Item 1. Legal Proceedings” for additional discussion on the Private-Label MBS Litigation.

Consolidated Obligations

Consolidated obligations, which include bonds and discount notes, are the primary source of funds to support our advances, mortgage loans, and investments. At September 30, 2015 and December 31, 2014, the carrying value of consolidated obligations for which we are primarily liable totaled $113.7 billion and $90.1 billion.

DISCOUNT NOTES

The following table summarizes our discount notes, all of which are due within one year (dollars in millions):
 
September 30,
2015
 
December 31,
2014
Par value
$
77,272

 
$
57,781

Discounts
(25
)
 
(8
)
Total
$
77,247

 
$
57,773

    
Our discount notes increased $19.5 billion or 34 percent at September 30, 2015 when compared to December 31, 2014. The increase was primarily due to discount notes assumed as a result of the Merger. In addition, we continued to utilize discount notes to capture attractive funding, match repricing structures on advances and investments, and provide additional liquidity.

For additional information on our discount notes, refer to “Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations — Liquidity and Capital Resources — Liquidity — Sources of Liquidity.”


79


BONDS

The following table summarizes information on our bonds (dollars in millions):
 
September 30,
2015
 
December 31,
2014
Total par value
$
36,103

 
$
32,333

Premiums
334

 
21

Discounts
(38
)
 
(18
)
Fair value hedging adjustments
87

 
26

Fair value option adjustments
2

 

Total bonds
$
36,488

 
$
32,362


Our bonds increased $4.1 billion or 13 percent at September 30, 2015 when compared to December 31, 2014. The increase was primarily due to bonds assumed as a result of the Merger. Premiums increased $313.4 million when compared to December 31, 2014. The increase was a result of the Merger as the fair value of the bonds assumed exceeded the par value on the merger date. Fair value hedging adjustments changed $60.8 million or 230 percent at September 30, 2015 when compared to December 31, 2014 due primarily to fair value adjustments on bonds in new hedge relationships. In conjunction with the Merger, we swapped certain assumed bonds to LIBOR in order to manage our interest rate risk.

Fair Value Option Bonds

Fair value option adjustments increased $1.6 million at September 30, 2015 when compared to December 31, 2014. We elect the fair value option for certain financial instruments when a hedge relationship does not qualify for hedge accounting. These fair value elections are made primarily in an effort to mitigate the potential income statement volatility that can arise when an economic derivative is adjusted for changes in fair value but the related hedged item is not. At September 30, 2015, approximately $1.6 billion of our bonds were recorded under the fair value option. Refer to "Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations — Results of Operations — Hedging Activities" for additional details on the income statement impact of these bonds and related economic derivatives.
 
For additional information on our bonds, refer to "Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations — Liquidity and Capital Resources — Liquidity — Sources of Liquidity.”

Deposits

Deposit levels will vary based on member alternatives for short-term investments. Our deposits increased $0.5 billion or 96 percent at September 30, 2015 when compared to December 31, 2014 due primarily to an increase in deposits assumed as a result of the Merger.

Mandatorily Redeemable Capital Stock

We reclassify capital stock subject to redemption from equity to a liability (mandatorily redeemable capital stock) when a member engages in any of the following activities: (i) submits a written notice to redeem all or part of its capital stock, (ii) submits a written notice of its intent to withdraw from membership, or (iii) terminates its membership voluntarily as a result of a consolidation into a non-member or into a member of another FHLBank. Dividends on mandatorily redeemable capital stock are classified as interest expense in the Statements of Income. At September 30, 2015 and December 31, 2014, the Bank's mandatorily redeemable capital stock totaled $105.9 million and $24.4 million. The increase was primarily due to the assumption of mandatorily redeemable capital stock as a result of the Merger.

As part of the Merger, we assumed the Seattle Bank's mandatorily redeemable capital stock. We immediately redeemed all shares of this stock, with the exception of shares required to meet members' activity and membership stock requirements, and shares subject to the mandatory five year waiting period upon written notice of a member's intent to withdraw from membership in accordance with our Capital Plan.


80


Capital

The following table summarizes information on our capital (dollars in millions):
 
September 30,
2015
 
December 31,
2014
Capital stock
$
4,126

 
$
3,469

Additional capital from merger
221

 

Retained earnings
770

 
720

Accumulated other comprehensive income
1

 
123

Total capital
$
5,118

 
$
4,312


Our capital increased $0.8 billion or 19 percent at September 30, 2015 when compared to December 31, 2014. The increase was primarily due to an increase in capital stock outstanding and additional capital from merger.

Capital stock outstanding increased primarily due to the issuance of Class B stock as a result of the Merger and also due to member activity. On the merger date, each share of Seattle Bank Class A stock outstanding was converted into one share of Des Moines Bank Class A stock and each share of Seattle Bank Class B stock outstanding was converted into one share of Des Moines Bank Class B stock. Immediately following the Merger, all shares of Des Moines Bank Class A stock and excess shares of Class B stock were repurchased and Des Moines Class B stock was issued as needed to meet our activity and membership stock requirements in accordance with our Capital Plan. No shares of Seattle Bank capital stock remain outstanding. The Merger did not have an impact on the total capital stock held by Des Moines Bank stockholders.

We recognized net assets acquired from the Seattle Bank by recording the par value of capital stock issued in the transaction as capital stock, with the remaining portion of net assets acquired reflected in a new capital account captioned as “Additional capital from merger.” This balance primarily represents the amount of Seattle Bank’s closing retained earnings balance, adjusted for fair value and other purchase accounting adjustments, and identified intangible assets. We treat this additional capital from merger as a component of total capital for regulatory capital purposes. Dividends to our members have been paid from this account since the merger date. We intend to pay future dividends to members, when and if declared, from this account until the additional capital from merger balance is depleted. During the three months ended September 30, 2015, we began distributing dividends from additional capital from merger in the amount of $25.9 million, resulting in an ending additional capital from merger balance of $220.6 million.

In addition, our accumulated other comprehensive income declined $121.8 million at September 30, 2015 when compared to December 31, 2014 due to unrealized net losses on our GSE and other U.S. obligation AFS securities. The decline is primarily attributable to the impact of changes in interest rates and credit spreads.

Refer to “Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations — Liquidity and Capital Resources — Capital — Capital Stock” for additional information on our capital stock activity.

Derivatives

We use derivatives to manage interest rate risk, including mortgage prepayment risk, in our Statements of Condition. The notional amount of derivatives serves as a factor in determining periodic interest payments and cash flows received and paid. However, the notional amount of derivatives represents neither the actual amounts exchanged nor our overall exposure to credit and market risk.


81


The following table categorizes the notional amount of our derivatives by type (dollars in millions):
 
September 30,
2015
 
December 31,
2014
Interest rate swaps
 
 
 
Noncallable
$
41,018

 
$
26,432

Callable by counterparty
6,113

 
13,247

Callable by the Bank
42

 
37

Total interest rate swaps
47,173

 
39,716

Interest rate swaption
200

 

Forward settlement agreements (TBAs)
36

 
65

Mortgage delivery commitments
42

 
70

Total notional amount
$
47,451

 
$
39,851

    
The notional amount of our derivative contracts increased $7.6 billion or 19 percent at September 30, 2015 when compared to December 31, 2014. The increase was primarily due to interest rate swaps acquired as a result of the Merger. In addition, we swapped a greater percentage of our consolidated obligation bonds to LIBOR in order to manage our interest rate risk and more closely match our asset and liability cash flows.

LIQUIDITY AND CAPITAL RESOURCES

Our liquidity and capital positions are actively managed in an effort to preserve stable, reliable, and cost-effective sources of funds to meet current and projected future operating financial commitments, as well as regulatory, liquidity, and capital requirements.

Liquidity

SOURCES OF LIQUIDITY

We utilize several sources of liquidity to carry out our business activities. These include, but are not limited to, proceeds from the issuance of consolidated obligations, payments collected on advances and mortgage loans, proceeds from the maturity or sale of investment securities, member deposits, proceeds from the issuance of capital stock, and current period earnings. In addition, cash was transferred from the Seattle Bank during the second quarter of 2015 as a result of the Merger.

Our primary source of liquidity is proceeds from the issuance of consolidated obligations (bonds and discount notes) in the capital markets. Although we are primarily liable for the portion of consolidated obligations which are issued on our behalf, we are also jointly and severally liable with the other FHLBanks for the payment of principal and interest on all consolidated obligations issued by the FHLBank System. At September 30, 2015 and December 31, 2014, the total par value of outstanding consolidated obligations for which we are primarily liable was $113.4 billion and $90.1 billion. At September 30, 2015 and December 31, 2014, the total par value of outstanding consolidated obligations issued on behalf of other FHLBanks for which we are jointly and severally liable was approximately $743.1 billion and $757.1 billion.

During the nine months ended September 30, 2015, proceeds from the issuance of bonds and discount notes were $15.6 billion and $198.1 billion compared to $21.5 billion and $159.1 billion for the same period in 2014. We continued to issue shorter-term discount notes as well as step-up, callable, and term fixed rate consolidated obligation bonds to capture attractive funding, match repricing structures on advances and investments, and provide additional liquidity.

Our ability to raise funds in the capital markets as well as our cost of borrowing may be affected by our credit ratings. As of October 31, 2015, our consolidated obligations were rated AA+/A-1+ by Standard and Poor's and Aaa/P-1 by Moody's and both ratings had a stable outlook. For further discussion of how credit rating changes may impact us in the future, refer to “Item 1A. Risk Factors” in our 2014 Form 10-K.


82


The Office of Finance and FHLBanks have contingency plans in place which prioritize the allocation of proceeds from the issuance of consolidated obligations during periods of financial distress if consolidated obligations cannot be issued in sufficient amounts to satisfy all FHLBank demand. In the event of significant market disruptions or local disasters, our President or his designee is authorized to establish interim borrowing relationships with other FHLBanks. To provide further access to funding, the FHLBank Act also authorizes the U.S. Treasury to directly purchase new issue consolidated obligations of the GSEs, including FHLBanks, up to an aggregate principal amount of $4.0 billion. As of October 31, 2015, no purchases had been made by the U.S. Treasury under this authorization.

USES OF LIQUIDITY

We use our available liquidity, including proceeds from the issuance of consolidated obligations, primarily to repay consolidated obligations, fund advances, and purchase mortgage loans and investments. During the nine months ended September 30, 2015, payments on consolidated obligations totaled $216.2 billion compared to $155.8 billion for the same period in 2014. A portion of these payments were due to the call of certain swapped bonds and extinguishment of certain higher-costing par value bonds in an effort to better match our projected asset cash flows and reduce our future interest costs. During the nine months ended September 30, 2015, we called bonds with a total par value of $13.9 billion. During the nine months ended September 30, 2014, we called bonds with a total par value of $2.8 billion and extinguished bonds with a total par value of $115.0 million.

During the nine months ended September 30, 2015, advance disbursements totaled $88.5 billion compared to $85.1 billion for the same period in 2014. During the nine months ended September 30, 2015, investment purchases (excluding overnight investments) totaled $112.1 billion compared to $132.4 billion for the same period in 2014. Investment purchases during each period were primarily driven by the purchase of money market investments, in an effort to manage our liquidity position.

We also use liquidity to purchase mortgage loans, repay member deposits, pledge collateral to derivative counterparties, redeem or repurchase capital stock, pay expenses, and pay dividends.

LIQUIDITY REQUIREMENTS
Finance Agency regulations mandate three liquidity requirements. First, we are required to maintain contingent liquidity sufficient to meet our liquidity needs, which shall, at a minimum, cover five calendar days of inability to access the consolidated obligation debt markets. Second, we are required to have available at all times an amount greater than or equal to members' current deposits invested in advances with maturities not to exceed five years, deposits in banks or trust companies, and obligations of the U.S. Treasury. Third, we are required to maintain, in the aggregate, unpledged qualifying assets in an amount at least equal to the amount of our participation in total consolidated obligations outstanding. At September 30, 2015 and December 31, 2014 and throughout the nine months ended September 30, 2015, we were in compliance with all three of the Finance Agency liquidity requirements.
In addition to the liquidity measures previously discussed, the Finance Agency has provided us with guidance to maintain sufficient liquidity in an amount at least equal to our anticipated cash outflows under two different scenarios. One scenario (roll-off scenario) assumes that we cannot access the capital markets to issue debt for a period of 10 to 20 days with initial guidance set at 15 days and that during that time members do not renew any maturing, prepaid, and called advances. The second scenario (renew scenario) assumes that we cannot access the capital markets to issue debt for a period of three to seven days with initial guidance set at five days and that during that time we will automatically renew maturing and called advances for all members except very large, highly-rated members. This guidance is designed to protect against temporary disruptions in the debt markets that could lead to a reduction in market liquidity and thus the inability for us to provide advances to our members. At September 30, 2015 and December 31, 2014 and throughout the nine months ended September 30, 2015, we were in compliance with this liquidity guidance.

83


Capital

CAPITAL REQUIREMENTS

We are subject to three regulatory capital requirements. First, the FHLBank Act requires that we maintain at all times permanent capital greater than or equal to the sum of our credit, market, and operations risk capital requirements, all calculated in accordance with Finance Agency regulations. Only permanent capital, defined as Class B capital stock, (including mandatorily redeemable capital stock), and retained earnings can satisfy this risk-based capital requirement. Second, the FHLBank Act requires a minimum four percent capital-to-asset ratio, which is defined as total regulatory capital divided by total assets. Total regulatory capital includes Class B capital stock (including mandatorily redeemable capital stock), additional capital from merger, and retained earnings. It does not include accumulated other comprehensive income (AOCI). Third, the FHLBank Act imposes a five percent minimum leverage ratio, which is defined as the sum of permanent capital weighted 1.5 times and nonpermanent capital weighted 1.0 times, divided by total assets. At September 30, 2015, nonpermanent capital included additional capital from merger. At December 31, 2014, we did not have any nonpermanent capital. At September 30, 2015 and December 31, 2014, we were in compliance with all three of the Finance Agency's regulatory capital requirements. Refer to "Item 1. Financial Statements — Note 13 — Capital" for additional information.

CAPITAL STOCK
Our capital stock has a par value of $100 per share, and all shares are issued, redeemed, and repurchased only at the stated par value. We generally issue a single class of capital stock (Class B stock). We have two subclasses of capital stock: membership and activity-based. Each member must purchase and hold membership capital stock in an amount equal to 0.12 percent of its total assets as of the preceding December 31st, subject to a cap of $10.0 million and a floor of $10,000. Each member is also required to purchase activity-based capital stock equal to 4.00 percent of its advances and mortgage loans outstanding. All Class B capital issued is subject to a five year notice of redemption period.

We reclassify capital stock subject to redemption from equity to a liability (mandatorily redeemable capital stock) when a member engages in any of the following activities: (i) submits a written notice to redeem all or part of its capital stock, (ii) submits a written notice of its intent to withdraw from membership, or (iii) terminates its membership voluntarily as a result of a consolidation into a non-member or into a member of another FHLBank.

The capital stock requirements established in our Capital Plan are designed so that we remain adequately capitalized as member activity changes. Our Board of Directors may make adjustments to the capital stock requirements within ranges established in our Capital Plan. The Bank amended its Capital Plan effective at the closing of the Merger to, among other things (i) authorize two classes of capital stock of the Bank, consisting of the Bank's Class A stock (to accommodate former Seattle bank Class A stock) and Class B stock; and (ii) authorize the distribution of additional capital from merger, either as a dividend or capital distribution, if and when declared by the Board of Directors.

Capital stock owned by members in excess of their capital stock requirement is deemed excess capital stock. Under our Capital Plan, we, at our discretion and upon 15 days' written notice, may repurchase excess membership capital stock. We, at our discretion, may also repurchase excess activity-based capital stock to the extent that (i) the excess capital stock balance exceeds an operational threshold set forth in the Capital Plan, which is currently set at zero, or (ii) a member submits a notice to redeem all or a portion of the excess activity-based capital stock. At September 30, 2015 and December 31, 2014, we had no excess capital stock outstanding.

As part of the Merger with the Seattle Bank, on the merger date, each share of Seattle Bank Class A stock outstanding was converted into one share of Des Moines Bank Class A stock and each share of Seattle Bank Class B stock outstanding was converted into one share of Des Moines Bank Class B stock. Immediately following the Merger, all shares of Des Moines Bank Class A stock and excess shares of Class B stock were repurchased and Des Moines Class B stock was issued as needed to meet our activity and membership stock requirements in accordance with our Capital Plan. No shares of Seattle Bank capital stock remain outstanding. The Merger had no impact on the total capital stock held by Des Moines Bank stockholders.

In addition, on the merger date, we assumed Seattle Bank's mandatorily redeemable capital stock. We immediately redeemed all shares of this stock, with the exception of shares required to meet members' activity and membership stock requirement, and shares subject to the mandatory five year waiting period upon written notice of a member's intent to withdraw from membership in accordance with our Capital Plan. Refer to "Item 1. Financial Statements — Note 2 — Merger" for additional information on the Merger.

84


The following table summarizes our regulatory capital stock by type of member (dollars in millions):
 
September 30,
2015
 
December 31,
2014
Commercial banks
$
2,399

 
$
2,313

Thrifts
199

 
105

Credit unions
280

 
122

Insurance companies
1,247

 
929

Community development financial institutions
1

 

Total GAAP capital stock
4,126

 
3,469

Mandatorily redeemable capital stock
106

 
24

Total regulatory capital stock
$
4,232

 
$
3,493


The increase in GAAP capital stock held at September 30, 2015 was due primarily to capital stock issued as a result of the Merger with the Seattle Bank and member activity. In addition, our mandatorily redeemable capital stock increased $81.5 million. The increase was primarily a result of assuming this liability from the Seattle Bank.

Additional Capital from Merger

We recognized net assets acquired from the Seattle Bank by recording the par value of capital stock issued in the transaction as capital stock, with the remaining portion of net assets acquired reflected in a new capital account captioned as “Additional capital from merger.” This balance primarily represents the amount of Seattle Bank’s closing retained earnings balance, adjusted for fair value and other purchase accounting adjustments, and identified intangible assets. We treat this additional capital from merger as a component of total capital for regulatory capital purposes. Dividends to our members have been paid from this account since the merger date. We intend to pay future dividends to members, when and if declared, from this account until the additional capital from merger balance is depleted. During the three months ended September 30, 2015, we began distributing dividends from additional capital from merger in the amount of $25.9 million, resulting in an ending additional capital from merger balance of $220.6 million.

Retained Earnings
Our Enterprise Risk Management Policy (ERMP) requires a minimum retained earnings level based on the level of market risk, credit risk, and operational risk within the Bank. If realized financial performance results in actual retained earnings below the minimum level, we will establish an action plan as determined by our Board of Directors to enable us to return to our targeted level of retained earnings within twelve months. At September 30, 2015, our actual retained earnings were above the minimum level, and therefore no action plan was necessary.
We entered into a Joint Capital Enhancement Agreement (JCE Agreement) with all of the other FHLBanks in February 2011. The JCE Agreement, as amended, is intended to enhance our capital position over time. It requires us to allocate 20 percent of our quarterly net income to a separate restricted retained earnings account until the balance of that account equals at least one percent of our average balance of outstanding consolidated obligations for the previous quarter. The restricted retained earnings are not available to pay dividends. At September 30, 2015 and December 31, 2014, our restricted retained earnings balance totaled $95.1 million and $75.0 million. One percent of our average balance of outstanding consolidated obligations for the three months ended June 30, 2015 was $1.0 billion. For more information on our JCE Agreement, refer to "Item 1. Business — Retained Earnings" in our 2014 Form 10-K.

Dividends

Our Board of Directors believes any returns on capital stock above an appropriate benchmark rate that are not retained for capital growth should be returned to members that utilize our product and service offerings. Our current dividend philosophy is to pay a membership capital stock dividend similar to a benchmark rate of interest, such as average three-month LIBOR, and an activity-based capital stock dividend, when possible, at least 50 basis points in excess of the membership capital stock dividend. Our actual dividend payout is determined quarterly by our Board of Directors, based on policies, regulatory requirements, financial projections, and actual performance.


85


The following table summarizes dividend-related information (dollars in millions):
 
For the Three Months Ended
 
For the Nine Months Ended
 
September 30,
 
September 30,
 
2015
 
2014
 
2015
 
2014
Aggregate cash dividends paid
$
25.9

 
$
19.4

 
$
76.3

 
$
56.6

Effective combined annualized dividend rate paid on capital stock
2.87
%
 
2.81
%
 
2.92
%
 
2.80
%
Annualized dividend rate paid on membership capital stock
0.50
%
 
0.50
%
 
0.50
%
 
0.50
%
Annualized dividend rate paid on activity-based capital stock
3.50
%
 
3.50
%
 
3.50
%
 
3.50
%
Average three-month LIBOR
0.31
%
 
0.23
%
 
0.28
%
 
0.23
%


CRITICAL ACCOUNTING POLICIES AND ESTIMATES

For a discussion of our critical accounting policies and estimates, refer to our 2014 Form 10-K. There have been no material changes to our critical accounting policies and estimates during the nine months ended September 30, 2015. However, as a result of the Merger with the Seattle Bank, we have established an accounting policy on business combinations and have revised our allowance for credit losses critical accounting policy to incorporate the credit loss protection on conventional mortgage loans acquired under the MPP. Outlined below are these updates.

Business Combinations

We apply the acquisition method of accounting for business combinations of mutual entities. Under the acquisition method, we recognize the identifiable assets acquired and liabilities assumed at their acquisition date fair values. Management utilizes valuation techniques appropriate for the asset or liability being measured in determining these fair values. Any excess of the purchase price over amounts allocated to assets acquired, including identifiable intangible assets, and liabilities assumed is recorded as goodwill.

Consideration transferred includes (i) equity interests of the Bank (i.e. par value of capital stock exchanged on a one-for-one basis for Seattle capital stock outstanding) and (ii) member interests in the Bank (i.e. the post-merger interest of Seattle members in the Bank, including a proportionate interest in the liquidation value of the Bank). Consideration transferred is recognized by recording the par value of capital stock issued in the transaction as capital stock, with the remaining portion being reflected in a new capital account captioned as “Additional capital from merger.” Acquisition-related costs are expensed as incurred.

Conventional Mortgage Loans

We have several layers of legal loss protection on our conventional mortgage loans that are defined in agreements among us and our participating PFIs. For MPF loans, these loss layers may vary depending on the product alternatives selected and consist of (i) homeowner equity, (ii) primary mortgage insurance (PMI), (iii) a first loss account (FLA), and (iv) a credit enhancement obligation of the PFI. For MPP loans, these loss layers consist of (i) homeowner equity, (ii) PMI, and (iii) a lender risk account (LRA).

We utilize an allowance for credit losses to reserve for estimated losses in our conventional MPF and MPP mortgage loan portfolios at the balance sheet date. At September 30, 2015 and December 31, 2014, our allowance for credit losses on conventional mortgage loans was $1.3 million and $4.9 million. The measurement of our allowance for credit losses on MPF loans is determined by (i) reviewing similar conventional mortgage loans for impairment on a collective basis, (ii) reviewing conventional mortgage loans for impairment on an individual basis, (iii) estimating additional credit losses in the conventional MPF mortgage loan portfolio, (iv) considering the recapture of performance-based credit enhancement fees from the PFI, if available, and (v) considering the credit enhancement obligation of the PFI, if estimated losses exceed the FLA. The measurement of our allowance for credit losses on MPP loans is determined by (i) reviewing similar conventional mortgage loans for impairment on a collective basis, (ii) reviewing conventional mortgage loans for impairment on an individual basis, (iii) estimating additional credit losses in the conventional MPP mortgage loan portfolio, and (iv) considering the LRA if estimated losses exceed the losses not paid by homeowner equity or PMI.


86


COLLECTIVELY EVALUATED CONVENTIONAL MORTGAGE LOANS

We collectively evaluate the majority of our conventional MPF and MPP mortgage loan portfolios for impairment and estimate an allowance for credit losses based upon factors. These factors include, but are not limited to, (i) loan delinquencies, (ii) loans migrating to collateral-dependent status, (iii) actual historical loss severities, and (iv) certain quantifiable economic factors, such as unemployment rates and home prices. We utilize a roll-rate methodology when estimating our allowance for credit losses. This methodology projects loans migrating to collateral-dependent status based on historical average rates of delinquency. We then apply a loss severity factor to calculate an estimate of credit losses.

INDIVIDUALLY IDENTIFIED CONVENTIONAL MORTGAGE LOANS

We individually evaluate certain conventional MPF and MPP mortgage loans, including troubled debt restructurings (TDRs) and collateral-dependent loans, for impairment. Our TDRs include loans granted under our temporary loan modification plans and loans discharged under Chapter 7 bankruptcy that have not been reaffirmed by the borrower. We generally measure impairment of TDRs based on the present value of expected future cash flows discounted at the loan's effective interest rate. Collateral-dependent loans are loans in which repayment is expected to be provided solely by the sale of the underlying collateral. Our collateral-dependent loans include loans in process of foreclosure, loans 180 days or more past due, and bankruptcy loans and TDRs 60 days or more past due. We measure impairment of collateral-dependent loans based on the estimated fair value of the underlying collateral, which is determined using property values, less selling costs and expected proceeds from the PMI.

A charge-off is recorded if it is estimated that the recorded investment in a loan will not be recovered. We evaluate whether to record a charge-off based upon the occurrence of a confirming event. Prior to January 1, 2015, charge-offs generally were recorded at the time a mortgage loan was transferred to real estate owned. Beginning January 1, 2015, we began to also charge-off the portion of the outstanding conventional mortgage loan balance in excess of the fair value of the underlying collateral for all collateral-dependent mortgage loans.

ESTIMATING ADDITIONAL CREDIT LOSS IN THE CONVENTIONAL MORTGAGE LOAN PORTFOLIO

We may make an adjustment for certain limitations in our estimation of credit losses. This adjustment recognizes the imprecise nature of an estimate and represents a subjective management judgment that is intended to cover losses resulting from other factors that may not be captured in the methodology previously described at the balance sheet date. 

MPF PERFORMANCE-BASED CREDIT ENHANCEMENT FEES

When reserving for estimated credit losses, we may take into consideration performance-based credit enhancement fees available for recapture from the PFIs. Performance-based credit enhancement fees available for recapture, if any, consist of accrued performance-based credit enhancement fees to be paid to the PFIs and projected performance-based credit enhancement fees to be paid to the PFIs over the next 12 months, less any losses incurred that are in the process of recapture.

Available performance-based credit enhancement fees cannot be shared between master commitments and, as a result, some master commitments may have sufficient performance-based credit enhancement fees to recapture losses while other master commitments may not. At September 30, 2015 and December 31, 2014, we determined that the amount of performance-based credit enhancement fees available for recapture from the PFIs at the master commitment level was immaterial. As such, we did not factor credit enhancement fees into our estimate of allowance for credit losses.

MPF PFI CREDIT ENHANCEMENT OBLIGATION

When reserving for estimated credit losses, we may take into consideration the PFI credit enhancement obligation, which is intended to absorb losses in excess of the FLA. At September 30, 2015 and December 31, 2014, we determined that the amount of credit enhancement obligation available to offset losses was immaterial. As such, we did not factor credit enhancement obligation into our estimate of the allowance for credit losses.

MPP LENDER RISK ACCOUNT

The LRA was established by the Seattle Bank for each MPP master commitment to cover losses not anticipated to be paid by homeowner's equity or PMI. At September 30, 2015, we determined the amount of LRA to be immaterial.  As such, we did not factor LRA into our estimate of the allowance for loan losses.


87


LEGISLATIVE AND REGULATORY DEVELOPMENTS

Joint Final Rule on Margin and Capital Requirements for Covered Swap Entities

In October 2015, the Office of the Comptroller of the Currency, the Board of Governors of the Federal Reserve System, the Federal Deposit Insurance Corporation, the Farm Credit Administration, and the Finance Agency (each an Agency and, collectively, the Agencies) jointly adopted final rules to establish minimum margin and capital requirements for registered swap dealers, major swap participants, security-based swap dealers, and major security-based swap participants (Swap Entities) that are subject to the jurisdiction of one of the Agencies (such entities, Covered Swap Entities, and the joint final rules, the Final Margin Rules).

When they take effect, the Final Margin Rules will subject non-cleared swaps and non-cleared security-based swaps between Covered Swap Entities and Swap Entities and between Covered Swap Entities and financial end users that have material swaps exposure (i.e., an average daily aggregate notional of $8 billion or more in non-cleared swaps), to a mandatory two-way initial margin requirement. The amount of the initial margin required to be posted or collected would be either the amount calculated by the Covered Swap Entity using a standardized schedule set forth as an appendix to the Final Margin Rules, which provides the gross initial margin (as a percentage of total notional exposure) for certain asset classes, or an internal margin model of the Covered Swap Entity conforming to the requirements of the Final Margin Rules that is approved by the Agency having jurisdiction over the particular Covered Swap Entity. The Final Margin Rules specify the types of collateral that may be posted or collected as initial margin (generally, cash, certain government securities, certain liquid debt, certain equity securities, certain eligible publicly traded debt, and gold); and sets forth haircuts for certain collateral asset classes. Initial margin must be segregated with an independent, third-party custodian and, generally, may not be rehypothecated, except that, cash funds may be placed with a custodian bank in return for a general deposit obligation under certain specified circumstances.

The Final Margin Rules will require variation margin to be exchanged daily for non-cleared swaps and non-cleared security-based swaps between Covered Swap Entities and Swap Entities and between Covered Swap Entities and all financial end-users (without regard to the swaps exposure of the particular financial end-user). The variation margin amount is the daily mark-to-market change in the value of the swap to the Covered Swap Entity, taking into account variation margin previously paid or collected. For non-cleared swaps and security-based swaps between Covered Swap Entities and financial end-users, variation margin may be paid or collected in cash or non-cash collateral that is considered eligible for initial margin purposes. Variation margin is not subject to segregation with an independent, third-party custodian, and may, if permitted by contract, be rehypothecated.

The variation margin requirement under the Final Margin Rules will become effective for us on March 1, 2017, and the initial margin requirements under the Final Margin Rules are expected to become effective for us on September 1, 2020.

We are not a Covered Swap Entity under the Final Margin Rules. Rather, we are a financial end-user under the Final Margin Rules, and would likely have material swaps exposure when the initial margin requirements under the Final Margin Rules become effective.

Since we are currently posting and collecting variation margin on non-cleared swaps, it is not anticipated that the variation margin requirement under the Final Margin Rules will have a material impact on our costs. However, when the initial margin requirements under the Final Margin Rules become effective, we anticipate that our cost of engaging in non-cleared swaps may increase.

The Commodity Futures Trading Commission (CFTC) and the SEC are expected to adopt their own versions of the Final Margin Rules that generally mirror the Final Margin Rules. The CFTC’s and SEC’s rules will only apply to a limited number of registered swap dealers, security-based swap dealers, major swap participants, and major security-based swap participants that are not subject to the jurisdiction of one of the Agencies.


88


Finance Agency Core Mission Achievement Advisory Bulletin 2015-05

On July 14, 2015, the Finance Agency issued an advisory bulletin establishing a core mission asset ratio by which it will assess each FHLBank’s core mission achievement. The Finance Agency plans to assess core mission achievement by using a ratio of primary mission assets, which includes advances and mortgage loans acquired from members (also referred to as acquired member assets), to consolidated obligations. The core mission asset ratio will be calculated at year-end 2015, and annually thereafter as part of the Finance Agency’s examination process, using annual average par values.

The advisory bulletin provides the Finance Agency's expectations for each FHLBank’s strategic plan based on its ratio, which are:

when the ratio is at least 70 percent or higher, the strategic plan should include an assessment of the FHLBank’s prospects for maintaining this level;

when the ratio is at least 55 percent but less than 70 percent, the strategic plan should explain the FHLBank’s plan to increase its mission focus; and

when the ratio is below 55 percent, the strategic plan should include an explanation of the circumstances that caused the ratio to be at that level and detailed plans to increase the ratio. The advisory bulletin provides that if an FHLBank maintains a ratio below 55 percent over the course of several consecutive reviews, then the FHLBank’s board of directors should consider possible strategic alternatives.

Our core mission activities primarily include the issuance of advances. In addition, we acquire member assets through the MPF program and own mortgage loans previously purchased by the Seattle Bank under the MPP. We do not expect this advisory bulletin to materially impact our financial condition or results of operations.


89


RISK MANAGEMENT
    
We have risk management policies, established by our Board of Directors, that monitor and control our exposure to market, liquidity, credit, operational, and strategic risk, as well as capital adequacy. Our primary objective is to manage our assets and liabilities in ways that protect the par redemption value of our capital stock from risks, including fluctuations in market interest rates and spreads.

We periodically evaluate our risk management policies in order to respond to changes in our financial position and general market conditions. Our key risk measures are Market Value of Capital Stock (MVCS) Sensitivity and Economic Value of Capital Stock (EVCS).

Market Risk

We define market risk as the risk that MVCS or net income will change as a result of changes in market conditions, such as interest rates, spreads, and volatilities. Interest rate risk, including mortgage prepayment risk, was our predominant type of market risk exposure during the nine months ended September 30, 2015 and 2014. Our general approach toward managing interest rate risk is to acquire and maintain a portfolio of assets and liabilities, which, taken together, limit our expected exposure to interest rate risk. Management regularly reviews our sensitivity to interest rate changes by monitoring our market risk measures in parallel and non-parallel interest rate shifts and spread and volatility movements.

MARKET VALUE OF CAPITAL STOCK SENSITIVITY
  
We define MVCS as an estimate of the market value of assets minus the market value of liabilities (excluding mandatorily redeemable capital stock) divided by the total shares of capital stock outstanding. It represents an estimation of the “liquidation value” of one share of our capital stock if all assets and liabilities were liquidated at current market prices. MVCS does not represent our long-term value, as it takes into account short-term market price fluctuations. These fluctuations are often unrelated to the long-term value of the cash flows from our assets and liabilities.

The MVCS calculation uses market prices, as well as interest rates and volatilities, and assumes a static balance sheet. The timing and variability of balance sheet cash flows are calculated by an internal model. To ensure the accuracy of the MVCS calculation, we reconcile the computed market prices of complex instruments, such as derivatives and mortgage assets, to market observed prices or dealers' quotes.

Interest rate risk stress tests of MVCS involve instantaneous parallel and non-parallel shifts in interest rates. The resulting percentage change in MVCS from the base case value is an indication of longer-term repricing risk and option risk embedded in the balance sheet.

To protect the MVCS from large interest rate swings, we use hedging transactions, such as entering into or canceling interest rate swaps, caps, floors, and swaptions, issuing fixed rate and callable debt, and altering the funding structures supporting MBS and MPF purchases.

We monitor and manage to the MVCS policy limits to ensure the stability of the Bank's value. As of September 30, 2015, the policy limits for MVCS are 2.2 percent, 5 percent, and 12 percent declines from the base case in the up and down 50, 100, and 200 basis point parallel interest rate shift scenarios and 2.5 percent, 5.5 percent, and 13 percent declines from the base case in the up and down 50, 100, and 200 basis point non-parallel interest rate shift scenarios. Any breach of policy limits requires an immediate action to bring the exposure back within policy limits, as well as a report to the Board of Directors.

During the first quarter of 2008, due to the low interest rate environment, our Board of Directors suspended indefinitely the policy limit pertaining to the down 200 basis point parallel interest rate shift scenario. In October 2012, our Board of Directors amended the suspension by approving a rule for compliance to the down 200 basis point scenario that reinstates/suspends the associated policy limit when the 10-year swap rate increases above/drops below 2.50 percent and remains so for five consecutive days. At September 30, 2015 and December 31, 2014, the 10-year swap rate was below 2.50 percent and therefore the associated policy limit was suspended.


90


The following tables show our base case and change from base case MVCS in dollars per share and percent change respectively, based on outstanding shares, including shares classified as mandatorily redeemable, assuming instantaneous parallel shifts in interest rates at September 30, 2015 and December 31, 2014:
 
Market Value of Capital Stock (dollars per share)
 
Down 200
 
Down 100
 
Down 50
 
Base Case
 
Up 50
 
Up 100
 
Up 200
September 30, 2015
$
113.8

 
$
117.1

 
$
119.0

 
$
119.7

 
$
119.8

 
$
119.0

 
$
115.9

December 31, 2014
$
118.3

 
$
121.3

 
$
123.1

 
$
123.8

 
$
124.0

 
$
123.2

 
$
120.2

 
% Change from Base Case
 
Down 200
 
Down 100
 
Down 50
 
Base Case
 
Up 50
 
Up 100
 
Up 200
September 30, 2015
(4.9
)%
 
(2.2
)%
 
(0.6
)%
 
%
 
0.1
%
 
(0.6
)%
 
(3.2
)%
December 31, 2014
(4.4
)%
 
(2.0
)%
 
(0.6
)%
 
%
 
0.2
%
 
(0.4
)%
 
(2.9
)%

The following tables show our base case and change from base case MVCS in dollars per share and percent change respectively, based on outstanding shares, including shares classified as mandatorily redeemable, assuming instantaneous non-parallel shifts in interest rates at September 30, 2015 and December 31, 2014:
 
Market Value of Capital Stock (dollars per share)
 
Down 200
 
Down 100
 
Down 50
 
Base Case
 
Up 50
 
Up 100
 
Up 200
September 30, 2015
$
118.9

 
$
119.8

 
$
120.1

 
$
119.7

 
$
119.2

 
$
118.0

 
$
113.9

December 31, 2014
$
121.8

 
$
122.9

 
$
123.5

 
$
123.8

 
$
124.1

 
$
123.8

 
$
121.4

 
% Change from Base Case
 
Down 200
 
Down 100
 
Down 50
 
Base Case
 
Up 50
 
Up 100
 
Up 200
September 30, 2015
(0.7
)%
 
0.1
 %
 
0.3
 %
 
%
 
(0.4
)%
 
(1.4
)%
 
(4.8
)%
December 31, 2014
(1.6
)%
 
(0.7
)%
 
(0.2
)%
 
%
 
0.3
 %
 
 %
 
(1.9
)%

The change in our base case MVCS at September 30, 2015 when compared to December 31, 2014 was primarily attributable to the following factors:

Option-adjusted spread: The spread between mortgage interest rates and LIBOR, adjusted for the mortgage prepayment option, increased at September 30, 2015 when compared to December 31, 2014. This had a negative impact on MVCS as it decreased the value of mortgage-related assets.

Increased shares of capital stock: Our capital stock balance increased at September 30, 2015 when compared to December 31, 2014 due to capital stock issued as a result of the Merger and as a result of member activity. As we issued this capital stock at par, which is below our current MVCS value, our MVCS was negatively impacted.
 
PROJECTED INCOME SENSITIVITY

We monitor projected 24-month income sensitivity to limit short-term earnings volatility of the Bank. The projected 24-month income simulation policy limit is based on forward interest rates and business assumptions. The income sensitivity policy limit specifies a floor on our projected earned dividend for each shock scenario. Our earned dividend is computed as an annualized ratio of projected net income to average projected capital stock over the projection horizon. We were in compliance with the projected 24-month income simulation policy limit at September 30, 2015 and December 31, 2014.

Capital Adequacy

An adequate capital position is necessary for providing safe and sound operations of the Bank. To ensure we remain adequately capitalized in a wide range of interest rate scenarios, we measure and monitor EVCS, retained earnings, and additional capital from merger, and maintain capital levels in accordance with Finance Agency regulations.

91


RETAINED EARNINGS MINIMUM LEVEL AND REGULATORY CAPITAL REQUIREMENTS

Our ERMP provides policy limits and requires a minimum level of retained earnings and additional capital from merger based on the level of market risk, credit risk, and operational risk within the Bank. We are also subject to three regulatory capital requirements. For additional information on our compliance with these requirements, refer to “Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations — Liquidity and Capital Resources — Capital".

ECONOMIC VALUE OF CAPITAL STOCK

We define EVCS as the net present value of expected future cash flows of our assets and liabilities (excluding mandatorily redeemable capital stock), discounted at our cost of funds, divided by the total shares of capital stock outstanding. This method reduces the impact of day-to-day price changes that cannot be attributed to any of the standard market factors, such as movements in interest rates or volatilities. Thus, EVCS provides an estimated measure of the long-term value of one share of our capital stock.

The following table shows EVCS in dollars per share based on outstanding shares, including shares classified as mandatorily redeemable, at September 30, 2015 and December 31, 2014:
Economic Value of Capital Stock (dollars per share)
September 30, 2015
$
122.5

December 31, 2014
$
126.6

    
The change in our EVCS at September 30, 2015 when compared to December 31, 2014 was primarily attributable to the following factors:

Funding costs relative to the LIBOR swap curve: Our funding costs relative to the LIBOR swap curve increased at September 30, 2015 when compared to December 31, 2014. This had a negative impact on EVCS mainly through its impact on the value of mortgage-related assets, offset in part by the impact of the associated funding.

Increased shares of capital stock: Our capital stock balance increased at September 30, 2015 when compared to December 31, 2014 due to capital stock issued as a result of the Merger and as a result of member activity. As we issued this capital stock at par, which is below our current EVCS value, our EVCS was negatively impacted.

Merger with the Seattle Bank: The decrease in our base case EVCS at September 30, 2015 was partially offset by the Merger with the Seattle Bank effective May 31, 2015. This had a positive impact on EVCS for the combined Bank due to the Seattle Bank’s higher EVCS after repurchase of capital stock and mandatorily redeemable capital stock immediately following the Merger, compared to the Des Moines Bank EVCS at the merger date.

Liquidity Risk

We define liquidity risk as the risk that we will be unable to meet our obligations as they come due or meet the credit needs of our members and housing associates in a timely and cost efficient manner. To manage this risk, we maintain liquidity in accordance with Finance Agency regulations. For additional information on our compliance with these requirements, refer to “Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations — Liquidity and Capital Resources — Liquidity — Liquidity Requirements".

Credit Risk

We define credit risk as the potential that our borrowers or counterparties will fail to meet their obligations in accordance with agreed upon terms. Our primary credit risks arise from our ongoing lending, investing, and hedging activities. Our overall objective in managing credit risk is to operate a sound credit granting process and to maintain appropriate credit administration, measurement, and monitoring practices.


92


ADVANCES

We manage our credit exposure to advances through an approach that provides for an established credit limit for each borrower, ongoing reviews of each borrower's financial condition, and detailed collateral and lending policies to limit risk of loss while balancing borrowers' needs for a reliable source of funding. In addition, we lend to our borrowers in accordance with the FHLBank Act, Finance Agency regulations, and other applicable laws.

We are required by regulation to obtain sufficient collateral to fully secure our advances and other credit products. Eligible collateral includes (i) whole first mortgages on improved residential real property or securities representing a whole interest in such mortgages, (ii) loans and securities issued, insured, or guaranteed by the U.S. Government or any agency thereof, including MBS issued or guaranteed by Fannie Mae, Freddie Mac, or Ginnie Mae and Federal Family Education Loan Program guaranteed student loans, (iii) cash deposited with us, and (iv) other real estate-related collateral acceptable to us provided such collateral has a readily ascertainable value and we can perfect a security interest in such property. Community Financial Institutions (CFIs) may also pledge collateral consisting of secured small business, small agri-business, or small farm loans. As additional security, the FHLBank Act provides that we have a lien on each borrower's capital stock investment; however, capital stock cannot be pledged as collateral to secure credit exposures.

Borrowers may pledge collateral to us by executing a blanket lien, specifically assigning collateral, or placing physical possession of collateral with us or our custodians. We perfect our security interest in all pledged collateral by filing Uniform Commercial Code financing statements or taking possession or control of the collateral. Under the FHLBank Act, any security interest granted to us by our members, or any affiliates of our members, has priority over the claims and rights of any other party (including any receiver, conservator, trustee, or similar party having rights of a lien creditor), unless those claims and rights would be entitled to priority under otherwise applicable law and are held by actual purchasers or by parties that have perfected security interests.

Under a blanket lien, we are granted a security interest in all financial assets of the borrower to fully secure the borrower's obligation. Other than securities and cash deposits, we do not initially take delivery of collateral pledged by blanket lien borrowers. In the event of deterioration in the financial condition of a blanket lien borrower, we have the ability to require delivery of pledged collateral sufficient to secure the borrower's obligation. With respect to non-blanket lien borrowers that are federally insured, we generally require collateral to be specifically assigned. With respect to non-blanket lien borrowers that are not federally insured (typically insurance companies, CDFIs, and housing associates), we generally take control of collateral through the delivery of cash, securities, or loans to us or our custodians.

Although management has policies and procedures in place to manage credit risk, we may be exposed to this risk if our outstanding advance value exceeds the liquidation value of our collateral. We mitigate this risk by applying collateral discounts or haircuts to the unpaid principal balance or market value, if available, of the collateral to determine the advance equivalent value of the collateral securing each borrower's obligation. The amount of these discounts will vary based on the type of collateral and security agreement. We determine these discounts or haircuts using data based upon historical price changes, discounted cash flow analyses, and loan level modeling.
 
At September 30, 2015 and December 31, 2014, borrowers pledged $248.1 billion and $178.1 billion of collateral (net of applicable discounts) to support activity with us, including advances. At September 30, 2015 and December 31, 2014, our advance balances were $74.5 billion and $65.2 billion. Borrowers pledge collateral in excess of their collateral requirement mainly to demonstrate available liquidity and to borrow additional amounts in the future.

Based upon our collateral and lending policies, the collateral held as security, and the repayment history on credit products, management has determined that there are no probable credit losses on our credit products as of September 30, 2015 and December 31, 2014. Accordingly, we have not recorded any allowance for credit losses on our credit products.

MORTGAGE LOANS

We are exposed to mortgage asset credit risk through our participation in the MPF program and MPP. Mortgage asset credit risk is the risk that we will not receive timely payments of principal and interest due from mortgage borrowers because of borrower defaults. Credit risk on mortgage assets is affected by a number of factors, including loan type, borrower's credit history, and other factors such as home price fluctuations, unemployment levels, and other economic factors in the local market or nationwide.


93


Through our participation in the MPF program, we invest in conventional and government-insured residential mortgage loans that are acquired through or purchased from a PFI. There are six MPF loan products under the MPF program: Original MPF, MPF 100, MPF 125, MPF Plus, MPF Government, MPF Xtra, and MPF Direct. While still held in our Statements of Condition, we currently do not offer the MPF 100 or MPF Plus loan products. MPF Xtra and MPF Direct loan products are passed through to a third-party investor and are not maintained in our Statements of Condition.

Effective May 31, 2015, as part of the Merger, we acquired mortgage loans previously purchased by the Seattle Bank under the MPP. This program involved investment by the Seattle Bank in single-family mortgage loans that were purchased directly from MPP PFIs. Similar to the MPF program, MPP PFIs generally originated, serviced, and credit enhanced the mortgage loans sold to the Seattle Bank. In 2005, the Seattle Bank ceased entering into new MPP master commitment contracts and therefore all MPP loans acquired were originated prior to 2006. We currently do not purchase mortgage loans under this program.

The following table presents the unpaid principal balance of our MPF and MPP portfolios by product type (dollars in millions):
Product Type
 
September 30,
2015
 
December 31,
2014
MPF Conventional:
 
 
 
 
Original MPF
 
$
857

 
$
867

MPF 100
 
23

 
28

MPF 125
 
3,873

 
3,879

MPF Plus
 
933

 
1,142

MPF Government
 
553

 
570

Total MPF
 
6,239

 
6,486

 
 
 
 
 
MPP Conventional
 
493

 

MPP Government
 
53

 

Total MPP
 
546

 

Total unpaid principal balance
 
$
6,785

 
$
6,486


We manage the credit risk on mortgage loans acquired in the MPF program and MPP by (i) using agreements to establish credit risk sharing responsibilities with our PFIs, (ii) monitoring the performance of the mortgage loan portfolio and creditworthiness of PFIs, and (iii) establishing credit loss reserves to reflect management's estimate of probable credit losses inherent in the portfolio.

Government-Insured Mortgage Loans. For our government-insured mortgage loans, our loss protection consists of the loan guarantee and contractual obligation of the loan servicer to repurchase the loan when certain criteria are met. Therefore, we have not recorded any allowance for credit losses on government-insured mortgage loans.
                                                                                                                                            
Conventional Mortgage Loans. For our conventional mortgage loans, we have several layers of legal loss protection that are defined in agreements among us and our PFIs. For our MPF loans, these loss layers may vary depending on the MPF product alternatives selected and consist of (i) homeowner equity, (ii) PMI, (iii) a FLA, and (iv) a credit enhancement obligation of the PFI. For our MPP loans, these loss layers consist of (i) homeowner equity, (ii) PMI, and (iii) a LRA. For a detailed discussion of these loss layers, refer to “Item 1. Financial Statements — Note 10 — Allowance for Credit Losses.”

Allowance for Credit Losses. We utilize an allowance for credit losses to reserve for estimated losses in our conventional mortgage portfolio. During the three and nine months ended September 30, 2015, we recorded a provision for credit losses on MPF loans of $0.2 million and $0.9 million due primarily to increased loan charge-offs. We also recorded a provision for credit losses on MPP loans of $0.3 million and $0.5 million during the three and nine months ended September 30, 2015 due to current and projected loan delinquencies and loss severity. During the three and nine months ended September 30, 2014, we recorded reversals for credit losses on our MPF loans of $1.4 million and $1.7 million due primarily to a reduction in loan delinquencies and loss severity estimates as well as ongoing improvements in economic indicators and housing market forecasts on our collectively evaluated mortgage loans.


94


A charge-off is recorded if it is estimated that the recorded investment in a loan will not be recovered. We evaluate whether to record a charge-off based upon the occurrence of a confirming event. Prior to January 1, 2015, charge-offs generally were recorded at the time a mortgage loan was transferred to REO. Beginning January 1, 2015, we began to also charge-off the portion of the outstanding conventional mortgage loan balance in excess of the fair value of the underlying collateral for all collateral-dependent mortgage loans.

Refer to “Item 1. Financial Statements — Note 10 — Allowance for Credit Losses” for additional information on our allowance for credit losses.

The following table presents a rollforward of the allowance for credit losses on our conventional mortgage loans (dollars in millions):
 
MPF
 
MPP
 
Total
Balance, June 30, 2014
$
7.2

 
$

 
$
7.2

Charge-offs
(0.2
)
 

 
(0.2
)
Provision (reversal) for credit losses
(1.4
)
 

 
(1.4
)
Balance, September 30, 2014
$
5.6

 
$

 
$
5.6

 
 
 
 
 
 
Balance, June 30, 2015
$
0.9

 
$
0.2

 
$
1.1

Charge-offs
(0.3
)
 
(0.2
)
 
(0.5
)
Recoveries
0.2

 

 
0.2

Provision (reversal) for credit losses
0.2

 
0.3

 
0.5

Balance, September 30, 2015
$
1.0

 
$
0.3

 
$
1.3

 
 
 
 
 
 
Balance, December 31, 2013
$
8.0

 
$

 
$
8.0

Charge-offs
(0.7
)
 

 
(0.7
)
Provision (reversal) for credit losses
(1.7
)
 

 
(1.7
)
Balance, September 30, 2014
$
5.6

 
$

 
$
5.6

 
 
 
 
 
 
Balance, December 31, 2014
$
4.9

 
$

 
$
4.9

Charge-offs
(5.2
)
 
(0.2
)
 
(5.4
)
Recoveries
0.4

 

 
0.4

Provision (reversal) for credit losses
0.9

 
0.5

 
1.4

Balance, September 30, 2015
$
1.0

 
$
0.3

 
$
1.3


Non-Accrual Loans and Delinquencies. We place a conventional mortgage loan on non-accrual status if it is determined that either the collection of interest or principal is doubtful or interest or principal is 90 days or more past due. We do not place a government-insured mortgage loan on non-accrual status due to the U.S. Government guarantee of the loan and contractual obligation of the loan servicer to repurchase the loan when certain criteria are met. Refer to “Item 1. Financial Statements — Note 10 — Allowance for Credit Losses” for a summary of our non-accrual loans and mortgage loan delinquencies.

INVESTMENTS

We maintain an investment portfolio primarily to provide investment income and liquidity. Our primary credit risk on investments is the counterparties' ability to meet repayment terms. We mitigate this credit risk by purchasing investment quality securities. We define investment quality as a security with adequate financial backings so that full and timely payment of principal and interest on such security is expected and there is minimal risk that the timely payment of principal and interest would not occur because of adverse changes in economic and financial conditions during the projected life of the security. We consider a variety of credit quality factors when analyzing potential investments, including collateral performance, marketability, asset class or sector considerations, local and regional economic conditions, nationally recognized statistical rating organization (NRSRO) credit ratings, and/or the financial health of the underlying issuer.


95


Finance Agency regulations limit the type of investments we may purchase. We are prohibited from investing in financial instruments issued by non-U.S. entities other than those issued by U.S. branches and agency offices of foreign commercial banks, unless otherwise approved by the Finance Agency. Our unsecured credit exposures to U.S. branches and agency offices of foreign commercial banks include the risk that, as a result of political or economic conditions in a country, the counterparty may be unable to meet their contractual repayment obligations. Our unsecured credit exposures to domestic counterparties and U.S. subsidiaries of foreign commercial banks include the risk that these counterparties have extended credit to foreign counterparties. At September 30, 2015, we were in compliance with the above regulation and did not own any financial instruments issued by non-U.S. entities, other than those issued by U.S. branches and agency offices of foreign commercial banks, and those approved by the Finance Agency.

Finance Agency regulations also include limits on the amount of unsecured credit we may extend to a counterparty or to a group of affiliated counterparties. This limit is based on a percentage of eligible regulatory capital and the counterparty's overall credit rating. Under these regulations, the level of eligible regulatory capital is determined as the lesser of our total regulatory capital or the eligible amount of regulatory capital of the counterparty. The eligible amount of regulatory capital is then multiplied by a stated percentage. The percentage that we may offer for term extensions of unsecured credit ranges from one to 15 percent based on the counterparty's credit rating. Our total overnight unsecured exposure to a counterparty may not exceed twice the regulatory limit for term exposures, or a total of two to 30 percent of the eligible amount of regulatory capital, based on the counterparty's credit rating. At September 30, 2015, we were in compliance with the regulatory limits established for unsecured credit.

Our short-term portfolio may include, but is not limited to, interest-bearing deposits, Federal funds sold, securities purchased under agreements to resell, certificates of deposit, and commercial paper. Our long-term portfolio may include, but is not limited to, other U.S. obligations, GSE obligations, state or local housing agency obligations, taxable municipal bonds, and MBS. We face credit risk from unsecured exposures primarily within our short-term portfolio. We do not consider investments issued or guaranteed by the U.S. Government, an agency or instrumentality of the U.S. Government, or the FDIC to be unsecured.

We generally limit unsecured credit exposure to the following overnight investment types:

Federal funds sold. Unsecured loans of reserve balances at the Federal Reserve Banks between financial institutions.

Commercial paper. Unsecured debt issued by corporations, typically for the financing of accounts receivable, inventories, and meeting short-term liabilities.

At September 30, 2015, our unsecured investment exposure consisted of overnight Federal funds sold. The following table presents our unsecured investment exposure by counterparty credit rating and domicile at September 30, 2015 (excluding accrued interest receivable) (dollars in millions):
 
 
 
Credit Rating 1
Domicile of Counterparty
 
 
A
 
BBB
 
Total
Domestic
 
 
$
190

 
$
65

 
$
255

U.S subsidiaries of foreign commercial banks
 
 
125

 

 
125

Total domestic and U.S. subsidiaries of foreign commercial banks
 
 
315

 
65

 
380

U.S. branches and agency offices of foreign commercial banks
 
 
 
 
 
 
 
France
 
 
450

 

 
450

Germany
 
 
450

 

 
450

Netherlands
 
 
450

 

 
450

Norway
 
 
450

 

 
450

Total U.S. branches and agency offices of foreign commercial banks
 
 
1,800

 

 
1,800

Total unsecured investment exposure
 
 
$
2,115

 
$
65

 
$
2,180


1
Represents the lowest credit rating available for each investment based on an NRSRO.


96


Investment Ratings

The following tables summarize the carrying value of our investments by credit rating (dollars in millions):
 
September 30, 2015
 
Credit Rating1
 
AAA
 
AA
 
A
 
BBB
 
BB
 
Total
Interest-bearing deposits2
$

 
$
2

 
$

 
$

 
$

 
$
2

Securities purchased under agreements to resell
600

 
150

 

 
4,250

 

 
5,000

Federal funds sold

 

 
2,115

 
65

 

 
2,180

Investment securities:


 


 


 


 


 
 
Mortgage-backed securities


 


 


 


 


 
 
GSE single-family

 
6,660

 

 

 

 
6,660

GSE multifamily

 
10,477

 

 

 

 
10,477

Other U.S. obligations single-family3

 
2,395

 

 

 

 
2,395

Other U.S. obligations commercial3

 
6

 

 

 

 
6

Private-label residential

 

 
7

 
12

 
3

 
22

Total mortgage-backed securities

 
19,538

 
7

 
12

 
3

 
19,560

Non-mortgage-backed securities
 
 
 
 
 
 
 
 
 
 
 
Other U.S. obligations3

 
4,353

 

 

 

 
4,353

GSE obligations

 
4,202

 

 

 

 
4,202

State or local housing agency obligations
1,489

 
541

 

 

 

 
2,030

Other
361

 
104

 
119

 

 

 
584

Total non-mortgage-backed securities
1,850

 
9,200

 
119

 

 

 
11,169

Total investments4
$
2,450

 
$
28,890

 
$
2,241

 
$
4,327

 
$
3

 
$
37,911


 
December 31, 2014
 
Credit Rating1
 
AAA
 
AA
 
A
 
BBB
 
BB
 
Unrated
 
Total
Interest-bearing deposits2
$

 
$
2

 
$

 
$

 
$

 
$

 
$
2

Securities purchased under agreements to resell
2,536

 
300

 

 

 

 
2,255

 
5,091

Federal funds sold

 

 
1,620

 
240

 

 

 
1,860

Investment securities:
 
 
 
 
 
 
 
 
 
 
 
 
 
Mortgage-backed securities
 
 
 
 
 
 
 
 
 
 
 
 
 
GSE single-family

 
2,826

 

 

 

 

 
2,826

GSE multifamily

 
7,465

 

 

 

 

 
7,465

Other U.S. obligations single-family3

 
1,979

 

 

 

 

 
1,979

Other U.S. obligations commercial3

 
2

 

 

 

 

 
2

Private-label residential

 

 
8

 
14

 
3

 

 
25

Total mortgage-backed securities

 
12,272

 
8

 
14

 
3

 

 
12,297

Non-mortgage-backed securities
 
 
 
 
 
 
 
 
 
 
 
 
 
Other U.S. obligations3

 
420

 

 

 

 

 
420

GSE obligations

 
2,849

 

 

 

 

 
2,849

State or local housing agency obligations
35

 
61

 

 

 

 

 
96

Other
359

 
105

 

 

 

 

 
464

Total non-mortgage-backed securities
394

 
3,435

 

 

 

 

 
3,829

Total investments4
$
2,930

 
$
16,009

 
$
1,628

 
$
254

 
$
3

 
$
2,255

 
$
23,079


1
Represents the lowest credit rating available for each investment based on an NRSRO.

2
Interest bearing deposits are rated AA because they are guaranteed by the FDIC up to $250,000.

3
Represents investment securities backed by the full faith and credit of the U.S. Government.

4
At September 30, 2015 and December 31, 2014, six and eight percent of our total investments were unsecured.


97


Our total investments increased at September 30, 2015 when compared to December 31, 2014. The increase was primarily a result of the Merger. Investments acquired mainly included GSE and other U.S. obligation MBS and other U.S. obligation, GSE obligation, and state or local housing agency obligation non-MBS securities. We also purchased certain GSE and other U.S. obligation MBS during the first half of the year that met our investment targets.

At September 30, 2015 and December 31, 2014, we did not consider any of our investments to be other-than-temporarily impaired. For more information on our evaluation of OTTI, refer to “Item 1. Financial Statements — Note 7 — Other-Than-Temporary Impairment.”

Mortgage-Backed Securities

We are exposed to mortgage asset credit risk through our investments in MBS. Mortgage asset credit risk is the risk that we will not receive timely payments of principal and interest due from mortgage borrowers because of borrower defaults. Credit risk on mortgage assets is affected by a number of factors, including investment ratings and performance, and other economic factors in the local market or nationwide.

We limit our investments in MBS to those guaranteed by the U.S. Government, issued by a GSE, or those we determine to be investment quality at the time of purchase. We perform ongoing analysis on these investments to determine potential credit issues. At September 30, 2015 and December 31, 2014, we owned $19.6 billion and $12.3 billion of MBS, of which approximately 99.9 percent and 99.8 percent were guaranteed by the U.S. Government or issued by GSEs and 0.1 percent and 0.2 percent were private-label MBS.

Our private-label MBS are variable rate securities backed by prime loans that were securitized prior to 2004. We record these investments as HTM. The following table summarizes characteristics of our private-label MBS (dollars in millions):
 
 
September 30, 2015
Credit rating:
 
 
 A
 
$
7

BBB
 
12

BB
 
2

B
 
1

Total unpaid principal balance
 
$
22

 
 
 
Amortized cost
 
$
22

Gross unrealized gains
 

Gross unrealized losses
 
(1
)
Fair value
 
$
21

 
 
 
Weighted average percentage of fair value to unpaid principal balance
 
97.9
%
Original weighted average FICO® score
 
725

Original weighted average credit support1
 
3.9
%
Weighted average credit support2
 
12.7
%
Weighted average collateral delinquency rate3
 
6.8
%

1
Based on the credit support at the time of issuance and is calculated using the current unpaid principal balance of the individual securities.

2
Based on the credit support as of September 30, 2015 and is calculated using the current unpaid principal balance of the individual securities.

3
Represents the percentage of underlying loans that are 60 days or more past due.


98


DERIVATIVES

We execute most of our derivative transactions with large banks and major broker-dealers. Over-the-counter derivative transactions may be either executed directly with a counterparty (uncleared derivatives) or cleared through a Futures Commission Merchant (i.e., clearing agent), with a Derivative Clearing Organization (cleared derivatives).

We are subject to credit risk due to the risk of nonperformance by counterparties to our derivative agreements. The amount of credit risk on derivatives depends on the extent to which netting procedures and collateral requirements are used and are effective in mitigating the risk. We manage credit risk through credit analyses, collateral requirements, and adherence to the requirements set forth in our policies and Finance Agency regulations.

Uncleared Derivatives. Due to risk of nonperformance by the counterparties to our derivative agreements, we generally require collateral on uncleared derivative agreements. The amount of net unsecured credit exposure that is permissible with respect to each counterparty depends on the credit rating of that counterparty. A counterparty generally must deliver collateral to us if the total market value of our exposure to that counterparty rises above a specific trigger point. As a result of these risk mitigation initiatives, we do not anticipate any credit losses on our uncleared derivative agreements.

Cleared Derivatives. For cleared derivatives, the Clearinghouse is our counterparty. We are subject to risk of nonperformance by the Clearinghouse and clearing agent. The requirement that we post initial and variation margin through the clearing agent, to the Clearinghouse, exposes us to institutional credit risk in the event that the clearing agent or the Clearinghouse fails to meet its obligations. However, the use of cleared derivatives is intended to mitigate credit risk exposure because a central counterparty is substituted for individual counterparties and collateral is posted daily, through a clearing agent, for changes in the fair value of cleared derivatives. We do not anticipate any credit losses on our cleared derivatives.

The contractual or notional amount of derivatives reflects our involvement in the various classes of financial instruments. Our maximum credit risk is the estimated cost of replacing derivatives if there is a default, minus the value of any related collateral, including initial and variation margin. In determining maximum credit risk, we consider accrued interest receivables and payables as well as our ability to net settle positive and negative positions with the same counterparty and/or clearing agent when netting requirements are met.

The following table shows our derivative counterparty credit exposure (dollars in millions):
 
 
September 30, 2015
Credit Rating1
 
Notional Amount
 
Net Derivatives
Fair Value Before Collateral
 
Cash Collateral Pledged
To (From) Counterparty
 
Net Credit Exposure
 to Counterparties
Non-member counterparties:
 
 
 
 
 
 
 
 
Asset positions with credit exposure
 
 
 
 
 
 
 
 
Uncleared derivatives
 
 
 
 
 
 
 
 
   AA2
 
$
30

 
$

 
$

 
$

A2
 
40

 

 

 

Liability positions with credit exposure
 
 
 
 
 
 
 
 
Uncleared derivatives
 
 
 
 
 
 
 
 
A
 
1,215

 
(24
)
 
25

 
1

BBB2
 
94

 
(4
)
 
4

 

Cleared derivatives3
 
28,623

 
(339
)
 
454

 
115

Total derivative positions with credit exposure to non-member counterparties
 
30,002

 
(367
)
 
483

 
116

Member institutions2,4
 
40

 

 

 

Total
 
30,042

 
$
(367
)
 
$
483

 
$
116

Derivative positions without credit exposure
 
17,409

 
 
 
 
 
 
Total notional
 
$
47,451

 
 
 
 
 
 

1
Represents the lowest credit rating available for each counterparty based on an NRSRO.

2
Net credit exposure is less than $1.0 million.

3
Represents derivative transactions cleared with Clearinghouses, which are not rated.

4
Represents mortgage delivery commitments with our member institutions.

99


The following table shows our derivative counterparty credit exposure (dollars in millions):
 
 
December 31, 2014
Credit Rating1
 
Notional Amount
 
Net Derivatives
Fair Value Before Collateral
 
Cash Collateral Pledged
To (From) Counterparty
 
Net Credit Exposure
to Counterparties
Non-member counterparties:
 
 
 
 
 
 
 
 
Asset positions with credit exposure
 
 
 
 
 
 
 
 
Uncleared derivatives
 
 
 
 
 
 
 
 
   A
 
$
949

 
$
2

 
$

 
$
2

   Cleared derivatives2,3
 
4

 

 

 

Liability positions with credit exposure
 
 
 
 
 
 
 


Uncleared derivatives
 
 
 
 
 
 
 
 
BBB
 
5,460

 
(41
)
 
42

 
1

Cleared derivatives3
 
17,160

 
(158
)
 
235

 
77

Total derivative positions with credit exposure to non-member counterparties
 
23,573

 
(197
)
 
277

 
80

Member institutions2,4
 
55

 

 

 

Total
 
23,628

 
$
(197
)
 
$
277

 
$
80

Derivative positions without credit exposure
 
16,223

 
 
 
 
 


Total notional
 
$
39,851

 


 


 



1
Represents the lowest credit rating available for each counterparty based on an NRSRO.

2
Net credit exposure is less than $1.0 million.

3
Represents derivative transactions cleared with Clearinghouses, which are not rated.

4
Represents mortgage delivery commitments with our member institutions.

Operational Risk

We define operational risk as the risk of loss or harm from inadequate or failed processes, people, and/or systems, including those emanating from external sources. Operational risk is inherent in all of our business activities and processes. Management has established policies and procedures to reduce the likelihood of operational risk and designed our annual risk assessment process to provide ongoing identification, measurement, and monitoring of operational risk.

Strategic Risk

We define strategic risk as the risk of an adverse impact on our mission, financial condition, or current and future profitability resulting from external factors that may occur in both the short- and long-term. Strategic risk includes political, reputation, regulatory, and/or environmental factors, many of which are beyond our control. From time to time, proposals are made, or legislative and regulatory changes are considered, which could affect our cost of doing business or other aspects of our business. We mitigate strategic risk through strategic business planning and monitoring of our external environment. For additional information on some of the more important risks we face, refer to "Item 1A. Risk Factors" in our 2014 Form 10-K.


100


ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK

See “Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations — Risk Management — Market Risk” and the sections referenced therein for quantitative and qualitative disclosures about market risk.

ITEM 4. CONTROLS AND PROCEDURES

Disclosure Controls and Procedures

Management is responsible for establishing and maintaining a system of disclosure controls and procedures designed to ensure that information required to be disclosed in reports we file or submit under the Securities Exchange Act of 1934 is (i) recorded, processed, summarized, and reported within the time periods specified in SEC rules and forms; and (ii) accumulated and communicated to our management, including our president, chief executive officer (CEO) and chief financial officer (CFO), as appropriate, to allow timely decisions regarding required disclosure.

Management has evaluated the effectiveness of the design and operation of our disclosure controls and procedures with the participation of the president, CEO and CFO as of the end of the quarterly period covered by this report. Based on that evaluation, the president, CEO and CFO have concluded that our disclosure controls and procedures were effective as of the end of the fiscal quarter covered by this report.

Internal Control Over Financial Reporting

On May 31, 2015, we completed the Merger. In preparation for the Merger, we established a control framework to ensure the completeness and accuracy of merger information from the Seattle Bank and the accurate processing of that data through our systems at and following the merger date. During the three months ended September 30, 2015, as part of our ongoing integration activities following the Merger, we incorporated controls and procedures to respond to the risks inherent in an acquisition. 

For the quarter ended September 30, 2015, other than changes to our internal control processes resulting from the Merger, there were no other changes in our internal control over financial reporting that have materially affected, or are reasonably likely to materially affect, our internal control over financial reporting.





101


PART II - OTHER INFORMATION

ITEM 1. LEGAL PROCEEDINGS
    
As a result of the Merger, we are currently involved in a number of legal proceedings initiated by the Seattle Bank against various entities relating to its purchases and subsequent impairments of certain private-label MBS, as described below (the Private-Label MBS Litigation). Although the Seattle Bank sold all private-label MBS during the first quarter of 2015, we continue to be involved in these proceedings. The Private-Label MBS Litigation is described in “Part I. Item 3. Legal Proceedings” in the Seattle Bank's 2014 Form 10-K and below. After consultation with legal counsel, other than the Private-Label MBS Litigation, we do not believe any legal proceedings to which we are a party could have a material impact on our financial condition, results of operations, or cash flows.

Private-Label MBS Litigation

As the Seattle Bank previously reported, in December of 2009, it filed 11 complaints in the Superior Court of Washington for King County relating to private-label MBS that it purchased from various dealers and financial institutions in an aggregate original principal amount of approximately $4 billion. The Seattle Bank's complaints under Washington State law requested rescission of its purchases of the securities and repurchases of the securities by the defendants for the original purchase prices plus 8 percent per annum (plus related costs), minus distributions on the securities received by the Seattle Bank. The Seattle Bank asserted that the defendants made untrue statements and omitted important information in connection with their sales of the securities to the Seattle Bank.

In October 2010, each of the defendant groups filed a motion to dismiss the proceedings against it. The issues raised by those motions were fully briefed and were the subject of oral arguments that occurred in March and April 2011. In a series of decisions handed down in June, July, and August 2011, the judge handling the pre-trial motions ruled in favor of the Seattle Bank on all issues, except that the judge granted the defendants' motions to dismiss certain of the Seattle Bank's allegations of misrepresentation as to owner occupancy of properties securing loans in the securitized loan pools. In addition, the judge granted motions to dismiss a group of related entities as defendants in one of the 11 cases for lack of personal jurisdiction. The resolution of the pre-trial motions allowed the cases to proceed to the discovery phase, which is nearly complete. The first trials will likely be held no earlier than the second half of 2016.

Litigation Settlement Gains

Litigation settlement gains are considered realized and recorded when we receive cash or assets that are readily convertible to known amounts of cash or claims to cash. In addition, litigation settlement gains are considered realizable and recorded when we enter into a signed agreement that is not subject to appeal, where the counterparty has the ability to pay, and the amount to be received can be reasonably estimated. Prior to being realized or realizable, we consider potential litigation settlement gains to be gain contingencies, and therefore they are not recorded in the Statements of Income.
We record legal expenses related to litigation settlements as incurred in "other expenses" in the Statements of Income with the exception of certain legal expenses related to litigation settlement awards that are contingent based fees for the attorneys representing the Bank. We incur and recognize these contingent based legal fees only when litigation settlement awards are received, at which time these fees are netted against the gains received on the litigation settlement. 
During the three and nine months ended September 30, 2015, we settled one of our private-label MBS claims and recognized $12.5 million in litigation settlement gains. We continue to pursue litigation with the other defendants.

102


ITEM 1A. RISK FACTORS

For a discussion of our risk factors, refer to our 2014 Form 10-K. There have been no material changes to our risk factors during the nine months ended September 30, 2015.

ITEM 2. UNREGISTERED SALES OF EQUITY SECURITIES AND USE OF PROCEEDS
 
Not applicable.

ITEM 3. DEFAULTS UPON SENIOR SECURITIES

None.

ITEM 4. MINE SAFETY DISCLOSURES

Not applicable.

ITEM 5. OTHER INFORMATION

None.


103


ITEM 6. EXHIBITS
3.1
Organization Certificate of the Federal Home Loan Bank of Des Moines, as amended and restated effective May 31, 20151 
3.2
Bylaws of the Federal Home Loan Bank of Des Moines, as amended and restated effective May 31, 20151
4.1
Federal Home Loan Bank of Des Moines Capital Plan, as amended and approved by the Federal Housing Finance Agency on May 31, 20151
31.1
Certification of the President pursuant to Section 302 of the Sarbanes-Oxley Act of 2002
31.2
Certification of the Chief Executive Officer pursuant to Section 302 of the Sarbanes-Oxley Act of 2002
31.3
Certification of the Executive Vice President and Chief Financial and Operations Officer pursuant to Section 302 of the Sarbanes-Oxley Act of 2002
32.1
Certification of the President pursuant to Section 906 of the Sarbanes-Oxley Act of 2002
32.2
Certification of the Chief Executive Officer pursuant to Section 906 of the Sarbanes-Oxley Act of 2002
32.3
Certification of the Executive Vice President and Chief Financial and Operations Officer pursuant to Section 906 of the Sarbanes-Oxley Act of 2002
101.INS
XBRL Instance Document
101.SCH
XBRL Taxonomy Extension Schema Document
101.CAL
XBRL Taxonomy Extension Calculation Linkbase Document
101.LAB
XBRL Taxonomy Extension Label Linkbase Document
101.PRE
XBRL Taxonomy Extension Presentation Linkbase Document
101.DEF
XBRL Taxonomy Extension Definition Linkbase Document

1
Incorporated by reference to our Form 8-K filed with the SEC on June 1, 2015 (Commission File No. 000-51999).



104


SIGNATURES

Pursuant to the requirements 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.

FEDERAL HOME LOAN BANK OF DES MOINES
 
 
(Registrant)
 
 
 
 
 
 
 
Date:
 
November 10, 2015
 
 
 
 
 
 
 
 
 
 
 
 
By:
 
/s/ Michael L. Wilson
 
 
 
 
Michael L. Wilson
President
 
 
 
 
 
 
 
By:
 
/s/ Ardis E. Kelley
 
 
 
 
Ardis E. Kelley
Senior Vice President and Chief Accounting Officer
(Principal Accounting Officer)
 
 
 


105