Table of Contents
| PART I | ||||||||
| Item 1. | Business | |||||||
| Item 1A. | Risk Factors | |||||||
| Item 1B. | Unresolved Staff Comments | |||||||
| Item 2. | Properties | |||||||
| Item 3. | Legal Proceedings | |||||||
| Item 4. | Mine Safety Disclosures | |||||||
| PART II | ||||||||
| Item 5. | Market for Registrant's Common Equity, Related Stockholder Matters and Issuer Purchases of Equity Securities | |||||||
| Item 6. | ||||||||
| Item 7. | Management's Discussion and Analysis of Financial Condition and Results of Operations | |||||||
| Item 7A. | Quantitative and Qualitative Disclosures About Market Risk | |||||||
| Item 8. | Financial Statements and Supplementary Data | |||||||
| Financial Statements for the Years Ended | ||||||||
| Notes to Financial Statements | ||||||||
| Supplemental Financial Data | ||||||||
| Item 9. | Changes in and Disagreements with Accountants on Accounting and Financial Disclosure | |||||||
| Item 9A. | Controls and Procedures | |||||||
| Item 9B. | Other Information | |||||||
| Item 9C. | ||||||||
| PART III | ||||||||
| Item 10. | Directors, Executive Officers and Corporate Governance | |||||||
| Item 11. | Executive Compensation | |||||||
| Item 12. | Security Ownership of Certain Beneficial Owners and Management and Related Stockholder Matters | |||||||
| Item 13. | Certain Relationships and Related Transactions, and Director Independence | |||||||
| Item 14. | Principal Accountant Fees and Services | |||||||
| PART IV | ||||||||
| Item 15. | Exhibits and Financial Statement Schedules | |||||||
| Item 16. | Form 10-K Summary | |||||||
| Signatures | ||||||||
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PART I
Special Cautionary Notice Regarding Forward Looking Information
This document contains forward-looking statements that describe the objectives, expectations, estimates, and assessments of the Federal Home Loan Bank of Cincinnati (the FHLB). These statements use words such as “anticipates,” “expects,” “believes,” “could,” “estimates,” “may,” and “should.” By their nature, forward-looking statements relate to matters involving risks or uncertainties, some of which we may not be able to know, control, or completely manage. Actual future results could differ materially from those expressed or implied in forward-looking statements or could affect the extent to which we are able to realize an objective, expectation, estimate, or assessment. Some of the risks and uncertainties that could affect our forward-looking statements include the following:
▪the effects of economic, financial, credit, market, and member conditions on our financial condition and results of operations, including changes in economic growth, general liquidity conditions, inflation and deflation, interest rates, interest rate spreads, interest rate volatility, mortgage originations, prepayment activity, housing prices, asset delinquencies, and members' mergers and consolidations, deposit flows, liquidity needs, and loan demand;
▪political, national or world events, including acts of war, civil unrest, terrorism, natural disasters, climate change, pandemics, including the current COVID-19 pandemic, or other catastrophic events, and legislative, regulatory, government, judicial or other developments that could affect us, our members, our counterparties, other Federal Home Loan Banks (FHLBanks) and other government-sponsored enterprises (GSEs), and/or investors in the Federal Home Loan Bank System's (FHLBank System or System) unsecured debt securities, which are called Consolidated Obligations (or Obligations);
▪competitive forces, including those related to other sources of funding available to members, to purchases of mortgage loans, and to our issuance of Consolidated Obligations;
▪the financial results and actions of other FHLBanks that could affect our ability, in relation to the FHLBank System's joint and several liability for Consolidated Obligations, to access the capital markets on favorable terms or preserve our profitability, or could alter the regulations and legislation to which we are subject;
▪changes in ratings assigned to FHLBank System Obligations or the FHLB that could raise our funding cost;
▪changes in investor demand for Consolidated Obligations;
▪the volatility of market prices, interest rates, credit quality, and other indices that could affect the value of investments and collateral we hold as security for member obligations and/or for counterparty obligations;
▪uncertainties related to the expected phasing out of London InterBank Offered Rate (LIBOR) that could impact our mortgage-backed security (MBS) investments, Advances, derivatives, and collateral;
▪the ability to attract and retain skilled management and other key employees;
▪the ability to develop, secure and support technology and information systems that effectively manage the risks we face (including cybersecurity risks);
▪the risk of loss arising from failures or interruptions in our ongoing business operations, internal controls, information systems or other operating technologies;
▪the ability to successfully manage new products and services; and
▪the risk of loss arising from litigation filed against us or one or more other FHLBanks.
We do not undertake any obligation to update any forward-looking statements made in this document.
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Item 1.Business.
COMPANY INFORMATION
Company Background
The FHLB is a regional wholesale bank that serves the public interest by providing financial products and services to our members to fulfill a public-policy mission of supporting housing finance and community investment. We are part of the FHLBank System. Each of the 11 FHLBanks operates as a separate entity with its own stockholders, employees, Board of Directors, and business model. Our region, known as the Fifth District, comprises Kentucky, Ohio and Tennessee.
The U.S. Congress chartered the FHLBank System in the Federal Home Loan Bank Act of 1932 (the FHLBank Act) as a GSE to help provide liquidity and credit to the U.S. housing market and support home ownership. Promoting home ownership is a long-standing central theme of U.S. government policy. The System has a critical public-policy role as important national liquidity providers to mortgage lenders, particularly during stressful conditions when private-sector liquidity often proves unreliable.
The FHLBanks are not government agencies and the U.S. government does not guarantee, directly or indirectly, the debt securities or other obligations of the FHLBank System. Rather, the FHLBanks are GSEs, which combine private sector ownership with public sector sponsorship. In addition, the FHLBanks are cooperative institutions, privately and wholly owned by stockholders who are also the primary customers.
The FHLBank System also includes the Federal Housing Finance Agency (Finance Agency) and the Office of Finance. The Finance Agency is an independent agency in the executive branch of the U.S. government that regulates the FHLBanks, the Federal National Mortgage Association (Fannie Mae), the Federal Home Loan Mortgage Corporation (Freddie Mac), and the Office of Finance. The Office of Finance is a joint office of the FHLBanks that facilitates the issuance and servicing of the FHLBank System's Consolidated Obligations.
All federally insured depository institutions, certain insurance companies, and community development financial institutions chartered in the Fifth District may voluntarily apply for membership in our FHLB. Applicants must satisfy membership requirements in accordance with statutes and Finance Agency regulations. These requirements deal primarily with home financing activities, satisfactory financial condition such that Advances may be made safely, and matters related to the regulatory, supervisory and management oversight of the applicant. By law, an institution is permitted to apply for membership in only one FHLBank, although a holding company may have memberships in more than one FHLBank through its subsidiaries.
At December 31, 2019,2021, we had 640618 members.
We are exempt from all federal, state, and local taxation other than real property taxes. Any cash dividends we issue are taxable to members 233 full-time employees, and one part-time employee. Our employees aredo not represented by a collective bargaining unit. We consider our relationship with our employeesbenefit from the corporate dividends received exclusion. Notes 1 and 10 of the Notes to be good.Financial Statements provide additional details regarding the assessment for the Affordable Housing Program.
Our internet address is www.fhlbcin.com. Information on our website is not incorporated by reference into this report.
Mission and Corporate Objectives
Our mission is to provide member-stockholders with financial services and a competitive return on their capital investment to help them facilitate and expand housing finance and community investment and achieve their objectives for liquidity and asset liability management.
How We Achieve the Mission
We achieve our mission through a cooperative business model. We raise private-sector capital from member stockholders and issue low-cost high-quality debt in the global capital markets jointly with other FHLBanks. The capital and proceeds from debt issuance enable us to provide members services—primarily, access to liquidity via reliable, readily available, and low-cost sources of funding to support their business activities including affordable housing and community investment. Another
important member service is that we offer a program to purchase certain mortgage loans, which provides members liquidity and helps them reduce market risk. Additionally, we provide a competitive return on members' capital investment in our company.
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Our ability to best perform our mission depends on having a membership base that is an essential component of the nation’s housing and mortgage finance systems. We focus closely on fulfilling our mission for members who are community financial institutions, who we believe typically rely more on us for access to liquidity and mortgage markets compared with larger members. At the same time, we value having large members who are active borrowers because they provide the System the ability to consistently issue large amounts of debt, which helps ensure the debt has a relatively low cost, benefiting all members.
The primary products we offer which we call Mission Assets, are readily available low-cost loans called Advances, purchases of certain whole mortgage loans sold by qualifying members through the Mortgage Purchase Program (MPP), and Letters of Credit. We also offer affordable housing programs and related activities to support members in their efforts to assist very low-, low- and moderate-income households and their local communities. To a more limited extent, we also have several correspondent services that assist members in operational administration.
The primary way we obtain funding is through participation in the issuance of the FHLBank System's Consolidated Obligations in the global capital markets. Secondary sources of funding are capital and deposits we accept from our members. A critical component of the success of the FHLBank System is its ability to maintain a comparative advantage in funding, which due to its GSE status, confers an implied guarantee from the U.S. federal government, low risk operations, and joint and several liability across the 11 FHLBanks. We regularly issue Obligations with a wide range of maturities, structures, and amounts, and at relatively favorable spreads to benchmark market interest rates (such as U.S. Treasury securities, LIBORFederal funds effective, and the Secured Overnight Financing Rate (SOFR)) compared with many other financial institutions.
Because we are a cooperative organization with some members using our products more heavily than others and members having different percentages of capital stock, we must achieve a balance in generating membership value from product prices and characteristics and paying a competitive dividend rate. We attempt to achieve this balance by pricing Mission Asset Activityour products at relatively narrow spreads over funding costs, compared with other financial institutions, while still achieving acceptable profitability. Our cooperative ownership structure and deepextensive access to debt markets allow our business to be scalable and self-capitalizing without taking undue risks, diminishing capital adequacy, or jeopardizing profitability.
Our franchise value is derived from the synergies brought by the various components of our business model, including the public-policy mandate, GSE status, cooperative ownership structure, consistent ability to issue large amounts of debt at favorable funding costs, and mechanisms of providing housing finance liquidity through products and services to financial institutions rather than directly to homeowners.
Corporate Objectives
Our corporate objectives, listed below, are intended to promote housing finance among members and ensure our operations and governance are effective and efficient.
▪ | ▪Stock Return: Earn adequate profitability so that members receive a competitive long-term dividend on their capital stock investment. ▪Housing and Community Investment Programs: Maintain effective housing and community investment programs and offer targeted voluntary assistance programs. ▪Safe and Sound Operations:Optimize our counterparty and deposit ratings, achieve an acceptable rating on annual examinations, and have an adequate amount and composition of capital. ▪Risk Management: Employ effective risk optimization management practices and maintain risk exposures at low to moderate levels. ▪Governance: Operate in accordance with effective corporate governance processes that emphasize compliance and consider the interest of all stakeholders (members, stockholders, employees, creditors, housing partners, and regulators). 5 |
Business Activities
Mission Asset ActivityAssets and Activities
The following are our principal business activities with members:
▪We lend readily-available, competitively-priced, and fully-collateralized Advances.
▪We issue collateralized Letters of Credit.
▪We purchase qualifying residential mortgage loans through the MPP and hold them on our balance sheet.
We also may execute standby bond purchase agreements with state housing authorities, which is a minor source of business activity. Together, these product offerings constitute “Mission Asset Activity.Assets and Activities.” We refer to Advances and Letters of Credit as Credit Services.
Affordable Housing and Community Investment
In addition, through various Housing and Community Investment programs, we assist members in serving very low-, low-, and moderate-income households and community economic development. These programs provide Advances at below-market rates of interest, as well as direct grants.
Investments
To help us achieve our mission and corporate objectives, we invest in highly-rated debt instruments of financial institutions and the U.S. government and in mortgage-related securities. In practice, these investments normally include liquidity instruments and longer-term MBS, as permitted by Finance Agency regulation. Investments provide liquidity, help us manage market risk exposure, enhance earnings, and through the purchase of mortgage-related securities, support the housing market.
Sources of Earnings
Our major source of revenue is interest income earned on Advances, MPP loans, and investments.
Major items of expense are:
▪interest paid on Consolidated Obligations and deposits to fund assets;
▪costs of providing below-market-cost Advances and direct grants and subsidies under the Affordable Housing Program; and
▪non-interest expenses.
The largest component of earnings is net interest income, which equals interest income minus interest expense. We derive net interest income from the interest rate spread earned on assets versus funding costs and the use of financial leverage. Each of these can vary over time with changes in market conditions, including most importantly interest rates, business conditions and our risk management activities.
We believe members' capital investment is comparable to investing in adjustable-rate preferred equity instruments. Therefore, we structure our balance sheet risk exposures so that earnings tend to move in the same direction as changes in short-term market rates, which can help provide a degree of predictability for dividend returns.
Capital
Due to our cooperative structure, we obtain capital from members. Each member must own capital stock as a condition of membership and normally must acquire additional stock above the membership stock amount in order to gain access to Mission Assets.Assets and Activities. Acquiring capital in connection with growth in Mission Assets and Activities ensures that these assets are self-capitalizing. We issue, redeem, and repurchase capital stock only at its stated par value of $100 per share. By law, our stock is not publicly traded.
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We also maintain an amount of capital to ensure we meet all of our regulatory and business requirements relating to capital adequacy and protection of creditors against losses. We hold retained earnings to protect members' stock investment against impairment risk and to help stabilize dividend payments when earnings may be volatile.
Board of Directors
Our Board of Directors is responsible for the overall oversight and management of the FHLBank pursuant to the Federal Home Loan Bank Act. The combination of public sponsorship and private ownership that drives our business model is reflected in the composition of our 17-member Board of Directors, all of whom members elect. Ten directors are officers and/or directors of our member institutions, while the remaining directors are Independent directors who represent the public interest. When nominating Independent director candidates, our Board values diversity across a number of categories, including diversity of gender, race, and ethnicity, as well as professional backgrounds. The professional backgrounds of our Independent directors cover a wide range of industries and expertise in areas such as financial markets and economics, affordable housing organizations, and technology, including cybersecurity.
Culture of Ethical Behavior
We are exempt fromcommitted to the highest possible standards of honesty, integrity and conduct. These standards are essential to our business and foster confidence in our FHLBank and the FHLB System. To promote these standards with our employees and our vendors, we maintain a Whistleblower Policy, Standards of Conduct that apply to all federal, state,employees, and local taxation other than real property taxes. Any cash dividends we issue are taxablea Code of Ethics for Senior Financial Officers. The Standards of Conduct outline employees’ responsibilities to members“promptly raise compliance and do not benefit from the corporate dividends received exclusion. Notes 1ethics questions and 14concerns” and provide a description of the Notes to Financial Statements provide additional details regarding the assessment for the Affordable Housing Program.
Regulatory Oversight
Our business is subject to extensive regulation and supervision. The laws and regulations to which we are subject cover all key aspects of our business, and directly and indirectly affect our product and service offerings, pricing, competitive position and strategic plan, relationship with members and third parties, capital structure, cash needs and uses, and information security. As discussed throughout this document, such laws and regulations can have a significant effect on key drivers of our results of operations, including, for example, our capital and liquidity, product and service offerings, risk management, and costs of compliance.
The Finance Agency is headed by a Director who has regulatory authority to promulgate regulationsover the FHLBanks and to make other decisions. The Finance Agency is charged with ensuring that each FHLBank carries out its housing and community development finance mission, remains adequately capitalized, operates in a safe and sound manner, and complies with Finance Agency regulations. The Finance Agency is headed by a Director who has authority to promulgate regulations and to make other decisions.
To carry out these responsibilities, the Finance Agency conducts on-site examinations of each FHLBank at least annually, as well as periodic on- and off-site reviews, and receives monthly information on each FHLBank's financial condition and operating results. While an individual FHLBank has substantial discretion in governance and operational structure, the Finance Agency maintains broad supervisory and regulatory authority. In addition, the Comptroller General has authority to audit or examine the Finance Agency and the FHLBanks, to decide the extent to which the FHLBanks fairly and effectively fulfill the purposes of the FHLBank Act, and to review any audit, or conduct its own audit, of the financial statements of an FHLBank.
Ratings of Nationally Recognized Statistical Rating Organizations
The FHLBank System's comparative advantage in funding is acknowledged in its excellent credit ratings from nationally recognized statistical rating organizations (NRSROs). Moody's Investors Service (Moody's) currently assigns, and historically has assigned, the System's Consolidated Obligations the highest ratings available: long-term debt is rated Aaa and short-term debt is rated P-1. It also assigns a Prime-1 short-term bond rating on each FHLBank. It affirmed these ratings in 2021 and maintained a stable outlook. In 2021, Standard & Poor's affirmed its issuer credit ratings on each FHLBank and its AA+ ratings on the System's senior debt and also maintained a stable outlook. The ratings closely follow the U.S. sovereign ratings from both agencies.
The agencies' rationales for their ratings of the System and our FHLB include the System's status as a GSE; the joint and several liability for Obligations; excellent overall asset quality; extremely strong capacity to meet commitments to pay timely principal and interest on debt; strong liquidity; conservative use of derivatives; adequate capitalization relative to our risk
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profile; a stable capital structure; and the fact that no FHLBank has ever defaulted on repayment of, or delayed return of principal or interest on, any Obligation.
A credit rating is not a recommendation to buy, sell or hold securities. A rating organization may revise or withdraw its ratings at any time, and each rating should be evaluated independently of any other rating. We cannot predict what future actions, if any, a rating organization may take regarding the System's or our ratings.
BUSINESS SEGMENTS
We manage the development, resource allocation, product delivery, pricing, credit risk management, and operational administration of our Mission Asset ActivityAssets and Activities in two business segments: Traditional Member Finance and the MPP. Traditional Member Finance includes Credit Services, Housinghousing and Community Investment, Investments,community investment, investments, some correspondent and deposit services, and other financial products of the FHLB. See the “Segment Information” section of “Results of Operations” in Item 7. Management's Discussion and Analysis of Financial Condition and Results of Operations and Note 1814 of the Notes to Financial Statements for more information on our business segments, including their results of operations.
Traditional Member Finance
Credit Services
Advances. Advances are competitively priced sources of funds available for members to help manage their asset/liability and liquidity needs. Advances can both complement and be alternatives to retail deposits, other wholesale funding sources, and corporate debt issuance. We strive to facilitate efficient, fast, and continuous member access to funds. In most cases, members can access funds on a same-day basis.
We price a variety of standard Advance programs every business day and several other standard programs on demand. We also offer customized, non-standard Advances. Having diverse programs gives members the flexibility to choose and customize their borrowings according to size, maturity, interest rate, interest rate index (for adjustable-rate coupons), interest rate options, and other features.
Repurchase based (REPO) Advances are short-term, fixed-rate instruments structured similarly to repurchase agreements from investment banks, with one principal difference. Members collateralize their REPO Advances through our normal collateralization process, instead of being required to pledge specific securities as would be required in a typical repurchase agreement. A majority of REPO Advances outstanding have overnight maturities.
Adjustable-rate Advances have interest rates typically priced off benchmark rate indices such as LIBORSOFR, or SOFR.historically LIBOR. Adjustable-rate Advances may be structured at the member's option as either prepayable with a fee or prepayable without a fee if the prepayment is made on a repricing date.
Regular Fixed-Rate Advances have terms of 3 months to 30 years, with interest normally paid monthly and principal repayment normally at maturity. Members may choose to purchase call options on these Advances, although in the last several years, balances with call options have been at or close to zero.
Putable Advances are fixed-rate Advances that provide us an option to terminate the Advance, usually after an initial “lockout” period. Most have long-term original maturities. Selling us these options enables members to secure lower rates on Putable Advances compared to Regular Fixed-Rate Advances with the same final maturity.
Mortgage-Related Advances are fixed-rate, amortizing Advances with final maturities of 5 to 30 years. Some of these Advances, at the choice of the member, provide members with prepayment options without fees.
We also offer various other Advance programs that have smaller outstanding balances.
Letters of Credit. Letters of Credit are collateralized contractual commitments we issue on a member's behalf to guarantee its performance to third parties. A Letter of Credit may obligate us to make direct payments to a third party, in which case it is treated as an Advance to the member. The most popular use of Letters of Credit is as collateral supporting public unit deposits, which are deposits held by governmental units at financial institutions. We normally earn fees on Letters of Credit based on the actual average amount of the Letters utilized, which generally is less than the notional amount issued.
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How We Manage Risks of Credit Services. We manage market risk from Advances by funding them with Consolidated Obligations and interest rate swaps that have similar interest rate risk characteristics as the Advances. The net effect is that in practice we mitigate nearly all of the market risk exposure associated with Advances.
In addition, for many, but not all, Advance programs, Finance Agency regulations require us to charge members prepayment fees for early termination of principal when the early termination results in an economic loss to us. We determine prepayment fees using standard present-value calculations that make us economically indifferent to the prepayment. The prepayment fee equals the present value of the estimated profit that we would have earned over the remaining life of the prepaid Advance. If a member prepays principal on an Advance that we have hedged with an interest rate swap, we may also assess the member a fee to compensate us for the cost we incur in terminating the swap before its stated final maturity. Some Advance programs are structured as non-prepayable and may have additional restrictions in order to terminate.
We manage credit risk on Advances by requiring each member to supply us with a security interest in eligible collateral that in the aggregate has estimated value in excess of the total Advances and Letters of Credit. Collateral is comprised mostly of single-family loans,single- and multi-family residential loans, commercial real estate loans, home equity loans, government guaranteed loans and bond securities. The combination of conservative collateral policies and risk-based credit underwriting activities mitigates virtually all potential credit risk associated with Advances and Letters of Credit. We have never experienced a credit loss on Advances, nor have we ever determined it necessary to establish a loan loss reserve for Advances. "Quantitative and Qualitative Disclosures About Risk Management” in Item 7. Management's Discussion and Analysis of Financial Condition and Results of Operations and Notes 8 and 10Note 5 of the Notes to Financial Statements haveprovide more detail on our credit risk management of member borrowings.
Investments
Types of Investments. A primary reason we hold investments is to carry sufficient asset liquidity. Permissible liquidity investments include Federal funds, certificates of deposit, bank notes, bankers' acceptances, commercial paper, securities purchased under agreements to resell, and debt securities issued by the U.S. government, its agencies, or other GSE's. The first five categories represent unsecured lending to private counterparties. We also may place deposits with the Federal Reserve Bank. We are prohibited by Finance Agency regulations from investing (secured or unsecured) in financial investments issued by non-U.S. entities other than those issued by U.S. branches and agency offices of foreign commercial banks. Many liquidity investments have short-term maturities.
▪MBS and collateralized mortgage obligations (together, referred to as MBS) issued by GSEs, other U.S. government agencies or private issuers;
▪asset-backed securities collateralized by manufactured housing loans or home equity loans issued by GSEs or private issuers; and
▪marketable direct obligations of certain government units and agencies (such as state housing finance agencies) that supply needed funding for housing or community lending and that do not exceed 20 percent of our regulatory capital.
We have never purchased asset-backed securities and do not own any privately-issued MBS.
Per Finance Agency regulations, the total investment in MBS and asset-backed securities may not exceed on a book value basis, 300 percent of previous month-end regulatory capital on the day we purchase the securities. See the “Capital Resources” section below for the definition of regulatory capital.
Purposes of Having Investments. The investments portfolio helps achieve corporate objectives in the following ways:
▪Liquidity management. Liquidity investments support the ability to fund assets on a timely basis, especially Advances, and when it may be more difficult to issue new debt. These investments supply liquidity because we normally fund them with longer-term debt than asset maturities. We also may be able to obtain liquidity by selling certain investments for cash without a significant loss of value. ▪Earnings enhancement. The investments portfolio, especially MBS, assists with earning a competitive return on capital, and increasing funding for Housing and Community Investment programs. In addition, liquidity investments help stabilize earnings because they typically earn a relatively stable spread to the cost of debt issued to fund them. 9 ▪Management of debt issuance. Maintaining a short-term liquidity investment portfolio can help us participate in attractively priced debt issuances, on an opportunistic basis. We can temporarily invest proceeds from debt issuances in short-term liquid assets and quickly access them to fund demand for Mission Assets and Activities, rather than having debt issuances dictated solely by the timing of member demand. ▪Support of housing market. Investment in MBS and state housing finance agency bonds directly supports the residential mortgage market by providing capital and financing for mortgages. |
How We Manage Risks of Investments. We strive to ensure our investment holdings have a moderate degree of market risk and limited credit risk, which tends to lower the returns we can expect to earn on these securities. We believe that a philosophy of purchasing investments with a high amount of market or credit risk would be inconsistent with our GSE status and corporate objectives.
Market risk associated with short-term investments tends to be minimal because of their short maturities and because we typically fund them with short-term Consolidated Obligations having similar maturities.Obligations. We mitigate much of the market risk of MBS, which exists primarily from changes in mortgage prepayment speeds, by limiting their balances to 300 percent of regulatory capital and by funding them with a portfolio of long-term fixed-rate callable and non-callable Obligations,Obligations. Additionally, we mitigate much of the market risk of longer-term non-MBS securities, and a portion of our MBS, by managingusing interest rate swaps to effectively convert the fixed rate investments to adjustable-rate investments. We also manage the market risk exposure of the entire balance sheet within prudent policy limits.
Finance Agency regulations and internal policies also provide controls on market risk exposure by restricting the types of mortgage loans, MBS and other investments we can hold. These restrictions prohibit, among others, the purchase of interest only or principal only stripped MBS and MBS whose average life varies more than six years under a 300 basis points interest rate shock.
Our internal policies specify guidelines for, and relatively tight constraints on, the types and amounts of short-term investments we are permitted to hold and the maximum amount of credit risk exposure we are permitted to have with eligible counterparties. We are permitted to invest only in the instruments of counterparties with high credit ratings, and because of our conservative investment policies and practices, we believe all of our investments have high credit quality. We have never had a credit loss or credit-related write down of any investment security.
Deposits
We provide a variety of deposit programs, including demand, overnight, term and Federal funds, which enable depositors to invest funds in short-term liquid assets. We accept deposits from members, other FHLBanks, any institution to which we offer correspondent services, and other government instrumentalities. The rates of interest we pay on deposits are subject to change daily based on comparable money market interest rates. The balances in deposit programs tend to vary positively with the amount of idle funds members have available to invest, as well as the level of short-term interest rates. Deposits have typically represented less than one to three percent of our funding sources in recent years.
Mortgage Purchase Program (MPP or Mortgage Loans Held for Portfolio)
Description of the MPP
Types of Loans and Benefits. Finance Agency regulations permit FHLBanks to purchase and hold specified whole mortgage loans from their members, which offers members a competitive alternative to the traditional secondary mortgage market and directly supports housing finance. We account for MPP loans as mortgage loans held for portfolio. By selling mortgage loans to us, members can increase their balance sheet liquidity and lower interest rate and mortgage prepayment risks. The MPP particularly enables small- and medium-sized community-based financial institutions to use their existing relationship with us to participate more effectively in the secondary mortgage market.
We purchase two types of mortgage loans: qualifying conforming fixed-rate conventional 1-4 family residential mortgages and residential mortgages fully insured by the Federal Housing Administration (FHA). Members approved to sell us these loans are referred to as Participating Financial Institutions (PFIs).
A “conventional” mortgage refers to a non-government-guaranteed mortgage. A “conforming” mortgage refers to the maximum amount permissible to be lent as a regular prime (i.e., non-jumbo, non-subprime) mortgage. For 2020,2022, the Finance Agency
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established the conforming limit at $510,400$647,200 with loans originated in a limited number of high-cost cities and counties receiving higher conforming limits. We have elected not to purchase mortgages subject to these higher conforming limits.
Loan Purchase Process. A Master Commitment Contract is negotiated with each PFI, in which the PFI agrees to make a best efforts attempt to sell us a specific dollar amount of mortgage loans generally over a period of up to 12 months. We purchase loans pursuant to a Mandatory Delivery Contract, which is a legal commitment we make to purchase, and a PFI makes to deliver, a specified dollar amount of mortgage loans, with a forward settlement date, at a specified range of note rates and prices.
Shortly before delivering the loans that will fill the Mandatory Delivery Contract, the PFI must submit loan level detail including underwriting information. We apply procedures through an automated system designed to screen loans that do not comply with our policies. Our underwriting guidelines generally mirror those of Fannie Mae and Freddie Mac for conforming conventional loans, although our guidelines and pool composition requirements are more conservative in a number of ways in order to further limit credit risk exposure. PFIs are required to make certain representations and warranties against our underwriting guidelines on the loans they sell to us. If a PFI sells us a loan in breach of those representations and warranties, we have the contractual right to require the PFI to repurchase the loan.
How We Manage Risks of the MPP
Market Risk. We mitigate the MPP's market risk similarly to how we mitigate market risk from MBS.
Credit Risk - Conventional Mortgage Loans. A unique feature of the MPP is that it separates the various activities and risks associated with residential mortgage lending for conventional loans and allows these risks and activities to be taken on by different entities. We manage the market risk (including interest rate risk and prepayment risk) and liquidity risk. PFIs manage marketing, originating and, in most cases, servicing the loans. PFIs may either retain servicing or sell it to a qualified and approved third-party servicer (also referred to as a PFI). Because PFIs manage and bear most of the credit risk, they do not pay us a guarantee fee to transfer credit risk.
We manage credit risk exposure for conventional loans primarily through underwriting and pool composition requirements and by applying layered credit enhancements. These enhancements, which apply after a homeowner's equity is exhausted, include available primary mortgage insurance, the Lender Risk Account (discussed below), and Supplemental Mortgage Insurance. Supplemental Mortgage Insurance is applicable to loans acquired before February 2011 and was purchased by the PFI from one of our approved third-party providers naming us as the beneficiary. These credit enhancements are designed to protect us against credit losses in scenarios of severe downward movements in housing prices and unfavorable changes in other factors that can affect loan delinquencies and defaults.
The Lender Risk Account is a key component of how we manage residual credit risk. It is a holdback of a portion of the initial purchase price. Starting after five years from the loan purchase date, we may return the holdback to PFIs if they manage credit risk to pre-definedpredefined acceptable levels of exposure on the loan pools they sell to us. Actual loan losses are deducted from the amount of the purchase-price holdback we return to the PFI. The Lender Risk Account provides PFIs with a strong incentive to sell us high quality performing mortgage loans.
Credit Risk - FHA Mortgage Loans. Because the FHA makes an explicit guarantee on FHA loans, we do not require any credit enhancements on these loans beyond primary mortgage insurance.
"Quantitative and Qualitative Disclosures About Risk Management” in Item 7. Management's Discussion and Analysis of Financial Condition and Results of Operations provides more detail on how we manage market and credit risks for the MPP.
Earnings from the MPP
The MPP enhances long-term profitability on a risk-adjusted basis and augments the return on member stockholders' capital investment. We generate earnings in the MPP from monthly interest payments minus the cost of funding and the cost of hedging the MPP's interest rate risk. Interest income on each loan is computed as the mortgage note rate multiplied by the loan's principal balance:
▪minus servicing costs (0.25 percent for conventional loans and 0.44 percent for FHA loans);
▪minus the cost of Supplemental Mortgage Insurance (for applicable loans); and
▪adjusted for the amortization of purchase premiums or the accretion of purchase discounts and for the amortization or accretion of fair value adjustments on loans initially classified as mortgage loan commitments.
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For new loan purchases, we consider the cost of the Lender Risk Account when we set conventional loan prices and evaluate the MPP's potential return on investment. The pricing of each structure depends on a number of factors and is specific to the PFI and to the loan pool. We do not receive fees or income for retaining the risk of losses in excess of any credit enhancements.
FUNDING - CONSOLIDATED OBLIGATIONS
Our primary source of funding and hedging market risk exposure is through participation in the sale of Consolidated Obligation debt securities to global investors. Obligations are the joint and several obligations of all the FHLBanks, backed only by the financial resources of these institutions.
There are two types of Consolidated Obligations: Consolidated Bonds (Bonds) and Consolidated Discount Notes (Discount Notes).
We participate in the issuance of Bonds for three purposes:
▪to finance and hedge intermediate- and long-term fixed-rate Advances and mortgage assets;
▪to finance and hedge short-term, adjustable-rate Advances, and swapped Advances, typically by synthetically transforming fixed-rate Bonds to adjustable-rate funding through the execution of interest rate swaps; and
▪to acquire liquidity investments.
Bonds may have fixed or adjustable rates of interest. Fixed-rate Bonds are either non-callable or callable. A callable Bond is one that we are able to redeem in whole or in part at our discretion on one or more predetermined call dates according to the Bond's offering notice. The maturity of Bonds are typically ranges from one yearup to 20 years. Adjustable-rate Bonds use a benchmark market interest rate, typically LIBOR or SOFR, for interest rate resets. We do not participate in the issuance of range Bonds, zero coupon Bonds, or indexed principal redemption Bonds.
We use fixed-rate Bonds to fund longer-term fixed-rate Advances and longer-term fixed-rate mortgage assets, and use adjustable-rate Bonds to fund adjustable-rate Advances and certain longer-term fixed rate investments that have been swapped to an adjustable-rate.
We participate in the issuance of Discount Notes to fund short-term Advances, adjustable-rate Advances, putable Advances (which we normally swap to an adjustable-rate), liquidity investments, and a portion of longer-term fixed-rate assets. Discount Notes have maturities from one day to one year, with most of ours normally maturing within three months.
The mix of Obligations fluctuates in response to relative changes in short-term versus long-term assets, relative changes in fixed-rate versus adjustable-rate assets, decisions on market risk management (particularly the amount of funding of longer-term assets with short-term Obligations), and differences in relative costs of various Obligations.
Interest rates on Obligations are affected by a multitude of factors such as: overall economic and credit conditions; credit ratings of the FHLBank System; investor demand and preferences for our debt securities; the level and shape of market interest rates and the shape of the(e.g., U.S. Treasury curve and the LIBOR swap curve;rates); and the supply, volume, timing, and characteristics of debt issuances by the FHLBanks, other GSEs, and other highly ratedhighly-rated issuers.
Finance Agency regulations govern the issuance of Obligations. An FHLBank may not issue individual debt securities without Finance Agency approval, and we have never done so. The Office of Finance services Obligations, prepares the FHLBank System's quarterly and annual combined financial statements, and serves as a source of information for the FHLBanks on capital market developments.
We have the primary liability for our portion of Obligations, i.e., those issued on our behalf for which we received the proceeds. However, we also are jointly and severally liable with the other FHLBanks for the payment of principal and interest on all Obligations. If we do not pay the principal or interest in full when due on any Obligation issued on our FHLB's behalf, we are prohibited from paying dividends or redeeming or repurchasing shares of capital stock. If another FHLBank were unable to repay its participation in an Obligation for which it is the primary obligor, the Finance Agency could call on each of the other FHLBanks to repay all or part of the Obligation. The Finance Agency has never invoked this authority.
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LIQUIDITY
Our business requires a substantial and continual amount of liquidity to satisfy financial obligations (primarily maturing Consolidated Obligations) in a timely and cost-efficient manner and to provide members access to timely Advance funding and mortgage loan sales in all financial environments. We obtain liquidity by issuing debt, holding short-term assets that mature before their associated funding, and having the ability to sell certain investments without significant accounting or economic consequences. Sources of asset liquidity include cash, maturing Advances, maturing investments, principal paydowns of mortgage assets, the ability to sell certain investments, and interest payments received. Uses of liquidity primarily include repayments of Obligations, issuances of new Advances, purchases of loans under the MPP, purchases of investments, and payments of interest.
Liquidity requirements are significant because Advance balances can be volatile, many have short-term maturities, and we strive to allow members to borrow Advances on the same day they request them. We regularly monitor liquidity risks and the investment and cash resources available to meet liquidity needs, as well as statutory and regulatory liquidity requirements.
Because Obligations have favorable credit ratings and because the FHLBank System is one of the largest sellers of debt in the worldwide capital markets, the System historically has been able to satisfy its liquidity needs through debt issuance across a wide range of structures at relatively favorable spreads to benchmark market interest rates, such as U.S. Treasury securities.rates.
CAPITAL RESOURCES
Capital Requirements
Statutory and Regulatory Requirements
Under Finance Agency regulations, regulatory capital is composed of all capital stock (including stock classified as mandatorily redeemable), retained earnings, general loss allowances, and other amounts from sources the Finance Agency determines are available to absorb losses. Under the Gramm-Leach-Bliley Act of 1999 (GLB Act), permanent capital equals Class B stock plus retained earnings and is available to absorb financial losses.
Finance Agency regulations stipulate that we must comply with three limits on capital leverage and risk-based capital. These ensure a low amount of capital risk while providing for competitive profitability. We have always complied with these regulatory capital requirements.
▪We must maintain at least a four percent minimum regulatory capital-to-assets ratio. This requirement historically has been closest to affecting our operations.
▪We must maintain at least a five percent minimum leverage ratio of capital divided by total assets, which includes a 1.5 weighting factor applicable to permanent capital. Because all of our Class B stock is permanent capital, this requirement is met automatically if we satisfy the four percent unweighted capital requirement.
▪We are subject to a risk-based capital rule in which we must hold an amount of "permanent" capital that exceeds the amount of exposure to market risk, credit risk, and operational risk. How we determine the amount of these risk exposures is stipulated by Finance Agency regulation. Permanent capital includes retained earnings and the regulatory amount of Class B capital stock.
In addition to the minimum capital requirements, the GLB Act and our Capital Plan promote the adequacy of our capital to absorb financial losses in three ways. These combine to give member stockholders a clear incentive to require us to minimize our risk profile:
▪the five-year redemption period for Class B stock;
▪the option we have to call on members to purchase additional capital if required to preserve safety and soundness; and
▪the limitations, described below, on our ability to honor requested redemptions of capital if we are at risk of not maintaining safe and sound operations.
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In accordance with the GLB Act, our stock is also putable by members. There are statutory and regulatory restrictions on our obligation or right to redeem or repurchase outstanding stock, including, but not limited to, the following:
▪We may not redeem any capital stock if, following the redemption, we would fail to satisfy any regulatory capital requirements. By law, we may not redeem any stock if we become under capitalized.
▪We may not redeem any capital stock without approval of the Finance Agency if either our Board of Directors or the Finance Agency determines that we have incurred or are likely to incur losses resulting or expected to result in a charge against capital.
If we were to be liquidated, stockholders would be entitled to receive the par value of their capital stock after payment in full to our creditors. In addition, each stockholder would be entitled to any retained earnings in an amount proportional to the stockholder's share of the total shares of capital stock. In the event of a merger or consolidation of the FHLB, the Board of Directors would determine the rights and preferences of the FHLB's stockholders, subject to any terms and conditions imposed by the Finance Agency.
Capital Plan
Our Capital Plan ties the amount of each member's required capital stock to the amount of the member's assets and the amount and type of its Mission Asset Activityactivity with us. The Capital Plan has the following basic characteristics:
▪We offer only one class of capital stock, Class B, which is generally redeemable upon a member's five-year advance written notice. We strive to manage capital risks to be able to safely and soundly satisfy redemption requests sooner than five years, although we may elect to wait up to five years (or longer under certain conditions).
▪We issue shares of capital stock as required for an institution to become a member or maintain membership (membership stock), as required for members to capitalize certain Mission Assets and Activities (activity stock), and if we pay dividends in the form of additional shares of stock.
▪We may, subject to the restrictions described above, repurchase certain capital stock (i.e., "excess" capital stock).
We believe the Capital Plan enables us to efficiently increase and decrease capital stock needed to capitalize assets in response to changes in the membership base and demand for Mission Asset Activity.Assets and Activities. This enables us to maintain a prudent amount of financial leverage and consistently generate a competitive dividend return.
At December 31, 2019,2021, the amount of membership stock required for each member ranged from a minimum of $1,000 to a maximum of $30$25 million, with the amount within that range determined as a percentage of member assets. Separate from its membership stock, each member is required to purchase and hold activity stock to capitalize itscertain Mission Asset Activity. For purposes of the Capital Plan, Mission AssetAssets and Activities. Activity includesstock is required to capitalize the principal balance of Advances, guaranteed funds and rate Advance commitments, and the principal balance of loans and commitments in the MPP.MPP, and beginning January 1, 2021, the notional balance of Letters of Credit.
The FHLB must capitalize all Mission Asset Activity with capital stockits total assets at a rate of at least four percent. However,The Capital Plan supports the membership's stock component towards this overall requirement. As specified within the Capital Plan, each member is permittedrequired to maintain an amounta percentage of activity stock within thea range of minimum and maximum percentages for eachdepending on the type of Mission Asset Activity.transaction. The currentCapital Plan amendment that went into effect on January 11, 2022 set the activity percentages are as follows:
| Mission Asset Activity | Minimum Activity Percentage | Maximum Activity Percentage | ||
| Advances | 2% | 4% | ||
| Advance Commitments | 2 | 4 | ||
| MPP | 0 | 4 | ||
| Transaction Type | Activity Percentage | |||||||
| Advances | 4.50% | |||||||
| Advance Commitments | 4.50 | |||||||
| MPP | 3.00 | |||||||
| Letters of Credit | 0.10 | |||||||
If a member owns more stock than is needed to satisfy both its membership stock requirement and the maximum activity stock percentages for its Mission Asset Activity,requirements, we designate the remaining stock as the member's excess capital stock. The member may utilizeutilizes its excess stock to capitalize additional Mission Asset Activity.Assets and Activities, before purchasing activity stock.
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Retained Earnings
Purposes and Amount of Retained Earnings
Retained earnings are important to protect members' capital stock investment against the risk of impairment and to enhance our ability to pay stable and competitive dividends when earnings may be volatile. Impairment risk is the risk that members would have to write down the par value of their capital stock investment in our FHLB as a result of their analysis of ultimate recoverability. An extreme situation of earnings instability, in which other-than-temporarysubstantial credit losses were experienced and expected for a period of time, could result in members determining that the value of their capital stock investment was impaired.
We have a policy that sets forth a range for theminimum amount of retained earnings we believe is needed to mitigate impairment risk and facilitate dividend stability in light of the risks we face. At December 31, 2019,2021, the minimum retained earnings requirement ranges from $200 million to $375was approximately $270 million, based on mitigating quantifiable risks under very stressed business and market scenarios to a 99 percent confidence level. At the end of 2019,2021, our retained earnings totaled $1,094 million.$1.3 billion. We believe the current amount of retained earnings is fully sufficient to protect our capital stock against impairment risk and to provide for dividend stability.
Joint Capital Agreement to Augment Retained Earnings
The FHLBanks entered into a Joint Capital Enhancement Agreement (the “Capital Agreement”) in February 2011. The Capital Agreement provides that each FHLBank will, on a quarterly basis, allocate quarterly at least 20 percent of its net income to a restricted retained earnings account (the “Account”). until the balance of the Account, calculated as of the last day of each calendar quarter, equals at least one percent of that FHLBank's average balance of outstanding Consolidated Obligations for the calendar quarter. The Account is not available to be distributed as dividends except under certain limited circumstances. The Capital Agreement does not limit our ability to use retained earnings held outside of the Account to pay dividends. Although we have always maintained compliance with our capital requirements, we believe the Capital Agreement enhances risk mitigation by building a larger capital buffer over time to absorb unexpected losses, if any, that we may experience.
USE OF DERIVATIVES
Finance Agency regulations and our policies establish guidelines for the execution and use of derivative transactions. We are prohibited from trading in, or the speculative use of, derivatives and have limits on the amount of credit risk to which we may be exposed. Most of our derivatives activity involves interest rate swaps, some of which may include options. We account for all derivatives at fair value.
Similar to our participation in debt issuances, use of derivatives is integral to hedging market risk created by Advances, certain longer-term fixed-rate investments and mortgage assets, including commitments. Derivatives related to Advances most commonly hedge either:
▪below-market rates and/or the market risk exposure on Putable Advances, and certain other Advances, for which members have sold us options embedded within the Advances; or
▪Regular Fixed-Rate Advances when it may not be as advantageous to issue Obligations or when it may improve our market risk management.
The derivatives we transact related to investments hedge market risk exposure by effectively converting the fixed-rate investment to an adjustable-rate investment. The derivatives we transact related to mortgage assets primarily hedge interest rate risk and prepayment risk. Such derivatives include options on interest rates swaps (swaptions) and sales of to-be-announced MBS for forward settlement.
Derivatives transactions related to Bonds help us intermediate between the preference of capital market investors for intermediate- and long-term fixed-rate debt securities and the preference of our members for shorter-term or adjustable-rate Advances. We can satisfy the preferences of both groups by issuing long-term fixed-rate Bonds and entering into an interest rate swap that synthetically converts the Bonds to an adjustable-rate funding basis that matches up with the short-term and adjustable-rate Advances, thereby preserving a favorable interest rate spread.
We may also transact derivatives to reduce the repricing risk of Discount Notes that fund certain overnight and shorter-term assets.
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Use of derivatives can result in a substantial amount of volatility of accounting and economic earnings. We strive to maintain a low amount of earnings volatility from realized gains and losses on derivatives. We accept a higher amount of earnings volatility from unrealized gains and losses on recording derivatives at fair values, to the extent our use of derivatives effectively hedge market risk exposure.
COMPETITION
Advances
Members' demand for our Advances is affected by, among other things, the cost of other sources of funding available, including our members' customer deposits. We compete with other suppliers of wholesale funding, both secured and unsecured, including the federal government, commercial banks, investment banking divisions of commercial banks, brokered deposits and other FHLBanks when our members' affiliated institutions are members of other FHLBanks. In addition, competition is often more significant when originating Advances to larger members, which have greater access to the national and global capital markets.
Our ability to compete successfully with other suppliers of wholesale funding, including other FHLBanks, depends primarily on the total cost of our products to members, which include the rates we charge, earnings and dividend performance, collateral policies, capital stock requirements, product features and members' perceptions of our relative safety and soundness. In addition, our competitive environment continues to be impacted by the Federal Reserve's low interest-rate environment.environment and actions to provide liquidity in the financial markets. See Item 1A. Risk Factors below for further discussion.
Mortgage Purchase Program
The primary competitors for mortgage loans we purchase in the MPP are Fannie Mae and Freddie Mac, government agencies such as the Government National Mortgage Association (Ginnie Mae), and other secondary mortgage market conduits. Fannie Mae and Freddie Mac, in particular, have long-established and efficient programs and are the dominant purchasers of fixed-rate conventional mortgages. In addition, a number of private financial institutions have well-established securitization programs, although they may not currently be as active as they were historically. The MPP also competes with the Federal Reserve to the extent it purchases MBS and affects market prices and the availability of supply.
Debt Issuance
The FHLBank System primarily competes with the U.S. government and other GSEs for funds raised through the issuance of unsecured debt in the national and global debt markets. Increases in the supply of competing debt products may, in the absence of increases in demand, result in higher debt costs.
SOCIAL RESPONSIBILITY
Housing and Community Investment Programs
We support affordable housing, necessary housing repairs, disaster reconstruction and home ownership for very low- to moderate-income individuals through multiple programs across Kentucky, Ohio and Tennessee. By using our programs individually or in combination, our members and their community partners can create economically competitive solutions that contribute to the quality of life in the communities they serve.
Our Housing and Community Investment Programs include the Affordable Housing Program and various housing and community economic development-related Advance and grant programs. We fund the Affordable Housing Program with an accrual equal to 10 percent of our previous year's net earnings, mandated by the Financial Institutions Reform, Recovery and Enforcement Act of 1989. See Note 10 of the Notes to Financial Statements for a complete description of the Affordable Housing Program calculation.
The Affordable Housing Program provides funding for the development of affordable housing, from large rental complexes that provide homes to seniors to individual homes for first time buyers. The Program consists of a Competitive Program and a homeownership program called Welcome Home, which assists homebuyers with down payments and closing costs. Under the Competitive Program, we currently distribute funds in the form of grants to members that apply and successfully compete in an annual offering. Under Welcome Home, we make funds available beginning in March until they have been fully committed. For both programs, the income of qualifying individuals or households must be 80 percent or less of the area median income. We set aside up to 35 percent of the Affordable Housing Program accrual for Welcome Home and allocate the remainder to the Competitive Program.
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Two other housing programs that fall outside of the Affordable Housing Program are the Community Investment Program and the Economic Development Program. Advances under the former program have rates equal to our cost of funds, while Advances under the latter program have rates equal to our cost of funds plus reasonable administrative costs. Members use the Community Investment Program to serve housing needs of low- and moderate-income households and, under certain conditions, community economic development projects. The Economic Development Program is a discounted Advance program used to promote economic development and job creation and retention.
Our Board of Directors also allocates funds to voluntary housing programs. Currently, we offer three voluntary housing programs, the Carol M. Peterson Housing Fund, the Disaster Reconstruction Program, and the Zero Interest Rate Fund. The Board authorized $1.0 million to the Carol M. Peterson Housing Fund for use during 2021. In November 2021, the Board re-authorized another $1.0 million for the Carol M. Peterson Housing Fund for use in 2022. These funds are primarily used as grants to pay for accessibility rehabilitation and emergency repairs for special needs and elderly homeowners. The Disaster Reconstruction Program helps very low- to moderate-income families whose homes were impacted by fires, tornadoes, flooding, landslides or other state or federally declared natural disasters in the Fifth District. The program offers up to $20,000 to help repair and rebuild homes affected by disasters and $5,000 for displaced renters to purchase homes. Since the program's inception, we have disbursed over $6.2 million to assist 495 households. The Zero Interest Fund provides loans with a zero percent interest rate to support upfront infrastructure costs on residential and economic development projects. The fund is a $2 million revolving loan fund.
Serving the Community
Our employees participate in various programs, such as fundraising campaigns or volunteer opportunities, which support and give back to our local communities. Examples of these programs included the United Way Campaign, the Cincinnati Wish Tree Program, the Annual Heart Mini-Marathon and Walk, the Habitat for Humanity Rock the Block, and an employee volunteer build with Yellow Springs Home, Inc. Through participation in the Rock the Block and employee build events, our employees’ volunteer efforts helped advocate for safe, decent and affordable housing by cleaning up yards, building fences, and helping complete various home-improvement projects.
Diversity and Inclusion Program
Diversity and inclusion is a strategic business priority. Our diversity and inclusion officer reports to the President and Chief Executive Officer, serves as a liaison to the Board of Directors, and is a member of the senior management strategy council. We recognize that diversity increases capacity for innovation and creativity and that inclusion allows us to leverage the unique perspectives of all employees and strengthen retention efforts. We operationalize our commitment through the development and execution of a three-year diversity and inclusion strategic plan that includes quantifiable metrics to measure its success. Our diversity and inclusion officer and team reports regularly on performance against the strategic plan to management and the Board of Directors. Additionally, employee job descriptions contain inclusive behavior expectations that increase with increasing responsibilities in the organization, and also are included as part of our annual performance management process.
We offer a range of opportunities for our employees to connect, and grow personally and professionally through employee resource groups and community outreach. We consider learning an important component of our diversity and inclusion strategic plan and regularly offer educational opportunities to our employees. Examples of these opportunities include consultant-led diversity and inclusion training about employee experiences as they relate to race, ethnicity and gender, listening to panel discussions about issues affecting race in the United States, as well as a series of lunch and learns to help raise awareness and engage employees in conversations about racial disparities in education, health and housing. In addition, we have made a commitment to be part of the national dialogue and solution to end systemic racism through our sponsorship of the YWCA Racial and Justice Inclusion Initiative.
HUMAN CAPITAL RESOURCES
Our human capital is a significant contributor to the success of our strategic business objectives. As such, we are committed to the health, safety and wellness of our employees. In response to the COVID-19 pandemic, we implemented significant operating environment changes, safety protocols and procedures that we determined were in the best interest of our employees and members, and which comply with government regulations. This included having nearly all employees work remotely, while implementing additional safety measures for employees continuing any on-site work.
In managing human capital, we focus on our workforce profile and the various programs and philosophies described below.
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Workforce Profile
Our workforce is primarily comprised of corporate employees, with one location of principal operations. As of December 31, 2021, we had 245 employees. As of December 31, 2021, approximately 39 percent of our workforce was female, 61 percent male, 84 percent non-minority and 16 percent minority. Our workforce is leanly staffed, and historically has included a number of longer-tenured employees. As of December 31, 2021, the average tenure of our employees was 10 years. We strive to both develop talent from within the organization and supplement with external hires. We believe that developing talent internally results in institutional strength and continuity and promotes loyalty and commitment in our employee base, which furthers our success. However, adding new employees contributes to new ideas, continuous improvement, and our goals of a diverse and inclusive workforce. Our employees are not represented by a collective bargaining unit.
Total Rewards
We seek to attract, develop and retain talented employees. We strive to achieve this objective through a combination of development programs, benefits and employee wellness programs, and recognizing and rewarding performance. Specifically, our programs include:
▪Cash compensation – provides competitive salary, transportation and other cash subsidies, and performance based incentives.
▪Benefits – offers health insurance with a health savings account contribution, dental and vision insurance, life and AD&D insurance, supplemental life insurance, long-term disability insurance, employee assistance program, 401(k) retirement savings plan with employer match, and defined benefit pension benefits.
▪Recognition programs – sponsors peer-to-peer recognition program, department recognition program and company-wide recognition.
▪Work / life balance – provides flexible work arrangements and scheduling and paid time off for vacation, illness, personal, holiday, bereavement, jury duty, and paid leave programs for times when caring for a sick family member, bonding with a newborn or recovering from childbirth.
▪Culture – promotes employee resource groups and various cultural and inclusion initiatives.
▪Development programs and training – offers tuition assistance programs, internal educational and development opportunities, and fee reimbursement for external educational and development programs.
▪Management succession planning – assesses talent annually with our leadership and Board of Directors with, at a minimum, a defined plan for positions at Vice President and above.
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Item 1A. Risk Factors.
The following are the most importantdiscussion summarizes risks and uncertainties we currently face. The realization of one or more of the risks could negatively affect our results of operations, financial condition, safety and soundness, and, at the extreme, the viability of our business franchise. The effects could include reductions in Mission Asset Activity,Assets and Activities, lower earnings and dividends, and, at the extreme, impairment ofimpair our capital or an inabilityhinder our ability to participate in issuances of Consolidated Obligations. The risks identified below are not the only risks we face. Other risks not presently known or which we deem to be currently immaterial may also impact our business. Additionally, the risks identified may adversely affect our business in ways we do not expect or anticipate.
BUSINESS AND REGULATORY RISK
A prolonged downturn in the economy, including the U.S. housing market, and related U.S. government monetary policy responses, could further lower Mission Asset ActivityAssets and Activities and profitability.
Member demand for Mission Asset ActivityAssets and Activities depends in large part on the general health of the economy and overall business conditions. Numerous external factors can affect our Mission Asset ActivityAssets and Activities and earnings including:
▪conditions in the financial, credit, mortgage, and housing markets;
▪interest rates;
▪actions of the Federal Reserve to affect reserves of financial institutions and the money supply;
▪competitive alternatives to our products, such as retail deposits and other sources of wholesale funding;
▪inflation;
▪regulations affecting our members' liquidity requirements;
▪the willingness and ability of financial institutions to expand lending; and
▪natural disasters, pandemics or other widespread health emergencies (see the separate Risk Factor on the COVID-19 pandemic), terrorist attacks, civil unrest, acts of war, trade disruptions, economic or other sanctions, or other unanticipated or catastrophic events could create economic and financial disruptions and uncertainties.
These external factors, some of which occurred in 2021 and 2022, are likely to have a more severe impact if a prolonged economic downturn is accompanied by significant changes in interest rates, stresses in the housing market, elevated competitive forces, or actual or potential changes in the legislative and regulatory environment. Any of these factors, or a combination of factors, could adversely affect our business activities and results of operations and may lower the demand for Mission Asset Activity, decrease profitability, andultimately cause stockholders to request redemption of a portion of their capital or request withdrawal from membership (both referred to in this document as “request withdrawal of capital”). These unfavorable effects are more likely to occur and be more severe if a weak economy is accompanied by significant changes in interest rates, stresses in the housing market, elevated competitive forces, or actual or potential changes in the legislative and regulatory environment.
In addition, we believeparticular, overall Advance demand has been and continues to be unfavorably affected by the substantial amount of deposit-based liquidity provided to financial institutions through the monetary actionspolicies of the U.S. government and its agencies, including the Federal Reserve, and changes in our members' ability to manage their regulatory liquidity requirements. See the "Competition" risk factor for further discussion.
Our primary business is providing liquidity to our members by making Advances to, and purchasing mortgage loans from, our members. Members have access to alternative funding sources, including their customers' deposits and wholesale funding, which may offer more favorable terms than we offer, such as lower rates or more flexible credit or collateral standards. Some of our competitors are not subject to the same body of regulations applicable to us, which enables those
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competitors to offer products and terms that we are not able to offer. In addition, state and federal regulators’ perception of the stability and reliability of our Advances can also directly impact the amount of Advances used by members.
In connection with purchasing mortgage loans from our members, we face competition in the areas of customer service, purchase prices for the MPP loans and ancillary services such as automated underwriting and loan servicing options. Our primary competitors are Fannie Mae, Freddie Mac, government agencies such as Ginnie Mae, and other secondary mortgage market conduits. In addition, our members continue to face increased competition in mortgage origination competition from originatorsnon-bank financial institutions that are not eligible for FHLBank membership, which could reduce the amount of mortgage loans that members can make available to us to purchase.
Increased competition could decrease the amount of Advances and mortgage loans and narrow profitability, on those products, both of which could cause stockholders to request withdrawals of capital.capital and ultimately result in a failure to meet our capital adequacy requirements.
In addition, the FHLBank System's offerings of debt compete with the U.S. Treasury, Fannie Mae, Freddie Mac, other GSEs, and corporate, state, and sovereign entities, among others. Increases in the supply and types of competing debt products or other regulatory factors could adversely affect the System's ability to access funding or increase the cost of our debt issuance. Either of these effects could in turn adversely affect our financial condition and results of operations and the value of FHLB membership.
The amount of Mission Asset ActivityAssets and Activities and capital is concentrated among a small number of our large members. Additionally, the financial industry continues to consolidate and in recent years there has been a systemic trend of financial institutions that are currently ineligible for FHLB membership gaining an increasing market share, especially related to mortgage finance. However, the legislative and regulatory environment faced by the FHLBanks has not changed in response to this trend. Our members could decrease their Mission Asset ActivityAssets and Activities and the amount of their capital stock as a result of merger and acquisition activity or continued loss of market share to ineligible entities. At December 31, 2019,2021, one member, U.S. Bank, N.A., held nearly 30over 14 percent of our Advances and one member PFI, Union Savings Bank, accounted for over 30nearly 25 percent of the outstanding MPP principal balance. Our business model is structured to be able to absorb sharp changes in Mission Asset ActivityAssets and Activities because we can undertake commensurate reductions in liability balances and capital and because of our relatively modest operating expenses. However, an extremely large and sustained reduction in Mission Asset ActivityAssets and Activities could affect our profitability and ability to pay competitive dividends, as well as, at the FHLBank System level, raise policy questions about the relevance of the FHLBank System in its traditional mission of supporting housing finance.
Replacement of the LIBOR benchmark interest rate could adversely affect our business, financial condition, and results of operations.
Under the July 2017 and March 2021 announcements by the United Kingdom's Financial Conduct Authority (FCA), which regulates LIBOR, the one-week and two-month U.S. dollar LIBOR settings and all non-U.S. dollar LIBOR settings ceased to be provided by any administrator and were no longer representative as of January 1, 2022. The remaining U.S. dollar LIBOR settings will either cease to be provided by any administrator or no longer be representative immediately after June 30, 2023. Although the FCA does not expect these remaining LIBOR settings to become unrepresentative before the cessation date, there is no assurance that any of them will continue to be published or be representative through any particular date.
Accordingly, we have developed and implemented a LIBOR transition plan. We have added or adjusted fallback language for our Advances and Consolidated Obligations and have worked with our counterparties to address over-the-counter derivative agreements referencing U.S. dollar LIBOR as a part of our LIBOR transition efforts. We continue to monitor the market-wide efforts to address fallback language related to derivatives and investment securities, as well as fallback language for new activities and issuances of financial instruments. Despite relief under recent legislation and proposed Congressional action addressing LIBOR cessation, the contractual consequences of LIBOR cessation for some existing LIBOR-indexed instruments may not be clear. As LIBOR has been a principal floating-rate benchmark in the financial markets, its cessation has affected, and will continue to affect, the financial markets and may also affect our business, financial condition, and results of operations.
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In response to the cessation of LIBOR, the Federal Reserve Bank of New York's Alternative Reference Rates Committee (ARRC) established SOFR as its recommended alternative to U.S. dollar LIBOR, and the Federal Reserve Bank of New York began publishing SOFR rates in the second quarter of 2018. SOFR is based on a broad segment of the overnight Treasury repurchase market and is intended to be a measure of the cost of borrowing cash overnight collateralized by Treasury securities.
The market transition away from LIBOR and towards SOFR or another alternate reference rate has been and is expected to continue to be complicated and may include the development of term and credit adjustments to accommodate differences between LIBOR and SOFR or any other alternate reference rate. During the market transition away from the remaining LIBOR settings, LIBOR may experience increased volatility, and the overnight Treasury repurchase market underlying SOFR may also experience disruptions from time to time, which may result in unexpected fluctuations in SOFR. While market activity in SOFR-linked financial instruments has continued to develop, the progress has been uneven and there can be no guarantee that SOFR will become widely accepted and used across market segments and financial products in a timely manner or that any other alternative reference rate will be developed. In our case, a robust member demand for SOFR-linked Advances has yet to develop. Any disruption in the market transition away from LIBOR towards SOFR or another alternate reference rate could result in increased financial, operational, legal, reputational or compliance risks. We are not currently able to predict the ultimate impact the market transition away from LIBOR towards SOFR may have on our business, financial condition, and results of operations. See "Executive Overview" in Item 7. Management's Discussion and Analysis of Financial Condition and Results of Operations for additional information about the replacement of LIBOR.
The COVID-19 pandemic and related developments created economic and financial disruptions and uncertainties, which could increase many of the risks we face and adversely affect our business, financial condition, and results of operations.
The COVID-19 pandemic, and governmental and public actions taken in response have created uncertainty about the overall economic environment. Despite significant improvements in the overall U.S. economy since the initial effect of the pandemic, uncertainty remains on the pace of the recovery going forward, reflecting concerns about virus resurgence from variants, vaccine distribution and vaccination rates, inflation, and supply chain disruptions. There are no comparable recent events that provide guidance as to the long-term effect that the COVID-19 pandemic may have and, as a result, the ultimate effect of the pandemic is highly uncertain. This could increase many of the risks we face and adversely affect our business, financial condition, and results of operations.
Beginning in the second quarter of 2020 and throughout 2021, demand for Advances was low as a number of emergency actions taken by the Federal Reserve, in response to the COVID-19 pandemic, helped facilitate significant liquidity in the markets and members experienced substantial deposit growth. While it is difficult to predict the future demand for Advances, we believe that reduced demand for Advances from many of our members will, or is likely to, continue in the near future if the level of liquidity in the financial markets and deposit levels at members remain elevated or if another economic downturn occurs.
Overall, the effects of the COVID-19 pandemic have contributed to, and may continue to cause, compression in our net interest income and net interest margin. To the extent interest rates continue to be low, or negative interest rates arise, our business and profitability may be further adversely affected.
The extent to which the COVID-19 pandemic may continue to impact our business, financial condition, and results of operations will depend on many factors that remain highly uncertain and difficult to predict, including, but not limited to: the spread of new variants of the virus; actions taken by governmental authorities and other third parties in response to the pandemic; and the effectiveness of related vaccines and therapeutics.
Potential GSE reform could unfavorably affect our business model, financial condition, and results of operations.
Due to our GSE status, the ultimate resolution to the conservatorship of Fannie Mae and Freddie Mac could affect the FHLBanks. While there appears to be consensus that a permanent financial and political solution to the current conservatorship status should be implemented, which could include maintaining the current structure, no consensus has evolved to date around any of the various legislative proposals. Some policy proposals directed towards Fannie Mae and Freddie Mac have included provisions applicable to the FHLBank System, such as limitations on Advances and portfolio investments. Other proposals have included broader changes in GSE mortgage finance, such as the FHLBank System being
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a greater participant in the secondary mortgage market, which could affect the FHLBank System's long-standing business model.
There are significant differences between the FHLBank System and Fannie Mae and Freddie Mac, including the System's focus on lending as opposed to guaranteeing mortgages and its distinctive cooperative business model. GSE legislation could inadequately account for these differences. This could jeopardize the ability of the FHLBank System to continue operating effectively within its current business model, including by adversely changing the perceptions of the capital markets about the risk associated with the debt of housing GSEs. We cannot predict the effects on the System if GSE reform were to be enacted.
In addition to potential GSE reform, the legislative and regulatory environment in which the System operates continues to undergo change. Recently-promulgated and future legislative and regulatory actions could significantly affectresult in, among other things: an increase in our business model, financial condition, or resultscost of operations. Legislativefunding and regulatory actions have also raisedcompliance; a change in membership or permissible business activities; additional capital and liquidity requirements; additional contributions under our operating costs and imparted added uncertainty regardingAffordable Housing Program; reduced demand for Advances or limitation on Advances made to members; or a change in the business model and membership basesize, scope, or nature of our lending, investment, or mortgage financing activities. For example, a legislative proposal is under whichconsideration that, if enacted, would require the FHLBanks may operate into increase the future.percentage of their annual earnings devoted to their affordable housing programs over the amount that is currently required by law. We are unable at this time to predict the ultimate effects the regulatory environment could have on the FHLBank System's business model, our members' view on the value of the FHLBank membership, or on our financial condition and results of operations.
See "Executive Overview" in Item 7. Management's Discussion and Analysis of Financial Condition and Results of Operations for additional information on regulatory and legislative developments.
Failure to meet minimum capital adequacy requirements mandated by Finance Agency regulations and supervisory guidance could affect our ability to pay dividends or repurchase or redeem members' capital stock, which may cause a decrease in demand for Advances or difficulties in retaining existing members and attracting new members.
To ensure safe and sound operations, we must hold a minimum amount of capital relative to our asset levels. We must also hold a sufficient amount of retained earnings to help protect members' capital stock investment against impairment risk. If we are unable to satisfy our minimum capital requirements, we would be subject to capital restoration requirements. Until the minimum capital levels have been restored, we would also be prohibited from paying dividends and redeeming or repurchasing capital stock without prior approval, which could adversely affect the value of membership in our company. For example, the competitiveness of our Advances depends on the total cost to members, which includes the rates we charge, dividends paid, and members' perceptions of our relative safety and soundness, among other things. Therefore, outcomes of failing to meet capital adequacy requirements may include reduced demand for Advances, decreased profitability, or difficulty in retaining members or attracting new members.
MARKET AND LIQUIDITY RISK
Changes in interest rates and mortgage prepayment speeds (together referred to as market risk exposure or interest rate risk exposure) could significantly affect our financial condition and results of operations.
Exposure of earnings to unhedged changes in interest rates and mortgage prepayment speeds is one of our largest ongoing residual risks. We derive most of our income from the interest earned on assets less the interest paid on Consolidated Obligations and deposits used to fund the assets. Spreads on our assets tend to be narrow compared to those of many other financial institutions due to our cooperative business model. Market Access.conditions, yield curve shape, competitive forces, and market risk exposure could cause these already narrow asset spreads to decline, which could substantially reduce our profitability. A key spread relationship is that we tend to utilize Consolidated Discount Notes to fund a significant amount of assets that have adjustable-rates tied to a benchmark interest rate, such as SOFR, or historically LIBOR. Because rates on Discount Notes do not perfectly correlate with other adjustable benchmark interest rates, a narrowing of this spread, for example from investors changing perceptions about the quality of our debt, could lower income and reduce balances of Mission Assets and Activities.
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We hedge mortgage assets with a combination of Consolidated Obligations and derivatives transactions. Interest rate movements can lower profitability in two primary ways: 1) directly due to their impact on earnings from cash flow mismatches between assets and liabilities; and 2) indirectly via their impact on prepayment speeds on our MBS investments and mortgages purchased under our MPP, which can unfavorably affect the cash flow mismatches. The effects on income can also include acceleration in the amortization of purchased premiums on mortgage assets.
Although we mitigate a large portion of our market risk exposure, a residual amount of market risk normally remains after incorporating risk management activities. Sharp increases or decreases in interest rates could adversely affect us and our stockholders by making dividend rates less competitive relative to the returns available to members on alternative investments.
In some extremely stressful scenarios, changes in interest rates and prepayment speeds could result in dividends being below stockholders' expectations for an extended period of time and/or market capitalization ratios falling below par which could indicate potential impairment of member stock. In such a situation, members could engage in less Mission Assets and Activities and could request a withdrawal of capital. See "Quantitative and Qualitative Disclosures About Risk Management" in Item 7. Management's Discussion and Analysis of Financial Condition and Results of Operations for additional information about market risk exposure.
Impaired access to the capital markets for debt issuance could decrease the amount of Mission Asset Activity,Assets and Activities, lower earnings by raising debt costs and, at the extreme, prevent the System from meeting its financial obligations.
Our principal long-term source of funding, liquidity, and market risk management is through access on favorable terms to the capital markets for participation in the issuances of debt securities and execution of derivative transactions at prices and yields that are adequate to support our business model. Our ability to obtain funds through the sale of Consolidated Obligations depends in part on prevailing conditions in the capital markets, particularly the short-term capital markets, because we and the System normally have a large reliance on short-term funding. The System's strong debt ratings, the implicit U.S. government backing of our debt, strong investor demand for FHLBank System debt, and effective funding management are instrumental in ensuring satisfactory access to the capital markets.
We are exposed to liquidity risk if significant disruptions in the capital markets occur. Although the System was able to maintain access to the capital markets for debt issuances on acceptable terms during 2019,2021, there is no assurance this will continue to be the case. Future ability to effectively access the capital markets on acceptable terms could be adversely affected by external events (such as general economic and financial instabilities, political instability, wars, natural disasters, pandemics or other widespread health emergencies)emergencies, civil unrest or other unanticipated or catastrophic events), deterioration in the perception of financial market participants about the financial strength of Consolidated Obligations, or downgrades to the System's credit ratings. The System could also be affected by the continued changes in the capital markets in response to financial regulations and by the joint and several liability for Consolidated Obligations, which exposes the System as a whole to events at individual FHLBanks. If access to capital markets were to be impaired for an extended period, the effect on our financial condition and results of operations could be material. At the extreme, the System's ability to achieve its mission and satisfy its financial obligations could be threatened.
CREDIT RISK
We are exposed to credit risk that, if realized, could materially affect our financial condition and results of operations.
We believe we have a de minimis overall amount of residual credit risk exposure related to Credit Services, purchases of investments, and transactions in derivatives, and a minimal amount of credit risk exposure related to the MPP.exposure. However, we can make no assurances that credit losses could not materially affect our financial condition or results of operations in all scenarios. An extremely severe and prolonged economic downturn, especially if combined with continued significant disruptions in housing or mortgage markets, could result in credit losses on assets that could impair our financial condition or results of operations.
The FHLB is an asset-based lender for Advances and Letters of Credit. Advances and Letters of Credit are over-collateralized and we have a perfected first lien positionsecurity interest on all pledged collateral. However, we do not have full information on the characteristics of, nor do we estimate current market values on, a large portion of collateral. This results in a degree of uncertainty as to the precise amount of over-collateralization.
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Our MPP consists of mortgage loans considered to have high credit quality and conservative underwriting and loan characteristics with additional credit enhancements in place designed to protect us against credit losses. The result has been a minimal amount of credit losses historically.
Although Advances and Letters of Credit are over-collateralized and mortgage loans in the MPP are of high credit quality with various credit enhancements, credit risk could increase under a number adverse scenarios, such as damage or destruction of collateral that members pledge to secure Advances or mortgages that we hold in the MPP as a result of natural disasters, which may be caused by the effects of climate change or other catastrophic events. Significant declines in the value of collateral pledged to secure Advances could lead to greater exposure to credit losses in the MPP have historically been minimal, they could increase under adverse economic scenarios involvingevent of a member default. Additionally, significant and sustained reductions in home prices and sustained elevated levels of unemployment and other factors that influence delinquencies and defaults.defaults could increase the risk of credit losses in the MPP.
Some of our liquidity investments are unsecured, as are uncollateralized portions of certain derivatives. We make unsecured liquidity investments in and transact derivatives with highly rated, investment-grade institutions, have conservative limits on dollar and maturity exposure to each institution, and have strong credit underwriting practices. Failure of an investment or derivative counterparty with which we have a large unsecured position could have a material adverse effect on our financial conditions and results of operations. To the extent we engage in derivative transactions
required to be cleared under provisions of the Dodd-Frank Wall Street Reform and Consumer Protection Act (Dodd-Frank Act), we may be exposed to nonperformance from central clearinghouses and Futures Commission Merchants.
Financial institutions are increasingly inter-related as a result of trading, clearing, counterparty, and other relationships. As a result, actual or potential defaults of one or more financial institutions could lead to market-wide disruptions making it difficult for us to find qualified counterparties for transactions.
Each FHLBank has a joint and several liability for principal and interest payments on Consolidated Obligations, which are backed only by the financial resources of the FHLBanks. Although no FHLBank has ever defaulted on its principal or interest share of an Obligation, there can be no assurance that this will continue to be the case. Financial performance issues could require our FHLB to provide financial assistance to one or more other FHLBanks, for example, by making a payment on an Obligation on behalf of another FHLBank. Such assistance could adversely affect our financial condition, earnings, ability to pay dividends, or ability to redeem or repurchase capital stock.
OPERATIONAL RISK
Failures or interruptions of the Office of FinanceFinance's services could disrupt the ability to conduct and manage our business.
The Office of Finance is a joint office of the FHLBanks established to facilitate the issuance and servicing of Consolidated Obligations, among other things. Pursuant to Finance Agency regulations, the Office of Finance, often in conjunction with the FHLBanks, has adopted policies and procedures for the purposes of facilitating and approving the issuance of Consolidation Obligations. A failure or interruption of the Office of Finance's services as a result of breaches, cyberattacks, or technological risks could negatively affect the business operations of each FHLBank, including disruptions to the FHLBanks' access to funding through the sale of Consolidated Obligations. Although the Office of Finance has business continuity and security incident response plans in place, our business operations could be constrained, disrupted or otherwise negatively affected if the Office of Finance was not able to perform its functions for a period of time.
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Obligations. Failures in information systems and other technologies could occur from human error, fraud, cyberattacks, errors or misuse of models and services we employ, lapses in operating processes, or natural or man-made disasters.
Computer systems, software and networks can beare increasingly more vulnerable to failures and interruptions includingfrom cyberattacks, which may include breaches, unauthorized access, misuse, computer viruses or other malicious or destructive code (such as ransomware) and other events against information owned by our company and customers. These failures and interruptions could jeopardize the confidentiality or integrity of information, or otherwise cause interruptions or malfunctions in operations. Additionally, threats of cyber terrorism, external extremist parties, including state-sponsored actors, result in heightened risk exposure. These threats may increase as a result of geopolitical conflicts. The techniques used in cyberattacks change frequently and have grown increasingly sophisticated, and these attacks or ensuing security breaches could persist for an extended period of time before being detected. It could take considerable time for us to determine the scope, extent, amount, and type of information compromised. We can make no assurance that we will be able to prevent, timely and adequately address, or mitigate failures, interruptions, or cyberattacks in information systems and other technology. If we experience a failure, interruption, or cyberattack in any of these systems, we may be unable to effectively conduct or manage business activities, operating processes, and risk management, which could significantly harm customer relations, our reputation, and operating costs, potentially resulting in material adverse effects on our financial condition and results of operations.
We may not be able to foresee, prevent, mitigate, reverse or repair the negative effects of such failures, interruptions, cyberattacks, or cyber terrorism.
Natural disasters, including those resulting from significant climate change, could adversely affect our business and our members’ businesses.
Natural disasters, such as hurricanes, tornadoes, floods, wild fire, and drought may impact our operations or our members’ businesses. Climate change is increasing the frequency, intensity and duration of these weather events. These natural disasters, including those resulting from significant climate change, could destroy or damage facilities or other properties (such as collateral that members have pledged to secure Advances or mortgages), disrupt business, increase the probability of power or other outages, or otherwise cause significant economic dislocation in the affected regions. Any of these situations may adversely affect our financial condition and results of operations.
Our financial condition and results of operations could suffer if we are unable to hire and retain skilled key personnel.
We rely on key personnel for many of our functions and have a relatively small workforce, given the size and complexity of our business. The success of our mission depends, in large part, on the ability to attract and retain key personnel. We must continue to recruit, retain and motivate a qualified and diverse pool of employees, both to maintain our current business, and to execute strategic initiatives. Competition for qualified people or ineffective succession planning could affect the ability to hire or retain effective key personnel, thereby harming our financial condition and results of operations.
Item 1B. Unresolved Staff Comments.
None.
Item 2. Properties.
Our primary offices are located in approximately 79,000 square feet of leased space in downtown Cincinnati, Ohio. We also maintain a leased, fully functioning, back-up facility in suburban Cincinnati. We believe that our facilities are in good condition, well maintained, and adequate for our current needs.
Item 3. Legal Proceedings.
From time to time, we are subject to various legal proceedings arising in the normal course of business. Management does not anticipate that the ultimate liability, if any, arising out of these matters will have a material adverse effect on our financial condition or results of operations.
Item 4. Mine Safety Disclosures.
Not applicable.
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PART II
Item 5. Market for Registrant's Common Equity, Related Stockholder Matters and Issuer Purchases of Equity Securities.
By law our stock is not publicly traded, and only our members (and former members with a withdrawal notice pending) may own our stock. The par value of our capital stock is $100 per share. As of December 31, 2019,February 28, 2022, we had 666632 member and former member stockholders and approximately 3436 million shares of capital stock outstanding, all of which were Class B Stock.
We paiddeclared quarterly cash dividends in 20192021 and 20182020 as outlinedshown in the table below.
| (Dollars in millions) | ||||||||||||||||||||
| 2019 | 2018 | |||||||||||||||||||
| Annualized | Annualized | |||||||||||||||||||
| Quarter | Amount | Rate | Form | Quarter | Amount | Rate | Form | |||||||||||||
| First | $ | 65 | 6.00 | % | Cash | First | $ | 61 | 5.75 | % | Cash | |||||||||
| Second | 58 | 5.50 | Cash | Second | 62 | 5.75 | Cash | |||||||||||||
| Third | 45 | 4.50 | Cash | Third | 68 | 6.00 | Cash | |||||||||||||
| Fourth | 37 | 4.00 | Cash | Fourth | 65 | 6.00 | Cash | |||||||||||||
| Total | $ | 205 | 5.05 | Total | $ | 256 | 5.88 | |||||||||||||
| 2021 | 2020 | |||||||||||||||||||||||||||||||||||||||||||
| Annualized | Annualized | |||||||||||||||||||||||||||||||||||||||||||
| Quarter | Rate | Rate | ||||||||||||||||||||||||||||||||||||||||||
| First | 2.00 | % | 2.50 | % | ||||||||||||||||||||||||||||||||||||||||
| Second | 2.00 | 2.50 | ||||||||||||||||||||||||||||||||||||||||||
| Third | 2.00 | 2.00 | ||||||||||||||||||||||||||||||||||||||||||
| Fourth | 2.00 | 2.00 | ||||||||||||||||||||||||||||||||||||||||||
| Total | 2.00 | 2.23 | ||||||||||||||||||||||||||||||||||||||||||
Generally, the Board of Directors has discretion to declare or not declare dividends and to determine the rate of any dividend declared. Our policy states that dividends for a quarter are declared and paid from retained earnings after the close of a calendar quarter and are based on average stock balances for the then closed quarter. The Board of Directors' decision to declare dividends is influenced by the financial condition, overall financial performance and retained earnings of the FHLB, and actual and anticipated developments in the overall economic and financial environment including interest rates and the mortgage and credit markets. The dividend rate is generally referenced as a spread to average short-term interest rates experienced during the quarter to help assess a competitive level for our stockholders.
We may not declare a dividend if, at the time, we are not in compliance with all of our capital requirements. We also may not declare or pay a dividend if, after distributing the dividend, we would fail to meet any of our capital requirements or if we determine that the dividend would create a safety and soundness issue for the FHLB. See Note 1511 of the Notes to the Financial Statements for additional information regarding our capital stock.
RECENT SALES OF UNREGISTERED SECURITIES
Item 6. [Reserved].
| Year Ended December 31, | |||||||||||||||||||
| (Dollars in millions) | 2019 | 2018 | 2017 | 2016 | 2015 | ||||||||||||||
| STATEMENT OF CONDITION DATA AT PERIOD END: | |||||||||||||||||||
| Total assets | $ | 93,492 | $ | 99,203 | $ | 106,895 | $ | 104,635 | $ | 118,756 | |||||||||
| Advances | 47,370 | 54,822 | 69,918 | 69,882 | 73,292 | ||||||||||||||
| Mortgage loans held for portfolio | 11,236 | 10,502 | 9,682 | 9,150 | 7,954 | ||||||||||||||
| Allowance for credit losses on mortgage loans | 1 | 1 | 1 | 1 | 2 | ||||||||||||||
Investments (1) | 34,389 | 33,614 | 27,058 | 25,334 | 37,356 | ||||||||||||||
| Consolidated Obligations, net: | |||||||||||||||||||
| Discount Notes | 49,084 | 46,944 | 46,211 | 44,690 | 77,199 | ||||||||||||||
| Bonds | 38,440 | 45,659 | 54,163 | 53,191 | 35,092 | ||||||||||||||
| Total Consolidated Obligations, net | 87,524 | 92,603 | 100,374 | 97,881 | 112,291 | ||||||||||||||
| Mandatorily redeemable capital stock | 22 | 23 | 30 | 35 | 38 | ||||||||||||||
| Capital: | |||||||||||||||||||
| Capital stock - putable | 3,367 | 4,320 | 4,241 | 4,157 | 4,429 | ||||||||||||||
| Retained earnings | 1,094 | 1,023 | 940 | 834 | 737 | ||||||||||||||
| Accumulated other comprehensive loss | (16 | ) | (13 | ) | (16 | ) | (13 | ) | (13 | ) | |||||||||
| Total capital | 4,445 | 5,330 | 5,165 | 4,978 | 5,153 | ||||||||||||||
| STATEMENT OF INCOME DATA: | |||||||||||||||||||
| Net interest income | $ | 406 | $ | 499 | $ | 429 | $ | 363 | $ | 327 | |||||||||
| Non-interest income (loss) | (10 | ) | (37 | ) | (1 | ) | 46 | 30 | |||||||||||
| Non-interest expense | 89 | 85 | 79 | 111 | 75 | ||||||||||||||
| Affordable Housing Program assessments | 31 | 38 | 35 | 30 | 28 | ||||||||||||||
| Net income | $ | 276 | $ | 339 | $ | 314 | $ | 268 | $ | 254 | |||||||||
| FINANCIAL RATIOS: | |||||||||||||||||||
Dividend payout ratio (2) | 74.1 | % | 75.6 | % | 66.3 | % | 63.9 | % | 67.7 | % | |||||||||
Weighted average dividend rate (3) | 5.05 | 5.88 | 5.00 | 4.00 | 4.00 | ||||||||||||||
| Return on average equity | 5.65 | 6.29 | 6.15 | 5.35 | 5.04 | ||||||||||||||
| Return on average assets | 0.28 | 0.32 | 0.31 | 0.25 | 0.24 | ||||||||||||||
Net interest margin (4) | 0.42 | 0.47 | 0.42 | 0.35 | 0.31 | ||||||||||||||
| Average equity to average assets | 5.04 | 5.11 | 5.00 | 4.76 | 4.78 | ||||||||||||||
Regulatory capital ratio (5) | 4.79 | 5.41 | 4.88 | 4.80 | 4.38 | ||||||||||||||
Operating expenses to average assets (6) | 0.070 | 0.063 | 0.060 | 0.061 | 0.054 | ||||||||||||||
Item 7. Management's Discussion and Analysis of Financial Condition and Results of Operations.
This discussion and analysis of the FHLB's financial condition and results of operations should be read in conjunction with the Financial Statements and related Notes to Financial Statements contained in this Form 10-K.
EXECUTIVE OVERVIEW
COVID-19 Pandemic
The global outbreak of COVID-19 has impacted communities and businesses worldwide, including those in the FHLB fulfilled itsFifth District. The effects of COVID-19 continue to evolve, and the full impact and duration of the virus are unknown. Throughout the COVID-19 pandemic, we have continued to fulfill our mission byof providing robust access to a key source of readily available and competitively priced wholesale funding to its member financial institutions and supporting itsour commitment to affordable housing and community investment,investment. Our capital and paying stockholders a competitive dividend return onliquidity positions remained strong, as did our overall ability to fund operations through the issuance of Consolidated Obligations at acceptable interest costs. Additionally, overall residual credit risk exposure from our Credit Services, mortgage loan portfolio, investments, and derivative transactions has remained de minimis. We continue to monitor the effects of COVID-19, including the impact of variants, and are committed to assisting members and their capital investment.communities as impacts related to the pandemic continue to unfold.
Financial Condition
Mission Assets which we define asand Activities
Primary Mission Assets (i.e., principal balances of Advances and mortgage loans held for portfolio) and Supplemental Mission Activities (i.e., Letters of Credit, Mandatory Delivery Contracts and total MPPstandby bond purchase agreements) are the primary means by which we fulfill our mission with direct connections to members.members and what we refer to as Mission Assets and Activities. We regularly monitor our balance sheet concentration of Mission Asset Activity.Assets and Activities. One measure we use to assess mission achievement is our Primary Mission Asset ratio, which measures the sum of average Advances and mortgage loans as a percentage of average Consolidated Obligations (adjusted for certain high-quality liquid assets, as permitted by regulation). In 2019,2021, the Primary Mission Asset ratio averaged slightly over 69 percent, justslightly below the Finance Agency's preferred ratio of 70 percent. In assessing overall mission achievement, we also consider supplemental sources of Mission Asset Activity,Assets and Activities, the most significant of which is Letters of Credit issued tofor the benefit of members.
The following table summarizes our Mission Asset Activity.Assets and Activities.
| Year Ended December 31, | |||||||||||||||||||||||||||||||||||
| Ending Balances | Average Balances | ||||||||||||||||||||||||||||||||||
| (In millions) | 2021 | 2020 | 2021 | 2020 | |||||||||||||||||||||||||||||||
Primary Mission Assets (1): | |||||||||||||||||||||||||||||||||||
| Advances | $ | 22,954 | $ | 25,007 | $ | 23,721 | $ | 42,917 | |||||||||||||||||||||||||||
| Mortgage loans held for portfolio | 7,402 | 9,316 | 7,931 | 10,995 | |||||||||||||||||||||||||||||||
| Total Primary Mission Assets | $ | 30,356 | $ | 34,323 | $ | 31,652 | $ | 53,912 | |||||||||||||||||||||||||||
Supplemental Mission Activities (2): | |||||||||||||||||||||||||||||||||||
| Letters of Credit (notional) | $ | 34,637 | $ | 28,812 | $ | 33,922 | $ | 20,141 | |||||||||||||||||||||||||||
| Mandatory Delivery Contracts (notional) | 250 | 137 | 249 | 338 | |||||||||||||||||||||||||||||||
| Standby bond purchase agreements (notional) | 27 | 35 | 31 | 68 | |||||||||||||||||||||||||||||||
| Total Supplemental Mission Activities | $ | 34,914 | $ | 28,984 | $ | 34,202 | $ | 20,547 | |||||||||||||||||||||||||||
| Year Ended December 31, | |||||||||||||||
| Ending Balances | Average Balances | ||||||||||||||
| (In millions) | 2019 | 2018 | 2019 | 2018 | |||||||||||
| Mission Asset Activity: | |||||||||||||||
| Advances (principal) | $ | 47,264 | $ | 54,872 | $ | 47,894 | $ | 65,593 | |||||||
| Mortgage Purchase Program (MPP): | |||||||||||||||
| Mortgage loans held for portfolio (principal) | 10,981 | 10,272 | 10,499 | 9,743 | |||||||||||
| Mandatory Delivery Contracts (notional) | 936 | 146 | 516 | 287 | |||||||||||
| Total MPP | 11,917 | 10,418 | 11,015 | 10,030 | |||||||||||
| Letters of Credit (notional) | 16,205 | 14,847 | 15,150 | 14,619 | |||||||||||
| Total Mission Asset Activity | $ | 75,386 | $ | 80,137 | $ | 74,059 | $ | 90,242 | |||||||
Advance principal balances decreased $7.6$2.1 billion (14(eight percent) from year-end 2018.2020. Advance balances remained below pre-pandemic levels in 2021 due to increased liquidity in the financial markets and substantial growth in deposits at member institutions. Average principal Advance principal balances for 2019 declined $17.72021 decreased $19.2 billion (45 percent) compared to 2018 primarily due to2020. Advance balances in the first quarter of 2020 were significantly higher as members sought additional liquidity during the onset of the COVID-19 pandemic. However, most of these Advances matured or were prepaid by the end of 2020, and the demand for Advances has remained low. Advance demand could improve as one or more of the following occur: reductions in government liquidity programs, changes in the Federal Reserve monetary policy, or a reductionrise in borrowings from a few large-asset members. interest rates.
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Advance balances are often volatile due to members' ability to quickly, normally on the same day, increase or decrease their amount of Advances. We believe providingthat a key benefit of membership comes from our business model as a wholesale lender GSE, which provides members flexibility in their Advance funding levels and helps support their asset-liability management needsneeds. We act as a readily available source of funding for our members. Our business model is designed to support significant changes in asset levels without having to undergo material changes in staffing, operations, risk practices, or general resource needs. A key reason for this scalability is that our Capital Plan provides for additional capital when Advances grow and is a key benefitthe opportunity for us to retire capital when Advances decline, thereby acting, along with our efficient level of membership. At December 31, 2019, 67 percent of members held Mission Asset Activity, which was relatively stable comparedoperating expenses, to prior periods.preserve competitive profitability.
The MPP principal balance rose $0.7fell $1.9 billion (seven(21 percent) from year-end 2018.2020. During 2019,2021, we purchased $2.6$1.7 billion of mortgage loans, while principal reductions totaled $1.9 billion.
Letters of funds to be availableCredit increased $5.8 billion (20 percent) from year-end 2020 primarily due to members in 2020. In additionusing them to secure elevated levels of public unit deposits. We normally earn fees on Letters of Credit based on the required AHP assessment, we continued our voluntary sponsorshipactual average amount of two other housingthe Letters utilized, which generally is less than the notional amount issued.
Investments
The balance of investments at December 31, 20192021 was $34.4$29.4 billion, an increase of $0.8$2.4 billion (two percent) from year-end 2018.2020. At December 31, 2019,2021, investments included $13.5$10.8 billion of MBS and $20.9$18.6 billion of other investments, which consisted primarily of highly-rated short-term instruments and longer-term U.S. Treasury and GSE obligations held for liquidity. All of our MBS held at December 31, 20192021 were issued and guaranteed by Fannie Mae, Freddie Mac or a U.S. agency.
Investments averaged $37.8$28.1 billion in 2019, an increase2021, a decrease of $8.0$4.8 billion (27(15 percent) fromcompared to the average balance during 2018. We increasedin 2020. The decrease in average investments reflected lower liquidity investments needed in order to hold more asset liquidity, which we obtained primarily by purchasing U.S. Treasury obligations as part of our plan to manage the implementationlight of the Finance Agency's Advisory Bulletin onreduced Advance demand and lower MBS given the maintenanceelevated levels of sufficient liquidity. In addition, liquidityprepayments throughout 2021 as a result of the low interest rate environment and inability to quickly replace those investments with suitable alternatives. However, the ending balance of MBS increased primarily due to the purchase of $3.1 billion of new MBS in the second half of 2021. Liquidity investments can vary significantly on a daily basis during times of volatility in Advance balances. We maintained a robust amount of asset liquidity throughout 20192021 across a variety of liquidity measures, as discussed in the "Liquidity Risk" section of "Quantitative and Qualitative Disclosures About Risk Management."
Capital
Capital adequacy surpassed all minimum regulatory capital requirements in 2019.2021. The GAAP and regulatory capital-to-assets ratioratios at December 31, 2019 was 4.752021 were 6.26 percent while the regulatory capital-to-assets ratio was 4.79 percent.and 6.28 percent, respectively. Both ratios exceeded the regulatory required minimum of four percent. Regulatory capital includes mandatorily redeemable capital stock accounted for as a liability under GAAP. Both GAAP and regulatory capital decreased $0.9$0.1 billion in 2019, due to our repurchase of over $1.5and $0.2 billion, in excess stockrespectively, from members. These repurchases were in response to the decrease in Advances in 2019.year-end 2020. Retained earnings totaled $1.1$1.3 billion at December 31, 2019, an increase2021, a decrease of sevenone percent from year-end 2018. The decreases in GAAP and regulatory capital were partially offset by purchases2020. We believe the amount of retained earnings is sufficient to protect against members' impairment risk of their capital stock associated with new Advance activity from certain members.investment in the FHLB and to provide the opportunity to stabilize or increase future dividends.
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The global outbreak of COVID-19 has impacted communities and businesses worldwide, including those in the Fifth District. The effects of COVID-19 continue to evolve, and the full impact and duration of the virus are unknown. Throughout the COVID-19 pandemic, we have continued to fulfill our mission of providing robust access to a key source of readily available and competitively priced wholesale funding to member financial institutions and supporting our commitment to affordable housing and community investment. Our capital and liquidity positions remained strong, as did our overall ability to fund operations through the issuance of Consolidated Obligations at acceptable interest costs. Additionally, overall residual credit risk exposure from our Credit Services, mortgage loan portfolio, investments, and derivative transactions has remained de minimis. We continue to monitor the effects of COVID-19, including the impact of variants, and are committed to assisting members and their communities as impacts related to the pandemic continue to unfold.
Financial Condition
Mission Assets and Activities
Primary Mission Assets (i.e., principal balances of Advances and mortgage loans held for portfolio) and Supplemental Mission Activities (i.e., Letters of Credit, Mandatory Delivery Contracts and standby bond purchase agreements) are the primary means by which we fulfill our mission with direct connections to members and what we refer to as Mission Assets and Activities. We regularly monitor our concentration of Mission Assets and Activities. One measure we use to assess mission achievement is our Primary Mission Asset ratio, which measures the sum of average Advances and mortgage loans as a percentage of average Consolidated Obligations (adjusted for certain high-quality liquid assets, as permitted by regulation). In 2021, the Primary Mission Asset ratio averaged 69 percent, slightly below the Finance Agency's preferred ratio of 70 percent. In assessing overall mission achievement, we also consider supplemental sources of Mission Assets and Activities, the most significant of which is Letters of Credit issued for the benefit of members.
The following table below summarizes our results of operations.Mission Assets and Activities.
| Year Ended December 31, | |||||||||||||||||||||||||||||||||||
| Ending Balances | Average Balances | ||||||||||||||||||||||||||||||||||
| (In millions) | 2021 | 2020 | 2021 | 2020 | |||||||||||||||||||||||||||||||
Primary Mission Assets (1): | |||||||||||||||||||||||||||||||||||
| Advances | $ | 22,954 | $ | 25,007 | $ | 23,721 | $ | 42,917 | |||||||||||||||||||||||||||
| Mortgage loans held for portfolio | 7,402 | 9,316 | 7,931 | 10,995 | |||||||||||||||||||||||||||||||
| Total Primary Mission Assets | $ | 30,356 | $ | 34,323 | $ | 31,652 | $ | 53,912 | |||||||||||||||||||||||||||
Supplemental Mission Activities (2): | |||||||||||||||||||||||||||||||||||
| Letters of Credit (notional) | $ | 34,637 | $ | 28,812 | $ | 33,922 | $ | 20,141 | |||||||||||||||||||||||||||
| Mandatory Delivery Contracts (notional) | 250 | 137 | 249 | 338 | |||||||||||||||||||||||||||||||
| Standby bond purchase agreements (notional) | 27 | 35 | 31 | 68 | |||||||||||||||||||||||||||||||
| Total Supplemental Mission Activities | $ | 34,914 | $ | 28,984 | $ | 34,202 | $ | 20,547 | |||||||||||||||||||||||||||
| Year Ended December 31, | |||||||||||
| (Dollars in millions) | 2019 | 2018 | 2017 | ||||||||
| Net income | $ | 276 | $ | 339 | $ | 314 | |||||
| Affordable Housing Program assessments | 31 | 38 | 35 | ||||||||
| Return on average equity (ROE) | 5.65 | % | 6.29 | % | 6.15 | % | |||||
| Return on average assets | 0.28 | 0.32 | 0.31 | ||||||||
| Weighted average dividend rate | 5.05 | 5.88 | 5.00 | ||||||||
| Average 3-month LIBOR | 2.33 | 2.31 | 1.26 | ||||||||
| ROE spread to 3-month LIBOR | 3.32 | 3.98 | 4.89 | ||||||||
| Dividend rate spread to 3-month LIBOR | 2.72 | 3.57 | 3.74 | ||||||||
Advance principal balances decreased $2.1 billion (eight percent) from year-end 2020. Advance balances remained below pre-pandemic levels in 20192021 due to increased liquidity in the financial markets and substantial growth in deposits at member institutions. Average principal Advance balances for 2021 decreased $63 million (19$19.2 billion (45 percent) compared to 2018. Net income was lower primarily2020. Advance balances in the first quarter of 2020 were significantly higher as members sought additional liquidity during the onset of the COVID-19 pandemic. However, most of these Advances matured or were prepaid by the end of 2020, and the demand for Advances has remained low. Advance demand could improve as one or more of the following occur: reductions in government liquidity programs, changes in the Federal Reserve monetary policy, or a rise in interest rates.
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Advance balances are often volatile due to a decline in spreads earnedmembers' ability to quickly, normally on Advances and athe same day, increase or decrease in Advance balances. However, the lower net income was partially offset by increases in the fair valuestheir amount of certain derivatives and other financial instruments carried at fair value.
Advances. We believe that our operations and financial condition will continue to generate competitive profitability over time, reflecting the combinationa key benefit of a stablemembership comes from our business model as a wholesale lender GSE, which provides members flexibility in their Advance funding levels and conservativehelps support their asset-liability management needs. We act as a readily available source of risk.funding for our members. Our business model is structureddesigned to be able to absorb sharpsupport significant changes in Mission Asset Activity because we can execute commensurateasset levels without having to undergo material changes in liabilitystaffing, operations, risk practices, or general resource needs. A key reason for this scalability is that our Capital Plan provides for additional capital when Advances grow and the opportunity for us to retire capital stock balances. Key factors that can cause significant periodic volatility inwhen Advances decline, thereby acting, along with our profitability are changes in theefficient level of interest rates, changes in spreads between benchmark interest rates and our short-term funding costs, recognitionoperating expenses, to preserve competitive profitability.
The MPP principal balance fell $1.9 billion (21 percent) from year-end 2020. During 2021, we purchased $1.7 billion of net amortizationmortgage loans, while principal reductions of $3.6 billion reflected the continuing high levels of mortgage loan refinance activity.
Letters of Credit increased $5.8 billion (20 percent) from year-end 2020 primarily due to accelerated prepaymentsmembers using them to secure elevated levels of mortgage assets, and fair value adjustments related topublic unit deposits. We normally earn fees on Letters of Credit based on the use of derivatives and the associated hedged items.
| Year 2019 | Year 2018 | Year 2017 | |||||||||||||||
| Ending | Average | Ending | Average | Ending | Average | ||||||||||||
| Federal funds effective | 1.55 | % | 2.16 | % | 2.40 | % | 1.83 | % | 1.33 | % | 1.00 | % | |||||
| SOFR | 1.55 | 2.20 | 3.00 | 1.85 | 1.47 | 0.90 | |||||||||||
| 3-month LIBOR | 1.91 | 2.33 | 2.81 | 2.31 | 1.69 | 1.26 | |||||||||||
| 2-year LIBOR | 1.70 | 2.03 | 2.66 | 2.75 | 2.08 | 1.65 | |||||||||||
| 10-year LIBOR | 1.90 | 2.09 | 2.71 | 2.95 | 2.40 | 2.29 | |||||||||||
| 2-year U.S. Treasury | 1.57 | 1.97 | 2.49 | 2.52 | 1.89 | 1.39 | |||||||||||
| 10-year U.S. Treasury | 1.92 | 2.14 | 2.69 | 2.91 | 2.41 | 2.33 | |||||||||||
15-year mortgage current coupon (1) | 2.28 | 2.52 | 3.06 | 3.20 | 2.52 | 2.40 | |||||||||||
30-year mortgage current coupon (1) | 2.71 | 2.95 | 3.51 | 3.65 | 3.00 | 3.03 | |||||||||||
| Year 2019 by Quarter - Average | |||||||||||
| Quarter 1 | Quarter 2 | Quarter 3 | Quarter 4 | ||||||||
| Federal funds effective | 2.40 | % | 2.40 | % | 2.19 | % | 1.65 | % | |||
| SOFR | 2.44 | 2.43 | 2.26 | 1.66 | |||||||
| 3-month LIBOR | 2.69 | 2.51 | 2.20 | 1.93 | |||||||
| 2-year LIBOR | 2.62 | 2.20 | 1.70 | 1.63 | |||||||
| 10-year LIBOR | 2.67 | 2.30 | 1.70 | 1.72 | |||||||
| 2-year U.S. Treasury | 2.49 | 2.13 | 1.69 | 1.59 | |||||||
| 10-year U.S. Treasury | 2.65 | 2.33 | 1.79 | 1.79 | |||||||
15-year mortgage current coupon (1) | 2.97 | 2.63 | 2.22 | 2.27 | |||||||
30-year mortgage current coupon (1) | 3.41 | 3.07 | 2.62 | 2.70 | |||||||
The target overnight Federal funds rate was in the rangebalance of 1.50 to 1.75 percentinvestments at December 31, 2019, a decrease2021 was $29.4 billion, an increase of $2.4 billion from the rangeyear-end 2020. At December 31, 2021, investments included $10.8 billion of 2.25 to 2.50 percentMBS and $18.6 billion of other investments, which consisted primarily of highly-rated short-term instruments and longer-term U.S. Treasury and GSE obligations held for liquidity. All of our MBS held at December 31, 2018. In March 2020,2021 were issued and guaranteed by Fannie Mae, Freddie Mac or a U.S. agency.
Investments averaged $28.1 billion in 2021, a decrease of $4.8 billion (15 percent) compared to the Federal Reserve first decreasedaverage in 2020. The decrease in average investments reflected lower liquidity investments needed in light of the target Federal fundsreduced Advance demand and lower MBS given the elevated levels of prepayments throughout 2021 as a result of the low interest rate environment and inability to a rangequickly replace those investments with suitable alternatives. However, the ending balance of 1.00 to 1.25 percent and then subsequently decreased the target to a range of zero to 0.25 percentMBS increased primarily due to the evolving risks to economic activity from the coronavirus pandemic (COVID-19).
Capital
Capital adequacy surpassed all minimum regulatory capital requirements in 2021. The GAAP and regulatory capital-to-assets ratios at December 31, 2021 were 6.26 percent and 6.28 percent, respectively. Both ratios exceeded the regulatory required minimum of four percent. Regulatory capital includes mandatorily redeemable capital stock accounted for as a liability under GAAP. GAAP and regulatory capital decreased $0.1 billion and $0.2 billion, respectively, from year-end 2020. Retained earnings totaled $1.3 billion at December 31, 2021, a decrease of one percent from year-end 2020. We believe the amount of retained earnings is sufficient to protect against members' impairment risk exposures.of their capital stock investment in the FHLB and to provide the opportunity to stabilize or increase future dividends.
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Recent Developments
COVID-19 Pandemic (COVID-19):
The recentglobal outbreak of COVID-19 which has now spread globally,impacted communities and businesses worldwide, including within the United States, has resultedthose in the declaration of the COVID-19 pandemic.Fifth District. The effects of COVID-19 are rapidly evolving,continue to evolve, and the full impact and duration of the virus are unknown. ManagingThroughout the COVID-19 pandemic, we have continued to fulfill our mission of providing robust access to a key source of readily available and competitively priced wholesale funding to member financial institutions and supporting our commitment to affordable housing and community investment. Our capital and liquidity positions remained strong, as did our overall ability to fund operations through the issuance of Consolidated Obligations at acceptable interest costs. Additionally, overall residual credit risk exposure from our Credit Services, mortgage loan portfolio, investments, and derivative transactions has strained and is expectedremained de minimis. We continue to severely tax healthcare systems and businesses worldwide. Themonitor the effects of COVID-19, including the impact of variants, and the responseare committed to assisting members and their communities as impacts related to the virus have negatively impactedpandemic continue to unfold.
Financial Condition
Mission Assets and Activities
Primary Mission Assets (i.e., principal balances of Advances and mortgage loans held for portfolio) and Supplemental Mission Activities (i.e., Letters of Credit, Mandatory Delivery Contracts and standby bond purchase agreements) are the primary means by which we fulfill our mission with direct connections to members and what we refer to as Mission Assets and Activities. We regularly monitor our concentration of Mission Assets and Activities. One measure we use to assess mission achievement is our Primary Mission Asset ratio, which measures the sum of average Advances and mortgage loans as a percentage of average Consolidated Obligations (adjusted for certain high-quality liquid assets, as permitted by regulation). In 2021, the Primary Mission Asset ratio averaged 69 percent, slightly below the Finance Agency's preferred ratio of 70 percent. In assessing overall mission achievement, we also consider supplemental sources of Mission Assets and Activities, the most significant of which is Letters of Credit issued for the benefit of members.
The following table summarizes our Mission Assets and Activities.
| Year Ended December 31, | |||||||||||||||||||||||||||||||||||
| Ending Balances | Average Balances | ||||||||||||||||||||||||||||||||||
| (In millions) | 2021 | 2020 | 2021 | 2020 | |||||||||||||||||||||||||||||||
Primary Mission Assets (1): | |||||||||||||||||||||||||||||||||||
| Advances | $ | 22,954 | $ | 25,007 | $ | 23,721 | $ | 42,917 | |||||||||||||||||||||||||||
| Mortgage loans held for portfolio | 7,402 | 9,316 | 7,931 | 10,995 | |||||||||||||||||||||||||||||||
| Total Primary Mission Assets | $ | 30,356 | $ | 34,323 | $ | 31,652 | $ | 53,912 | |||||||||||||||||||||||||||
Supplemental Mission Activities (2): | |||||||||||||||||||||||||||||||||||
| Letters of Credit (notional) | $ | 34,637 | $ | 28,812 | $ | 33,922 | $ | 20,141 | |||||||||||||||||||||||||||
| Mandatory Delivery Contracts (notional) | 250 | 137 | 249 | 338 | |||||||||||||||||||||||||||||||
| Standby bond purchase agreements (notional) | 27 | 35 | 31 | 68 | |||||||||||||||||||||||||||||||
| Total Supplemental Mission Activities | $ | 34,914 | $ | 28,984 | $ | 34,202 | $ | 20,547 | |||||||||||||||||||||||||||
(1)Amounts represent principal balances.
(2)Amounts represent off-balance sheet commitments.
Advance principal balances decreased $2.1 billion (eight percent) from year-end 2020. Advance balances remained below pre-pandemic levels in 2021 due to increased liquidity in the financial markets and overall economic conditions. We have employees who are not operationally critical working remotely, and have implemented a split location model for critical staff in our downtown Cincinnati location and our back-up facility.
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Advance balances are often volatile due to members' ability to quickly, normally on the same day, increase or decrease their amount of Advances. We believe that a key benefit of membership comes from our business model as a wholesale lender GSE, which provides members flexibility in their Advance funding levels and helps support their asset-liability management needs. We act as a readily available source of funding for our members. Our business model is designed to support significant changes in asset levels without having to undergo material changes in staffing, operations, risk practices, or general resource needs. A key reason for this scalability is that our Capital Plan provides for additional capital when Advances grow and the opportunity for us to retire capital when Advances decline, thereby acting, along with our efficient level of operating expenses, to preserve competitive profitability.
The MPP principal balance fell $1.9 billion (21 percent) from year-end 2020. During 2021, we purchased $1.7 billion of mortgage loans, while principal reductions of $3.6 billion reflected the continuing high levels of mortgage loan portfoliosrefinance activity.
Letters of Credit increased $5.8 billion (20 percent) from year-end 2020 primarily due to members using them to secure elevated levels of public unit deposits. We normally earn fees on Letters of Credit based on the actual average amount of the Letters utilized, which generally is less than the notional amount issued.
Investments
The balance of investments at December 31, 2021 was $29.4 billion, an increase of $2.4 billion from year-end 2020. At December 31, 2021, investments included $10.8 billion of MBS and $18.6 billion of other investments, which consisted primarily of highly-rated short-term instruments and longer-term U.S. Treasury and GSE obligations held for liquidity. All of our members grow quicker than aggregate deposits,MBS held at December 31, 2021 were issued and guaranteed by Fannie Mae, Freddie Mac or a U.S. agency.
Investments averaged $28.1 billion in 2021, a decrease of $4.8 billion (15 percent) compared to the average in 2020. The decrease in average investments reflected lower liquidity investments needed in light of the reduced Advance demand and lower MBS given the elevated levels of prepayments throughout 2021 as a result of the low interest rate environment and inability to quickly replace those investments with suitable alternatives. However, the ending balance of MBS increased primarily due to the purchase of $3.1 billion of new MBS in the second half of 2021. Liquidity investments can vary significantly on a daily basis during times of volatility in Advance balances. We maintained a robust amount of asset liquidity throughout 2021 across a variety of liquidity measures, as discussed in the "Liquidity Risk" section of "Quantitative and Qualitative Disclosures About Risk Management."
Capital
Capital adequacy surpassed all minimum regulatory capital requirements in 2021. The GAAP and regulatory capital-to-assets ratios at December 31, 2021 were 6.26 percent and 6.28 percent, respectively. Both ratios exceeded the regulatory required minimum of four percent. Regulatory capital includes mandatorily redeemable capital stock accounted for as a liability under GAAP. GAAP and regulatory capital decreased $0.1 billion and $0.2 billion, respectively, from year-end 2020. Retained earnings totaled $1.3 billion at December 31, 2021, a decrease of one percent from year-end 2020. We believe the amount of retained earnings is sufficient to protect against members' impairment risk of their capital stock investment in the FHLB and to provide the opportunity to stabilize or increase future dividends.
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Results of Operations
Overall Results
Our earnings over time reflect the combination of a stable business model and conservative management of risk. Key market driven factors that can cause significant periodic volatility in our profitability are changes in the level of interest rates, begin to increase over time, or changes in spreads between benchmark interest rates and our short-term funding costs, recognition of net amortization due to accelerated prepayments of mortgage assets, and fair value adjustments related to the use of derivatives and the associated hedged items. Our profitability may also be affected by our members' overall Advance demand, which is largely influenced by the monetary policies of the U.S. government and its agencies, including the Federal Reserve, policy reduce other sourcesand general economic conditions. The table below summarizes our results of operations.
| Year Ended December 31, | |||||||||||||||||||||||||||||
| (Dollars in millions) | 2021 | 2020 | 2019 | ||||||||||||||||||||||||||
| Net income | $ | 42 | $ | 276 | $ | 276 | |||||||||||||||||||||||
| Affordable Housing Program assessments | 5 | 31 | 31 | ||||||||||||||||||||||||||
| Return on average equity (ROE) | 1.08 | % | 5.78 | % | 5.65 | % | |||||||||||||||||||||||
| Return on average assets | 0.07 | 0.31 | 0.28 | ||||||||||||||||||||||||||
| Weighted average dividend rate | 2.00 | 2.23 | 5.05 | ||||||||||||||||||||||||||
Average short-term interest rates (1) | 0.12 | 0.51 | 2.24 | ||||||||||||||||||||||||||
| ROE spread to average short-term interest rates | 0.96 | 5.27 | 3.41 | ||||||||||||||||||||||||||
| Dividend rate spread to average short-term interest rates | 1.88 | 1.72 | 2.81 | ||||||||||||||||||||||||||
(1)Average short-term interest rates consist of 3-month LIBOR and the Federal funds effective rate.
Net income decreased $234 million in 2021. The decline in profitability in 2021 compared to 2020 was primarily due to low interest rates and an unprecedented amount of liquidity in the financial markets due to governmental stimulus actions, which impacted the following:
▪Advances. Average Advance balances declined 45 percent. Although Advances grew significantly during the onset of the COVID-19 pandemic as members sought additional liquidity, balances subsequently fell in 2020 and have remained below pre-pandemic levels due to increased liquidity in the financial markets and increased deposit levels at member institutions. Additionally, Advance prepayment fees declined since members prepaid fewer Advances in 2021 than in the prior year.
▪Mortgage Assets.The spreads earned on mortgage assets declined due to the accelerated payoff of higher-yielding mortgages at a faster pace than the associated debt funding them. The historically low long-term interest rates led to prepayments occurring faster than the purchases of new mortgage assets, which also resulted in the average balances of mortgage assets declining 25 percent.
Additionally, the FHLB sold interest rate swaptions in the first quarter of 2020 in response to changes in interest rates, which resulted in net realized gains of approximately $69 million before assessments. The FHLB did not sell any interest rate swaptions in 2021. The FHLB uses swaptions to hedge market risk exposure associated with holding fixed-rate mortgage assets and may sell them to offset the risk incurred due to changes in interest rates.
In 2021, we accrued $5 million for the Affordable Housing Program (AHP) pool of funds, a decrease of $26 million compared to 2020 given the lower level of earnings noted above. The funds accrued in 2021 will be available to members.members in 2022. In addition to the required AHP assessment, we provided voluntary sponsorship of two other housing programs. These programs provided funds to cover accessibility and emergency repairs for special needs and elderly homeowners and funds for the replacement or repair of homes damaged or destroyed by natural disasters within the Fifth District.
In December 2021, we paid stockholders a quarterly dividend at a 2.00 percent annualized rate on their capital investment in our company, which is 1.88 percentage points above fourth quarter average short-term interest rates.
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Effect of Interest Rate Environment
Trends in market interest rates and the resulting shapes of the market yield curves strongly influence our results of operations and profitability because of how they affect members' demand for Mission Assets and Activities, spreads on assets, funding costs and decisions in managing the tradeoffs in our market risk/return profile. The following table presents key market interest rates (obtained from Bloomberg L.P.).
| Year 2021 | Year 2020 | Year 2019 | |||||||||||||||||||||||||||||||||||||||||||||||||||||||||
| Ending | Average | Ending | Average | Ending | Average | ||||||||||||||||||||||||||||||||||||||||||||||||||||||
| Federal funds effective | 0.07 | % | 0.08 | % | 0.09 | % | 0.37 | % | 1.55 | % | 2.16 | % | |||||||||||||||||||||||||||||||||||||||||||||||
| Secured Overnight Financing Rate (SOFR) | 0.05 | 0.04 | 0.09 | 0.37 | 1.55 | 2.20 | |||||||||||||||||||||||||||||||||||||||||||||||||||||
| 3-month LIBOR | 0.21 | 0.16 | 0.24 | 0.65 | 1.91 | 2.33 | |||||||||||||||||||||||||||||||||||||||||||||||||||||
| 2-year LIBOR | 0.94 | 0.38 | 0.20 | 0.49 | 1.70 | 2.03 | |||||||||||||||||||||||||||||||||||||||||||||||||||||
| 10-year LIBOR | 1.58 | 1.45 | 0.93 | 0.88 | 1.90 | 2.09 | |||||||||||||||||||||||||||||||||||||||||||||||||||||
| 2-year U.S. Treasury | 0.73 | 0.26 | 0.12 | 0.39 | 1.57 | 1.97 | |||||||||||||||||||||||||||||||||||||||||||||||||||||
| 10-year U.S. Treasury | 1.51 | 1.43 | 0.92 | 0.89 | 1.92 | 2.14 | |||||||||||||||||||||||||||||||||||||||||||||||||||||
15-year mortgage current coupon (1) | 1.41 | 1.21 | 0.71 | 1.21 | 2.28 | 2.52 | |||||||||||||||||||||||||||||||||||||||||||||||||||||
30-year mortgage current coupon (1) | 2.07 | 1.84 | 1.34 | 1.69 | 2.71 | 2.95 | |||||||||||||||||||||||||||||||||||||||||||||||||||||
| Year 2021 by Quarter - Average | |||||||||||||||||||||||
| Quarter 1 | Quarter 2 | Quarter 3 | Quarter 4 | ||||||||||||||||||||
| Federal funds effective | 0.08 | % | 0.07 | % | 0.09 | % | 0.08 | % | |||||||||||||||
| SOFR | 0.04 | 0.02 | 0.05 | 0.05 | |||||||||||||||||||
| 3-month LIBOR | 0.20 | 0.16 | 0.13 | 0.16 | |||||||||||||||||||
| 2-year LIBOR | 0.22 | 0.27 | 0.31 | 0.72 | |||||||||||||||||||
| 10-year LIBOR | 1.35 | 1.57 | 1.33 | 1.57 | |||||||||||||||||||
| 2-year U.S. Treasury | 0.13 | 0.17 | 0.22 | 0.52 | |||||||||||||||||||
| 10-year U.S. Treasury | 1.31 | 1.58 | 1.32 | 1.52 | |||||||||||||||||||
15-year mortgage current coupon (1) | 1.05 | 1.26 | 1.14 | 1.38 | |||||||||||||||||||
30-year mortgage current coupon (1) | 1.68 | 1.87 | 1.79 | 2.03 | |||||||||||||||||||
(1) Current coupon rate of Fannie Mae par MBS indications.
The target overnight Federal funds rate was in the housingrange of zero to 0.25 percent at December 31, 2021, unchanged from year-end 2020. The low interest rate environment reflects the Federal Reserve's response to the COVID-19 pandemic to keep interest rates low to facilitate liquidity. In March 2022, the Federal Reserve began to respond to inflationary concerns by increasing the target overnight Federal funds rate to a range of 0.25 to 0.50 percent while indicating further expected rate hikes in 2022.
Average short-term rates were approximately 30 to 50 basis points lower in 2021 compared to 2020 and average mortgage markets,rates remained low, with the competitiveness15-year rate remaining the same while the 30-year rate increased only 15 basis points during the year. The overall low interest rate environment negatively impacted income in 2021 primarily because of prices we offera decrease in earnings generated from investing capital and lower spreads earned on mortgage assets due to purchase loans as well as program features, and activity from our largest sellers.
During 2019,2021, as in 2018,2020, the market risk exposure to changing interest rates was moderate overall and well within policy limits. We believe that longer-term profitability would not become uncompetitive unless interest rates were to change quickly and significantly. In the short-term, profitability could become uncompetitive if long-term interest rates decrease more thanin excess of 100 basis points leading to faster prepayments of mortgage assets, which would further accelerate the recognition of purchased premiums.
Regulatory and Legislative Risk and Significant Developments
General
The FHLBank System is subject to legislative and regulatory oversight. Legislative and regulatory actions applicable, directly or indirectly, to the FHLBank System in the last decade have increased uncertainty regarding the business model and membership base under which the FHLBanks may operate in the future. This is due primarily to the uncertainty around potential future GSE reform, and the evolution of mortgage financing moving towards financial institutions currently not
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eligible for FHLBank membership. See Item 1A. Risk Factors for more discussion. We cannot predict the ultimate outcome of GSE reform and whether our membership base will be legislatively and regulatorily permitted to evolve in concert with the housing finance market.
▪fewer opportunities for FHLBank membership; and/or
▪ineligibility for continued membership by certain entities, most notably Community Development Financial Institutions, certain types of insurance companies and large institutions that have acquired small members.
Accordingly, the restrictions could result in reduced opportunities for us to grow our membership and, in turn, fewer opportunities to provide our financial services. We continue to evaluate the Supervisory Letter and its effect on our membership.
Regulatory Interpretation on Eligibility of Mortgage Participations as Collateral for FHLBank Advances
On October 4, 2021, the Finance Agency published a Regulatory Interpretation on Eligibility of Mortgage Loan Participations as Collateral for FHLBank Advances, which became effective on December 13, 2021. The Regulatory Interpretation addresses whether an FHLBank can accept as collateral mortgage loan participations that cannot be readily liquidated in the form they are pledged. The Regulatory Interpretation concludes that mortgage loan participations must meet the requirements of Finance Agency regulation 12 CFR 1266.7(a)(4), including the requirement that the collateral can be “liquidated in due course” in order to be eligible to secure Advances. It further concludes that participations for which there would be a known impediment to liquidation do not meet such requirement and therefore are not eligible collateral for Advances. Finally, the Regulatory Interpretation rescinds prior guidance from FHLBank System regulators that provide mortgage loan participations may be eligible as collateral under regulatory provisions other than 12 CFR 1266.7(a)(4). Although we do not currently expect the Regulatory Interpretation to have a material impact on our financial condition or results of operations, this restriction on collateral may negatively impact future borrowing by certain members.
Fair Housing and Fair Lending Enforcement
On July 9, 2021, the Finance Agency published a Policy Statement on Fair Lending to communicate its general position on monitoring and information gathering, supervisory examinations, and administrative enforcement related to the Equal Credit Opportunity Act, the Fair Housing Act, and the Federal Housing Enterprises Financial Safety and Soundness Act. The Policy Statement became effective on the date of publication.
On August 12, 2021, the Finance Agency and the U.S. Department of Housing and Urban Development announced they had entered into a Memorandum of Understanding regarding fair housing and fair lending enforcement. Under the Memorandum of Understanding, the two agencies will focus on enhancing their enforcement of the Fair Housing Act, and their oversight of Fannie Mae, Freddie Mac, and the FHLBanks.
We continue to monitor these actions and guidance as they evolve and to evaluate their potential impact on us.
Affordable Housing and Community Investment
Legislation has been introduced in the U.S. Senate and House of Representatives that, if enacted in its proposed form, would require the FHLBanks to set aside higher percentages of their annual earnings for their affordable housing and community investment programs than are currently required by law. The FHLBanks continue to actively monitor any such potential legislation and developments.
LIBOR Transition
We are planning for the replacement of LIBOR given the announcement that the LIBOR index is expected to be phased out by no later than the end of 2021 and the Federal Reserve Bank of New York's establishment of SOFR as itsthe recommended alternative to LIBOR. Under the July 2017 and March 2021 announcements by the United Kingdom's Financial Conduct Authority (FCA), the one-week and two-month U.S. dollar LIBOR. In 2019, we continuedLIBOR settings ceased to participate in the FHLBank System's issuances of SOFR-linked Consolidated Bonds. At December 31, 2019, $10.9 billion (99 percent) of our adjustable-rate Consolidated Bonds were indexed to SOFR. We also continued to offer SOFR-linked Advances and began swapping certain instruments to adjustable-rates tied to SOFR and the overnight Federal funds effective rate in 2019. However, the majority of our variable-rate assets still remain indexed to LIBOR. Therefore, we are continuing to plan for the eventual replacement of our LIBOR-indexed instruments away from the LIBOR benchmark interest rate. Part of our LIBOR transition plan includes having implemented fallback language for our LIBOR-indexed Advances and Consolidated Bonds in new and legacy contracts. As for our derivatives and investments that are tied to LIBOR, we are monitoring market-wide efforts to enhance fallback language for new activity and develop frameworks to address existing transactions. We are also evaluating the transition reliefbe provided by any administrator and were no longer representative as of January 1, 2022. The remaining U.S. dollar LIBOR settings will either cease to be provided by any administrator or no longer be representative immediately after June 30, 2023.Although the Financial Accounting Standards Board (FASB) concerning the accounting for contract modifications during the replacement of LIBOR.FCA does not expect these remaining LIBOR settings
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Accordingly, we have developed and implemented a LIBOR transition plan to remediate our LIBOR-linked financial instruments and contracts. As the market activity in SOFR-linked financial instruments has continued to develop, we have offered SOFR-linked Consolidated Obligations and SOFR-linked Advances on an ongoing basis. In addition, we have been using SOFR-based derivatives to manage interest-rate risk, began purchasing SOFR-linked MBS in the second quarter of 2021, and began converting certain LIBOR-based derivatives to SOFR in 2021. These phase-out dates do not applyDuring 2022, we expect to collateral accepted bycontinue to convert certain LIBOR-based derivatives prior to the FHLBanks. The Supervisory Letter also directed the FHLBankscessation of LIBOR to update their pledged collateral certification reporting requirements by March 31, 2020 in an effort to encourage members to identify LIBOR-linked collateral maturing after December 31, 2021. The Finance Agency may permit certain exceptions to its Supervisory Letter because there may be LIBOR-linked products serving compelling mission, risk mitigating, and/or hedging purposesalternative reference rate, such as SOFR. Collectively, we believe these efforts have reduced our LIBOR exposure and have kept us on track for the FHLBanks that do not currently have readily available alternatives.full replacement of LIBOR.
| (In millions) | Maturing on or before June 30, 2023 | Maturing after June 30, 2023 | |||||||||
| LIBOR-Indexed Variable Rate Financial Instruments | |||||||||||
| Advances by redemption term | $ | 286 | $ | 3,009 | |||||||
MBS by contractual maturity (1) | — | 4,555 | |||||||||
| Total principal amount | $ | 286 | $ | 7,564 | |||||||
| Derivatives, notional amount by termination date | $ | 3,375 | $ | 3,454 | |||||||
| (In millions) | Maturing in 2020-2021 | Maturing after 2021 | |||||
| LIBOR-Indexed Variable Rate Financial Instruments | |||||||
| Advances by redemption term | $ | 6,906 | $ | 3,524 | |||
MBS by contractual maturity (1) | 266 | 7,759 | |||||
| Consolidated Bonds by contractual maturity | 65 | — | |||||
| Total principal amount | $ | 7,237 | $ | 11,283 | |||
| Derivatives, notional amount by termination date | $ | 12,198 | $ | 7,467 | |||
The market transition away from LIBOR towards SOFR is expected to be gradual and complicated, including the possible development of term structures and credit adjustments to accommodate differences between LIBOR and SOFR.SOFR and the potential introduction of other alternative reference rates. As such, we are not currently able to predict the ultimate impact of such a transition on our business, financial condition, and results of operations.
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ANALYSIS OF FINANCIAL CONDITION
Credit Services
Credit Activity and Advance Composition
The tablestable below showshows trends in Advance balances by major programs and in the notional amount of Letters of Credit.
| (Dollars in millions) | December 31, 2019 | December 31, 2018 | (Dollars in millions) | December 31, 2021 | December 31, 2020 | |||||||||||||||||||||||||||||||
| Balance | Percent(1) | Balance | Percent(1) | Balance | Percent(1) | Balance | Percent(1) | |||||||||||||||||||||||||||||
| Adjustable/Variable Rate-Indexed: | Adjustable/Variable Rate-Indexed: | |||||||||||||||||||||||||||||||||||
| LIBOR | $ | 10,430 | 22 | % | $ | 28,740 | 52 | % | LIBOR | $ | 3,295 | 14 | % | $ | 5,611 | 22 | % | |||||||||||||||||||
| SOFR | 500 | 1 | 1,400 | 3 | SOFR | 123 | 1 | 118 | 1 | |||||||||||||||||||||||||||
| Other | 221 | 1 | 744 | 1 | Other | 163 | 1 | 82 | — | |||||||||||||||||||||||||||
| Total | 11,151 | 24 | 30,884 | 56 | Total | 3,581 | 16 | 5,811 | 23 | |||||||||||||||||||||||||||
| Fixed-Rate: | Fixed-Rate: | |||||||||||||||||||||||||||||||||||
| Repurchase based (REPO) | 19,386 | 41 | 7,003 | 13 | Repurchase based (REPO) | 3,980 | 17 | 3,780 | 15 | |||||||||||||||||||||||||||
| Regular Fixed-Rate | 11,476 | 24 | 10,972 | 20 | Regular Fixed-Rate | 9,773 | 42 | 9,587 | 38 | |||||||||||||||||||||||||||
Putable (2) | 1,444 | 3 | 460 | 1 | Putable (2) | 2,467 | 11 | 2,657 | 11 | |||||||||||||||||||||||||||
| Amortizing/Mortgage Matched | 2,358 | 5 | 2,702 | 5 | Amortizing/Mortgage Matched | 1,533 | 7 | 2,021 | 8 | |||||||||||||||||||||||||||
| Other | 1,449 | 3 | 2,851 | 5 | Other | 1,620 | 7 | 1,151 | 5 | |||||||||||||||||||||||||||
| Total | 36,113 | 76 | 23,988 | 44 | Total | 19,373 | 84 | 19,196 | 77 | |||||||||||||||||||||||||||
| Total Advances Principal | $ | 47,264 | 100 | % | $ | 54,872 | 100 | % | Total Advances Principal | $ | 22,954 | 100 | % | $ | 25,007 | 100 | % | |||||||||||||||||||
| Letters of Credit (notional) | $ | 16,205 | $ | 14,847 | ||||||||||||||||||||||||||||||||
Letters of Credit (notional) (3) | Letters of Credit (notional) (3) | $ | 34,637 | $ | 28,812 | |||||||||||||||||||||||||||||||
| (Dollars in millions) | December 31, 2021 | September 30, 2021 | June 30, 2021 | March 31, 2021 | |||||||||||||||||||||||||||||||||||||||||||
| Balance | Percent(1) | Balance | Percent(1) | Balance | Percent(1) | Balance | Percent(1) | ||||||||||||||||||||||||||||||||||||||||
| Adjustable/Variable-Rate Indexed: | |||||||||||||||||||||||||||||||||||||||||||||||
| LIBOR | $ | 3,295 | 14 | % | $ | 4,795 | 21 | % | $ | 5,338 | 23 | % | $ | 5,433 | 22 | % | |||||||||||||||||||||||||||||||
| SOFR | 123 | 1 | 118 | 1 | 118 | — | 118 | 1 | |||||||||||||||||||||||||||||||||||||||
| Other | 163 | 1 | 166 | 1 | 149 | 1 | 16 | — | |||||||||||||||||||||||||||||||||||||||
| Total | 3,581 | 16 | 5,079 | 23 | 5,605 | 24 | 5,567 | 23 | |||||||||||||||||||||||||||||||||||||||
| Fixed-Rate: | |||||||||||||||||||||||||||||||||||||||||||||||
| Repurchase based (REPO) | 3,980 | 17 | 3,739 | 16 | 3,942 | 17 | 3,787 | 16 | |||||||||||||||||||||||||||||||||||||||
| Regular Fixed-Rate | 9,773 | 42 | 8,063 | 36 | 8,131 | 35 | 9,047 | 37 | |||||||||||||||||||||||||||||||||||||||
Putable (2) | 2,467 | 11 | 2,567 | 11 | 2,607 | 11 | 2,657 | 11 | |||||||||||||||||||||||||||||||||||||||
| Amortizing/Mortgage Matched | 1,533 | 7 | 1,628 | 7 | 1,722 | 7 | 1,872 | 8 | |||||||||||||||||||||||||||||||||||||||
| Other | 1,620 | 7 | 1,541 | 7 | 1,371 | 6 | 1,227 | 5 | |||||||||||||||||||||||||||||||||||||||
| Total | 19,373 | 84 | 17,538 | 77 | 17,773 | 76 | 18,590 | 77 | |||||||||||||||||||||||||||||||||||||||
| Total Advances Principal | $ | 22,954 | 100 | % | $ | 22,617 | 100 | % | $ | 23,378 | 100 | % | $ | 24,157 | 100 | % | |||||||||||||||||||||||||||||||
Letters of Credit (notional) (3) | $ | 34,637 | $ | 33,454 | $ | 35,166 | $ | 33,650 | |||||||||||||||||||||||||||||||||||||||
| (Dollars in millions) | December 31, 2019 | September 30, 2019 | June 30, 2019 | March 31, 2019 | |||||||||||||||||||||||
| Balance | Percent(1) | Balance | Percent(1) | Balance | Percent(1) | Balance | Percent(1) | ||||||||||||||||||||
| Adjustable/Variable-Rate Indexed: | |||||||||||||||||||||||||||
| LIBOR | $ | 10,430 | 22 | % | $ | 13,604 | 29 | % | $ | 16,127 | 37 | % | $ | 20,462 | 38 | % | |||||||||||
| SOFR | 500 | 1 | 1,050 | 2 | 1,050 | 3 | 1,400 | 2 | |||||||||||||||||||
| Other | 221 | 1 | 379 | 1 | 416 | 1 | 394 | 1 | |||||||||||||||||||
| Total | 11,151 | 24 | 15,033 | 32 | 17,593 | 41 | 22,256 | 41 | |||||||||||||||||||
| Fixed-Rate: | |||||||||||||||||||||||||||
| REPO | 19,386 | 41 | 13,399 | 29 | 7,520 | 17 | 15,187 | 28 | |||||||||||||||||||
| Regular Fixed-Rate | 11,476 | 24 | 12,364 | 27 | 11,486 | 27 | 10,991 | 20 | |||||||||||||||||||
Putable (2) | 1,444 | 3 | 1,414 | 3 | 1,020 | 3 | 885 | 1 | |||||||||||||||||||
| Amortizing/Mortgage Matched | 2,358 | 5 | 2,583 | 6 | 2,646 | 6 | 2,753 | 5 | |||||||||||||||||||
| Other | 1,449 | 3 | 1,393 | 3 | 2,490 | 6 | 2,806 | 5 | |||||||||||||||||||
| Total | 36,113 | 76 | 31,153 | 68 | 25,162 | 59 | 32,622 | 59 | |||||||||||||||||||
| Total Advances Principal | $ | 47,264 | 100 | % | $ | 46,186 | 100 | % | $ | 42,755 | 100 | % | $ | 54,878 | 100 | % | |||||||||||
| Letters of Credit (notional) | $ | 16,205 | $ | 16,090 | $ | 15,697 | $ | 13,812 | |||||||||||||||||||
(2)Excludes Putable Advances where the related put options have expired or where the Advance is indexed to a variable-rate. These Advances are classified based on their current terms.
(3)Represents the amount of an off-balance sheet obligation.
Advance principal balances at December 31, 20192021 decreased 14eight percent compared to year-end 2018. Although2020. Advance balances have remained low since the last half of 2020 as members experienced a numbersignificant inflow of deposits on their balance sheets, while also having access to other liquidity sources as a result of certain government actions related to the COVID-19 pandemic.
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Letters of Credit are issued on behalf of members to support certain obligations of members (or member's customer) to third-party beneficiaries. Letters of Credit increased their borrowings in 2019, a reduction in borrowings from one20 percent compared to year-end 2020 primarily due to members using them to secure elevated levels of our largest borrowers led to the net decrease inpublic unit deposits. Letters of Credit usually expire without being drawn upon.
Advance Usage
In addition to analyzing Advance balances by dollar trends, we monitor the degree to which members use Advances to fund their balance sheets. The following table shows the unweighted, average ratio of each member's Advance balance to its most-recently available figures for total assets.
| December 31, 2021 | December 31, 2020 | |||||||||||||||||||||||||||||||
| Average Advances-to-assets for members | ||||||||||||||||||||||||||||||||
| Assets less than $1.0 billion (492 members) | 1.46 | % | 1.99 | % | ||||||||||||||||||||||||||||
| Assets over $1.0 billion (126 members) | 1.50 | 2.11 | ||||||||||||||||||||||||||||||
| All members | 1.47 | 2.01 | ||||||||||||||||||||||||||||||
| December 31, 2019 | September 30, 2019 | June 30, 2019 | March 31, 2019 | December 31, 2018 | ||||||||||
| Average Advances-to-assets for members | ||||||||||||||
| Assets less than $1.0 billion (542 members) | 2.55 | % | 2.71 | % | 2.67 | % | 2.82 | % | 3.05 | % | ||||
| Assets over $1.0 billion (98 members) | 3.31 | 3.87 | 3.65 | 3.67 | 4.26 | |||||||||
| All members | 2.67 | 2.88 | 2.81 | 2.94 | 3.22 | |||||||||
The following table shows Advance usage of members by charter type.
| (Dollars in millions) | December 31, 2019 | December 31, 2018 | (Dollars in millions) | December 31, 2021 | December 31, 2020 | |||||||||||||||||||||||||||||||
| Principal Amount of Advances | Percent of Total Principal Amount of Advances | Principal Amount of Advances | Percent of Total Principal Amount of Advances | Principal Amount of Advances | Percent of Total Principal Amount of Advances | Principal Amount of Advances | Percent of Total Principal Amount of Advances | |||||||||||||||||||||||||||||
| Commercial Banks | $ | 31,590 | 67 | % | $ | 39,195 | 71 | % | Commercial Banks | $ | 7,258 | 32 | % | $ | 9,530 | 38 | % | |||||||||||||||||||
| Savings Institutions | 5,689 | 12 | 5,424 | 10 | Savings Institutions | 4,262 | 18 | 4,922 | 20 | |||||||||||||||||||||||||||
| Credit Unions | 1,307 | 3 | 1,564 | 3 | Credit Unions | 1,323 | 6 | 1,344 | 5 | |||||||||||||||||||||||||||
| Insurance Companies | 8,629 | 18 | 8,676 | 16 | Insurance Companies | 10,073 | 44 | 9,201 | 37 | |||||||||||||||||||||||||||
| Community Development Financial Institutions | 1 | — | 1 | — | ||||||||||||||||||||||||||||||||
| Total member Advances | 47,216 | 100 | 54,860 | 100 | Total member Advances | 22,916 | 100 | 24,997 | 100 | |||||||||||||||||||||||||||
| Former member borrowings | 48 | — | 12 | — | Former member borrowings | 38 | — | 10 | — | |||||||||||||||||||||||||||
| Total principal amount of Advances | $ | 47,264 | 100 | % | $ | 54,872 | 100 | % | Total principal amount of Advances | $ | 22,954 | 100 | % | $ | 25,007 | 100 | % | |||||||||||||||||||
The following tables present principal balances for the five members with the largest Advance borrowings.
| (Dollars in millions) | (Dollars in millions) | |||||||||||||||||||||||||||||||||||||||||||||||
| December 31, 2019 | December 31, 2018 | |||||||||||||||||||||||||||||||||||||||||||||||
| December 31, 2021 | December 31, 2021 | December 31, 2020 | ||||||||||||||||||||||||||||||||||||||||||||||
| Name | Principal Amount of Advances | Percent of Total Principal Amount of Advances | Name | Principal Amount of Advances | Percent of Total Principal Amount of Advances | Name | Principal Amount of Advances | Percent of Total Principal Amount of Advances | Name | Principal Amount of Advances | Percent of Total Principal Amount of Advances | |||||||||||||||||||||||||||||||||||||
| U.S. Bank, N.A. | $ | 13,874 | 29 | % | JPMorgan Chase Bank, N.A. | $ | 23,400 | 43 | % | U.S. Bank, N.A. | $ | 3,272 | 14 | % | U.S. Bank, N.A. | $ | 4,273 | 17 | % | |||||||||||||||||||||||||||||
| JPMorgan Chase Bank, N.A. | 4,500 | 10 | U.S. Bank, N.A. | 4,574 | 8 | |||||||||||||||||||||||||||||||||||||||||||
| Third Federal Savings and Loan Association | 3,883 | 8 | Third Federal Savings and Loan Association | 3,727 | 7 | Third Federal Savings and Loan Association | 3,179 | 14 | Third Federal Savings and Loan Association | 3,443 | 14 | |||||||||||||||||||||||||||||||||||||
| First Horizon Bank | 2,200 | 5 | Nationwide Life Insurance Company | 2,510 | 5 | |||||||||||||||||||||||||||||||||||||||||||
| Pinnacle Bank | 2,063 | 4 | Pinnacle Bank | 1,444 | 3 | |||||||||||||||||||||||||||||||||||||||||||
| Protective Life Insurance Company | Protective Life Insurance Company | 2,800 | 12 | Nationwide Life Insurance Company | 2,062 | 8 | ||||||||||||||||||||||||||||||||||||||||||
| Nationwide Life Insurance Company | Nationwide Life Insurance Company | 2,702 | 12 | Protective Life Insurance Company | 1,955 | 8 | ||||||||||||||||||||||||||||||||||||||||||
| Western-Southern Life Assurance Co. | Western-Southern Life Assurance Co. | 1,487 | 6 | Western-Southern Life Assurance Co. | 1,344 | 5 | ||||||||||||||||||||||||||||||||||||||||||
| Total of Top 5 | $ | 26,520 | 56 | % | Total of Top 5 | $ | 35,655 | 66 | % | Total of Top 5 | $ | 13,440 | 58 | % | Total of Top 5 | $ | 13,077 | 52 | % | |||||||||||||||||||||||||||||
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Mortgage Loans Held for Portfolio (Mortgage Purchase Program, or MPP)
MPP balances are influenced by conditions in the housing and mortgage markets, the competitiveness of prices we offer to purchase loans as well as program features, and activity from our largest sellers. Our ongoing strategy for the MPP has two components: 1) increase the number of regular sellers and participants in the program; and 2) manage purchases and balances at a prudent level relative to capital and total assets to effectively manage market and credit risks consistent with our risk appetite.
The table below shows principal purchases and reductions of loans in the MPP for each of the last two years.
| (In millions) | 2019 | 2018 | |||||
| Balance, beginning of year | $ | 10,272 | $ | 9,454 | |||
| Principal purchases | 2,631 | 1,936 | |||||
| Principal reductions | (1,922 | ) | (1,118 | ) | |||
| Balance, end of year | $ | 10,981 | $ | 10,272 | |||
| (In millions) | 2021 | 2020 | |||||||||||||||
| Balance, beginning of year | $ | 9,316 | $ | 10,981 | |||||||||||||
| Principal purchases | 1,671 | 2,626 | |||||||||||||||
| Principal reductions | (3,585) | (4,291) | |||||||||||||||
| Balance, end of year | $ | 7,402 | $ | 9,316 | |||||||||||||
The following tables show the percentage of principal balances from Participating Financial Institutions (PFIs) supplying five percent or more of total principal and the percentage of principal balances from all other PFIs. As shown below, MPP activity is concentrated amongst a few members.
| (Dollars in millions) | December 31, 2021 | December 31, 2020 | ||||||||||||||||||||||||
| Principal | % of Total | Principal | % of Total | |||||||||||||||||||||||
| Union Savings Bank | $ | 1,841 | 25 | % | Union Savings Bank | $ | 2,826 | 30 | % | |||||||||||||||||
| FirstBank | 565 | 8 | Guardian Savings Bank FSB | 796 | 9 | |||||||||||||||||||||
| Guardian Savings Bank FSB | 524 | 7 | All others | 5,694 | 61 | |||||||||||||||||||||
| All others | 4,472 | 60 | Total | $ | 9,316 | 100 | % | |||||||||||||||||||
| Total | $ | 7,402 | 100 | % | ||||||||||||||||||||||
| (Dollars in millions) | December 31, 2019 | December 31, 2018 | ||||||||||||
| Principal | % of Total | Principal | % of Total | |||||||||||
| Union Savings Bank | $ | 3,574 | 33 | % | Union Savings Bank | $ | 3,449 | 34 | % | |||||
| Guardian Savings Bank FSB | 1,004 | 9 | Guardian Savings Bank FSB | 987 | 10 | |||||||||
| Firstbank | 714 | 7 | All others | 5,836 | 56 | |||||||||
| All others | 5,689 | 51 | Total | $ | 10,272 | 100 | % | |||||||
| Total | $ | 10,981 | 100 | % | ||||||||||
We closely track the refinancing incentives of our mortgage assets (including loans in the MPP and MBS) because the option for homeowners to change their principal payments normally represents the largest portion of our market risk exposure and can affect MPP balances. MPP principal paydowns increased in 2019 equated2021 to a 1434 percent annual constant prepayment rate, up fromcompared to the eight30 percent rate for all of 2018. The reductions2020, driven by the historically low mortgage rates. Our purchases of new loans were much lower than the elevated level of repayments during 2021 due to balance sheet concentration considerations given our lower total assets and capital balances. Purchases of new MPP loans in mortgage rates that occurred in the first nine months of 2019 accelerated prepayment speeds in the second half of 2019. In the fourth quarter of 2019, mortgage rates were steady, remaining at historical low levels. As such, we expect the recent trend of faster prepayments2021 continued to continue in 2020 unless mortgage rates rise.offer favorable returns.
Housing and Community Investment
In 2019,2021, we accrued $31$5 million of earnings for the Affordable Housing Program, which will be awarded to members in 2020 through either our competitive or2022. The Affordable Housing Program consists of a Competitive Program and a homeownership program called Welcome Home, programs. This amount represents a decrease of $7 million from 2018 due to the lower earnings in 2019.which assists homebuyers with down payments and closing costs.
Including funds available in 20192021 from previous years, we had $32$25 million available for the competitive Affordable HousingCompetitive Program in 2019,2021, which we awarded to 5351 projects through a single competitive offering. In addition, we disbursed nearly $13over $10 million to 189170 members on behalf of 2,5192,054 homebuyers through the Welcome Home Program, which assists homebuyers with down payments and closing costs. In total, more than one-third of members applied for funding under the two Affordable Housing Programs.
Additionally, in 2019,2021, our Board committed $2.1$1.0 million to the Carol M. Peterson Housing Fund, which helped 303145 homeowners, and continued its commitment to the $5 million Disaster Reconstruction Program. Both are voluntary programs beyond the 10 percent of earnings that we are required by law to set aside for the Affordable Housing Program.
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Our activities to support affordable housing and economic development also include offering Advances through the Affordable Housing Program, Community Investment Program, and Economic Development Program and Zero Interest Rate Fund with below-market interest rates at or near funding costs. At the end of 2019,2021, Advance balances under these programs totaled $360$198 million.
In 2021, approximately 34 percent of members applied for funding under our Housing and Community Investment programs.
Investments
The table below presents the ending and average balances of our investment portfolio.
| (In millions) | 2021 | 2020 | |||||||||||||||||||||
| Ending Balance | Average Balance | Ending Balance | Average Balance | ||||||||||||||||||||
| Liquidity investments | $ | 18,589 | $ | 18,576 | $ | 17,285 | $ | 20,548 | |||||||||||||||
| MBS | 10,803 | 9,186 | 9,756 | 11,864 | |||||||||||||||||||
Other investments (1) | — | 340 | — | 459 | |||||||||||||||||||
| Total investments | $ | 29,392 | $ | 28,102 | $ | 27,041 | $ | 32,871 | |||||||||||||||
| (In millions) | 2019 | 2018 | |||||||||||||
| Ending Balance | Average Balance | Ending Balance | Average Balance | ||||||||||||
| Liquidity investments | $ | 20,924 | $ | 22,525 | $ | 17,858 | $ | 13,989 | |||||||
| MBS | 13,465 | 15,029 | 15,756 | 15,741 | |||||||||||
Other investments (1) | — | 232 | — | 64 | |||||||||||
| Total investments | $ | 34,389 | $ | 37,786 | $ | 33,614 | $ | 29,794 | |||||||
Liquidity investments are either short-term (primarily overnight), or longer-term butinvestments that can be easily sold and converted to cash. Under the regulatory requirements, liquidity includes certain high-quality liquid assets, which are defined as U.S. Treasury obligations with remaining maturities of 10 years or less held as trading securities or available-for-sale securities. It is normal for liquidity investments to vary by up to several billion dollars on a daily basis. Liquidity investment levels can vary significantly based on changes in the amount of actual Advances, anticipated demand for Advances, liquidity needs, the availability of acceptable net spreads, and the number of eligible counterparties that meet our unsecured credit risk criteria. The increase inaverage balance of liquidity investments for 2021 fell $2.0 billion (10 percent) from the average balance for all of 2020 due to lower liquidity investments being needed in 2019 was driven by volatility in short-term and variable-ratelight of the reduced Advance borrowings and the purchases of U.S. Treasury obligations to help meet new regulatory liquidity requirements that went into effect on March 31, 2019. Under the new regulatory requirements, liquidity includes certain high-quality liquid assets, which are defined as U.S. Treasury obligations with remaining maturities of 10 years or less held as trading securities or available-for-sale securities.
Our overarching strategy for balances of MBS is to keep holdings as close as possible to the regulatory maximum, subject to the availability of securities that we believe provide acceptable risk/return tradeoffs.maximum. Finance Agency regulations prohibit us from purchasing MBS if our investment in these securities exceeds three times regulatory capital on the day we intend to purchase the securities. The ratio of MBS to regulatory capital was 3.002.84 at December 31, 20192021. The MBS ratio was lower than our preference to hold it close to the 3.00 regulatory maximum primarily due to the paydowns of MBS given the low interest rate environment. In addition, regulatory limitations regarding the purchase of investments that reference LIBOR slowed the pace at which we were able to replace the prepaid MBS with suitable alternatives that provided an acceptable risk/return tradeoff. However, our purchases of MBS have increased beginning in the second half of 2021 as we purchased $3.1 billion in the last six months of the year. The majority of these purchases were variable-rate MBS linked to SOFR.
The balance of MBS at December 31, 20192021 consisted of $11.8$9.7 billion of securities issued by Fannie Mae or Freddie Mac (of which $7.8$7.5 billion were floating-rate securities), $0.3 billion of floating-rate securities issued by the National Credit Union Administration (NCUA), and $1.4$1.1 billion of securities issued by Ginnie Mae (which are primarily fixed rate). At December 31, 2019, the floating-rate MBS issued by Fannie Mae, Freddie Mac and the NCUA were indexed to LIBOR. As noted in the "Business Outlook and Risk Management" section of the "Executive Overview," on December 31, 2019, we stopped purchasing investments that reference LIBOR and mature after December 31, 2021.
The table below shows principal purchases and paydowns of our MBS for each of the last two years.
| (In millions) | MBS Principal | ||||||||||
| 2021 | 2020 | ||||||||||
| Balance, beginning of year | $ | 9,745 | $ | 13,447 | |||||||
| Principal purchases | 3,837 | 149 | |||||||||
| Principal paydowns | (2,787) | (3,851) | |||||||||
| Balance, end of year | $ | 10,795 | $ | 9,745 | |||||||
| (In millions) | MBS Principal | ||||||
| 2019 | 2018 | ||||||
| Balance, beginning of year | $ | 15,734 | $ | 14,746 | |||
| Principal purchases | 1,205 | 3,839 | |||||
| Principal paydowns | (3,492 | ) | (2,851 | ) | |||
| Balance, end of year | $ | 13,447 | $ | 15,734 | |||
MBS principal paydowns in 20192021 equated to a 2026 percent annual constant prepayment rate, upa slight decrease from the 1627 percent rate experienced in 2018.2020. The higherelevated prepayment raterates experienced in 20192021 and 2020 is a result of the decline inhistorically low mortgage rates throughout the first three quartersrate environment.
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Consolidated Obligations
We fund variable-rate assets with Discount Notes (a portion of which aremay be swapped), adjustable-rate Bonds, and swapped fixed-rate Bonds because they give us the ability to effectively match the underlying rate reset periods embedded in these assets. The balances and composition of our Consolidated Obligations tend to fluctuate with changes in the balances and composition of our assets. In addition, changes in the amount and composition of our funding may be necessary from time to time to meet the days of positive liquidity and asset/liability maturity funding gap requirements under the new regulatory liquidity guidance discussed in the "Liquidity Risk" section of "Quantitative and Qualitative Disclosures About Risk Management."
The table below presents the ending and average balances of our participations in Consolidated Obligations.
| (In millions) | 2021 | 2020 | |||||||||||||||||||||
| Ending Balance | Average Balance | Ending Balance | Average Balance | ||||||||||||||||||||
| Discount Notes: | |||||||||||||||||||||||
| Unswapped | $ | 19,418 | $ | 22,933 | $ | 27,503 | $ | 39,478 | |||||||||||||||
| Swapped | 10,426 | 3,156 | — | 3,843 | |||||||||||||||||||
| Total par Discount Notes | 29,844 | 26,089 | 27,503 | 43,321 | |||||||||||||||||||
Other items (1) | (6) | (1) | (3) | (37) | |||||||||||||||||||
| Total Discount Notes | 29,838 | 26,088 | 27,500 | 43,284 | |||||||||||||||||||
| Bonds: | |||||||||||||||||||||||
| Unswapped fixed-rate | 16,112 | 18,840 | 18,940 | 21,288 | |||||||||||||||||||
Unswapped adjustable-rate (2) | 850 | 6,710 | 10,639 | 13,394 | |||||||||||||||||||
| Swapped fixed-rate | 7,627 | 2,737 | 2,372 | 3,547 | |||||||||||||||||||
| Total par Bonds | 24,589 | 28,287 | 31,951 | 38,229 | |||||||||||||||||||
Other items (1) | 13 | 24 | 46 | 68 | |||||||||||||||||||
| Total Bonds | 24,602 | 28,311 | 31,997 | 38,297 | |||||||||||||||||||
Total Consolidated Obligations (3) | $ | 54,440 | $ | 54,399 | $ | 59,497 | $ | 81,581 | |||||||||||||||
| (In millions) | 2019 | 2018 | |||||||||||||
| Ending Balance | Average Balance | Ending Balance | Average Balance | ||||||||||||
| Discount Notes: | |||||||||||||||
| Unswapped | $ | 36,776 | $ | 39,286 | $ | 47,071 | $ | 49,273 | |||||||
| Swapped | 12,401 | 5,291 | — | — | |||||||||||
| Total par Discount Notes | 49,177 | 44,577 | 47,071 | 49,273 | |||||||||||
Other items (1) | (93 | ) | (95 | ) | (127 | ) | (88 | ) | |||||||
| Total Discount Notes | 49,084 | 44,482 | 46,944 | 49,185 | |||||||||||
| Bonds: | |||||||||||||||
| Unswapped fixed-rate | 22,420 | 24,423 | 25,982 | 26,566 | |||||||||||
Unswapped adjustable-rate (2) | 11,012 | 16,132 | 15,470 | 16,967 | |||||||||||
| Swapped fixed-rate | 4,949 | 5,310 | 4,195 | 5,982 | |||||||||||
| Total par Bonds | 38,381 | 45,865 | 45,647 | 49,515 | |||||||||||
Other items (1) | 59 | 44 | 12 | (13 | ) | ||||||||||
| Total Bonds | 38,440 | 45,909 | 45,659 | 49,502 | |||||||||||
Total Consolidated Obligations (3) | $ | 87,524 | $ | 90,391 | $ | 92,603 | $ | 98,687 | |||||||
(2)At December 31, 2021 and 2020, all unswapped adjustable-rate Bonds were indexed to SOFR. (3)The 11 FHLBanks have joint and several liability for the par amount of all of the Consolidated Obligations issued on their behalves. The par amount of the outstanding Consolidated Obligations for all of the FHLBanks was (in millions) $652,862 and $746,772 at December 31, 2021 and 2020, respectively. |
The average balances of Consolidated ObligationsDiscount Notes and unswapped adjustable-rate Bonds in 2021 were relatively stablesignificantly lower compared to the averages in 2020 due to the growth in short-term and variable-rate Advances in the periods shown above with fluctuations resulting from changes infirst quarter of 2020 as members sought additional liquidity during the onset of the COVID-19 pandemic. However, most of these Advances matured or prepaid by the end of 2020 and the demand for Advances has remained below pre-pandemic levels.
The ending balances of our assets. Beginning inswapped Discount Notes and swapped fixed-rate Bonds at the third quarterend of 2019, we began swapping2021 were higher than year-end 2020 due to the market environment at the end of 2021 favoring swapped debt. We swap term Discount Notes and fixed-rate bonds to adjustable-rates tied to the overnight Federal funds effective rate in order to match the underlying rate reset periods to the assets the Discount Notes and Bonds are funding as well as reduce the repricing risk of Discount Notes being used to fund certain overnight and shorter-term assets.Notes.
37
The following table shows the allocation on December 31, 20192021 of unswapped fixed-rate Bonds according to their final remaining maturity and next call date (for callable Bonds). We believe that the allocations of Bonds among these classifications provide effective mitigation of market risk exposure to both higher and lower interest rates.
| (In millions) | Year of Maturity | Year of Next Call | ||||||||||||||||||
| Callable | Noncallable | Total | Callable | |||||||||||||||||
| Due in 1 year or less | $ | 25 | $ | 4,787 | $ | 4,812 | $ | 4,715 | ||||||||||||
| Due after 1 year through 2 years | 936 | 2,440 | 3,376 | 185 | ||||||||||||||||
| Due after 2 years through 3 years | 462 | 1,262 | 1,724 | — | ||||||||||||||||
| Due after 3 years through 4 years | 1,367 | 728 | 2,095 | — | ||||||||||||||||
| Due after 4 years through 5 years | 323 | 547 | 870 | — | ||||||||||||||||
| Thereafter | 1,787 | 1,448 | 3,235 | — | ||||||||||||||||
| Total | $ | 4,900 | $ | 11,212 | $ | 16,112 | $ | 4,900 | ||||||||||||
| (In millions) | Year of Maturity | Year of Next Call | |||||||||||
| Callable | Noncallable | Total | Callable | ||||||||||
| Due in 1 year or less | $ | 876 | $ | 5,387 | $ | 6,263 | $ | 5,038 | |||||
| Due after 1 year through 2 years | 1,203 | 3,247 | 4,450 | 130 | |||||||||
| Due after 2 years through 3 years | 261 | 2,644 | 2,905 | 19 | |||||||||
| Due after 3 years through 4 years | 780 | 2,343 | 3,123 | — | |||||||||
| Due after 4 years through 5 years | 287 | 1,253 | 1,540 | — | |||||||||
| Thereafter | 1,780 | 2,359 | 4,139 | — | |||||||||
| Total | $ | 5,187 | $ | 17,233 | $ | 22,420 | $ | 5,187 | |||||
Deposits
Total deposits with us are normally a relatively minor source of low-cost funding. Total interest-bearing deposits at December 31, 20192021 were $0.9$1.4 billion, an increase of $0.3$0.1 billion fromcompared to the balance at year-end 2018.2020.
Derivatives Hedging Activity and Liquidity
Our use of derivatives is discussed in the "Effect of the Use of Derivatives on Net Interest Income" sectionand "Non-Interest Income (Loss)" sections in "Results of Operations." Liquidity is discussed in the "Liquidity Risk" section in “Quantitative and Qualitative Disclosures About Risk Management.”
Capital Resources
The following tables present capital amounts and capital-to-assets ratios, on both a GAAP and regulatory basis. We consider the regulatory ratio to be a better representation of financial leverage than the GAAP ratio because, although the GAAP ratio treats mandatorily redeemable capital stock as a liability, it protects investors in our debt in the same manner as GAAP capital stock and retained earnings.
| Year Ended December 31, | |||||||||||||||||||||||
| (In millions) | 2021 | 2020 | |||||||||||||||||||||
| Period End | Average | Period End | Average | ||||||||||||||||||||
| GAAP and Regulatory Capital | |||||||||||||||||||||||
| GAAP Capital Stock | $ | 2,490 | $ | 2,585 | $ | 2,641 | $ | 3,567 | |||||||||||||||
| Mandatorily Redeemable Capital Stock | 21 | 19 | 19 | 55 | |||||||||||||||||||
| Regulatory Capital Stock | 2,511 | 2,604 | 2,660 | 3,622 | |||||||||||||||||||
| Retained Earnings | 1,293 | 1,304 | 1,304 | 1,228 | |||||||||||||||||||
| Regulatory Capital | $ | 3,804 | $ | 3,908 | $ | 3,964 | $ | 4,850 | |||||||||||||||
| Year Ended December 31, | |||||||||||||||
| (In millions) | 2019 | 2018 | |||||||||||||
| Period End | Average | Period End | Average | ||||||||||||
| GAAP and Regulatory Capital | |||||||||||||||
| GAAP Capital Stock | $ | 3,367 | $ | 3,827 | $ | 4,320 | $ | 4,387 | |||||||
| Mandatorily Redeemable Capital Stock | 22 | 25 | 23 | 30 | |||||||||||
| Regulatory Capital Stock | 3,389 | 3,852 | 4,343 | 4,417 | |||||||||||
| Retained Earnings | 1,094 | 1,069 | 1,023 | 1,025 | |||||||||||
| Regulatory Capital | $ | 4,483 | $ | 4,921 | $ | 5,366 | $ | 5,442 | |||||||
| 2021 | 2020 | ||||||||||||||||||||||
| Period End | Average | Period End | Average | ||||||||||||||||||||
| GAAP and Regulatory Capital-to-Assets Ratio | |||||||||||||||||||||||
| GAAP | 6.26 | % | 6.40 | % | 6.02 | % | 5.39 | % | |||||||||||||||
Regulatory (1) | 6.28 | 6.44 | 6.07 | 5.47 | |||||||||||||||||||
(1) At all times, the FHLB must maintain at least a four percent minimum regulatory capital-to-assets ratio.
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| 2019 | 2018 | ||||||||||
| Period End | Average | Period End | Average | ||||||||
| GAAP and Regulatory Capital-to-Assets Ratio | |||||||||||
| GAAP | 4.75 | % | 5.04 | % | 5.37 | % | 5.11 | % | |||
Regulatory (1) | 4.79 | 5.08 | 5.41 | 5.16 | |||||||
The following table presents the sources of change in regulatory capital stock balances in 20192021 and 2018.2020.
| (In millions) | 2021 | 2020 | |||||||||
| Regulatory stock balance at beginning of year | $ | 2,660 | $ | 3,389 | |||||||
| Stock purchases: | |||||||||||
| Membership stock | 20 | 25 | |||||||||
| Activity stock | 1,089 | 2,110 | |||||||||
| Stock repurchases/redemptions: | |||||||||||
| Redemption of member excess | (60) | (558) | |||||||||
| Repurchase of member excess | (1,186) | (2,300) | |||||||||
| Withdrawals | (12) | (6) | |||||||||
| Regulatory stock balance at the end of the year | $ | 2,511 | $ | 2,660 | |||||||
| (In millions) | 2019 | 2018 | |||||
| Regulatory stock balance at beginning of year | $ | 4,343 | $ | 4,271 | |||
| Stock purchases: | |||||||
| Membership stock | 157 | 25 | |||||
| Activity stock | 435 | 413 | |||||
| Stock repurchases/redemptions: | |||||||
| Redemption of member excess | — | (40 | ) | ||||
| Repurchase of member excess | (1,538 | ) | (297 | ) | |||
| Withdrawals | (8 | ) | (29 | ) | |||
| Regulatory stock balance at the end of the year | $ | 3,389 | $ | 4,343 | |||
| (In millions) | December 31, 2019 | December 31, 2018 | |||||
| Excess capital stock (Capital Plan definition) | $ | 37 | $ | 1,015 | |||
| Cooperative utilization of capital stock | $ | 781 | $ | 558 | |||
| Mission Asset Activity capitalized with cooperative capital stock | $ | 19,536 | $ | 13,950 | |||
A portion of our capital stock is excess, meaning it is not required as a condition to being a member and is not currently capitalizing Mission Asset Activity.Assets and Activities. Excess capital stock provides a base of capital to manage financial leverage at prudent levels, augments loss protections for bondholders, and may be used to capitalize a portion of growth in Mission Assets. Throughout 2019,Assets and Activities. At December 31, 2021, the amount of excess stock, as defined by our Capital Plan, grew as Advance balances decreased. In order to help manage our capital and financial performance, we repurchased over $1.5 billionwas $426 million, an increase of excess capital stock in 2019. As a result, excess stock decreased $978$198 million from year-end 2018.2020. The repurchasebalance of excess stock also resulted in decreases to GAAP and regulatory capital balances and the related capital-to-assets ratios.may fluctuate as short-term Advance borrowings can be volatile.
See the "Capital Adequacy" section in “Quantitative and Qualitative Disclosures About Risk Management” for discussion of our retained earnings.
Membership and Stockholders
In 2019,2021, we added 11 new member stockholders and lost 1721 member stockholders, ending the year at 640618 member stockholders. The declineThirteen of the 21 members lost in membership during 2019 was primarily2021 were attributable to intra-district merger activity.
In 2019,2021, there were no material changes in the allocation of membership by state, charter type, or asset size. At the end of 2019,2021, the composition of membership by state was Ohio with 301,303, Kentucky with 171,161, and Tennessee with 168.154.
The following table provides the number of member stockholders by charter type.
| December 31, | |||||||||||
| 2021 | 2020 | ||||||||||
| Commercial Banks | 338 | 351 | |||||||||
| Savings Institutions | 76 | 78 | |||||||||
| Credit Unions | 142 | 140 | |||||||||
| Insurance Companies | 55 | 53 | |||||||||
| Community Development Financial Institutions | 7 | 6 | |||||||||
| Total | 618 | 628 | |||||||||
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| December 31, | |||||
| 2019 | 2018 | ||||
| Commercial Banks | 365 | 374 | |||
| Savings Institutions | 81 | 83 | |||
| Credit Unions | 136 | 134 | |||
| Insurance Companies | 52 | 48 | |||
| Community Development Financial Institutions | 6 | 7 | |||
| Total | 640 | 646 | |||
The following table provides the ownership of capital stock by charter type.
| (In millions) | December 31, | ||||||||||
| 2021 | 2020 | ||||||||||
| Commercial Banks | $ | 1,109 | $ | 1,459 | |||||||
| Savings Institutions | 432 | 398 | |||||||||
| Credit Unions | 184 | 179 | |||||||||
| Insurance Companies | 764 | 604 | |||||||||
| Community Development Financial Institutions | 1 | 1 | |||||||||
| Total GAAP Capital Stock | 2,490 | 2,641 | |||||||||
| Mandatorily Redeemable Capital Stock | 21 | 19 | |||||||||
| Total Regulatory Capital Stock | $ | 2,511 | $ | 2,660 | |||||||
| (In millions) | December 31, | ||||||
| 2019 | 2018 | ||||||
| Commercial Banks | $ | 2,296 | $ | 3,353 | |||
| Savings Institutions | 365 | 353 | |||||
| Credit Unions | 175 | 176 | |||||
| Insurance Companies | 530 | 437 | |||||
| Community Development Financial Institutions | 1 | 1 | |||||
| Total GAAP Capital Stock | 3,367 | 4,320 | |||||
| Mandatorily Redeemable Capital Stock | 22 | 23 | |||||
| Total Regulatory Capital Stock | $ | 3,389 | $ | 4,343 | |||
Credit union members hold relatively less stock than their membership proportion because they tend to be smaller than the average member and borrow less. Insurance company members hold relatively more stock than their membership proportion because they tend to be larger than the average member and borrow more.
The following table provides a summary of member stockholders by asset size.
| December 31, | |||||||||||
Member Asset Size (1) | 2021 | 2020 | |||||||||
| Up to $100 million | 128 | 147 | |||||||||
| > $100 up to $500 million | 296 | 297 | |||||||||
| > $500 million up to $1 billion | 68 | 70 | |||||||||
| > $1 billion | 126 | 114 | |||||||||
| Total Member Stockholders | 618 | 628 | |||||||||
| December 31, | |||||
Member Asset Size (1) | 2019 | 2018 | |||
| Up to $100 million | 162 | 166 | |||
| > $100 up to $500 million | 307 | 319 | |||
| > $500 million up to $1 billion | 74 | 72 | |||
| > $1 billion | 97 | 89 | |||
| Total Member Stockholders | 640 | 646 | |||
Most members are smaller community financial institutions, with 7369 percent having assets up to $500 million. As noted elsewhere, having larger members is important to help achieve our mission objectives, including providing valuable products and services to all members.
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RESULTS OF OPERATIONS
The following tables and discussion provide information for the years ended December 31, 2019, 20182021, 2020 and 20172019 and a comparison of the results between 20192021 and 2018.2020. For a comparison of the results between 20182020 and 2017,2019, see Part II, Item 7. "Management's Discussion and Analysis of Financial Condition and Results of Operations" of our 20182020 Annual Report on Form 10-K.
Components of Earnings and Return on Equity
The following table is a summary income statement for the last three years. Each ROE percentage is computed by dividing income or expense for the category by the average amount of stockholders' equity for the period.
| (Dollars in millions) | 2021 | 2020 | 2019 | ||||||||||||||||||||||||||||||||||||||||||||
| Amount | ROE (1) | Amount | ROE (1) | Amount | ROE (1) | ||||||||||||||||||||||||||||||||||||||||||
| Net interest income | $ | 277 | 7.12 | % | $ | 406 | 8.51 | % | $ | 406 | 8.31 | % | |||||||||||||||||||||||||||||||||||
| Non-interest income (loss): | |||||||||||||||||||||||||||||||||||||||||||||||
| Net gains (losses) on investment securities | (257) | (6.63) | 257 | 5.39 | 210 | 4.30 | |||||||||||||||||||||||||||||||||||||||||
| Net gains (losses) on derivatives | 82 | 2.12 | (273) | (5.72) | (178) | (3.64) | |||||||||||||||||||||||||||||||||||||||||
| Net gains (losses) on financial instruments held under fair value option | 10 | 0.26 | (7) | (0.15) | (54) | (1.10) | |||||||||||||||||||||||||||||||||||||||||
| Other non-interest income, net | 27 | 0.69 | 16 | 0.33 | 12 | 0.23 | |||||||||||||||||||||||||||||||||||||||||
| Total non-interest income (loss) | (138) | (3.56) | (7) | (0.15) | (10) | (0.21) | |||||||||||||||||||||||||||||||||||||||||
| Total income | 139 | 3.56 | 399 | 8.36 | 396 | 8.10 | |||||||||||||||||||||||||||||||||||||||||
| Non-interest expense | 92 | 2.36 | 92 | 1.93 | 89 | 1.82 | |||||||||||||||||||||||||||||||||||||||||
| Affordable Housing Program assessments | 5 | 0.12 | 31 | 0.65 | 31 | 0.63 | |||||||||||||||||||||||||||||||||||||||||
| Net income | $ | 42 | 1.08 | % | $ | 276 | 5.78 | % | $ | 276 | 5.65 | % | |||||||||||||||||||||||||||||||||||
(1)The ROE amounts have been computed using dollars in thousands. Accordingly, recalculations based upon the disclosed amounts in millions may produce nominally different results.
Details on the individual factors contributing to the level and changes in profitability are explained in the sections below.
41
| (Dollars in millions) | 2019 | 2018 | 2017 | |||||||||||||||||
| Amount | ROE (1) | Amount | ROE (1) | Amount | ROE (1) | |||||||||||||||
| Net interest income | $ | 406 | 8.31 | % | $ | 499 | 9.24 | % | $ | 429 | 8.42 | % | ||||||||
| Provision for credit losses | — | — | — | — | — | 0.01 | ||||||||||||||
| Net interest income after provision for credit losses | 406 | 8.31 | 499 | 9.24 | 429 | 8.41 | ||||||||||||||
| Non-interest income (loss): | ||||||||||||||||||||
| Net gains (losses) on investment securities | 210 | 4.30 | 7 | 0.13 | — | — | ||||||||||||||
| Net gains (losses) on derivatives and hedging activities | (178 | ) | (3.64 | ) | (41 | ) | (0.75 | ) | (24 | ) | (0.48 | ) | ||||||||
| Net gains (losses) on financial instruments held under fair value option | (54 | ) | (1.10 | ) | (14 | ) | (0.26 | ) | 10 | 0.20 | ||||||||||
| Other non-interest income, net | 12 | 0.23 | 11 | 0.20 | 13 | 0.25 | ||||||||||||||
| Total non-interest income (loss) | (10 | ) | (0.21 | ) | (37 | ) | (0.68 | ) | (1 | ) | (0.03 | ) | ||||||||
| Total income | 396 | 8.10 | 462 | 8.56 | 428 | 8.38 | ||||||||||||||
| Non-interest expense | 89 | 1.82 | 85 | 1.57 | 79 | 1.54 | ||||||||||||||
| Affordable Housing Program assessments | 31 | 0.63 | 38 | 0.70 | 35 | 0.69 | ||||||||||||||
| Net income | $ | 276 | 5.65 | % | $ | 339 | 6.29 | % | $ | 314 | 6.15 | % | ||||||||
Net Interest Income
The largest component of net income is net interest income. Our principal goal in managing net interest income is to balance the trade-offs between maintaining a moderate market risk profile and ensuring profitability remains competitive. Effective risk/return management requires us to focus principally on the relationships among assets and liabilities that affect net interest income, rather than individual balance sheet and income statement accounts in isolation.
Our ROE normally is lower than that of many other financial institutions because of the cooperative wholesale business model that results in narrow spreads earned on our assets, the moderate overall risk profile, and the strategic objective to have a positive correlation of earnings to short-term interest rates.
Components of Net Interest Income
We generate net interest income from the following two components:
▪Net interest rate spread. This component equals the balance of total earning assets multiplied by the difference between the book yield on interest-earning assets and the book cost of interest-bearing liabilities. It is composed of net (amortization)/accretion, prepayment fees on Advances, and all other earnings from interest-earning assets net of funding costs. The latter is the largest component and represents the coupon yields of interest-earning assets net of the coupon costs of interest-bearing liabilities. ▪Earnings from funding assets with capital (“earnings from capital”). Because of our relatively low net interest rate spread compared to other financial institutions, we have historically derived a substantial portion of net interest income from deploying interest-free capital in interest-earning assets. We deploy much of the capital in short-term and adjustable-rate assets in order to help ensure that ROE moves in the same direction as short-term interest rates and to help control market risk exposure. |
The following table shows selected components of net interest income. Reasons for the variance in net interest income between the 2021 and 2020 periods are discussed below.
| (Dollars in millions) | 2021 | 2020 | 2019 | ||||||||||||||||||||||||||||||||||||||||||||
| Amount | % of Earning Assets | Amount | % of Earning Assets | Amount | % of Earning Assets | ||||||||||||||||||||||||||||||||||||||||||
| Components of net interest rate spread: | |||||||||||||||||||||||||||||||||||||||||||||||
Net (amortization)/accretion (1) (2) | $ | (87) | (0.15) | % | $ | (115) | (0.13) | % | $ | (37) | (0.04) | % | |||||||||||||||||||||||||||||||||||
Prepayment fees on Advances, net (2) | 13 | 0.02 | 34 | 0.04 | 8 | 0.01 | |||||||||||||||||||||||||||||||||||||||||
| Other components of net interest rate spread | 324 | 0.54 | 441 | 0.50 | 317 | 0.33 | |||||||||||||||||||||||||||||||||||||||||
| Total net interest rate spread | 250 | 0.41 | 360 | 0.41 | 288 | 0.30 | |||||||||||||||||||||||||||||||||||||||||
| Earnings from funding assets with interest-free capital | 27 | 0.05 | 46 | 0.05 | 118 | 0.12 | |||||||||||||||||||||||||||||||||||||||||
Total net interest income/net interest margin (3) | $ | 277 | 0.46 | % | $ | 406 | 0.46 | % | $ | 406 | 0.42 | % | |||||||||||||||||||||||||||||||||||
| (Dollars in millions) | 2019 | 2018 | 2017 | |||||||||||||||||
| Amount | % of Earning Assets | Amount | % of Earning Assets | Amount | % of Earning Assets | |||||||||||||||
| Components of net interest rate spread: | ||||||||||||||||||||
Net (amortization)/accretion (1) (2) | $ | (37 | ) | (0.04 | )% | $ | (17 | ) | (0.02 | )% | $ | (20 | ) | (0.02 | )% | |||||
Prepayment fees on Advances, net (2) | 8 | 0.01 | 1 | — | 1 | — | ||||||||||||||
| Other components of net interest rate spread | 317 | 0.33 | 407 | 0.39 | 382 | 0.38 | ||||||||||||||
| Total net interest rate spread | 288 | 0.30 | 391 | 0.37 | 363 | 0.36 | ||||||||||||||
| Earnings from funding assets with interest-free capital | 118 | 0.12 | 108 | 0.10 | 66 | 0.06 | ||||||||||||||
Total net interest income/net interest margin (3) | $ | 406 | 0.42 | % | $ | 499 | 0.47 | % | $ | 429 | 0.42 | % | ||||||||
(2)This component of net interest rate spread has been segregated to display its relative impact.
(3)Net interest margin is net interest income as a percentage of average total interest-earning assets.
Net Amortization/Accretion (generally referred to as "amortization"): While netNet amortization has been moderate over the past few years, it can become substantial and volatile whenwith changes in interest rates. When mortgage rates decrease. Amortization increaseddecrease, premium amortization of mortgage assets generally increases, which reduces net interest income. Net amortization in 2019 compared to 2018 primarily2021 and 2020 was elevated due to the decline inhistorically low mortgage rates, during the first three quarters of 2019, which led to accelerated prepayments of mortgage assets. Net amortization was higher in 2020 given the considerable decline in mortgage rates that took place in the first half of 2020. Mortgage rates have remained low, but experienced a small increase in 2021.
Prepayment Fees on Advances: Fees for members' early repayment of certain Advances, which are included in net interest income, are designed to make us economically indifferent to whether members hold Advances to maturity or repay them before maturity. Although Advance prepayment fees can be significant, they were minimal throughout most of 2019 and all of 2018, reflectingmoderate in 2021. The higher Advance prepayment fees in 2020 were caused by a lowhigher amount of member prepayments of Advances. However, at the endAdvances as interest rates declined.
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Other Components of Net Interest Rate Spread: The total other components of net interest rate spread decreased $90$117 million in 20192021 compared to 2018.2020. The net decrease was primarily due to the factors below.
▪Lower average Advance balances-Unfavorable: The $19.4 billion decrease in the average balance of Advances lowered net interest income by an estimated $63 million. ▪Lower spreads earned on mortgage assets-Unfavorable: Lower spreads on the mortgage assets portfolio decreased net interest income by an estimated $58 million. The lower spreads were driven by the decline in average long-term interest rates in 2020, which accelerated the payoff of higher-yielding mortgages at a faster pace than the associated debt funding them. ▪Lower average balances of mortgage assets-Unfavorable: The $2.7 billion decrease in the average balance of mortgage-backed securities and the $3.1 billion decrease in the average balance of mortgage loans held for portfolio lowered net interest income by an estimated $44 million. Mortgage balances declined due to the acceleration of principal cash flows driven by historically low mortgage interest rates. ▪Higher spreads on shorter-term and floating-rate asset balances-Favorable: Higher spreads on shorter-term assets and floating-rate assets (including those that have been swapped to a floating rate) improved net interest income by an estimated $31 million as the rates on the debt funding these assets declined. However, the increase in net interest income was more than offset by lower non-interest income (loss) primarily due to an increase of $37 million in the net interest settlements being paid on related derivatives not receiving hedge accounting. ▪Unrealized gains on designated fair value hedges-Favorable: Net unrealized gains on hedged items and derivatives in qualifying fair value hedge relationships improved net interest income by $17 million. |
Earnings from Capital: Earnings from capital increased $10decreased $19 million in 20192021 compared to 20182020 primarily due to lower average overnightshort-term interest rates being approximately 0.35 percentage points higher in 2019 compared to 2018. The higher earnings from capital was a benefit experienced in the first half of 2019 that began to dissipate in the second half of the year due to the actions taken byas the Federal Reserve has continued to decrease short-term interestkeep rates andlow in response to the lower average capital balances.evolving risks to economic activity from the COVID-19 pandemic.
Average Balance Sheet and Rates
The following table provides average balances and rates for major balance sheet accounts, which determine the changes in net interest rate spreads. Interest amounts and average rates are affected by our use of derivatives and the related accounting elections we make. In connection with the January 1, 2019, prospective adoption of the FASB's Targeted Improvements to Accounting for Hedging Activities standard, interestInterest amounts reported for Advances, MBS, Other investments and Swapped Bonds include gains (losses) on hedged items and derivatives in qualifying fair value hedge relationships for the year ended December 31, 2019.relationships.
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In addition, the net interest settlements of interest receivables or payables associated with derivatives in a fair value hedge relationship are included in net interest income and interest rate spread. However, if the derivatives do not qualify for fair value hedge accounting, the related net interest settlements of interest receivables or payables are recorded in “Non-interest income (loss)” as “Net“Net gains (losses) on derivatives and hedging activities”derivatives” and therefore are excluded from the calculation of net interest rate spread. Amortization associated with some hedging-related basis adjustments is also reflected in net interest income, which affects interest rate spread.
| (Dollars in millions) | 2019 | 2018 | 2017 | |||||||||||||||||||||||||||||
| Average Balance | Interest | Average Rate (1) | Average Balance | Interest | Average Rate (1) | Average Balance | Interest | Average Rate (1) | ||||||||||||||||||||||||
| Assets | ||||||||||||||||||||||||||||||||
| Advances | $ | 47,968 | $ | 1,204 | 2.51 | % | $ | 65,491 | $ | 1,409 | 2.15 | % | $ | 67,656 | $ | 905 | 1.34 | % | ||||||||||||||
Mortgage loans held for portfolio (2) | 10,739 | 340 | 3.17 | 9,967 | 321 | 3.22 | 9,447 | 297 | 3.14 | |||||||||||||||||||||||
Federal funds sold and securities purchased under resale agreements | 13,142 | 293 | 2.23 | 12,122 | 228 | 1.88 | 9,184 | 94 | 1.02 | |||||||||||||||||||||||
Interest-bearing deposits in banks (3) (4) (5) | 1,701 | 38 | 2.25 | 1,843 | 41 | 2.22 | 624 | 6 | 1.03 | |||||||||||||||||||||||
| MBS | 15,029 | 386 | 2.57 | 15,741 | 380 | 2.41 | 14,710 | 306 | 2.08 | |||||||||||||||||||||||
Other investments (4) | 7,914 | 184 | 2.33 | 88 | 2 | 2.69 | 33 | — | 0.83 | |||||||||||||||||||||||
| Loans to other FHLBanks | 3 | — | 2.43 | 1 | — | 1.46 | — | — | — | |||||||||||||||||||||||
| Total interest-earning assets | 96,496 | 2,445 | 2.54 | 105,253 | 2,381 | 2.26 | 101,654 | 1,608 | 1.58 | |||||||||||||||||||||||
Less: allowance for credit losses on mortgage loans | 1 | 1 | 1 | |||||||||||||||||||||||||||||
| Other assets | 442 | 288 | 264 | |||||||||||||||||||||||||||||
| Total assets | $ | 96,937 | $ | 105,540 | $ | 101,917 | ||||||||||||||||||||||||||
| Liabilities and Capital | ||||||||||||||||||||||||||||||||
| Term deposits | $ | 49 | 1 | 2.41 | $ | 77 | 1 | 1.78 | $ | 76 | 1 | 0.72 | ||||||||||||||||||||
Other interest-bearing deposits (5) | 768 | 15 | 1.91 | 747 | 13 | 1.69 | 621 | 4 | 0.68 | |||||||||||||||||||||||
| Discount Notes | 44,482 | 989 | 2.22 | 49,185 | 915 | 1.86 | 43,124 | 385 | 0.89 | |||||||||||||||||||||||
| Unswapped fixed-rate Bonds | 24,467 | 558 | 2.28 | 26,618 | 554 | 2.08 | 26,768 | 527 | 1.97 | |||||||||||||||||||||||
| Unswapped adjustable-rate Bonds | 16,131 | 371 | 2.30 | 16,967 | 317 | 1.87 | 18,500 | 185 | 1.00 | |||||||||||||||||||||||
| Swapped Bonds | 5,311 | 104 | 1.96 | 5,917 | 80 | 1.36 | 7,099 | 75 | 1.05 | |||||||||||||||||||||||
| Mandatorily redeemable capital stock | 25 | 1 | 4.50 | 30 | 2 | 6.00 | 46 | 2 | 5.42 | |||||||||||||||||||||||
| Other borrowings | — | — | 2.14 | — | — | 1.81 | 1 | — | 1.17 | |||||||||||||||||||||||
| Total interest-bearing liabilities | 91,233 | 2,039 | 2.24 | 99,541 | 1,882 | 1.89 | 96,235 | 1,179 | 1.22 | |||||||||||||||||||||||
| Non-interest bearing deposits | 9 | 4 | 2 | |||||||||||||||||||||||||||||
| Other liabilities | 811 | 599 | 582 | |||||||||||||||||||||||||||||
| Total capital | 4,884 | 5,396 | 5,098 | |||||||||||||||||||||||||||||
| Total liabilities and capital | $ | 96,937 | $ | 105,540 | $ | 101,917 | ||||||||||||||||||||||||||
| Net interest rate spread | 0.30 | % | 0.37 | % | 0.36 | % | ||||||||||||||||||||||||||
Net interest income and net interest margin (6) | $ | 406 | 0.42 | % | $ | 499 | 0.47 | % | $ | 429 | 0.42 | % | ||||||||||||||||||||
Average interest-earning assets to interest-bearing liabilities | 105.77 | % | 105.74 | % | 105.63 | % | ||||||||||||||||||||||||||
| (Dollars in millions) | 2021 | 2020 | 2019 | ||||||||||||||||||||||||||||||||||||||||||||||||||
| Average Balance | Interest | Average Rate (1) | Average Balance | Interest | Average Rate (1) | Average Balance | Interest | Average Rate (1) | |||||||||||||||||||||||||||||||||||||||||||||
| Assets: | |||||||||||||||||||||||||||||||||||||||||||||||||||||
| Advances | $ | 23,943 | $ | 147 | 0.62 | % | $ | 43,323 | $ | 469 | 1.08 | % | $ | 47,968 | $ | 1,204 | 2.51 | % | |||||||||||||||||||||||||||||||||||
Mortgage loans held for portfolio (2) | 8,130 | 169 | 2.07 | 11,264 | 276 | 2.45 | 10,739 | 340 | 3.17 | ||||||||||||||||||||||||||||||||||||||||||||
| Federal funds sold and securities purchased under resale agreements | 7,436 | 6 | 0.08 | 7,784 | 43 | 0.55 | 13,142 | 293 | 2.23 | ||||||||||||||||||||||||||||||||||||||||||||
Interest-bearing deposits in banks (3) (4) (5) | 736 | 1 | 0.09 | 1,390 | 8 | 0.55 | 1,701 | 38 | 2.25 | ||||||||||||||||||||||||||||||||||||||||||||
MBS (4) | 9,182 | 107 | 1.17 | 11,864 | 186 | 1.57 | 15,029 | 386 | 2.57 | ||||||||||||||||||||||||||||||||||||||||||||
Other investments (4) | 10,733 | 205 | 1.91 | 11,832 | 265 | 2.24 | 7,914 | 184 | 2.33 | ||||||||||||||||||||||||||||||||||||||||||||
| Loans to other FHLBanks | — | — | — | 5 | — | 1.22 | 3 | — | 2.43 | ||||||||||||||||||||||||||||||||||||||||||||
| Total interest-earning assets | 60,160 | 635 | 1.05 | 87,462 | 1,247 | 1.43 | 96,496 | 2,445 | 2.54 | ||||||||||||||||||||||||||||||||||||||||||||
| Less: allowance for credit losses on mortgage loans | — | — | 1 | ||||||||||||||||||||||||||||||||||||||||||||||||||
| Other assets | 526 | 1,248 | 442 | ||||||||||||||||||||||||||||||||||||||||||||||||||
| Total assets | $ | 60,686 | $ | 88,710 | $ | 96,937 | |||||||||||||||||||||||||||||||||||||||||||||||
| Liabilities and Capital: | |||||||||||||||||||||||||||||||||||||||||||||||||||||
| Term deposits | $ | 79 | — | 0.23 | $ | 78 | — | 0.67 | $ | 49 | 1 | 2.41 | |||||||||||||||||||||||||||||||||||||||||
Other interest-bearing deposits (5) | 1,434 | — | 0.02 | 1,208 | 3 | 0.25 | 768 | 15 | 1.91 | ||||||||||||||||||||||||||||||||||||||||||||
| Discount Notes | 26,088 | 14 | 0.05 | 43,284 | 295 | 0.68 | 44,482 | 989 | 2.22 | ||||||||||||||||||||||||||||||||||||||||||||
| Unswapped fixed-rate Bonds | 18,857 | 327 | 1.74 | 21,319 | 432 | 2.03 | 24,467 | 558 | 2.28 | ||||||||||||||||||||||||||||||||||||||||||||
| Unswapped adjustable-rate Bonds | 6,710 | 5 | 0.07 | 13,394 | 53 | 0.40 | 16,131 | 371 | 2.30 | ||||||||||||||||||||||||||||||||||||||||||||
| Swapped Bonds | 2,744 | 12 | 0.42 | 3,584 | 57 | 1.58 | 5,311 | 104 | 1.96 | ||||||||||||||||||||||||||||||||||||||||||||
| Mandatorily redeemable capital stock | 19 | — | 2.01 | 55 | 1 | 1.93 | 25 | 1 | 4.50 | ||||||||||||||||||||||||||||||||||||||||||||
| Other borrowings | — | — | — | 1 | — | — | — | — | 2.14 | ||||||||||||||||||||||||||||||||||||||||||||
| Total interest-bearing liabilities | 55,931 | 358 | 0.64 | 82,923 | 841 | 1.02 | 91,233 | 2,039 | 2.24 | ||||||||||||||||||||||||||||||||||||||||||||
| Non-interest bearing deposits | — | 2 | 9 | ||||||||||||||||||||||||||||||||||||||||||||||||||
| Other liabilities | 869 | 1,006 | 811 | ||||||||||||||||||||||||||||||||||||||||||||||||||
| Total capital | 3,886 | 4,779 | 4,884 | ||||||||||||||||||||||||||||||||||||||||||||||||||
| Total liabilities and capital | $ | 60,686 | $ | 88,710 | $ | 96,937 | |||||||||||||||||||||||||||||||||||||||||||||||
| Net interest rate spread | 0.41 | % | 0.41 | % | 0.30 | % | |||||||||||||||||||||||||||||||||||||||||||||||
Net interest income and net interest margin (6) | $ | 277 | 0.46 | % | $ | 406 | 0.46 | % | $ | 406 | 0.42 | % | |||||||||||||||||||||||||||||||||||||||||
| Average interest-earning assets to interest-bearing liabilities | 107.56 | % | 105.48 | % | 105.77 | % | |||||||||||||||||||||||||||||||||||||||||||||||
(1)Amounts used to calculate average rates are based on dollars in thousands. Accordingly, recalculations based upon the disclosed amounts in millions may not produce the same results.
(2)Non-accrual loans are included in average balances used to determine average rate.
(3)Includes certificates of deposit that are classified as available-for-sale securities.
(4)Includes available-for-sale securities based on their amortized costs. The yield information does not give effect to changes in fair value that are reflected as a component of stockholders' equity for available-for-sale securities.
(5)The average balance amounts include the rights or obligations to cash collateral, which are included in the fair value of derivative assets or derivative liabilities on the Statements of Condition at period end.
(6)Net interest margin is net interest income as a percentage of average total interest-earning assets.
Rates and corresponding levels of interest income and expense on most of our short-term and adjustable-rateinterest-bearing assets and liabilities increaseddecreased in 20192021 compared to 20182020 due to the increases indecline of short-term LIBOR and the Federal funds target rate in the second halfinterest rates.
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Volume/Rate Analysis
Changes in both average balances (volume) and interest rates influence changes in net interest income, as shown in the following table.
| (In millions) | 2021 over 2020 | 2020 over 2019 | |||||||||||||||||||||||||||||||||
Volume (1)(3) | Rate (2)(3) | Total | Volume (1)(3) | Rate (2)(3) | Total | ||||||||||||||||||||||||||||||
| Increase (decrease) in interest income | |||||||||||||||||||||||||||||||||||
| Advances | $ | (164) | $ | (158) | $ | (322) | $ | (107) | $ | (628) | $ | (735) | |||||||||||||||||||||||
| Mortgage loans held for portfolio | (69) | (38) | (107) | 16 | (80) | (64) | |||||||||||||||||||||||||||||
| Federal funds sold and securities purchased under resale agreements | (2) | (35) | (37) | (88) | (162) | (250) | |||||||||||||||||||||||||||||
| Interest-bearing deposits in banks | (2) | (5) | (7) | (6) | (24) | (30) | |||||||||||||||||||||||||||||
| MBS | (37) | (42) | (79) | (70) | (130) | (200) | |||||||||||||||||||||||||||||
| Other investments | (23) | (37) | (60) | 88 | (7) | 81 | |||||||||||||||||||||||||||||
| Loans to other FHLBanks | — | — | — | — | — | — | |||||||||||||||||||||||||||||
| Total | (297) | (315) | (612) | (167) | (1,031) | (1,198) | |||||||||||||||||||||||||||||
| Increase (decrease) in interest expense | |||||||||||||||||||||||||||||||||||
| Term deposits | — | — | — | — | (1) | (1) | |||||||||||||||||||||||||||||
| Other interest-bearing deposits | — | (3) | (3) | 5 | (17) | (12) | |||||||||||||||||||||||||||||
| Discount Notes | (84) | (197) | (281) | (26) | (668) | (694) | |||||||||||||||||||||||||||||
| Unswapped fixed-rate Bonds | (46) | (59) | (105) | (67) | (59) | (126) | |||||||||||||||||||||||||||||
| Unswapped adjustable-rate Bonds | (18) | (30) | (48) | (54) | (264) | (318) | |||||||||||||||||||||||||||||
| Swapped Bonds | (11) | (34) | (45) | (29) | (18) | (47) | |||||||||||||||||||||||||||||
| Mandatorily redeemable capital stock | (1) | — | (1) | 1 | (1) | — | |||||||||||||||||||||||||||||
| Other borrowings | — | — | — | — | — | — | |||||||||||||||||||||||||||||
| Total | (160) | (323) | (483) | (170) | (1,028) | (1,198) | |||||||||||||||||||||||||||||
| Increase (decrease) in net interest income | $ | (137) | $ | 8 | $ | (129) | $ | 3 | $ | (3) | $ | — | |||||||||||||||||||||||
(1)Volume changes are calculated as the change in volume multiplied by the prior year rate.
(2)Rate changes are calculated as the change in rate multiplied by the prior year average balance.
(3)Changes that are not identifiable as either volume-related or rate-related, but rather are equally attributable to both volume and rate changes, have been allocated to the volume and rate categories based upon the proportion of the absolute value of the volume and rate changes.
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| (In millions) | 2019 over 2018 | 2018 over 2017 | |||||||||||||||||||||
Volume (1)(3) | Rate (2)(3) | Total | Volume (1)(3) | Rate (2)(3) | Total | ||||||||||||||||||
| Increase (decrease) in interest income | |||||||||||||||||||||||
| Advances | $ | (416 | ) | $ | 211 | $ | (205 | ) | $ | (30 | ) | $ | 534 | $ | 504 | ||||||||
| Mortgage loans held for portfolio | 25 | (6 | ) | 19 | 16 | 8 | 24 | ||||||||||||||||
| Federal funds sold and securities purchased under resale agreements | 20 | 45 | 65 | 37 | 97 | 134 | |||||||||||||||||
| Interest-bearing deposits in banks | (3 | ) | — | (3 | ) | 22 | 13 | 35 | |||||||||||||||
| MBS | (18 | ) | 24 | 6 | 23 | 51 | 74 | ||||||||||||||||
| Other investments | 182 | — | 182 | 1 | 1 | 2 | |||||||||||||||||
| Loans to other FHLBanks | — | — | — | — | — | — | |||||||||||||||||
| Total | (210 | ) | 274 | 64 | 69 | 704 | 773 | ||||||||||||||||
| Increase (decrease) in interest expense | |||||||||||||||||||||||
| Term deposits | (1 | ) | 1 | — | — | — | — | ||||||||||||||||
| Other interest-bearing deposits | — | 2 | 2 | 1 | 8 | 9 | |||||||||||||||||
| Discount Notes | (93 | ) | 167 | 74 | 61 | 469 | 530 | ||||||||||||||||
| Unswapped fixed-rate Bonds | (47 | ) | 51 | 4 | (3 | ) | 30 | 27 | |||||||||||||||
| Unswapped adjustable-rate Bonds | (16 | ) | 70 | 54 | (17 | ) | 149 | 132 | |||||||||||||||
| Swapped Bonds | (9 | ) | 33 | 24 | (14 | ) | 19 | 5 | |||||||||||||||
| Mandatorily redeemable capital stock | — | (1 | ) | (1 | ) | — | — | — | |||||||||||||||
| Other borrowings | — | — | — | — | — | — | |||||||||||||||||
| Total | (166 | ) | 323 | 157 | 28 | 675 | 703 | ||||||||||||||||
| Increase (decrease) in net interest income | $ | (44 | ) | $ | (49 | ) | $ | (93 | ) | $ | 41 | $ | 29 | $ | 70 | ||||||||
Effect of the Use of Derivatives on Net Interest Income
The following table shows the impact on net interest income from the effect of derivatives and hedging activities. As noted above, for the year ended December 31, 2019, gains (losses) on hedged items and derivatives in qualifying fair value hedge relationships are recorded in interest income or expense as a result of the prospective adoption of new hedge accounting guidance.expense. In addition, for derivatives designated as a fair value hedge, the net interest settlements of interest receivables or payables related to such derivatives are recognized as adjustments to the interest income or expense of the designated hedged item. As such, beginning in 2019, all the effects on earnings of derivatives qualifying for fair value hedge accounting are reflected in net interest income. The effect on earnings from derivatives not receiving fair value hedge accounting is provided in the “Non-Interest Income (Loss)” section below.
| (In millions) | (In millions) | 2021 | 2020 | 2019 | ||||||||||||||||||||||||||||||
| (In millions) | 2019 | 2018 | 2017 | |||||||||||||||||||||||||||||||
| Advances: | Advances: | |||||||||||||||||||||||||||||||||
| Amortization of hedging activities in net interest income | $ | (1 | ) | $ | (1 | ) | $ | (2 | ) | Amortization of hedging activities in net interest income | $ | (1) | $ | (1) | $ | (1) | ||||||||||||||||||
| Gains (losses) on designated fair value hedges | (6 | ) | N/A | N/A | Gains (losses) on designated fair value hedges | 1 | (16) | (6) | ||||||||||||||||||||||||||
| Net interest settlements included in net interest income | 36 | 24 | (18 | ) | Net interest settlements included in net interest income | (110) | (91) | 36 | ||||||||||||||||||||||||||
| Investment securities: | Investment securities: | |||||||||||||||||||||||||||||||||
| Net interest settlements included in net interest income | Net interest settlements included in net interest income | (20) | (2) | — | ||||||||||||||||||||||||||||||
| Mortgage loans: | Mortgage loans: | |||||||||||||||||||||||||||||||||
| Amortization of derivative fair value adjustments in net interest income | (3 | ) | (1 | ) | (3 | ) | Amortization of derivative fair value adjustments in net interest income | (12) | (12) | (3) | ||||||||||||||||||||||||
| Consolidated Obligation Bonds: | Consolidated Obligation Bonds: | |||||||||||||||||||||||||||||||||
| Net interest settlements included in net interest income | 2 | (3 | ) | (1 | ) | Net interest settlements included in net interest income | 1 | 2 | 2 | |||||||||||||||||||||||||
| Increase (decrease) to net interest income | $ | 28 | $ | 19 | $ | (24 | ) | Increase (decrease) to net interest income | $ | (141) | $ | (120) | $ | 28 | ||||||||||||||||||||
Most of our use of derivatives is to synthetically convert the fixed interest rates on certain Advances, investments and Consolidated Obligations to adjustable rates tied to an eligible benchmark rate (e.g., LIBOR, the Federal funds effective rate, or SOFR). The larger positive netnegative effect of derivatives on net interest income in 20192021 was primarily due to higherlower short-term benchmark interest rates, in the first half of 2019 compared to the same period of 2018, which resulted in an increase inhigher net interest settlements receivedbeing paid on certain Advances and investments where the fixed interest rates were converted to adjustable-coupon rates. As short-term rates began to decrease in the second half of 2019, the positive net effect of derivatives on net interest income was muted as the net interest settlements received on certain Advances declined in the last quarter of 2019. The fluctuation in earnings from the use of derivatives was acceptable because it enabled us to lower market risk exposure by matching actual cash flows between assets and liabilities more closely and efficiently than would otherwise occur.
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Non-Interest Income (Loss)
Non-interest income (loss) consists of certain realized and unrealized gains (losses) on investment securities, derivatives activities, financial instruments held under the fair value option, and other non-interest earning activities. The following tables present the net effect of derivatives and hedging activities on non-interest income (loss). In connection with the prospective adoption of new hedge accounting guidance, gains (losses) on hedged items and derivatives in a qualifying fair value hedge relationship are no longer recorded in non-interest income (loss) for the year ended December 31, 2019. As such, beginning in 2019, theThe effects of derivatives and hedging activities on non-interest income (loss) relate only to derivatives not qualifying for fair value hedge accounting.
| 2021 | |||||||||||||||||||||||||||||||||||||||||||||||
| (In millions) | Advances | Investment Securities | Mortgage Loans | Bonds | Discount Notes | Balance Sheet (1) | Other | Total | |||||||||||||||||||||||||||||||||||||||
| Net effect of derivatives and hedging activities | |||||||||||||||||||||||||||||||||||||||||||||||
| Gains (losses) on derivatives not receiving hedge accounting | $ | 1 | $ | 252 | $ | 3 | $ | (9) | $ | (1) | $ | — | $ | — | $ | 246 | |||||||||||||||||||||||||||||||
| Net interest settlements on derivatives not receiving hedge accounting | — | (172) | — | 8 | — | — | — | (164) | |||||||||||||||||||||||||||||||||||||||
| Price alignment amount | — | — | — | — | — | — | — | — | |||||||||||||||||||||||||||||||||||||||
| Net gains (losses) on derivatives | 1 | 80 | 3 | (1) | (1) | — | — | 82 | |||||||||||||||||||||||||||||||||||||||
Gains (losses) on trading securities (2) | — | (257) | — | — | — | — | — | (257) | |||||||||||||||||||||||||||||||||||||||
Gains (losses) on financial instruments held under fair value option (3) | (1) | — | — | 10 | 1 | — | — | 10 | |||||||||||||||||||||||||||||||||||||||
| Total net effect on non-interest income | $ | — | $ | (177) | $ | 3 | $ | 9 | $ | — | $ | — | $ | — | $ | (165) | |||||||||||||||||||||||||||||||
| 2020 | |||||||||||||||||||||||||||||||||||||||||||||||
| (In millions) | Advances | Investment Securities | Mortgage Loans | Bonds | Discount Notes | Balance Sheet (1) | Other | Total | |||||||||||||||||||||||||||||||||||||||
| Net effect of derivatives and hedging activities | |||||||||||||||||||||||||||||||||||||||||||||||
| Gains (losses) on derivatives not receiving hedge accounting | $ | — | $ | (242) | $ | (10) | $ | 14 | $ | — | $ | 91 | $ | — | $ | (147) | |||||||||||||||||||||||||||||||
| Net interest settlements on derivatives not receiving hedge accounting | — | (172) | — | 23 | 22 | — | — | (127) | |||||||||||||||||||||||||||||||||||||||
| Price alignment amount | — | — | — | — | — | — | 1 | 1 | |||||||||||||||||||||||||||||||||||||||
| Net gains (losses) on derivatives | — | (414) | (10) | 37 | 22 | 91 | 1 | (273) | |||||||||||||||||||||||||||||||||||||||
Gains (losses) on trading securities (2) | — | 257 | — | — | — | — | — | 257 | |||||||||||||||||||||||||||||||||||||||
Gains (losses) on financial instruments held under fair value option (3) | 1 | — | — | (9) | 1 | — | — | (7) | |||||||||||||||||||||||||||||||||||||||
| Total net effect on non-interest income | $ | 1 | $ | (157) | $ | (10) | $ | 28 | $ | 23 | $ | 91 | $ | 1 | $ | (23) | |||||||||||||||||||||||||||||||
| 2019 | |||||||||||||||||||||||||||||||
| (In millions) | Advances | Investment Securities | Mortgage Loans | Bonds | Discount Notes | Balance Sheet (1) | Other | Total | |||||||||||||||||||||||
| Net effect of derivatives and hedging activities | |||||||||||||||||||||||||||||||
| Gains (losses) on derivatives not receiving hedge accounting | $ | (2 | ) | $ | (194 | ) | $ | 4 | $ | 54 | $ | — | $ | (19 | ) | $ | — | $ | (157 | ) | |||||||||||
| Net interest settlements on derivatives not receiving hedge accounting | 2 | — | — | (26 | ) | — | — | — | (24 | ) | |||||||||||||||||||||
| Price alignment amount | — | — | — | — | — | — | 3 | 3 | |||||||||||||||||||||||
| Net gains (losses) on derivatives and hedging activities | — | (194 | ) | 4 | 28 | — | (19 | ) | 3 | (178 | ) | ||||||||||||||||||||
Gains (losses) on trading securities (2) | — | 210 | — | — | — | — | — | 210 | |||||||||||||||||||||||
Gains (losses) on financial instruments held under fair value option (3) | — | — | — | (53 | ) | (1 | ) | — | — | (54 | ) | ||||||||||||||||||||
| Total net effect on non-interest income | $ | — | $ | 16 | $ | 4 | $ | (25 | ) | $ | (1 | ) | $ | (19 | ) | $ | 3 | $ | (22 | ) | |||||||||||
47
| 2018 | 2019 | |||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||
| (In millions) | Advances | Investment Securities | Mortgage Loans | Bonds | Balance Sheet (1) | Total | (In millions) | Advances | Investment Securities | Mortgage Loans | Bonds | Discount Notes | Balance Sheet (1) | Other | Total | |||||||||||||||||||||||||||||||||||||||||||||||||||||||
| Net effect of derivatives and hedging activities | Net effect of derivatives and hedging activities | |||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||
| Gains (losses) on fair value hedges | $ | 2 | $ | — | $ | — | $ | — | $ | — | $ | 2 | ||||||||||||||||||||||||||||||||||||||||||||||||||||||||||
| Gains (losses) on derivatives not receiving hedge accounting | 1 | (9 | ) | (1 | ) | 18 | (6 | ) | 3 | Gains (losses) on derivatives not receiving hedge accounting | $ | (2) | $ | (194) | $ | 4 | $ | 54 | $ | — | $ | (19) | $ | — | $ | (157) | ||||||||||||||||||||||||||||||||||||||||||||
| Net interest settlements on derivatives not receiving hedge accounting | — | — | — | (46 | ) | — | (46 | ) | Net interest settlements on derivatives not receiving hedge accounting | 2 | — | — | (26) | — | — | — | (24) | |||||||||||||||||||||||||||||||||||||||||||||||||||||
| Net gains (losses) on derivatives and hedging activities | 3 | (9 | ) | (1 | ) | (28 | ) | (6 | ) | (41 | ) | |||||||||||||||||||||||||||||||||||||||||||||||||||||||||||
| Price alignment amount | Price alignment amount | — | — | — | — | — | — | 3 | 3 | |||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||
| Net gains (losses) on derivatives | Net gains (losses) on derivatives | — | (194) | 4 | 28 | — | (19) | 3 | (178) | |||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||
Gains (losses) on trading securities (2) | — | 7 | — | — | — | 7 | Gains (losses) on trading securities (2) | — | 210 | — | — | — | — | — | 210 | |||||||||||||||||||||||||||||||||||||||||||||||||||||||
Gains (losses) on financial instruments held under fair value option (3) | — | — | — | (14 | ) | — | (14 | ) | Gains (losses) on financial instruments held under fair value option (3) | — | — | — | (53) | (1) | — | — | (54) | |||||||||||||||||||||||||||||||||||||||||||||||||||||
| Total net effect on non-interest income | $ | 3 | $ | (2 | ) | $ | (1 | ) | $ | (42 | ) | $ | (6 | ) | $ | (48 | ) | Total net effect on non-interest income | $ | — | $ | 16 | $ | 4 | $ | (25) | $ | (1) | $ | (19) | $ | 3 | $ | (22) | ||||||||||||||||||||||||||||||||||||
| 2017 | |||||||||||||||||||||||
| (In millions) | Advances | Mortgage Loans | Bonds | Balance Sheet (1) | Other | Total | |||||||||||||||||
| Net effect of derivatives and hedging activities | |||||||||||||||||||||||
| Gains (losses) on fair value hedges | $ | (1 | ) | $ | — | $ | 1 | $ | — | $ | — | $ | — | ||||||||||
| Gains (losses) on derivatives not receiving hedge accounting | 2 | 4 | (6 | ) | (17 | ) | — | (17 | ) | ||||||||||||||
| Net interest settlements on derivatives not receiving hedge accounting | (1 | ) | — | (7 | ) | — | — | (8 | ) | ||||||||||||||
| Price alignment amount | — | — | — | — | 1 | 1 | |||||||||||||||||
| Net gains (losses) on derivatives and hedging activities | — | 4 | (12 | ) | (17 | ) | 1 | (24 | ) | ||||||||||||||
Gains (losses) on financial instruments held under fair value option (3) | — | — | 10 | — | — | 10 | |||||||||||||||||
| Total net effect on non-interest income | $ | — | $ | 4 | $ | (2 | ) | $ | (17 | ) | $ | 1 | $ | (14 | ) | ||||||||
(2)Includes only those gains (losses) on trading securities that have an assigned economic derivative; therefore, this line item may not agree to the Statement of Income.
(3)Includes only those gains or losses on financial instruments held at fair value that have an economic derivative "assigned."
The net amounteffect of income volatility in derivatives and hedging activities was moderate and consistent withmore unfavorable in 2021 compared to 2020. Non-interest income in 2020 benefited from the close hedging relationshipssale of our derivative transactions. Mostinterest rate swaptions as interest rates fell to historically low levels during the first quarter of 2020. The sales of swaptions in the volatility was a resultfirst quarter of both unrealized fair value2020 resulted in net realized gains and losses on instruments we expect to hold to maturity and the costs of utilizingapproximately $69 million before assessments. We did not sell any interest rate swaptions in 2021. We use swaptions to hedge market risk exposure associated with
fixed-rate mortgage assets. Weassets and may sell swaptions as interest rates change in order to offset actual and anticipated risks associated with holding fixed-rate mortgage assets. Additionally, the negative impact in 2021 was largely a result of less net interest settlements being received on swapped Discount Notes and Bonds and the unrealized gains on derivatives and instruments held at fair value recognized in 2020, which were not experienced in 2021.
In 2019, we began purchasingthe table above, "Gains (losses) on trading securities" consist of fixed-rate U.S. Treasury and GSE obligations to help meet the new regulatory liquidity requirements. At December 31, 2019, we held over $9.6 billion of fixed rate U.S. Treasury obligations andthat have been swapped them to a variable rate. These investments are classified as tradingTrading securities and are recorded at fair value, with changes in fair value reported in non-interest income (loss). There are a number of factors that affect the fair value of these securities, including changes in interest rates, the passage of time, and volatility. By hedging these trading securities, the gains or losses on these trading securities will generally be offset by the changes in fair value ofgains or losses on the associated interest rate swaps.
Non-Interest Expense
The following table presents non-interest expense and related financial ratios for each of the last three years.
| (In millions) | 2021 | 2020 | 2019 | ||||||||||||||||||||
| Non-interest expense | |||||||||||||||||||||||
| Compensation and benefits | $ | 48 | $ | 50 | $ | 46 | |||||||||||||||||
| Other operating expense | 23 | 21 | 22 | ||||||||||||||||||||
| Finance Agency | 7 | 7 | 7 | ||||||||||||||||||||
| Office of Finance | 5 | 5 | 5 | ||||||||||||||||||||
| Other | 9 | 9 | 9 | ||||||||||||||||||||
| Total non-interest expense | $ | 92 | $ | 92 | $ | 89 | |||||||||||||||||
Our business is designed to support significant changes in asset levels without having to undergo material changes in staffing, operations, risk practices, or general resource needs. Accordingly, total non-interest expenses remained stable with only minimal increases over the past several years.
48
| (Dollars in millions) | 2019 | 2018 | 2017 | ||||||||
| Non-interest expense | |||||||||||
| Compensation and benefits | $ | 46 | $ | 46 | $ | 42 | |||||
| Other operating expense | 22 | 20 | 19 | ||||||||
| Finance Agency | 7 | 7 | 7 | ||||||||
| Office of Finance | 5 | 5 | 4 | ||||||||
| Other | 9 | 7 | 7 | ||||||||
| Total non-interest expense | $ | 89 | $ | 85 | $ | 79 | |||||
| Average total assets | $ | 96,937 | $ | 105,540 | $ | 101,917 | |||||
| Average regulatory capital | 4,921 | 5,442 | 5,157 | ||||||||
Total non-interest expense to average total assets (1) | 0.09 | % | 0.08 | % | 0.08 | % | |||||
Total non-interest expense to average regulatory capital (1) | 1.80 | 1.56 | 1.53 | ||||||||
Analysis of Quarterly ROE
The following table summarizes the components of 2019's2021's quarterly ROE and provides quarterly ROE for 20182020 and 2017.2019.
1st Quarter | 2nd Quarter | 3rd Quarter | 4th Quarter | Total | |||||||||||||
| Components of 2021 ROE: | |||||||||||||||||
| Net interest income: | |||||||||||||||||
| Other net interest income | 10.80 | % | 8.70 | % | 8.35 | % | 8.34 | % | 9.04 | % | |||||||
| Net amortization | (2.98) | (2.69) | (1.98) | (1.32) | (2.25) | ||||||||||||
| Prepayment fees | 0.14 | 0.50 | 0.23 | 0.43 | 0.33 | ||||||||||||
| Total net interest income | 7.96 | 6.51 | 6.60 | 7.45 | 7.12 | ||||||||||||
| Total non-interest income (loss) | (3.31) | (4.12) | (3.76) | (3.00) | (3.56) | ||||||||||||
| Total income | 4.65 | 2.39 | 2.84 | 4.45 | 3.56 | ||||||||||||
| Total non-interest expense | 2.47 | 2.35 | 2.17 | 2.44 | 2.36 | ||||||||||||
| Affordable Housing Program assessments | 0.22 | 0.01 | 0.07 | 0.20 | 0.12 | ||||||||||||
| 2021 ROE | 1.96 | % | 0.03 | % | 0.60 | % | 1.81 | % | 1.08 | % | |||||||
| 2020 ROE | 6.94 | % | 7.12 | % | 4.70 | % | 3.93 | % | 5.78 | % | |||||||
| 2019 ROE | 5.59 | % | 5.09 | % | 5.36 | % | 6.64 | % | 5.65 | % | |||||||
1st Quarter | 2nd Quarter | 3rd Quarter | 4th Quarter | Total | ||||||
| Components of 2019 ROE: | ||||||||||
| Net interest income: | ||||||||||
| Other net interest income | 9.59 | % | 8.32 | % | 8.39 | % | 9.21 | % | 8.89 | % |
| Net amortization | (0.27 | ) | (0.61 | ) | (0.99 | ) | (1.21 | ) | (0.75 | ) |
| Prepayment fees | — | 0.01 | 0.06 | 0.66 | 0.17 | |||||
| Total net interest income | 9.32 | 7.72 | 7.46 | 8.66 | 8.31 | |||||
Net gains (losses) on derivatives and hedging activities | (1.98 | ) | (12.06 | ) | (5.15 | ) | 5.29 | (3.64 | ) | |
| Other non-interest income (loss) | 0.58 | 11.85 | 5.52 | (4.72 | ) | 3.43 | ||||
| Total non-interest income (loss) | (1.40 | ) | (0.21 | ) | 0.37 | 0.57 | (0.21 | ) | ||
| Total income | 7.92 | 7.51 | 7.83 | 9.23 | 8.10 | |||||
| Total non-interest expense | 1.71 | 1.85 | 1.87 | 1.85 | 1.82 | |||||
| Affordable Housing Program assessments | 0.62 | 0.57 | 0.60 | 0.74 | 0.63 | |||||
| 2019 ROE | 5.59 | % | 5.09 | % | 5.36 | % | 6.64 | % | 5.65 | % |
| 2018 ROE | 6.23 | % | 6.15 | % | 6.87 | % | 5.90 | % | 6.29 | % |
| 2017 ROE | 5.25 | % | 6.94 | % | 5.97 | % | 6.42 | % | 6.15 | % |
The volatilitydecline in quarterlyprofitability in 2021 compared to 2020 was in part due to low interest rates and an unprecedented amount of liquidity in the financial markets due to governmental stimulus actions, which resulted in, among other things, lower average balances of Advances and mortgage assets and lower spreads earned on mortgage assets. In the second quarter of 2021, ROE during 2019 and 2018 was primarily driven bycomparatively lower than other quarters due to unrealized gains and losses related to the net effect ofon derivatives and hedging activities. For example, ROE in the fourth quarter of 2019 was elevated as compared to the first three quarters of 2019activities and most of 2018 primarily due to increases in the fair values of certain derivatives and other financial instruments carriedheld at fair value and recognitionvalue.
49
Segment Information
Note 1814 of the Notes to Financial Statements presents information on our two operating business segments. We manage financial operations and market risk exposure primarily at the macro level, and within the context of the entire balance sheet, rather than exclusively at the level of individual segments. Under this approach, the market risk/return profile of each segment may not match, or possibly even have the same trends as, what would occur if we managed each segment on a stand-alone basis. The tables below summarize each segment's operating results for the periods shown.
| (Dollars in millions) | Traditional Member Finance | MPP | Total | ||||||||
| 2019 | |||||||||||
| Net interest income after provision for credit losses | $ | 309 | $ | 97 | $ | 406 | |||||
| Net income | $ | 206 | $ | 70 | $ | 276 | |||||
| Average assets | $ | 83,867 | $ | 13,070 | $ | 96,937 | |||||
| Assumed average capital allocation | $ | 4,226 | $ | 658 | $ | 4,884 | |||||
Return on average assets (1) | 0.25 | % | 0.54 | % | 0.28 | % | |||||
Return on average equity (1) | 4.87 | % | 10.71 | % | 5.65 | % | |||||
| 2018 | |||||||||||
| Net interest income after provision for credit losses | $ | 390 | $ | 109 | $ | 499 | |||||
| Net income | $ | 255 | $ | 84 | $ | 339 | |||||
| Average assets | $ | 93,531 | $ | 12,009 | $ | 105,540 | |||||
| Assumed average capital allocation | $ | 4,781 | $ | 615 | $ | 5,396 | |||||
Return on average assets (1) | 0.27 | % | 0.70 | % | 0.32 | % | |||||
Return on average equity (1) | 5.34 | % | 13.65 | % | 6.29 | % | |||||
| 2017 | |||||||||||
| Net interest income after provision for credit losses | $ | 335 | $ | 94 | $ | 429 | |||||
| Net income | $ | 243 | $ | 71 | $ | 314 | |||||
| Average assets | $ | 91,485 | $ | 10,432 | $ | 101,917 | |||||
| Assumed average capital allocation | $ | 4,576 | $ | 522 | $ | 5,098 | |||||
Return on average assets (1) | 0.27 | % | 0.68 | % | 0.31 | % | |||||
Return on average equity (1) | 5.30 | % | 13.60 | % | 6.15 | % | |||||
| (Dollars in millions) | Traditional Member Finance | MPP | Total | ||||||||||||||
| 2021 | |||||||||||||||||
| Net interest income | $ | 318 | $ | (41) | $ | 277 | |||||||||||
| Net income | $ | 85 | $ | (43) | $ | 42 | |||||||||||
| Average assets | $ | 49,258 | $ | 11,428 | $ | 60,686 | |||||||||||
| Assumed average capital allocation | $ | 3,154 | $ | 732 | $ | 3,886 | |||||||||||
Return on average assets (1) | 0.17 | % | (0.38) | % | 0.07 | % | |||||||||||
Return on average equity (1) | 2.70 | % | (5.92) | % | 1.08 | % | |||||||||||
| 2020 | |||||||||||||||||
| Net interest income | $ | 385 | $ | 21 | $ | 406 | |||||||||||
| Net income | $ | 221 | $ | 55 | $ | 276 | |||||||||||
| Average assets | $ | 77,090 | $ | 11,620 | $ | 88,710 | |||||||||||
| Assumed average capital allocation | $ | 4,149 | $ | 630 | $ | 4,779 | |||||||||||
Return on average assets (1) | 0.29 | % | 0.48 | % | 0.31 | % | |||||||||||
Return on average equity (1) | 5.33 | % | 8.76 | % | 5.78 | % | |||||||||||
| 2019 | |||||||||||||||||
| Net interest income | $ | 309 | $ | 97 | $ | 406 | |||||||||||
| Net income | $ | 206 | $ | 70 | $ | 276 | |||||||||||
| Average assets | $ | 83,867 | $ | 13,070 | $ | 96,937 | |||||||||||
| Assumed average capital allocation | $ | 4,226 | $ | 658 | $ | 4,884 | |||||||||||
Return on average assets (1) | 0.25 | % | 0.54 | % | 0.28 | % | |||||||||||
Return on average equity (1) | 4.87 | % | 10.71 | % | 5.65 | % | |||||||||||
(1)Amounts used to calculate returns are based on numbers in thousands. Accordingly, recalculations based upon the disclosed amounts in millions may not produce the same results.
Traditional Member Finance Segment
MPP Segment
50
QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT RISK MANAGEMENT
Overview
We face various risks that could affect the ability to achieve our mission and corporate objectives. We generally categorize risks as: 1) business/strategic risk, 2) regulatory/legal risk, 3) market risk (also referred to as interest rate or prepayment risk), 4) credit risk, 5) funding/liquidity risk, and 6) operational risk. Our Board of Directors establishes objectives regarding risk philosophy, risk appetite, risk tolerances, and financial performance expectations. Market, capital adequacy, credit, liquidity, concentration, and operational risks are discussed below. Other risks are discussed throughout this report.
We strive to maintain a risk profile that ensures we operate safely and soundly, promotes prudent growth in Mission Asset Activity,Assets and Activities, consistently generates competitive earnings, and protects the par value of members' capital stock investment. We believe our business is financially sound and adequately capitalized on a risk-adjusted basis.
We practice this conservative risk philosophy in many ways:
▪We operate with moderate market risk and limited residual credit risk, liquidity risk, operational risk, and capital impairment risk.
▪We have a business objective to ensure competitive and relatively stable profitability.
▪We make conservative investment choices in terms of the types of investments we purchase and counterparties with which we engage.
▪We use derivatives to hedge assets and liabilities and to help reduce market risk exposure.
▪We maintain a prudent amount of financial leverage.
▪We are judicious in instituting regular, district-wide repurchases of excess stock.
▪We hold an amount of retained earnings that we believe will protect the par value of capital stock and provide for dividend stabilization.
▪We create a working and operating environment that emphasizes a stable employee base.
We have numerous Board-adopted policies and processes that address risk management including risk appetite, tolerances, limits, guidelines, and regulatory compliance. Our cooperative business model, corporate objectives, capital structure, and regulatory oversight provide us clear incentives to minimize risk exposures. Our policies and operating practices are designed to limit risk exposures from ongoing operations in the following broad ways:
▪by anticipating potential business risks and developing appropriate responses;
▪by defining permissible lines of business;
▪by limiting the kinds of assets we are permitted to hold in terms of their credit risk exposure and the kinds of hedging and financing arrangements we are permitted to use;
▪by limiting the amount of market risk to which we are permitted to be exposed;
▪by specifying very conservative tolerances for credit risk posed by Advances;
▪by specifying capital adequacy minimums; and
▪by requiring strict adherence to internal controls and operating procedures, adequate insurance coverage, and comprehensive Human Resources policies, procedures, and strategies.
51
Market Risk
Overview
Market risk exposure is the risk that profitability and the value of stockholders' capital investment may decrease and that profitability may become uncompetitive for an extended period as a result of changes and volatility in the market environment and economy. Along with business/strategic risk, market risk is normally our largest residual risk.
Our risk appetite is to maintain market risk exposure in a low to moderate range while earning a competitive return on members' capital stock investment. There is normally a tradeoff between long-term market risk exposure and shorter-term exposure. Effective management of each component is important in order to attract and retain members and capital and to support Mission Asset Activity.Assets and Activities.
The primary challenges in managing market risk exposure arise from 1) the tradeoff between earning a competitive return and correlating profitability with short-term interest rates and 2) the market risk exposure of owning mortgage assets. Mortgage assets grant homeowners prepayment options that could adversely affect our financial performance when interest rates increase or decrease. We mitigate the market risk of mortgage assets primarily by funding them principally with a portfolio of long-term fixed-rate callable and non-callable Bonds. Secondarily, we use swaptionsswaption derivative transactions to a limited extent to mitigate the market risk of mortgage assets. The Bonds and swaptions can provide expected cash flows that are similar to the cash flows expected from mortgage assets under a wide range of interest rate and prepayment environments. Because it is normally cost-prohibitive to completely mitigate mortgage prepayment risk, a residual amount of market risk remains after funding and hedging activities.
We analyze market risk using numerous analytical measures under a variety of interest rate and business scenarios, including stressed scenarios, and perform sensitivity analyses on the many variables that can affect market risk, using several market risk models from third-party software companies. These models employ rigorous valuation techniques for the optionality that exists in mortgage prepayments, call and put options, and caps/floors. We regularly assess the effects of different assumptions, techniques and methodologies on the measurements of market risk exposure, including comparisons to alternative models and information from brokers/dealers.
Policy Limits on Market Risk Exposure
We have six sets of policy limits regarding market risk exposure, which primarily measure long-term market risk exposure. We determine compliance with our policy limits at every month end or more frequently if market or business conditions change significantly or are volatile.
▪Market Value of Equity Sensitivity. The market value of equity for the entire balance sheet in two hypothetical interest rate scenarios (up 200 basis points and down 100 to 200 basis points from the current interest rate environment) must be between positive and negative 10 percent of the current balance sheet's market value of equity. The interest rate movements are “shocks,” defined as instantaneous, permanent, and parallel changes in interest rates in which every point on the yield curve is changed by the same amount. The size of the down shock varies with the level of long-term interest rates observed when measuring the risk.
▪Duration of Equity. The duration of equity for the entire balance sheet in the current (“base case”) interest rate environment must be between positive and negative five years and in the two interest rate shock scenarios (up 200 basis points and down 100 to 200 basis points from the current interest rate environment) must be between positive and negative six years. ▪Mortgage Assets Portfolio.The change in net market value of the mortgage assets portfolio as a percentage of the book value of portfolio assets must be between positive and negative three percent in each of the two interest rate shock scenarios. Net market value is defined as the market value of assets minus the market value of liabilities, with no assumed capital allocation. ▪Market Capitalization. The market capitalization ratio (defined as the ratio of the market value of equity to the par value of regulatory stock) must be above 100 percent in the current rate environment and must be above 95 percent in each of the two interest rate shock scenarios. ▪Fixed Rate Mortgage Assets as a Multiple of Regulatory Capital. The amount of fixed mortgage assets must be less than five times the amount of regulatory capital. 52 ▪MPP Assets as a Multiple of Regulatory Capital. The amount of MPP assets must be less than four times the amount of regulatory capital. |
In addition, Finance Agency regulations and an internal policy provide controls on market risk exposure by restricting the types of mortgage loans, mortgage-backed securities and other investments we can hold. We also manage market risk exposure by charging members prepayment fees on many Advance programs where an early termination of an Advance would result in an economic loss to us.
In practice we carry a substantially smaller amount of market risk exposure by establishing a strategic management range that is well within policy limits.
Market Value of Equity and Duration of Equity - Entire Balance Sheet
Two key measures of long-term market risk exposure are the sensitivities of the market value of equity and the duration of equity to changes in interest rates and other variables, as presented in the following tables for various instantaneous and permanent interest rate shocks (in basis points). We compiled average results using data for each month end. Given the current level of rates, some down rate shocks are nonparallel scenarios, with short-term rates decreasing less than long-term rates such that no rate falls below zero.
Market Value of Equity
| (Dollars in millions) | Down 300 | Down 200 | Down 100 | Flat Rates | Up 100 | Up 200 | Up 300 | ||||||||||||||||||||
| Average Results | |||||||||||||||||||||||||||
| 2019 Full Year | |||||||||||||||||||||||||||
| Market Value of Equity | $ | 4,545 | $ | 4,580 | $ | 4,652 | $ | 4,729 | $ | 4,674 | $ | 4,586 | $ | 4,528 | |||||||||||||
| % Change from Flat Case | (3.9 | )% | (3.1 | )% | (1.6 | )% | — | (1.1 | )% | (3.0 | )% | (4.3 | )% | ||||||||||||||
| 2018 Full Year | |||||||||||||||||||||||||||
| Market Value of Equity | $ | 4,936 | $ | 5,154 | $ | 5,306 | $ | 5,264 | $ | 5,176 | $ | 5,105 | $ | 5,045 | |||||||||||||
| % Change from Flat Case | (6.2 | )% | (2.1 | )% | 0.8 | % | — | (1.7 | )% | (3.0 | )% | (4.2 | )% | ||||||||||||||
| Month-End Results | |||||||||||||||||||||||||||
| December 31, 2019 | |||||||||||||||||||||||||||
| Market Value of Equity | $ | 4,257 | $ | 4,262 | $ | 4,236 | $ | 4,372 | $ | 4,313 | $ | 4,213 | $ | 4,144 | |||||||||||||
| % Change from Flat Case | (2.6 | )% | (2.5 | )% | (3.1 | )% | — | (1.3 | )% | (3.6 | )% | (5.2 | )% | ||||||||||||||
| December 31, 2018 | |||||||||||||||||||||||||||
| Market Value of Equity | $ | 4,736 | $ | 4,911 | $ | 5,130 | $ | 5,149 | $ | 5,043 | $ | 4,951 | $ | 4,906 | |||||||||||||
| % Change from Flat Case | (8.0 | )% | (4.6 | )% | (0.4 | )% | — | (2.1 | )% | (3.8 | )% | (4.7 | )% | ||||||||||||||
| (Dollars in millions) | Down 300 | Down 200 | Down 100 | Flat Rates | Up 100 | Up 200 | Up 300 | ||||||||||||||||||||||||||||||||||
| Average Results | |||||||||||||||||||||||||||||||||||||||||
| 2021 Full Year | |||||||||||||||||||||||||||||||||||||||||
| Market Value of Equity | $ | 3,916 | $ | 3,920 | $ | 3,921 | $ | 3,942 | $ | 3,878 | $ | 3,771 | $ | 3,705 | |||||||||||||||||||||||||||
| % Change from Flat Case | (0.6) | % | (0.6) | % | (0.5) | % | — | (1.6) | % | (4.3) | % | (6.0) | % | ||||||||||||||||||||||||||||
| 2020 Full Year | |||||||||||||||||||||||||||||||||||||||||
| Market Value of Equity | $ | 4,541 | $ | 4,541 | $ | 4,547 | $ | 4,624 | $ | 4,723 | $ | 4,608 | $ | 4,466 | |||||||||||||||||||||||||||
| % Change from Flat Case | (1.8) | % | (1.8) | % | (1.7) | % | — | 2.1 | % | (0.3) | % | (3.4) | % | ||||||||||||||||||||||||||||
| Month-End Results | |||||||||||||||||||||||||||||||||||||||||
| December 31, 2021 | |||||||||||||||||||||||||||||||||||||||||
| Market Value of Equity | $ | 3,977 | $ | 3,977 | $ | 3,865 | $ | 3,858 | $ | 3,767 | $ | 3,628 | $ | 3,525 | |||||||||||||||||||||||||||
| % Change from Flat Case | 3.1 | % | 3.1 | % | 0.2 | % | — | (2.4) | % | (6.0) | % | (8.6) | % | ||||||||||||||||||||||||||||
| December 31, 2020 | |||||||||||||||||||||||||||||||||||||||||
| Market Value of Equity | $ | 3,765 | $ | 3,765 | $ | 3,791 | $ | 3,835 | $ | 3,893 | $ | 3,777 | $ | 3,676 | |||||||||||||||||||||||||||
| % Change from Flat Case | (1.8) | % | (1.8) | % | (1.1) | % | — | 1.5 | % | (1.5) | % | (4.2) | % | ||||||||||||||||||||||||||||
Duration of Equity
| (In years) | Down 300 | Down 200 | Down 100 | Flat Rates | Up 100 | Up 200 | Up 300 | ||||||||||||||||||||||||||||||||||
| Average Results | |||||||||||||||||||||||||||||||||||||||||
| 2021 Full Year | (0.1) | (0.2) | (0.6) | 1.0 | 2.6 | 2.5 | 1.0 | ||||||||||||||||||||||||||||||||||
| 2020 Full Year | — | — | (0.9) | (2.6) | 1.0 | 3.4 | 2.0 | ||||||||||||||||||||||||||||||||||
| Month-End Results | |||||||||||||||||||||||||||||||||||||||||
| December 31, 2021 | — | 0.7 | 2.0 | 1.4 | 3.4 | 3.6 | 2.1 | ||||||||||||||||||||||||||||||||||
| December 31, 2020 | — | (0.1) | (1.4) | (2.3) | 1.8 | 3.2 | 1.2 | ||||||||||||||||||||||||||||||||||
| (In years) | Down 300 | Down 200 | Down 100 | Flat Rates | Up 100 | Up 200 | Up 300 | |||||||||||||
| Average Results | ||||||||||||||||||||
| 2019 Full Year | (0.8 | ) | (1.4 | ) | (1.7 | ) | (0.8 | ) | 1.7 | 1.4 | 1.1 | |||||||||
| 2018 Full Year | (4.5 | ) | (4.7 | ) | (0.9 | ) | 1.7 | 1.4 | 1.2 | 1.1 | ||||||||||
| Month-End Results | ||||||||||||||||||||
| December 31, 2019 | (0.1 | ) | 0.6 | (2.1 | ) | (1.2 | ) | 2.0 | 1.7 | 1.4 | ||||||||||
| December 31, 2018 | (3.8 | ) | (5.6 | ) | (2.5 | ) | 1.2 | 2.0 | 1.0 | 0.6 | ||||||||||
The overall market risk exposure to changing interest rates was well within policy limits during the periods presented. At December 31, 2019,2021, market risk exposure to rising and falling rate shocks shifted modestly driven by significant changes in the overall composition of the mortgage loans portfolio. Changes in the composition of the mortgage loans portfolio tends to happen more rapidly during a period of a decline in interest rates and subsequent elevated mortgage repayments. In addition to the noted changes in balance sheet composition, the increased exposure to rising rate shocks was impacted by the rise in long-term interest rates that occurred in 2021. Exposure to falling interest rates in the down 200 basis points and 300 basis pointsshock scenarios iscontinues to be muted as
some rates become floored at near zero rate levels. The duration of equity, which provides an estimate of the change in market value of equity for a 1.00 percentage pointto further changechanges in interest rates, fromincreased modestly due to the rate shock level.factors noted above, but remained well within policy limits.
Based on the totality of our risk analysis, we expect that profitability, defined as the level of ROE compared with short-term market rates, will remainbe competitive over the long term unless interest rates changeincrease by large amounts in a short period of time. Further declines
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Declines in long-term interest rates could substantiallymaterially decrease income in the near term (one to two years)temporarily before reverting over time to average levels. This temporary reduction in income would be driven by the acceleratedadditional recognition of mortgage asset premiums as the further incentive for borrowers to refinance results in faster than anticipated repayments of those mortgage assets. We believe that profitability would not become uncompetitive in a rising rate environment unless interest rates were to permanently increase in a short period of time by three percentage points or more and persist at the higher levels for a long period of time.
Market Risk Exposure of the Mortgage Assets Portfolio
The mortgage assets portfolio normally accounts for almost all market risk exposure because of prepayment volatility that we cannot completely hedge while maintaining sufficient net spreads. Sensitivities of the market value of equity allocated to the mortgage assets portfolio under interest rate shocks (in basis points) are shown below. The average mortgage assets portfolio had an assumed capital allocation of $1.3$1.1 billion in 20192021 based on the entire balance sheet's average regulatory capital-to-assets ratio. Average results shown in the table below are compiled using data for each month end. The market value sensitivities are one measure we use to analyze the portfolio's estimated market risk exposure.
% Change in Market Value of Equity-Mortgage Assets Portfolio
| Down 300 | Down 200 | Down 100 | Flat Rates | Up 100 | Up 200 | Up 300 | |||||||||||||||||||||||||||||||||||
| Average Results | |||||||||||||||||||||||||||||||||||||||||
| 2021 Full Year | (11.2) | % | (10.7) | % | (5.9) | % | — | (1.4) | % | (5.8) | % | (7.7) | % | ||||||||||||||||||||||||||||
| 2020 Full Year | (15.9) | % | (15.9) | % | (14.6) | % | — | 11.9 | % | 2.4 | % | (10.3) | % | ||||||||||||||||||||||||||||
| Month-End Results | |||||||||||||||||||||||||||||||||||||||||
| December 31, 2021 | (4.8) | % | (4.8) | % | (2.8) | % | — | (3.4) | % | (9.9) | % | (14.4) | % | ||||||||||||||||||||||||||||
| December 31, 2020 | (15.3) | % | (15.3) | % | (11.3) | % | — | 10.6 | % | 3.9 | % | (1.7) | % | ||||||||||||||||||||||||||||
| Down 300 | Down 200 | Down 100 | Flat Rates | Up 100 | Up 200 | Up 300 | |||||||||||||
| Average Results | |||||||||||||||||||
| 2019 Full Year | (28.6 | )% | (24.1 | )% | (10.4 | )% | — | (2.4 | )% | (8.3 | )% | (11.7 | )% | ||||||
| 2018 Full Year | (35.9 | )% | (15.2 | )% | 0.3 | % | — | (4.3 | )% | (7.4 | )% | (10.0 | )% | ||||||
| Month-End Results | |||||||||||||||||||
| December 31, 2019 | (17.7 | )% | (17.2 | )% | (12.5 | )% | — | (5.6 | )% | (14.6 | )% | (20.5 | )% | ||||||
| December 31, 2018 | (41.2 | )% | (24.7 | )% | (3.6 | )% | — | (7.0 | )% | (13.2 | )% | (15.9 | )% | ||||||
The average risk exposure of the mortgage assets portfolio in 20192021 remained aligned with our preference to keep our exposure to market risk at a low to moderate level. The variances between periods shownprimarily reflect normal changes in the balance sheet composition and the impact of lowerslightly higher long-term interest rates observed in 2021 combined with the second halfshift in composition of 2019. These lower long-term interest rates result in muted exposure to falling rate shocks as they become floored when they reach near zero rate levels.the mortgage asset portfolio, which was accelerated by rapid repayments of mortgage assets throughout 2021. We believe the mortgage asset portfolio will continue to provide an acceptable risk adjusted return consistent with our risk appetite philosophy.
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Use of Derivatives in Market Risk Management
A key component of hedging market risk exposure is the use of derivative transactions. The following table presents the notional amounts of the derivatives classified by how we designate the hedging relationship. The notional amount of derivatives at December 31, 20192021 increased by $31.8$13.2 billion from the end of 2018,2020, primarily driven by actions taken in 2019due to reduce the repricing riskour heightened use of termswapped Discount Notes by swapping them to variable rates and due to purchases of fixed rate U.S. Treasury obligations throughout 2019 and swapping them to a variable rate.swapped fixed-rate Bonds in the current market environment.
| (In millions) | December 31, 2021 | December 31, 2020 | ||||||||||||||||||
| Hedged Item/Hedging Instrument | Hedging Objective | Fair Value Hedge | Economic Hedge | Fair Value Hedge | Economic Hedge | |||||||||||||||
| Advances: | ||||||||||||||||||||
| Pay-fixed, receive-float interest rate swap (without options) | Converts the Advance's fixed rate to a variable-rate index. | $ | 5,503 | $ | 10 | $ | 7,409 | $ | 5 | |||||||||||
| Pay-fixed, receive-float interest rate swap (with options) | Converts the Advance's fixed rate to a variable-rate index and offsets option risk in the Advance. | 2,452 | 21 | 2,664 | 27 | |||||||||||||||
| Total Advances | 7,955 | 31 | 10,073 | 32 | ||||||||||||||||
| Investment securities: | ||||||||||||||||||||
| Pay-fixed, receive-float interest rate swap (without options) | Converts the investment security's fixed rate to a variable-rate index. | 5,313 | 6,427 | 274 | 9,817 | |||||||||||||||
| Consolidated Obligations Bonds: | ||||||||||||||||||||
| Receive-fixed, pay-float interest rate swap (without options) | Converts the Bond's fixed rate to a variable-rate index. | 452 | 7,175 | 131 | 2,241 | |||||||||||||||
| Consolidated Discount Notes: | ||||||||||||||||||||
| Receive-fixed, pay-float interest rate swap (without options) | Converts the Discount Note's fixed rate to a variable-rate index. | — | 10,426 | — | — | |||||||||||||||
| Balance Sheet: | ||||||||||||||||||||
| Pay-float, receive-fixed interest-rate swap | Interest-rate swap not linked to a specific asset, liability or forecasted transaction. | — | — | — | 589 | |||||||||||||||
| Pay-fixed, receive-float interest-rate swap | Interest-rate swap not linked to a specific asset, liability or forecasted transaction. | — | — | — | 589 | |||||||||||||||
| Interest rate swaptions | Provides the option to enter into an interest rate swap to offset interest-rate or prepayment risk. | — | 1,219 | — | 2,175 | |||||||||||||||
| Total Balance Sheet | — | 1,219 | — | 3,353 | ||||||||||||||||
| Stand-Alone Derivatives: | ||||||||||||||||||||
| Mandatory Delivery Contracts | Exposure to fair-value risk associated with fixed rate mortgage purchase commitments. | — | 250 | — | 137 | |||||||||||||||
| Total | $ | 13,720 | $ | 25,528 | $ | 10,478 | $ | 15,580 | ||||||||||||
| (In millions) | December 31, 2019 | December 31, 2018 | ||||||||||||
| Hedged Item/Hedging Instrument | Hedging Objective | Fair Value Hedge | Economic Hedge | Fair Value Hedge | Economic Hedge | |||||||||
| Advances: | ||||||||||||||
| Pay-fixed, receive-float interest rate swap (without options) | Converts the Advance's fixed rate to a variable-rate index. | $ | 7,449 | $ | 5 | $ | 5,408 | $ | 10 | |||||
| Pay-fixed, receive-float interest rate swap (with options) | Converts the Advance's fixed rate to a variable-rate index and offsets option risk in the Advance. | 1,327 | 155 | 493 | 150 | |||||||||
| Pay-float with embedded features, receive-float interest rate swap (callable) | Reduces interest-rate sensitivity and repricing gaps by offsetting embedded option risk in the Advance. | 200 | — | — | — | |||||||||
| Total Advances | 8,976 | 160 | 5,901 | 160 | ||||||||||
| Investment securities: | ||||||||||||||
| Pay-fixed, receive-float interest rate swap (without options) | Converts the investment security's fixed rate to a variable-rate index. | 124 | 11,202 | 52 | 222 | |||||||||
| Mortgage Loans: | ||||||||||||||
| Forward settlement agreement | Protects against changes in market value of fixed-rate Mandatory Delivery Contracts resulting from changes in interest rates. | — | 849 | — | 131 | |||||||||
| Consolidated Obligations Bonds: | ||||||||||||||
| Receive-fixed, pay-float interest rate swap (without options) | Converts the Bond's fixed rate to a variable-rate index. | — | 4,709 | 15 | 3,376 | |||||||||
| Receive-fixed, pay-float interest rate swap (with options) | Converts the Bond's fixed rate to a variable-rate index and offsets option risk in the Bond. | 210 | 30 | 239 | 565 | |||||||||
Total Consolidated Obligations Bonds | 210 | 4,739 | 254 | 3,941 | ||||||||||
| Consolidated Discount Notes: | ||||||||||||||
| Receive-fixed, pay-float interest rate swap (without options) | Converts the Discount Note's fixed rate to a variable-rate index. | — | 12,401 | — | — | |||||||||
| Balance Sheet: | ||||||||||||||
| Interest rate swaptions | Provides the option to enter into an interest rate swap to offset interest-rate or prepayment risk. | — | 6,000 | — | 3,000 | |||||||||
| Stand-Alone Derivatives: | ||||||||||||||
| Mandatory Delivery Contracts | Exposure to fair-value risk associated with fixed rate mortgage purchase commitments. | — | 936 | — | 146 | |||||||||
| Total | $ | 9,310 | $ | 36,287 | $ | 6,207 | $ | 7,600 | ||||||
See Note 117 of the Notes to Financial Statements for additional information on how we use derivatives and the types of assets and liabilities hedged with derivatives.
Capital Adequacy
Retained Earnings
We must hold sufficient capital to protect against exposure to various risks, including market, credit, and operational. We regularly conduct a variety of measurements and assessments for capital adequacy. At December 31, 2019,2021, our capital management policy set forth a range of $200 million to $375approximately $270 million as the minimum amount of retained earnings we believe is necessary to mitigate impairment risk and to provide for dividend stability from factors that could cause earnings to be volatile.
55
The following table presents retained earnings.
| (In millions) | December 31, 2019 | December 31, 2018 | |||||
| Unrestricted retained earnings | $ | 648 | $ | 632 | |||
Restricted retained earnings (1) | 446 | 391 | |||||
| Total retained earnings | $ | 1,094 | $ | 1,023 | |||
| (In millions) | December 31, 2021 | December 31, 2020 | |||||||||
| Unrestricted retained earnings | $ | 783 | $ | 803 | |||||||
Restricted retained earnings (1) | 510 | 501 | |||||||||
| Total retained earnings | $ | 1,293 | $ | 1,304 | |||||||
(1) Pursuant to the FHLBank System's Joint Capital Enhancement Agreement we are not permitted to distribute as dividends.
As indicated in the table above, our current balance of retained earnings exceeds the policy range,minimum, which we expect will continue to be the case as we bolster capital adequacy over time by allocating a portion of earnings to the restricted retained earnings account.
Risk-Based Capital
The following table shows the amount of risk-based capital required based on Finance Agency prescribed measurements. By
regulation, we are required to hold permanent capital at least equal to the amount of risk-based capital.
| (Dollars in millions) | December 31, 2019 | Monthly Average 2019 | December 31, 2018 | (Dollars in millions) | December 31, 2021 | December 31, 2020 | ||||||||||||||||||||||
| Market risk-based capital | $ | 264 | $ | 249 | $ | 327 | Market risk-based capital | $ | 435 | $ | 211 | |||||||||||||||||
| Credit risk-based capital | 367 | 377 | 317 | Credit risk-based capital | 224 | 204 | ||||||||||||||||||||||
| Operational risk-based capital | 190 | 187 | 194 | Operational risk-based capital | 197 | 124 | ||||||||||||||||||||||
| Total risk-based capital requirement | 821 | 813 | 838 | Total risk-based capital requirement | 856 | 539 | ||||||||||||||||||||||
| Total permanent capital | 4,483 | 4,921 | 5,366 | Total permanent capital | 3,804 | 3,964 | ||||||||||||||||||||||
| Excess permanent capital | $ | 3,662 | $ | 4,108 | $ | 4,528 | Excess permanent capital | $ | 2,948 | $ | 3,425 | |||||||||||||||||
| Risk-based capital as a percent of permanent capital | 18 | % | 17 | % | 16 | % | Risk-based capital as a percent of permanent capital | 23 | % | 14 | % | |||||||||||||||||
The risk-based capital requirement has historically not been a constraint on operations, and we do not use it to actively manage
any of our risks. It has normally ranged from 10 to 2025 percent of permanent capital. As noted in the "Business Outlook and Risk Management" section of the "Executive Overview," in 2019, the Finance Agency issued a revised risk-based capital calculation effective for periods beginning on January 1, 2020. The revised calculation will not materially change the overall amount of risk-based capital required.
Market Capitalization Ratios
We measure two sets of market capitalization ratios. One measures the market value of equity (i.e., total capital) relative to the par value of regulatory capital stock (which is GAAP capital stock and mandatorily redeemable capital stock). The other measures the market value of total capital relative to the book value of total capital, which includes all components of capital, and mandatorily redeemable capital stock. The measures provide a point-in-time indication of the FHLB's liquidation or
franchise value and can also serve as a measure of realized or potential market risk exposure. The down shocks used are either 100 or 200 basis points depending on the benchmark interest rate levels at the time.
The following table presents the market value of equity to regulatory capital stock (excluding retained earnings) for several interest rate environments.
| December 31, 2019 | December 31, 2018 | December 31, 2021 | December 31, 2020 | |||||||||||||||||||
| Market Value of Equity to Par Value of Regulatory Capital Stock - Base Case (Flat Rates) Scenario | 129 | % | 119 | % | Market Value of Equity to Par Value of Regulatory Capital Stock - Base Case (Flat Rates) Scenario | 154 | % | 144 | % | |||||||||||||
Market Value of Equity to Par Value of Regulatory Capital Stock - Down Shock (1) | 125 | 113 | Market Value of Equity to Par Value of Regulatory Capital Stock - Down Shock (1) | 154 | 143 | |||||||||||||||||
Market Value of Equity to Par Value of Regulatory Capital Stock - Up Shock (2) | 124 | 114 | Market Value of Equity to Par Value of Regulatory Capital Stock - Up Shock (2) | 145 | 142 | |||||||||||||||||
(1) Represents a down shock of 100 basis points.
(2) Represents an up shock of 200 basis points.
A base case value below 100 percent could indicate that, in the remote event of an immediate liquidation scenario involving redemption of all capital stock, capital stock may be returned to stockholders at a value below par. This could be due to experiencing risks that lower the market value of capital and/or to having an insufficient amount of retained earnings. In 2019,2021, the market capitalization ratios in the scenarios presented continued to be above our policy requirements. The base case ratio at December 31, 20192021 was well above 100 percent because retained earnings were 3251 percent of regulatory capital stock and we maintained stable market risk exposures at moderate levels.exposure.
56
The following table presents the market value of equity to the book value of total capital and mandatorily redeemable capital stock.
| December 31, 2021 | December 31, 2020 | ||||||||||||||||
Market Value of Equity to Book Value of Capital - Base Case (Flat Rates) Scenario (1) | 101 | % | 97 | % | |||||||||||||
Market Value of Equity to Book Value of Capital - Down Shock (1)(2) | 101 | 96 | |||||||||||||||
Market Value of Equity to Book Value of Capital - Up Shock (1)(3) | 95 | 96 | |||||||||||||||
| December 31, 2019 | December 31, 2018 | ||||
Market Value of Equity to Book Value of Capital - Base Case (Flat Rates) Scenario (1) | 98 | % | 96 | % | |
Market Value of Equity to Book Value of Capital - Down Shock (1)(2) | 95 | 92 | |||
Market Value of Equity to Book Value of Capital - Up Shock (1)(3) | 94 | 93 | |||
(2) Represents a down shock of 100 basis points.
(3) Represents an up shock of 200 basis points.
A base-case value below 100 percent indicates that we have realized or could realize risks (especially market risk), such that the market value of total capital owned by stockholders is below the book value of total capital. The base-case ratio of 98 percent at December 31, 2019 indicates that the market value of total capital is $95 million below the book value of total capital. In a scenario in which interest rates increase 200 basis points, the market value of total capital would be $254$189 million below the book value of total capital. This indicates that in a liquidation scenario, stockholders would not receive the full sum of their total equity ownership in the FHLB. We believe the likelihood of a liquidation scenario is extremely remote; and therefore, we accept the risk of diluting equity ownership in such a scenario.
Credit Risk
Overview
Credit Services
Overview: We have policies and practices to manage credit risk exposure from our secured lending activities, which include Advances and Letters of Credit. The objective of our credit risk management activities is to equalize risk exposure across members and counterparties to a zero level of expected losses,losses. This approach is consistent with our conservative risk management principles and desire to have no residual credit risk related to member borrowings.Advances and Letters of Credit.
Collateral: We require each member to provide a security interest in eligible collateral before it can undertake any secured borrowing. Eligible loan collateral includes single-family loans,types include the following: single- and multi-family loans,residential, home equity, loans and lines of credit, commercial real estate, bond securitiesgovernment guaranteed and farm real estate. Eligible security types include those that are government or agency backed, along with highly-rated private-label residential and commercial mortgage-backed securities. We have conservative eligibility criteria within each of the above asset types. The estimated value of pledged collateral is discounted in order to offset market, credit, and liquidity risks that may affect the collateral's realizable value in the event it must be liquidated. Over-collateralization by one member is not applied to another member. At December 31, 2019, our policy of over-collateralization resulted in2021, total collateral pledged of $364.8$425.2 billion to serve members'resulted in total borrowing capacity of $290.1$346.8 billion of which $63.5$57.6 billion was used to support outstanding Advances and Letters of Credit. Borrowers often pledge collateral in excess of their collateral requirement to demonstrate availableaccess to liquidity and to have the ability to borrow additional amounts in the future. Over-collateralization by one member is not applied to another member. The collateral composition remained relatively stable compared to the end of 2018.2020.
57
The table below shows the total collateral pledged collateral (unadjusted for Lendable Value Rates).by type.
| December 31, 2019 | December 31, 2018 | December 31, 2021 | December 31, 2020 | |||||||||||||||||||||||||||||||||
| (Dollars in billions) | Percent of Total | Percent of Total | (Dollars in billions) | Percent of Total | Percent of Total | |||||||||||||||||||||||||||||||
| Collateral Amount | Pledged Collateral | Collateral Amount | Pledged Collateral | Eligible Collateral | Pledged Collateral | Eligible Collateral | Pledged Collateral | |||||||||||||||||||||||||||||
| Single family loans | $ | 208.9 | 57 | % | $ | 204.6 | 59 | % | ||||||||||||||||||||||||||||
| Single-family loans | Single-family loans | $ | 258.8 | 61 | % | $ | 226.6 | 57 | % | |||||||||||||||||||||||||||
| Multi-family loans | 68.4 | 19 | 60.1 | 17 | Multi-family loans | 59.5 | 14 | 60.0 | 15 | |||||||||||||||||||||||||||
| Commercial real estate | 46.3 | 13 | 43.3 | 13 | ||||||||||||||||||||||||||||||||
| Commercial real estate loans | Commercial real estate loans | 50.6 | 12 | 48.0 | 12 | |||||||||||||||||||||||||||||||
| Bond Securities | Bond Securities | 30.0 | 7 | 26.1 | 7 | |||||||||||||||||||||||||||||||
| Home equity loans/lines of credit | 29.2 | 8 | 27.9 | 8 | Home equity loans/lines of credit | 22.3 | 5 | 25.2 | 6 | |||||||||||||||||||||||||||
| Bond Securities | 11.3 | 3 | 11.4 | 3 | ||||||||||||||||||||||||||||||||
| Farm real estate | 0.7 | — | 0.7 | — | ||||||||||||||||||||||||||||||||
| Government guaranteed loans | Government guaranteed loans | 3.3 | 1 | 12.4 | 3 | |||||||||||||||||||||||||||||||
| Farm real estate loans | Farm real estate loans | 0.7 | — | 0.7 | — | |||||||||||||||||||||||||||||||
| Total | $ | 364.8 | 100 | % | $ | 348.0 | 100 | % | Total | $ | 425.2 | 100 | % | $ | 399.0 | 100 | % | |||||||||||||||||||
At December 31, 2019, 652021, 66 percent of collateral was related to residential mortgage lending in single-family loans and home equity loans/lines of credit.
▪Haircuts. We discount collateral values for purposes of determining borrowing capacity. These haircuts result in lendable values that are less than the amount of pledged under Blanket status using quarterly regulatory financial reports or periodic collateral “Certification” documents submitted by all significant borrowers.
▪Eligibility. The balances of loans and securities we lend against are subject to conservative eligibility criteria such that Advances and Letters of Credit are supported by high quality assets within each collateral type.
▪Custody. All pledged securities and loans pledged by higher risk members in Listing statusmust be delivered into our custody or that of a third-party custodian that we have engaged.
▪Blanket versus Specific Pledge. Except under limited circumstances, we require a member pledging loans under a blanket agreement to pledge all of their loans for a given collateral type.
▪Valuation. All members' securities collateral and individually listed loans are subject to a periodic market valuation process to establish the borrowing base. For loan collateral, this involves submission of extensive loan level information (on "Listings") to facilitate the valuation process. DeliveryAny member allowed to make a specific instead of a blanket pledge (non-depositories and certain highly-rated commercial banks) is the most restrictive collateral status, which we assignrequired to members experiencing significant financial difficulties, insurance companies, Community Development Financial Institutions and newly chartered institutions. We require borrowers in Delivery status to deliver into our custody securities and/or original notes, mortgages or deedssubmit this level of trust. Under any collateral status, members may elect to pledge bond securities, which we either hold in our custody or, less often, have third parties control on our behalf.reporting.
We use third-party services and internally run models to regularly estimate market values of collateral under Listing and Delivery status.individually listed loan collateral. Third-party services use various proprietary models to estimate market values. Assumptions may be made on factors that affect collateral value, such as market liquidity, discount rates, prepayments, liquidation and servicing costs in the event of a default and economic and market conditions. We have policies and procedures for evaluating the reasonableness of collateral valuations.
Borrowing Capacity/Lendable Value: We determine borrowing capacity against pledged collateral by applying collateral discounts, or haircuts, to the value of the collateral. These haircuts result in Lendable Value Rates (LVRs) that are less thanrepresent the amountpercent of pledged collateral.
collateral value net of the haircut. LVRs are determined by statistical analysis and management assumptions relating to historical price volatility, inherent credit risks, liquidation costs, and the current credit and economic environment. We apply LVR results to the estimated values of pledged assets. LVRs vary among pledged assets and members based on the member institution type, the financial strength of the member institution, the form of valuation, lien position, the issuer of bond collateral or the quality of securitized assets, the quality of the loan collateral as reflected in the manner in which it was underwritten, and the marketability of the pledged assets.
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The table below indicates the range of lendable values remaining after the application of LVRs for each major collateral type pledged at December 31, 2019.2021.
| Blanket Status: | |||||
| Prime 1-4 family loans | |||||
| Multi-family loans | |||||
| Prime home equity loans/lines of credit | |||||
| Commercial real estate loans | |||||
| Farm real estate loans | |||||
| Listing Status/Physical Delivery: | |||||
| Cash/U.S. Government/U.S. Treasury/U.S. agency securities | |||||
| U.S. agency residential MBS/collateralized mortgage obligations | |||||
| U.S. agency commercial MBS/collateralized mortgage obligations | 78-89% | ||||
| Private-label residential MBS | |||||
| Private-label commercial MBS | |||||
| Municipal securities | |||||
| Prime 1-4 family loans | |||||
| Multi-family loans | |||||
| Prime home equity loans/lines of credit | 64-86% | ||||
| Commercial real estate loans | |||||
| Farm real estate loans | |||||
| SBA Paycheck Protection Program loans | 10-90% | ||||
The ranges of lendable values exclude subprime residential loan collateral. Loans pledged by lower risk members for which we require only high level, summary reporting of eligible balances are generally discounted more heavily than loans on which we have detailed loan structure and underwriting information. For any form of loan collateral, additional credit risk based adjustments may be made to an individual member’s collateral that results in a lower lendable value than that indicated in the above table.
Subprime Loan Collateral: We have policies and processes to identify subprime residential mortgage loans pledged by members. We perform collateral reviews to estimate the volume of subprime loans pledged by members in blanket status. Depending on the quality of underwriting and administration, we may subject these loans to lower LVRs.
Internal Credit Ratings: We perform credit underwriting of our members and nonmember borrowersinstitutions and assign them an internal credit rating on a scale of one to seven, with a higher number representing a less favorable assessment of the institution's financial condition. These credit ratings are based on internal and third-party ratings models, credit analyses and consideration of credit ratings from independent credit rating organizations. Credit ratings are used in conjunction with other measures of credit risk in managing secured credit risk exposure.
A less favorable credit rating can cause us to 1) decrease the institution's borrowing capacity via lower LVRs, 2) require the institution to provide an increased level of detail on pledged collateral, 3) require it to deliver collateral into our custody, 4) prompt us to more closely and/or frequently monitor the institution, and/or 5) limit the institution's exposure through borrowing restrictions (e.g., maturity restrictions on new Advances or restrictions on borrowing capacity from higher risk collateral sources).
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The following tables show the distribution of internal credit ratings we assigned to member and nonmember borrowers,institutions, which we use to help manage credit risk exposure.
| (Dollars in billions) | ||||||||||||||||
| December 31, 2019 | December 31, 2018 | |||||||||||||||
| Borrowers | Borrowers | |||||||||||||||
| Collateral-Based | Collateral-Based | |||||||||||||||
| Credit | Borrowing | Credit | Borrowing | |||||||||||||
| Rating | Number | Capacity | Rating | Number | Capacity | |||||||||||
| 1-3 | 485 | $ | 276.3 | 1-3 | 486 | $ | 272.2 | |||||||||
| 4 | 119 | 12.6 | 4 | 131 | 11.0 | |||||||||||
| 5 | 37 | 1.1 | 5 | 26 | 0.4 | |||||||||||
| 6 | 6 | 0.1 | 6 | 5 | 0.1 | |||||||||||
| 7 | 5 | — | 7 | 7 | — | |||||||||||
| Total | 652 | $ | 290.1 | Total | 655 | $ | 283.7 | |||||||||
| (Dollars in billions) | ||||||||||||||||||||||||||||||||
| December 31, 2021 | December 31, 2020 | |||||||||||||||||||||||||||||||
| Number | Collateral-Based | Number | Collateral-Based | |||||||||||||||||||||||||||||
| Credit | of | Borrowing | Credit | of | Borrowing | |||||||||||||||||||||||||||
| Rating | Institutions | Capacity | Rating | Institutions | Capacity | |||||||||||||||||||||||||||
| 1-3 | 470 | $ | 322.6 | 1-3 | 441 | $ | 282.6 | |||||||||||||||||||||||||
| 4 | 109 | 23.1 | 4 | 141 | 31.7 | |||||||||||||||||||||||||||
| 5 | 29 | 0.9 | 5 | 36 | 1.3 | |||||||||||||||||||||||||||
| 6 | 12 | 0.2 | 6 | 13 | 0.3 | |||||||||||||||||||||||||||
| 7 | 3 | — | 7 | 5 | — | |||||||||||||||||||||||||||
| Total | 623 | $ | 346.8 | Total | 636 | $ | 315.9 | |||||||||||||||||||||||||
We consider membersinstitutions with credit ratings of "1" through "4" to be financially sound institutions.sound. At December 31, 2019,2021, only 48 borrowers (seven44 institutions (seven percent of the total) had credit ratings of "5" through "7," an increasea decrease of 10 borrowersinstitutions compared to the end of 2018.2020. These membersinstitutions had $1.2$1.1 billion of borrowing capacity at December 31, 2019.2021. We believe the credit rating distribution continues to show a financially sound membership base.
Member Failures, Closures, and Receiverships: There were twono member failures in 2019. We had no outstanding exposure to these institutions and the failure of these members did not have an impact on our financial condition or results of operations.2021.
MPP
Overview: The residual amount of credit risk exposure to loans in the MPP is minimal, based on the following factors:
▪various credit enhancements for conventional loans, which are designed to protect us against credit losses;
▪conservative underwriting and loan characteristics consistent with favorable expected credit performance;
▪a small overall amount of delinquencies and defaults when compared to national averages;
▪credit losses totaling less than $0.1 million in 2021 and $19.4 million since the introduction of the program in 2000, which represent an immaterial percentage of conventional loans' current unpaid principal balances at December 31, 2021 and of total purchases-to-date for the entire MPP; and
▪in addition to the low program-to-date credit losses, based on financial analysis, we believe that future credit losses will not harm capital adequacy and will not significantly affect profitability except under the most extreme and unlikely credit conditions.
Portfolio Loan Characteristics: The following table shows FICO® credit scores of homeowners at origination dates for the conventional loan portfolio.
FICO® Score (1) | December 31, 2019 | December 31, 2018 | ||||
| < 620 | — | % | — | % | ||
| 620 to < 660 | — | — | ||||
| 660 to < 700 | 6 | 6 | ||||
| 700 to < 740 | 17 | 17 | ||||
| >= 740 | 77 | 77 | ||||
| Weighted Average | 765 | 765 | ||||
FICO® Score (1) | December 31, 2021 | December 31, 2020 | ||||||||||||
| < 620 | — | % | — | % | ||||||||||
| 620 to < 660 | — | — | ||||||||||||
| 660 to < 700 | 7 | 6 | ||||||||||||
| 700 to < 740 | 18 | 17 | ||||||||||||
| >= 740 | 75 | 77 | ||||||||||||
| Weighted Average | 763 | 765 | ||||||||||||
The distribution of FICO®scores at origination as of December 31, 2021 were similar to those at year-end 2020. The distribution of FICO® scores at origination is one indication of the portfolio's overall favorable credit quality. At December 31, 2019, 772021, 75 percent of the
portfolio had scores at an excellent level of 740 or above and 9493 percent had scores above 700, which is a threshold generally considered indicative of homeowners with good credit quality.
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The following tables show loan-to-value ratios for conventional loans based on values estimated at the origination dates and current values estimated at the noted periods. The estimated current ratios are based on original loan values, principal paydowns that have occurred since origination, and a third-party estimate of changes in historical home prices for the zip code in which each loan resides. Both measures are weighted by current unpaid principal.
| Based on Estimated Origination Value | Based On Estimated Current Value | Based on Estimated Origination Value | Based On Estimated Current Value | |||||||||||||||||||||||||||||||||||||||||||
| Loan-to-Value | December 31, 2019 | December 31, 2018 | Loan-to-Value | December 31, 2019 | December 31, 2018 | Loan-to-Value | December 31, 2021 | December 31, 2020 | Loan-to-Value | December 31, 2021 | December 31, 2020 | |||||||||||||||||||||||||||||||||||
| <= 60% | 13 | % | 13 | % | <= 60% | 48 | % | 40 | % | <= 60% | 17 | % | 15 | % | <= 60% | 77 | % | 60 | % | |||||||||||||||||||||||||||
| > 60% to 70% | 15 | 14 | > 60% to 70% | 26 | 27 | > 60% to 70% | 18 | 16 | > 60% to 70% | 14 | 28 | |||||||||||||||||||||||||||||||||||
| > 70% to 80% | 58 | 58 | > 70% to 80% | 23 | 27 | > 70% to 80% | 53 | 55 | > 70% to 80% | 7 | 11 | |||||||||||||||||||||||||||||||||||
| > 80% to 90% | 9 | 9 | > 80% to 90% | 3 | 5 | > 80% to 90% | 8 | 9 | > 80% to 90% | 1 | 1 | |||||||||||||||||||||||||||||||||||
| > 90% | 5 | 6 | > 90% to 100% | — | 1 | > 90% | 4 | 5 | > 90% to 100% | 1 | — | |||||||||||||||||||||||||||||||||||
| > 100% | — | — | > 100% | — | — | |||||||||||||||||||||||||||||||||||||||||
| Weighted Average | 74 | % | 74 | % | Weighted Average | 59 | % | 62 | % | Weighted Average | 73 | % | 73 | % | Weighted Average | 49 | % | 55 | % | |||||||||||||||||||||||||||
The levels of loan-to-value ratios are consistent with the portfolio's excellent credit quality. At December 31, 2019, we estimated that three percent of loans haveLoans with current loan-to-value ratios above 80of 60 percent comparedand below increased to six77 percent of the total portfolio at the end of 2018. The improvement in the 2019 current loan-to-value ratiosDecember 31, 2021, which reflected the fourapproximately 18 percent average increase in housing prices nationwide duringbased on the year.most recent data available.
Based on the available data, we believe we have minimal exposure to loans in the MPP considered to have characteristics of “subprime” or “alternative/nontraditional” loans. Further, we do not knowingly purchase any loan that violates the terms of our Anti-Predatory Lending Policy.
The following table presents the geographical allocation based on the unpaid principal balance of conventional loans in the MPP.
| December 31, 2021 | December 31, 2020 | |||||||||||||
| Ohio | 63 | % | Ohio | 63 | % | |||||||||
| Kentucky | 12 | Kentucky | 13 | |||||||||||
| Indiana | 9 | Indiana | 10 | |||||||||||
| Tennessee | 4 | Tennessee | 3 | |||||||||||
| Alabama | 1 | Michigan | 1 | |||||||||||
| All others | 11 | All others | 10 | |||||||||||
| Total | 100 | % | Total | 100 | % | |||||||||
| December 31, 2019 | December 31, 2018 | |||||
| Ohio | 60 | % | Ohio | 61 | % | |
| Kentucky | 13 | Kentucky | 13 | |||
| Indiana | 11 | Indiana | 11 | |||
| Tennessee | 3 | Tennessee | 3 | |||
| Michigan | 1 | Michigan | 1 | |||
| All others | 12 | All others | 11 | |||
| Total | 100 | % | Total | 100 | % | |
Credit Enhancements: Conventional mortgage loans are supported against credit losses by various combinations of primary mortgage insurance (PMI), supplemental mortgage insurance (SMI) (for loans purchased before February 2011), and the Lender Risk Account (LRA). The LRA is a hold back of a portion of the initial purchase price to cover expected credit losses for a specific pool of loans. Starting after five years from the loan purchase date, we may return the hold back to PFIs if they manage credit risk to predefined acceptable levels of exposure on the loan pools they sell to us. As a result, some pools of loans may have sufficient credit enhancements to recapture all losses while other pools of loans may not. The LRA had balances of $233$252 million and $213$246 million at December 31, 20192021 and 2018,2020, respectively. For more information, see Note 106 of the Notes to Financial Statements.
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Credit Performance: The table below provides an analysis of conventional loans delinquent or in the process of foreclosure, along with the national average serious delinquency rate.
| Conventional Loan Delinquencies | |||||||||||
| (Dollars in millions) | December 31, 2021 | December 31, 2020 | |||||||||
Early stage delinquencies - unpaid principal balance (1) | $ | 33 | $ | 49 | |||||||
Serious delinquencies - unpaid principal balance (2) | $ | 24 | $ | 64 | |||||||
Early stage delinquency rate (3) | 0.5 | % | 0.5 | % | |||||||
Serious delinquency rate (4) | 0.3 | % | 0.7 | % | |||||||
National average serious delinquency rate (5) | 2.3 | % | 3.7 | % | |||||||
| Conventional Loan Delinquencies | |||||||
| (Dollars in millions) | December 31, 2019 | December 31, 2018 | |||||
Early stage delinquencies - unpaid principal balance (1) | $ | 40 | $ | 36 | |||
Serious delinquencies - unpaid principal balance (2) | $ | 12 | $ | 13 | |||
Early stage delinquency rate (3) | 0.4 | % | 0.4 | % | |||
Serious delinquency rate (4) | 0.1 | % | 0.1 | % | |||
National average serious delinquency rate (5) | 1.3 | % | 1.6 | % | |||
| (1)Includes conventional loans 30 to 89 days delinquent and not in foreclosure. |
(2)Includes conventional loans that are 90 days or more past due or where the decision of foreclosure or a similar alternative such as pursuit of deed-in-lieu has been reported.
(3)Early stage delinquencies expressed as a percentage of the total conventional loan portfolio.
(4)Serious delinquencies expressed as a percentage of the total conventional loan portfolio.
(5)National average number of fixed-rate prime and subprime conventional loans that are 90 days or more past due or in the process of foreclosure is based on the most recent national delinquency data available. The MPP has experiencedDecember 31, 2021 rate is based on September 30, 2021 data.
In response to the COVID-19 pandemic, our mortgage loan servicers granted a minimal amountforbearance period to borrowers who had COVID-19 related hardships such as illness, unemployment or loss of income when homeowners met certain eligibility requirements. These forbearances do not alter the underlying terms of the loans, and loans not paid timely are considered past due. As a result, serious delinquencies were elevated at December 31, 2021 and 2020. At December 31, 2021 and 2020, $8 million and $51 million of conventional loans with thea serious delinquency rate continuing to be well below national averages.were under a forbearance plan. Delinquencies at December 31, 2021 have decreased since year-end 2020 as fewer borrowers have requested temporary relief provisions for MPP loans.
We consider a high risk loan as having a current loan-to-value ratio above 100 percent. At December 31, 2021, we had no loans with a current loan-to-value ratio above 100 percent. Historically, high risk loans have experienced a minimal amount of serious delinquencies (i.e., delinquencies that are 90 days or more past due or in the process of foreclosure). For example, of the $0.2 million of conventional principal balances with current estimated loan-to-values above 100 percent at December 31, 2019, none of them were seriously delinquent.delinquencies. We believe these data further support our view that the overall portfolio is comprised of high-quality, well-performing loans.
Credit Losses: The following table shows the effects ofResidual credit enhancements on the estimation of credit losses at the noted periods. Estimated incurred credit losses, after credit enhancements, are accounted for in the allowance for credit loss or as a charge off (i.e., a reduction to the principal of mortgage loans held for portfolio).
| (In millions) | December 31, 2019 | December 31, 2018 | |||||
| Estimated incurred credit losses, before credit enhancements | $ | 4 | $ | 4 | |||
| Estimated amounts deemed recoverable by: | |||||||
| Primary mortgage insurance | — | (1 | ) | ||||
| Supplemental mortgage insurance | (2 | ) | (1 | ) | |||
| Lender Risk Account | (1 | ) | (1 | ) | |||
| Estimated incurred credit losses, after credit enhancements | $ | 1 | $ | 1 | |||
Investments
Liquidity Investments: We purchase liquidity investments from counterparties that have a strong ability to repay principal and interest. LiquidityThese investments are either short-term, or longer-term, but can be easily converted to cash and may be unsecured, guaranteed or supported by the U.S. government, or secured (i.e., collateralized). For unsecured liquidity investments, we invest in the debt securities of highly rated, investment-grade institutions, have appropriate and conservative limits on dollar and maturity exposure to each institution, and have strong credit underwriting practices, including active monitoring of credit quality of our counterparties and of the environment in which they operate.
Our unsecured liquidity investments to a counterparty or group of affiliated counterparties are limited by Finance Agency regulations to maturities of no more than nine months and limited to a dollar amount based on a percentage of eligible regulatory capital (defined as the lessor of our regulatory capital or the eligible amount of a counterparty's Tier 1 capital). The permissible percentage ranges from one1 percent to 15 percent. Through December 31, 2019, the range was based on the counterparty's lowest long-term credit rating of its debt from an NRSRO. In addition, pursuant to a Finance Agency regulation, we complemented reliance on NRSRO ratings for unsecured investment activity by also considering internal credit risk analytics on unsecured counterparties. Effective January 1, 2020, theThe permissible range is solely based on consideration of the internal credit risk ratings of unsecured counterparties as required by the Finance Agency's final rule issued in 2019. We do not expect the dollar amount limits to our unsecured liquidity investment counterparties to change materially as a resultAgency regulations.
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The lowest long-term credit rating for a counterparty to which we are permitted to extend credit is double-B. However, we have generally invested funds only in those eligible institutions with long-term credit ratings of at least single-A. In addition, we restrict maturities, reduce dollar exposure, and avoid new investments with counterparties we deem to represent elevated credit risk. Furthermore, a portion of our total liquidity investments are with counterparties for which the investments are secured with collateral (secured resale agreements). We believe these investments present no credit risk exposure to us.
The following table presents the carrying value of liquidity investments outstanding in relation to the counterparties' lowest long-term credit ratings provided by Standard & Poor's, Moody's, and/or Fitch Advisory Services. For resale agreements, the ratings shown are based on ratings of the associated collateral. Our internal ratings of these investments may differ from those obtained from Standard & Poor's, Moody's, and/or Fitch Advisory Services. The historical or current ratings displayed in this table should not be taken as an indication of future ratings.
| (In millions) | December 31, 2019 | (In millions) | December 31, 2021 | |||||||||||||||||||||||||||||||
| Long-Term Rating | Long-Term Rating | |||||||||||||||||||||||||||||||||
| AA | A | Total | AA | A | Total | |||||||||||||||||||||||||||||
| Unsecured Liquidity Investments | Unsecured Liquidity Investments | |||||||||||||||||||||||||||||||||
| Interest-bearing deposits | $ | — | $ | 550 | $ | 550 | Interest-bearing deposits | $ | — | $ | 340 | $ | 340 | |||||||||||||||||||||
| Federal funds sold | 1,023 | 3,810 | 4,833 | Federal funds sold | 975 | 4,530 | 5,505 | |||||||||||||||||||||||||||
| Certificates of deposit | 500 | 910 | 1,410 | |||||||||||||||||||||||||||||||
| Total unsecured liquidity investments | 1,523 | 5,270 | 6,793 | Total unsecured liquidity investments | 975 | 4,870 | 5,845 | |||||||||||||||||||||||||||
| Guaranteed/Secured Liquidity Investments | Guaranteed/Secured Liquidity Investments | |||||||||||||||||||||||||||||||||
| Securities purchased under agreements to resell | 2,349 | — | 2,349 | Securities purchased under agreements to resell | 1,282 | — | 1,282 | |||||||||||||||||||||||||||
| U.S. Treasury obligations | 9,662 | — | 9,662 | U.S. Treasury obligations | 9,577 | — | 9,577 | |||||||||||||||||||||||||||
| GSE obligations | 2,120 | — | 2,120 | GSE obligations | 1,885 | — | 1,885 | |||||||||||||||||||||||||||
| Total guaranteed/secured liquidity investments | 14,131 | — | 14,131 | Total guaranteed/secured liquidity investments | 12,744 | — | 12,744 | |||||||||||||||||||||||||||
| Total liquidity investments | $ | 15,654 | $ | 5,270 | $ | 20,924 | Total liquidity investments | $ | 13,719 | $ | 4,870 | $ | 18,589 | |||||||||||||||||||||
| December 31, 2020 | |||||||||||||||||||||||
| Long-Term Rating | |||||||||||||||||||||||
| AA | A | Total | |||||||||||||||||||||
| Unsecured Liquidity Investments | |||||||||||||||||||||||
| Interest-bearing deposits | $ | — | $ | 555 | $ | 555 | |||||||||||||||||
| Federal funds sold | 500 | 3,740 | 4,240 | ||||||||||||||||||||
| Total unsecured liquidity investments | 500 | 4,295 | 4,795 | ||||||||||||||||||||
| Guaranteed/Secured Liquidity Investments | |||||||||||||||||||||||
| Securities purchased under agreements to resell | 1,818 | — | 1,818 | ||||||||||||||||||||
| U.S. Treasury obligations | 8,404 | — | 8,404 | ||||||||||||||||||||
| GSE obligations | 2,268 | — | 2,268 | ||||||||||||||||||||
| Total guaranteed/secured liquidity investments | 12,490 | — | 12,490 | ||||||||||||||||||||
| Total liquidity investments | $ | 12,990 | $ | 4,295 | $ | 17,285 | |||||||||||||||||
| December 31, 2018 | |||||||||||
| Long-Term Rating | |||||||||||
| AA | A | Total | |||||||||
| Unsecured Liquidity Investments | |||||||||||
| Federal funds sold | $ | 5,640 | $ | 5,153 | $ | 10,793 | |||||
| Certificates of deposit | 800 | 1,550 | 2,350 | ||||||||
| Total unsecured liquidity investments | 6,440 | 6,703 | 13,143 | ||||||||
| Guaranteed/Secured Liquidity Investments | |||||||||||
| Securities purchased under agreements to resell | 4,402 | — | 4,402 | ||||||||
| U.S. Treasury obligations | 36 | — | 36 | ||||||||
| GSE obligations | 277 | — | 277 | ||||||||
| Total guaranteed/secured liquidity investments | 4,715 | — | 4,715 | ||||||||
| Total liquidity investments | $ | 11,155 | $ | 6,703 | $ | 17,858 | |||||
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The following table presents the lowest long-term credit ratings provided by Standard & Poor's, Moody's, and/or Fitch Advisory Services of our unsecured investment credit exposuresexposure by the domicile of the counterparty or the domicile of the counterparty's immediate parent for U.S. branches and agency offices of foreign commercial banks. Our internal ratings of these investments may differ from those obtained from Standard & Poor's, Moody's, and/or Fitch Advisory Services. The historical or current ratings displayed in this table should not be taken as an indication of future ratings.
| (In millions) | December 31, 2019 | (In millions) | December 31, 2021 | |||||||||||||||||||||||||||||
| Counterparty Rating | Counterparty Rating | |||||||||||||||||||||||||||||||
| Domicile of Counterparty | AA | A | Total | Domicile of Counterparty | AA | A | Total | |||||||||||||||||||||||||
| Domestic | $ | 238 | $ | 1,950 | $ | 2,188 | Domestic | $ | — | $ | 340 | $ | 340 | |||||||||||||||||||
| U.S. branches and agency offices of foreign commercial banks: | U.S. branches and agency offices of foreign commercial banks: | |||||||||||||||||||||||||||||||
| Canada | 500 | 360 | 860 | Canada | 675 | 2,025 | 2,700 | |||||||||||||||||||||||||
| Switzerland | — | 810 | 810 | |||||||||||||||||||||||||||||
| Germany | — | 800 | 800 | |||||||||||||||||||||||||||||
| United Kingdom | — | 800 | 800 | |||||||||||||||||||||||||||||
| Australia | 685 | — | 685 | Australia | — | 1,055 | 1,055 | |||||||||||||||||||||||||
| Netherlands | — | 550 | 550 | Netherlands | — | 600 | 600 | |||||||||||||||||||||||||
| Norway | 100 | — | 100 | |||||||||||||||||||||||||||||
| Germany | Germany | — | 425 | 425 | ||||||||||||||||||||||||||||
| France | France | — | 425 | 425 | ||||||||||||||||||||||||||||
| Finland | Finland | 300 | — | 300 | ||||||||||||||||||||||||||||
| Total U.S. branches and agency offices of foreign commercial banks | 1,285 | 3,320 | 4,605 | Total U.S. branches and agency offices of foreign commercial banks | 975 | 4,530 | 5,505 | |||||||||||||||||||||||||
| Total unsecured investment credit exposure | $ | 1,523 | $ | 5,270 | $ | 6,793 | Total unsecured investment credit exposure | $ | 975 | $ | 4,870 | $ | 5,845 | |||||||||||||||||||
The following table presents the remaining contractual maturity of our unsecured investment credit exposure by the domicile of the counterparty or the domicile of the counterparty's immediate parent for U.S. branches and agency offices of foreign commercial banks.
| (In millions) | December 31, 2019 | |||||||||||||||
| Domicile of Counterparty | Overnight | Due 2 days through 30 days | Due 31 days through 90 days | Total | ||||||||||||
| Domestic | $ | 2,188 | $ | — | $ | — | $ | 2,188 | ||||||||
| U.S. branches and agency offices of foreign commercial banks: | ||||||||||||||||
| Canada | 250 | 110 | 500 | 860 | ||||||||||||
| Switzerland | 810 | — | — | 810 | ||||||||||||
| Germany | — | 800 | — | 800 | ||||||||||||
| United Kingdom | 800 | — | — | 800 | ||||||||||||
| Australia | 685 | — | — | 685 | ||||||||||||
| Netherlands | 550 | — | — | 550 | ||||||||||||
| Norway | 100 | — | — | 100 | ||||||||||||
| Total U.S. branches and agency offices of foreign commercial banks | 3,195 | 910 | 500 | 4,605 | ||||||||||||
| Total unsecured investment credit exposure | $ | 5,383 | $ | 910 | $ | 500 | $ | 6,793 | ||||||||
| (In millions) | December 31, 2021 | |||||||||||||||||||||||||||||||
| Domicile of Counterparty | Overnight | Total | ||||||||||||||||||||||||||||||
| Domestic | $ | 340 | $ | 340 | ||||||||||||||||||||||||||||
| U.S. branches and agency offices of foreign commercial banks: | ||||||||||||||||||||||||||||||||
| Canada | 2,700 | 2,700 | ||||||||||||||||||||||||||||||
| Australia | 1,055 | 1,055 | ||||||||||||||||||||||||||||||
| Netherlands | 600 | 600 | ||||||||||||||||||||||||||||||
| Germany | 425 | 425 | ||||||||||||||||||||||||||||||
| France | 425 | 425 | ||||||||||||||||||||||||||||||
| Finland | 300 | 300 | ||||||||||||||||||||||||||||||
| Total U.S. branches and agency offices of foreign commercial banks | 5,505 | 5,505 | ||||||||||||||||||||||||||||||
| Total unsecured investment credit exposure | $ | 5,845 | $ | 5,845 | ||||||||||||||||||||||||||||
We restrict a significant portion of unsecured lending to overnight maturities, which further limits risk exposure to these counterparties. By Finance Agency regulation, all counterparties exposed to non-U.S. countries are required to be domestic U.S. branches of foreign counterparties.
MBS:
GSE MBS
At December 31, 2019, $11.82021, $9.7 billion of MBS held were GSE securities issued by Fannie Mae and Freddie Mac, which provide credit safeguards by guaranteeing either timely or ultimate payments of principal and interest. We believe that the conservatorships of Fannie Mae and Freddie Mac lower the chance that they would not be able to fulfill their credit guarantees and that the securities issued by these two GSEs are effectively government guaranteed.guarantees. In addition, based on the data available to us and our purchase practices, we believe that most of the mortgage loans backing our GSE MBS are of high quality with acceptable credit performance.
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MBS Issued by Other Government Agencies
We also invest in MBS issued and guaranteed by Ginnie Mae and the NCUA.Mae. These investments totaled $1.7$1.1 billion at December 31, 2019.2021. We believe that the strength of the issuers' guaranteesGinnie Mae's guarantee and backing by the full faith and credit of the U.S. government is sufficient to protect us against credit losses on these securities.
Derivatives
Credit Risk Exposure: We mitigate most of the credit risk exposure resulting from derivative transactions through collateralization or use of daily settled contracts. The table below presents the lowest long-term counterparty credit ratings provided by Standard & Poor's, Moody's, and/or Fitch Advisory Services for derivative positions to which we had credit risk exposure at December 31, 2019. The historical or current ratings displayed in this table should not be taken as an indication of future ratings.2021.
| (In millions) | (In millions) | |||||||||||||||||||||||||||||||||||||||||
| Total Notional | Net Derivatives Fair Value Before Collateral | Cash Collateral Pledged to (from) Counterparties | Net Credit Exposure to Counterparties | Total Notional | Net Derivatives Fair Value Before Collateral | Cash Collateral Pledged to (from) Counterparties | Net Credit Exposure to Counterparties | |||||||||||||||||||||||||||||||||||
| Nonmember counterparties: | Nonmember counterparties: | |||||||||||||||||||||||||||||||||||||||||
| Asset positions with credit exposure: | Asset positions with credit exposure: | |||||||||||||||||||||||||||||||||||||||||
| Uncleared derivatives: | Uncleared derivatives: | |||||||||||||||||||||||||||||||||||||||||
| AA-rated | $ | 584 | $ | 1 | $ | (1 | ) | $ | — | AA-rated | $ | 155 | $ | — | $ | — | $ | — | ||||||||||||||||||||||||
| A-rated | 13 | — | — | — | A-rated | 66 | — | — | — | |||||||||||||||||||||||||||||||||
| Total uncleared derivatives | 597 | 1 | (1 | ) | — | Total uncleared derivatives | 221 | — | — | — | ||||||||||||||||||||||||||||||||
Cleared derivatives (1) | 29,785 | 13 | 242 | 255 | Cleared derivatives (1) | 26,552 | 1 | 160 | 161 | |||||||||||||||||||||||||||||||||
| Liability positions with credit exposure: | Liability positions with credit exposure: | |||||||||||||||||||||||||||||||||||||||||
| Uncleared derivatives: | Uncleared derivatives: | |||||||||||||||||||||||||||||||||||||||||
| A-rated | 2,170 | (4 | ) | 4 | — | |||||||||||||||||||||||||||||||||||||
| BBB-rated | 2,520 | (38 | ) | 40 | 2 | BBB-rated | 208 | (13) | 13 | — | ||||||||||||||||||||||||||||||||
| Total uncleared derivatives | 4,690 | (42 | ) | 44 | 2 | Total uncleared derivatives | 208 | (13) | 13 | — | ||||||||||||||||||||||||||||||||
Cleared derivatives (1) | 6,104 | — | 7 | 7 | Cleared derivatives (1) | 8,734 | — | 137 | 137 | |||||||||||||||||||||||||||||||||
| Total derivative positions with credit exposure to nonmember counterparties | 41,176 | (28 | ) | 292 | 264 | Total derivative positions with credit exposure to nonmember counterparties | 35,715 | (12) | 310 | 298 | ||||||||||||||||||||||||||||||||
Member institutions (2) | 814 | 3 | — | 3 | Member institutions (2) | 38 | — | — | — | |||||||||||||||||||||||||||||||||
| Total | $ | 41,990 | $ | (25 | ) | $ | 292 | $ | 267 | Total | $ | 35,753 | $ | (12) | $ | 310 | $ | 298 | ||||||||||||||||||||||||
(1)Represents derivative transactions cleared with LCH Ltd. and CME Clearing, the FHLB's clearinghouses. LCH Ltd. is rated AA- by Standard & Poor's, and CME Clearing is not rated, but its parent company, CME Group Inc., is rated Aa3 by Moody's and AA- by Standard & Poor's.
(2)Represents Mandatory Delivery Contracts.
Our exposure to cleared derivatives is primarily associated with ourthe requirement to post initial margin through the clearing agent to the Derivatives Clearing Organizations. The amount ofWe pledge cash as collateral pledged asto satisfy this initial margin has increased from our use of cleared derivatives.requirement. However, the use of cleared derivatives mitigates credit risk exposure because a central counterparty is substituted for individual counterparties.
At December 31, 2019,2021, the net exposure of uncleared derivatives with residual credit risk exposure was less than $3$1 million. If interest rates rise or the composition of our derivatives change resulting in an increase to our gross exposure to uncleared derivatives, the contractual collateral provisions in these derivatives would limit our net exposure to acceptable levels.
Although we cannot predict if we will realize credit risk losses from any of our derivatives counterparties, we believe that all of the counterparties will be able to continue making timely interest payments and, more generally, to continue to satisfy the terms and conditions of their derivative contracts with us. As of December 31, 2019,2021, we had $491 million$0.4 billion of notional principal of interest rate swaps with onea subsidiary of our member, JPMorgan Chase Bank, N.A., which also had outstanding credit services with us. Due to the amount of market value collateralization, we had no outstanding credit exposure to this counterparty related to interest rate swaps outstanding.
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Liquidity Risk
Liquidity Overview
We strive to be in a liquidity position at all times to meet the borrowing needs of our members and to meet all current and future financial commitments. This objective is achieved by managing liquidity positions to maintain stable, reliable, and cost-effective sources of funds while taking into account market conditions, member demand, and the maturity profile of assets and liabilities. Our liquidity position complies with the FHLBank Act, Finance Agency regulations, and internal policies.
The FHLBank System's primary source of funds is the sale of Consolidated Obligations in the capital markets. Our ability to obtain funds through the sale of Consolidated Obligations at acceptable interest costs depends on the financial market's perception of the riskiness of the Obligations and on prevailing conditions in the capital markets, particularly the short-term capital markets. The System's favorable debt ratings, the implicit U.S. government backing of our debt, and our effective risk management practices are instrumental in ensuring stable and satisfactory access to the capital markets.
We believe our liquidity position, as well as that of the System, continued to be strong during 2019.2021. Our overall ability to effectively fund our operations through debt issuances remained sufficient. Investor demand for System debt was robust in 2019. Although we can make no assurances, we expect this2021, as investors continued to continue to be the case.prefer short-term, high-quality money market instruments. We believe the possibility of a liquidity or funding crisis in the System that would impair our ability to participate, on a cost-effective basis, in issuances of debt, service outstanding debt, maintain adequate capitalization, or pay competitive dividends is remote.
The System works collectively to manage and monitor the System-wide liquidity and funding risks. Liquidity risk includes the risk that the System could have difficulty rolling over short-term Obligations when market conditions change, also called refinancing risk. The System has a large reliance on short-term funding; therefore, it has a sharp focus on managing liquidity risk to very low levels. As shown on the Statements of Cash Flows, in 2019,2021, our portion of the System's debt issuances totaled $823.2$193.5 billion for Discount Notes and $27.9$33.8 billion for Bonds. Access to short-term debt markets has been reliable because investors, driven by liquidity preferences and risk aversion, have sought the System’s short-term debt, which has resulted in strong demand for debt maturing in one year or less.
See the Notes to Financial Statements for more detailed information regarding maturities of certain financial assets and liabilities which are instrumental in determining the amount of liquidity risk. In addition to contractual maturities, other assumptions regarding cash flows such as estimated prepayments, embedded call optionality, and scheduled amortization are considered when managing liquidity risks.
Liquidity Management and Regulatory Requirements
We manage liquidity risk by ensuring compliance with our regulatory liquidity requirements and regularly monitoring other metrics.
The Liquidity ABFinance Agency also providedprovides guidance related to asset/liability maturity funding gap limits, which was implemented on December 31, 2018.limits. Funding gap metrics measure the difference between assets and liabilities that are scheduled to mature during a specified period of time and are expressed as a percentage of total assets. Although subject to change depending on conditions in the financial markets, the Liquidity AB provides guidance on maintaining appropriatecurrent regulatory requirement for funding gaps for three-month (-10is between -10 percent to -20 percent)percent for the three-month maturity horizon and one-year (-25is between -25 percent to -35 percent)percent for the one-year maturity horizons. The Finance Agency's supervisory letter set forth initial funding gap percentage limits.horizon. As of December 31, 2019,2021, we were operating within those limits.
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| (In millions) | December 31, 2019 | December 31, 2018 | |||||
| Contingency Liquidity Requirement | |||||||
Total Contingency Liquidity Reserves (1) | $ | 45,703 | $ | 34,808 | |||
Total Requirement (2) | (26,182 | ) | (18,745 | ) | |||
| Excess Contingency Liquidity Available | $ | 19,521 | $ | 16,063 | |||
To support our member deposits, we also must meet a statutory deposit reserve requirement. The sum of our investments in obligations of the United States, deposits in eligible banks or trust companies, and Advances with a final maturity not exceeding five years must equal or exceed the current amount of member deposits. The following table presents the components of this liquidity requirement.
| (In millions) | December 31, 2019 | December 31, 2018 | |||||
| Deposit Reserve Requirement | |||||||
| Total Eligible Deposit Reserves | $ | 61,590 | $ | 66,643 | |||
| Total Member Deposits | (942 | ) | (664 | ) | |||
| Excess Deposit Reserves | $ | 60,648 | $ | 65,979 | |||
| (In millions) | December 31, 2021 | December 31, 2020 | |||||||||
| Deposit Reserve Requirement | |||||||||||
| Total Eligible Deposit Reserves | $ | 35,230 | $ | 37,185 | |||||||
| Total Member Deposits | (1,416) | (1,327) | |||||||||
| Excess Deposit Reserves | $ | 33,814 | $ | 35,858 | |||||||
| (In millions) | < 1 year | 1 < 3 years | 3 < 5 years | > 5 years | Total | ||||||||||||||
| Contractual Obligations | |||||||||||||||||||
Long-term debt (Bonds) - par (1) | $ | 18,260 | $ | 11,318 | $ | 4,664 | $ | 4,139 | $ | 38,381 | |||||||||
| Operating leases (include premises and equipment) | 1 | 3 | 2 | 2 | 8 | ||||||||||||||
| Mandatorily redeemable capital stock | 15 | 1 | 5 | 1 | 22 | ||||||||||||||
| Commitments to fund mortgage loans | 936 | — | — | — | 936 | ||||||||||||||
| Pension and other postretirement benefit obligations | 3 | 5 | 4 | 37 | 49 | ||||||||||||||
| Total Contractual Obligations | $ | 19,215 | $ | 11,327 | $ | 4,675 | $ | 4,179 | $ | 39,396 | |||||||||
| (In millions) | < 1 year | 1 < 3 years | 3 < 5 years | > 5 years | Total | ||||||||||||||
Off-balance sheet items (1) | |||||||||||||||||||
| Standby Letters of Credit | $ | 15,143 | $ | 993 | $ | 68 | $ | 1 | $ | 16,205 | |||||||||
| Standby bond purchase agreements | 21 | 55 | — | — | 76 | ||||||||||||||
| Total off-balance sheet items | $ | 15,164 | $ | 1,048 | $ | 68 | $ | 1 | $ | 16,281 | |||||||||
Member Concentration Risk
We regularly assess concentration risks from business activity. We believe that the concentration of Advance activity is consistent with our risk management philosophy, and the impact of borrower concentration on market risk, credit risk, and operational risk, after considering mitigating controls, is minimal.
We believe the effect on credit risk exposure from borrower concentration is minimal because of our application of credit risk mitigations, the most important of which is over-collateralization of borrowings. In the remote possibility of failure of a member to whom we lent a large amount of Advances, combined with the Federal Deposit Insurance Corporation's decision not to repay Advances, we would implement our member failure plan. Our member failure plan, which we test periodically, would liquidate collateral to recover losses from losing principal and interest on the Advance balances.
Advance concentration has a minimal effect on market risk exposure because Advances are largely funded by Consolidated Obligations and interest rate swaps that have similar interest rate characteristics. Furthermore, additional increases in Advance concentration would not materially affect capital adequacy because Advance growth is supported by new purchases of capital stock as required by the Capital Plan.
Operational Risks
Operational risk is defined as the risk of an unexpected loss resulting from human error, fraud, inability to enforce legal contracts, or deficiencies in internal controls or information systems. We mitigate operational risks through adherence to internal policies, conformance with entity level controls, and through an emphasis on the importance of risk management, as further discussed below. In addition, the Internal Audit Department, which reports directly to the Audit Committee of the Board
of Directors, regularly monitors and tests compliance with our policies, procedures and applicable regulatory requirements and best practices.requirements.
Internal Department Procedures and Controls
Each of our departments maintains and regularly reviews and enhances, as needed, a system of internal procedures and controls, including those that address proper segregation of duties. Each system is designed to prevent any one individual from processing the entirety of a transaction that affects member accounts, correspondent FHLB accounts or third-party servicers providing support to us. We review daily and periodic transaction activity reports in a timely manner to detect erroneous or fraudulent activity. Procedures and controls also are assessed on an enterprise-wide basis, independently from the business unit departments. We also are in compliance with Sarbanes-Oxley Sections 302 and 404, which focus on the control environment over financial reporting.
Information Systems
We rely heavily upon internal and third-party information systems and other technology to conduct and manage our business. Our operations rely on the secure processing, storage and transmission of confidential and other information in our computer systems and networks. Our computer systems, software and networks may be subjected to cyberattacks (e.g., breaches, unauthorized access, misuse, computer viruses or other malicious code and other events) that could jeopardize the confidentiality or integrity of such information, or otherwise cause interruptions or malfunctions in our operations.
We mitigate the risk associated with cyberattacks through the implementation of multiple layers of security controls. Administrative, physical, and logical controls are in place for establishing, administering and actively monitoring system access, sensitive data, and system change. Additionally, separate groups within our organization and/or third parties validatetest the strength of our security controls and confirm that established policiesresponses, and procedures are adequately followed.recommend changes as needed to bolster resilience to security risks.
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Disaster Recovery Provisions
We have a Business Resiliency Management Plan that provides us with the ability to maintain operations in various scenarios of business disruption. We review and update this plan periodically to ensure that it serves our changing operational needs and those of our members. WeIn case of business disruptions, we have an off-site facility in a suburb of Cincinnati, Ohio, which is kept ready for use and tested at least annually.annually, and employees are set up to work from home. We also have a back-up agreement in place with another FHLBank in the event that both of our Cincinnati-based facilities are inoperable.
Insurance Coverage
We have insurance coverage for cyber risks, employee fraud, forgery and wrongdoing, and Directors' and Officers' liability. This coverage primarily provides protection for claims alleging breach of duty, misappropriation of funds, neglect, acts of omission, employment practices, and fiduciary liability. We also have property, casualty, computer equipment, automobile, and various other types of other coverage as well.coverage.
Human Resources Policies and Procedures
The risks associated with our Human Resources function are categorized as either Employment Practices Risk or Human Capital Risk. Employment Practices Risk is the potential failure to properly administer our policies regarding employment practices and compensation and benefit programs for eligible staff and retirees, and the potential failure to observe and properly comply with federal, state and municipal laws and regulations. Human Capital Risk is the potential inability to attract and retain appropriate levels of qualified human resources to maintain efficient operations.
Comprehensive policies and procedures are in place to limit Employment Practices Risk. These are supported by an established internal control system that is routinely monitored and audited. With respect to Human Capital Risk, we strive to maintain a competitive salary and benefit structure, which is regularly reviewed and updated as appropriate to attract and retain qualified staff. In addition, we have a management succession plan that is reviewed and approved by our Board of Directors. See "Human Capital Resources" in Item 1. Business for further discussion.
CRITICAL ACCOUNTING POLICIES AND ESTIMATES
Introduction
The preparation of financial statements in accordance with GAAP requires management to make a number of significant judgments, estimates, and assumptions that affect the reported amounts of assets and liabilities, the disclosure of contingent assets and liabilities (if applicable), and the reported amounts of income and expenses during the reported periods. Although
management believes its judgments, estimates, and assumptions are reasonable, actual results may differ and other parties could arrive at different conclusions.
We have identified the following critical accounting policies that require management to make subjective or complex judgments about inherently uncertain matters. Our financial condition and results of operations could be materially affected under different conditions or different assumptions related to these accounting policies.
Accounting for Derivatives and Hedging Activity
In accordance with Finance Agency regulations, we execute all derivatives to manage market risk exposure, not for speculation or solely for earnings enhancement. We record derivative instruments at their fair values on the Statements of Condition, and we record changes in these fair values in current period earnings. We strive to ensure that our use of derivatives maximizes the probability that they are highly effective in offsetting changes in the market values of the designated balance sheet instruments.
Fair Value Hedges
As indicated in the "Use of Derivatives in Market Risk Management" section of "Quantitative and Qualitative Disclosures About Risk Management," we designate a portion of our derivatives as fair value hedges. Fair value hedge accounting permits the changes in fair values of the hedged risk in the hedged instruments to be recorded in the current period, thus offsetting partially or fully, the change in fair value of the derivatives. For derivatives accounted as fair value hedges, generally the hedged risk is designated to be changes in the eligible benchmark interest rate. The result is that there has been a relatively small amount of unrealized earnings volatility from hedging market risk with derivatives.
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In order to determine if a derivative qualifies for fair value hedge accounting, we must assess how effective the derivative has been, and is expected to be, in hedging changes in the fair values of the risk being hedged. Each month we perform effectiveness testing using a consistently applied standard statistical methodology, regression analysis, which measures the degree of correlation and relationship between the changes in fair values of the derivative and hedged instrument. The results of the statistical measures must pass predefined threshold values to enable us to conclude that the changes in fair values of the derivative transaction have a close correlation with the changes in fair values of the hedged instrument. If any measure is outside of its respective tolerance, the hedge would no longer qualify for fair value hedge accounting. This means we must then record the fair value change of the derivative in current earnings without any offset in the fair value change of the related hedged instrument. Due to the intentional matching of terms between the derivative and the hedged instrument, we expect that failing an effectiveness test will be infrequent, which has been the case historically.
If a derivative/hedged instrument transaction fails effectiveness testing, it does not mean that the hedge relationship is no longer successful in achieving its intended economic purpose. For example, a Consolidated Obligation hedged with an interest rate swap creates adjustable-rate funding, which is used to match fund adjustable-rate and other short-term Advances. The hedge achieves the desired result (matching the net funding with the asset) because, economically, the Advance is part of the overall hedging strategy and the reason for engaging in the derivative transaction.
Each month, we compute fair values on all derivatives and related hedged instruments across a range of interest rate scenarios. For derivatives receiving long-haul fair value hedge accounting, the additional amount of earnings volatility under an assumption of stressed interest rate environments as of year-end 20192021 was in a range of positive $10negative $3 million to negative $6$8 million. This range is minimal compared to the notional principal amount.
Fair Value Option—Economic Hedge
We account for a portion of Advance and Bond-relatedConsolidated Obligation-related derivatives using an accounting election called "fair value option," which is included in the economic hedge category. An economic hedge under the fair value option does not require passing effectiveness testing to permit the derivative's fair market value to be offset with the market value of the hedged instrument, as is required under a fair value hedge. However, it records the fair market value of the hedged instrument at its full fair value instead of only the value related to the benchmark interest rate. The effect of electing full fair value is that the hedged instrument's market value includes the impact of changes in spreads between the designated benchmark interest rate and the interest rate index related to the hedged instrument, as well as other risk components, such as liquidity. Therefore, full fair value results in a different kind of unrealized earnings volatility, which could be higher or lower, compared to accounting under fair value hedge treatment.
Fair Values
We carry certain assets and liabilities on the Statement of Conditions at estimated fair value, including all derivatives, investments classified as available-for-sale and trading, and any financial instruments where we elected the fair value option. Fair value is defined as the price that would be received to sell an asset, or paid to transfer a liability, in an orderly transaction between market participants at the measurement date. Because our financial instruments generally do not have available quoted market prices, we determine fair values based on 1) our valuation models or 2) dealer indications, which may be based on the dealers' own valuation models and/or prices of similar instruments.
Valuation models and their underlying assumptions are based on the best estimates of management with respect to discount rates, prepayments, market volatility, and other factors. These assumptions may have a significant effect on the reported fair values of assets and liabilities, and the income and expense related thereto. The use of different assumptions or changes in the models and assumptions, as well as changes in market conditions, could result in materially different net income and retained earnings.
We have control processes designed to ensure that fair value measurements are appropriate and reliable, that they are based on observable inputs wherever possible and that our valuation approaches and assumptions are reasonable and consistently applied. Where applicable, valuations are also compared to alternative external market data (e.g., quoted market prices, broker or dealer indications, pricing services and comparative analyses to similar instruments). For further discussion regarding how we measure financial assets and financial liabilities at fair value, see Note 1915 of the Notes to Financial Statements.
We categorize each of our financial instruments carried at fair value into one of three levels in accordance with the fair value hierarchy. The hierarchy is based upon the transparency (observable or unobservable) of inputs to the valuation of an asset or liability as of the measurement date. Observable inputs reflect market data obtained from independent sources (Levels 1 and 2), while unobservable inputs reflect our assumptions of market variables (Level 3). Management utilizes valuation techniques that
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maximize the use of observable inputs and minimize the use of unobservable inputs. Because items classified as Level 3 are valued using significant unobservable inputs, the process for determining the fair value of these items is generally more subjective and involves a high degree of management judgment and use of assumptions. As of December 31, 20192021 and 2018,2020, all of our assets and liabilities measured at fair value on a recurring basis were classified as Level 2 within the fair value hierarchy.
RECENTLY ISSUED ACCOUNTING STANDARDS AND INTERPRETATIONS
See Note 2 of the Notes to Financial Statements for a discussion of recently issued accounting standards and interpretations.
OTHER FINANCIAL INFORMATION
| 2019 | |||||||||||||||
| (In millions) | 4th Quarter | 3rd Quarter | 2nd Quarter | 1st Quarter | |||||||||||
| Interest income | $ | 507 | $ | 591 | $ | 646 | $ | 701 | |||||||
| Interest expense | 408 | 504 | 549 | 579 | |||||||||||
| Net interest income | 99 | 87 | 97 | 122 | |||||||||||
| Non-interest income (loss) | 6 | 5 | (3 | ) | (18 | ) | |||||||||
| Non-interest expense | 29 | 29 | 30 | 31 | |||||||||||
| Net income | $ | 76 | $ | 63 | $ | 64 | $ | 73 | |||||||
| 2018 | |||||||||||||||
| (In millions) | 4th Quarter | 3rd Quarter | 2nd Quarter | 1st Quarter | |||||||||||
| Interest income | $ | 665 | $ | 598 | $ | 594 | $ | 524 | |||||||
| Interest expense | 543 | 468 | 465 | 406 | |||||||||||
| Net interest income | 122 | 130 | 129 | 118 | |||||||||||
| Non-interest income (loss) | (11 | ) | (9 | ) | (13 | ) | (4 | ) | |||||||
| Non-interest expense | 31 | 30 | 31 | 31 | |||||||||||
| Net income | $ | 80 | $ | 91 | $ | 85 | $ | 83 | |||||||
Investments
Data on investments for the years ended December 31, 2019, 20182021, 2020 and 20172019 are provided in the tables below.
| (In millions) | Carrying Value at December 31, | ||||||||||||||||
| 2021 | 2020 | 2019 | |||||||||||||||
| Interest-bearing deposits | $ | 340 | $ | 555 | $ | 550 | |||||||||||
| Securities purchased under agreements to resell | 1,282 | 1,818 | 2,349 | ||||||||||||||
| Federal funds sold | 5,505 | 4,240 | 4,833 | ||||||||||||||
| Trading securities: | |||||||||||||||||
| U.S. Treasury obligations | 5,031 | 8,362 | 9,627 | ||||||||||||||
| GSE obligations | 1,750 | 2,126 | 1,988 | ||||||||||||||
| MBS: | |||||||||||||||||
| U.S. obligation single-family | — | — | 1 | ||||||||||||||
| Total trading securities | 6,781 | 10,488 | 11,616 | ||||||||||||||
| Available-for-sale securities: | |||||||||||||||||
| Certificates of deposit | — | — | 1,410 | ||||||||||||||
| U.S. Treasury obligations | 4,499 | — | — | ||||||||||||||
| GSE obligations | 135 | 142 | 132 | ||||||||||||||
| MBS: | |||||||||||||||||
| GSE multi-family | 633 | 150 | — | ||||||||||||||
| Total available-for-sale securities | 5,267 | 292 | 1,542 | ||||||||||||||
| Held-to-maturity securities: | |||||||||||||||||
| U.S. Treasury obligations | 47 | 42 | 35 | ||||||||||||||
| MBS: | |||||||||||||||||
| U.S. obligation single-family | 1,057 | 986 | 1,671 | ||||||||||||||
| GSE single-family | 1,860 | 3,013 | 4,500 | ||||||||||||||
| GSE multi-family | 7,253 | 5,607 | 7,293 | ||||||||||||||
| Total held-to-maturity securities | 10,217 | 9,648 | 13,499 | ||||||||||||||
| Total securities | 22,265 | 20,428 | 26,657 | ||||||||||||||
| Total investments | $ | 29,392 | $ | 27,041 | $ | 34,389 | |||||||||||
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| (In millions) | Carrying Value at December 31, | ||||||||||
| 2019 | 2018 | 2017 | |||||||||
| Interest-bearing deposits | $ | 550 | $ | — | $ | — | |||||
| Securities purchased under agreements to resell | 2,349 | 4,402 | 7,702 | ||||||||
| Federal funds sold | 4,833 | 10,793 | 3,650 | ||||||||
| Trading securities: | |||||||||||
| U.S. Treasury obligations | 9,627 | — | — | ||||||||
| GSE obligations | 1,988 | 224 | — | ||||||||
| MBS: | |||||||||||
| U.S. obligation single-family MBS | 1 | — | 1 | ||||||||
| Total trading securities | 11,616 | 224 | 1 | ||||||||
| Available-for-sale securities: | |||||||||||
| Certificates of deposit | 1,410 | 2,350 | 900 | ||||||||
| GSE obligations | 132 | 53 | — | ||||||||
| Total available-for-sale securities | 1,542 | 2,403 | 900 | ||||||||
| Held-to-maturity securities: | |||||||||||
| U.S. Treasury obligations | 35 | 36 | 34 | ||||||||
| MBS: | |||||||||||
| U.S. obligation single-family MBS | 1,671 | 2,041 | 2,484 | ||||||||
| GSE single-family MBS | 4,500 | 5,544 | 6,703 | ||||||||
| GSE multi-family MBS | 7,293 | 8,171 | 5,584 | ||||||||
| Total held-to-maturity securities | 13,499 | 15,792 | 14,805 | ||||||||
| Total securities | 26,657 | 18,419 | 15,706 | ||||||||
| Total investments | $ | 34,389 | $ | 33,614 | $ | 27,058 | |||||
As of December 31, 2019, investments2021, available-for-sale and held-to-maturity securities had the following maturity and yield characteristics.
| (Dollars in millions) | Due in one year or less | Due after one year through five years | Due after five through 10 years | Due after 10 years | Carrying Value | ||||||||||||
| Available-for-sale securities: | |||||||||||||||||
| U.S. Treasury obligations | $ | — | $ | — | $ | 4,499 | $ | — | $ | 4,499 | |||||||
| GSE obligations | — | 82 | 40 | 13 | 135 | ||||||||||||
MBS (1): | |||||||||||||||||
| GSE multi-family | — | — | 472 | 161 | 633 | ||||||||||||
| Total available-for-sale securities | $ | — | $ | 82 | $ | 5,011 | $ | 174 | $ | 5,267 | |||||||
Yield on available-for sale securities (2) | — | % | 2.90 | % | 1.27 | % | 1.97 | % | |||||||||
| Held-to-maturity securities: | |||||||||||||||||
| U.S. Treasury obligations | $ | 47 | $ | — | $ | — | $ | — | $ | 47 | |||||||
MBS (1): | |||||||||||||||||
| U.S. obligation single-family | — | — | — | 1,057 | 1,057 | ||||||||||||
| GSE single-family | — | 8 | 3 | 1,849 | 1,860 | ||||||||||||
| GSE multi-family | — | 1,101 | 5,760 | 392 | 7,253 | ||||||||||||
| Total held-to-maturity securities | $ | 47 | $ | 1,109 | $ | 5,763 | $ | 3,298 | $ | 10,217 | |||||||
Yield on held-to-maturity securities (2) | 0.04 | % | 0.50 | % | 0.42 | % | 3.56 | % | |||||||||
| (Dollars in millions) | Due in one year or less | Due after one year through five years | Due after five through 10 years | Due after 10 years | Carrying Value | ||||||||||
| Interest-bearing deposits | $ | 550 | $ | — | $ | — | $ | — | $ | 550 | |||||
| Securities purchased under agreements to resell | 2,349 | — | — | — | 2,349 | ||||||||||
| Federal funds sold | 4,833 | — | — | — | 4,833 | ||||||||||
| Trading securities: | |||||||||||||||
| U.S. Treasury obligations | 1,396 | 8,231 | — | — | 9,627 | ||||||||||
| GSE obligations | — | 137 | 943 | 908 | 1,988 | ||||||||||
MBS(1): | |||||||||||||||
| U.S. obligation single-family MBS | — | 1 | — | — | 1 | ||||||||||
| Total trading securities | 1,396 | 8,369 | 943 | 908 | 11,616 | ||||||||||
| Yield on trading securities | 1.82 | % | 2.21 | % | 2.67 | % | 2.53 | % | |||||||
| Available-for-sale securities: | |||||||||||||||
| Certificates of deposit | $ | 1,410 | $ | — | $ | — | $ | — | $ | 1,410 | |||||
| GSE obligations | — | — | 120 | 12 | 132 | ||||||||||
| Total available-for-sale securities | 1,410 | — | 120 | 12 | 1,542 | ||||||||||
| Yield on available-for sale securities | 1.99 | % | — | % | 3.03 | % | 3.10 | % | |||||||
| Held-to-maturity securities: | |||||||||||||||
| U.S. Treasury obligations | $ | 35 | $ | — | $ | — | $ | — | $ | 35 | |||||
MBS(1): | |||||||||||||||
| U.S. obligation single-family MBS | 266 | — | — | 1,405 | 1,671 | ||||||||||
| GSE single-family MBS | — | 14 | 16 | 4,470 | 4,500 | ||||||||||
| GSE multi-family MBS | — | 480 | 6,636 | 177 | 7,293 | ||||||||||
| Total held-to-maturity securities | 301 | 494 | 6,652 | 6,052 | 13,499 | ||||||||||
| Yield on held-to-maturity securities | 2.15 | % | 2.08 | % | 2.13 | % | 2.41 | % | |||||||
| Total securities | $ | 3,107 | $ | 8,863 | $ | 7,715 | $ | 6,972 | $ | 26,657 | |||||
| Total investments | $ | 10,839 | $ | 8,863 | $ | 7,715 | $ | 6,972 | $ | 34,389 | |||||
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| (In millions) | Total | Total | ||||||
| Name of Issuer | Carrying Value | Fair Value | ||||||
| United States Treasury | $ | 9,662 | $ | 9,662 | ||||
| Fannie Mae | 7,710 | 7,710 | ||||||
| Freddie Mac | 5,504 | 5,493 | ||||||
| Government National Mortgage Association | 1,405 | 1,418 | ||||||
| Federal Farm Credit Banks | 610 | 610 | ||||||
| The Toronto-Dominion Bank | 500 | 500 | ||||||
Other (1) | 1,266 | 1,266 | ||||||
| Total investment securities | $ | 26,657 | $ | 26,659 | ||||
The FHLB's outstanding loans, loans 90 daysfollowing table presents Advances by product type and redemption term, including index-amortizing Advances, which are presented according to their predetermined amortization schedules.
| (In millions) | December 31, | ||||||||||
| Types of Advances by Redemption Term | 2021 | 2020 | |||||||||
| Fixed-rate: | |||||||||||
| Due in 1 year or less | $ | 10,845 | $ | 9,208 | |||||||
| Due after 1 year through 3 years | 2,765 | 2,513 | |||||||||
| Due after 3 years through 5 years | 1,176 | 2,063 | |||||||||
| Due after 5 years through 15 years | 520 | 630 | |||||||||
| Thereafter | 3 | 3 | |||||||||
| Total par value | 15,309 | 14,417 | |||||||||
Fixed-rate, callable or prepayable (1): | |||||||||||
| Due in 1 year or less | — | 11 | |||||||||
| Due after 1 year through 3 years | 19 | — | |||||||||
| Due after 3 years through 5 years | — | 19 | |||||||||
| Due after 5 years through 15 years | 21 | 22 | |||||||||
| Thereafter | — | — | |||||||||
| Total par value | 40 | 52 | |||||||||
| Fixed-rate, putable: | |||||||||||
| Due in 1 year or less | — | — | |||||||||
| Due after 1 year through 3 years | 34 | 20 | |||||||||
| Due after 3 years through 5 years | 23 | 64 | |||||||||
| Due after 5 years through 15 years | 2,410 | 2,573 | |||||||||
| Thereafter | — | — | |||||||||
| Total par value | 2,467 | 2,657 | |||||||||
| Variable-rate: | |||||||||||
| Due in 1 year or less | 86 | 1,082 | |||||||||
| Due after 1 year through 3 years | 3 | — | |||||||||
| Due after 3 years through 5 years | 116 | 118 | |||||||||
| Due after 5 years through 15 years | — | — | |||||||||
| Thereafter | — | — | |||||||||
| Total par value | 205 | 1,200 | |||||||||
Variable-rate, callable or prepayable (1): | |||||||||||
| Due in 1 year or less | 361 | 1,301 | |||||||||
| Due after 1 year through 3 years | 11 | 300 | |||||||||
| Due after 3 years through 5 years | 3,004 | 1,510 | |||||||||
| Due after 5 years through 15 years | — | 1,500 | |||||||||
| Thereafter | — | — | |||||||||
| Total par value | 3,376 | 4,611 | |||||||||
Other (2) : | |||||||||||
| Due in 1 year or less | 317 | 463 | |||||||||
| Due after 1 year through 3 years | 452 | 598 | |||||||||
| Due after 3 years through 5 years | 336 | 396 | |||||||||
| Due after 5 years through 15 years | 437 | 595 | |||||||||
| Thereafter | 15 | 18 | |||||||||
| Total par value | 1,557 | 2,070 | |||||||||
| Total par value Advances | $ | 22,954 | $ | 25,007 | |||||||
(1)Prepayable Advances are those Advances that may be contractually prepaid by the borrower on specified dates without incurring prepayment or more past duetermination fees.
(2)Includes fixed-rate amortizing/mortgage matched and accruing interest, and allowance for credit loss information for the five years ended December 31 are shown below. The FHLB's interest and related shortfall on non-accrual loans and loans modified in troubled debt restructurings was not material during the years presented below.other fixed-rate Advances.
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| (Dollars in millions) | 2019 | 2018 | 2017 | 2016 | 2015 | ||||||||||||||
| Domestic: | |||||||||||||||||||
| Advances | $ | 47,370 | $ | 54,822 | $ | 69,918 | $ | 69,882 | $ | 73,292 | |||||||||
| Real estate mortgages | $ | 11,236 | $ | 10,502 | $ | 9,682 | $ | 9,150 | $ | 7,954 | |||||||||
Real estate mortgages past due 90 days or more (including those in process of foreclosure) and still accruing interest, unpaid principal balance | $ | 17 | $ | 19 | $ | 26 | $ | 33 | $ | 42 | |||||||||
Non-accrual loans, unpaid principal balance (1) | $ | 2 | $ | 3 | $ | 3 | $ | 4 | $ | 7 | |||||||||
| Troubled debt restructurings, unpaid principal balance (not included above) | $ | 12 | $ | 9 | $ | 9 | $ | 8 | $ | 8 | |||||||||
Allowance for credit losses on mortgage loans, beginning of year | $ | 1 | $ | 1 | $ | 1 | $ | 2 | $ | 5 | |||||||||
| Net charge-offs | — | — | — | (1 | ) | (3 | ) | ||||||||||||
| Provision (reversal) for credit losses | — | — | — | — | — | ||||||||||||||
Allowance for credit losses on mortgage loans, end of year | $ | 1 | $ | 1 | $ | 1 | $ | 1 | $ | 2 | |||||||||
Ratio of net charge-offs during the period to average loans outstanding during the period | — | % | — | % | — | % | 0.01 | % | 0.04 | % | |||||||||
| (In millions) | December 31, | ||||||||||
| Redemption Term | 2021 | 2020 | |||||||||
| Due in 1 year or less | $ | 265 | $ | 312 | |||||||
| Due after 1 year through 5 years | 1,107 | 1,324 | |||||||||
| Due after 5 years through 15 years | 2,752 | 3,403 | |||||||||
| Thereafter | 3,278 | 4,277 | |||||||||
| Total unpaid principal balance | $ | 7,402 | $ | 9,316 | |||||||
The following table presents certain credit risk related balances and ratios for mortgage loans.
| (Dollars in millions) | December 31, 2021 | December 31, 2020 | |||||||||
| Unpaid Principal Balance | |||||||||||
| Mortgage loans held for portfolio | $ | 7,402 | $ | 9,316 | |||||||
| Average loans outstanding during the period | 7,931 | 10,995 | |||||||||
| Non-accrual loans | 2 | 7 | |||||||||
| Allowance for credit losses on mortgage loans held for portfolio | — | — | |||||||||
| Net charge-offs | — | — | |||||||||
Ratios (1) | |||||||||||
| Net charge-offs to average loans outstanding during the period | — | % | — | % | |||||||
| Allowance for credit losses to mortgage loans held for portfolio | — | — | |||||||||
| Non-accrual loans to mortgage loans held for portfolio | 0.02 | 0.07 | |||||||||
| Allowance for credit losses to non-accrual loans | 14.57 | 3.76 | |||||||||
(1)The ratios have been computed using dollars in thousands. Accordingly, recalculations based upon the years ended December 31:disclosed amounts in millions may produce nominally different results.
| (Dollars in millions) | 2019 | 2018 | 2017 | ||||||||
| Discount Notes | |||||||||||
| Outstanding at year-end (book value) | $ | 49,084 | $ | 46,944 | $ | 46,211 | |||||
Weighted average rate at year-end (1) (2) | 1.56 | % | 2.35 | % | 1.23 | % | |||||
| Daily average outstanding for the year (book value) | $ | 44,482 | $ | 49,185 | $ | 43,124 | |||||
Weighted average rate for the year (2) | 2.22 | % | 1.86 | % | 0.89 | % | |||||
| Highest outstanding at any month-end (book value) | $ | 62,567 | $ | 64,045 | $ | 51,762 | |||||
| Bonds (short-term) | |||||||||||
| Outstanding at year-end (principal amount) | $ | 11,101 | $ | 14,728 | $ | 14,405 | |||||
Weighted average rate at year-end (2) (3) | 1.60 | % | 2.38 | % | 1.35 | % | |||||
| Daily average outstanding for the year (principal amount) | $ | 15,595 | $ | 14,937 | $ | 10,359 | |||||
Weighted average rate for the year (2) (3) | 2.27 | % | 1.87 | % | 0.93 | % | |||||
| Highest outstanding at any month-end (principal amount) | $ | 21,270 | $ | 19,438 | $ | 14,405 | |||||
Uninsured Term Deposits
(In millions) By remaining maturity at December 31, 2021 | 3 months or less | Over 3 months but within 6 months | Over 6 months but within 12 months | Over 12 months but within 24 months | Total | ||||||||||||||||||||||||
| Uninsured term deposits | $ | 12 | $ | 13 | $ | 5 | $ | 24 | $ | 54 | |||||||||||||||||||
(In millions) By remaining maturity at December 31, 2019 | 3 months or less | Over 3 months but within 6 months | Over 6 months but within 12 months | Over 12 months but within 24 months | Total | ||||||||||||||
| Time certificates of deposit | $ | 13 | $ | 1 | $ | 2 | $ | 12 | $ | 28 | |||||||||
| 2019 | 2018 | 2017 | ||||||
| Return on average assets | 0.28 | % | 0.32 | % | 0.31 | % | ||
| Return on average equity | 5.65 | 6.29 | 6.15 | |||||
| Average equity to average assets | 5.04 | 5.11 | 5.00 | |||||
| Dividend payout ratio | 74.06 | % | 75.60 | % | 66.31 | % | ||
Item 7A. Quantitative and Qualitative Disclosures About Market Risk.
Information required under this Item is set forth in the “Quantitative and Qualitative Disclosures About Risk Management” caption at Part II, Item 7. Management's Discussion and Analysis of Financial Condition and Results of Operations, of this filing.
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Item 8. Financial Statements and Supplementary Data.
REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM
To theBoard of Directors and Shareholders of the
Federal Home Loan Bank of Cincinnati
Opinions on the Financial Statements and Internal Control over Financial Reporting
We have audited the accompanying statements of condition of the Federal Home Loan Bank of Cincinnati (the “FHLB”) as of December 31, 20192021 and 2018,2020, and the related statements of income, of comprehensive income, of capital and of cash flows for each of the three years in the period ended December 31, 2019,2021, including the related notes (collectively referred to as the “financial statements”). We also have audited the FHLB’sFHLB's internal control over financial reporting as of December 31, 2019,2021, based on criteria established in Internal Control - Integrated Framework (2013) issued by the Committee of Sponsoring Organizations of the Treadway Commission (COSO).
In our opinion, the financial statements referred to above present fairly, in all material respects, the financial position of the FHLB as of December 31, 20192021 and 2018,2020, and the results of its operations and its cash flows for each of the three years in the period ended December 31, 20192021 in conformity with accounting principles generally accepted in the United States of America. Also in our opinion, the FHLB maintained, in all material respects, effective internal control over financial reporting as of December 31, 2019,2021, based on criteria established in Internal Control - Integrated Framework (2013)issued by the COSO.
Basis for Opinions
The FHLB’sFHLB's management is responsible for these financial statements, for maintaining effective internal control over financial reporting, and for its assessment of the effectiveness of internal control over financial reporting, included in Management'sManagement’s Report on Internal Control over Financial Reporting appearing under Item 9A. Our responsibility is to express opinions on the FHLB’s financial statements and on the FHLB’sFHLB's internal control over financial reporting based on our audits. We are a public accounting firm registered with the Public Company Accounting Oversight Board (United States) ("PCAOB")(PCAOB) and are required to be independent with respect to the FHLB in accordance with the U.S. federal securities laws and the applicable rules and regulations of the Securities and Exchange Commission and the PCAOB.
We conducted our audits in accordance with the standards of the PCAOB. Those standards require that we plan and perform the audits to obtain reasonable assurance about whether the financial statements are free of material misstatement, whether due to error or fraud, and whether effective internal control over financial reporting was maintained in all material respects.
Our audits of the financial statements included performing procedures to assess the risks of material misstatement of the financial statements, whether due to error or fraud, and performing procedures that respond to those risks. Such procedures included examining, on a test basis, evidence regarding the amounts and disclosures in the financial statements. Our audits also included evaluating the accounting principles used and significant estimates made by management, as well as evaluating the overall presentation of the financial statements. Our audit of internal control over financial reporting included obtaining an understanding of internal control over financial reporting, assessing the risk that a material weakness exists, and testing and evaluating the design and operating effectiveness of internal control based on the assessed risk. Our audits also included performing such other procedures as we considered necessary in the circumstances. We believe that our audits provide a reasonable basis for our opinions.
Definition and Limitations of Internal Control over Financial Reporting
A company’s internal control over financial reporting is a process designed to provide reasonable assurance regarding the reliability of financial reporting and the preparation of financial statements for external purposes in accordance with generally accepted accounting principles. A company’s internal control over financial reporting includes those policies and procedures that (i) pertain to the maintenance of records that, in reasonable detail, accurately and fairly reflect the transactions and dispositions of the assets of the company; (ii) provide reasonable assurance that transactions are recorded as necessary to permit preparation of financial statements in accordance with generally accepted accounting principles, and that receipts and expenditures of the company are being made only in accordance with authorizations of management and directors of the company; and (iii) provide reasonable assurance regarding prevention or timely detection of unauthorized acquisition, use, or disposition of the company’s assets that could have a material effect on the financial statements.
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Because of its inherent limitations, internal control over financial reporting may not prevent or detect misstatements. Also, projections of any evaluation of effectiveness to future periods are subject to the risk that controls may become inadequate because of changes in conditions, or that the degree of compliance with the policies or procedures may deteriorate.
The critical audit matter communicated below is a matter arising from the current period audit of the financial statements that was communicated or required to be communicated to the audit committee and that (i) relates to accounts or disclosures that are material to the financial statements and (ii) involved our especially challenging, subjective, or complex judgments. The communication of critical audit matters does not alter in any way our opinion on the financial statements, taken as a whole, and we are not, by communicating the critical audit matter below, providing a separate opinion on the critical audit matter or on the accounts or disclosures to which it relates.
Valuation of Interest-Rate Derivatives and Hedged Items
As described in Notes 7 and 15 to the financial statements, the FHLB uses derivatives to manage interest-rate risk and reduce funding costs, among other risk management objectives. The total notional amount of derivatives as of December 31, 2021 was $39.25 billion, of which 35% were designated as hedging instruments, and the fair value of derivative assets and liabilities as of December 31, 2021 was $298 million and $3.3 million, respectively. The fair values of interest-rate derivatives and hedged items are determined using the standard valuation technique of discounted cash flow analysis, which uses market-observable inputs, such as discount rate, forward interest rate, and volatility assumptions.
The principal considerations for our determination that performing procedures relating to the valuation of interest-rate derivatives and hedged items is a critical audit matter are the significant audit effort in evaluating the discount rate, forward interest rate, and volatility assumptions used to fair value these derivatives and hedged items, and the audit effort involved the use of professionals with specialized skill and knowledge.
Addressing the matter involved performing procedures and evaluating audit evidence in connection with forming our overall opinion on the financial statements. These procedures included testing the effectiveness of controls relating to the valuation of interest-rate derivatives and hedged items, including controls over the method, data and assumptions. These procedures also included, among others, the involvement of professionals with specialized skill and knowledge to assist in developing an independent range of prices for a sample of interest rate derivatives and hedged items and comparison of management’s estimate to the independently developed ranges. Developing the independent range of prices involved testing the completeness and accuracy of data provided by management and independently developing the discount rate, forward interest rate, and volatility assumptions.
/s/ PricewaterhouseCoopers LLP
Cincinnati, Ohio
March 19, 2020
We have served as the FHLB’s auditor since 1990.
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FEDERAL HOME LOAN BANK OF CINCINNATI
STATEMENTS OF CONDITION
| (In thousands, except par value) | December 31, | ||||||
| 2019 | 2018 | ||||||
| ASSETS | |||||||
| Cash and due from banks (Note 3) | $ | 20,608 | $ | 10,037 | |||
| Interest-bearing deposits | 550,160 | 122 | |||||
| Securities purchased under agreements to resell | 2,348,584 | 4,402,208 | |||||
| Federal funds sold | 4,833,000 | 10,793,000 | |||||
| Investment securities: | |||||||
| Trading securities (Note 4) | 11,615,693 | 223,980 | |||||
| Available-for-sale securities (Note 5) | 1,542,185 | 2,402,897 | |||||
Held-to-maturity securities (includes $0 and $0 pledged as collateral at December 31, 2019 and 2018, respectively, that may be repledged) (a) (Note 6) | 13,499,319 | 15,791,222 | |||||
| Total investment securities | 26,657,197 | 18,418,099 | |||||
| Advances (includes $5,238 and $10,008 at fair value under fair value option at December 31, 2019 and 2018, respectively) (Note 8) | 47,369,573 | 54,822,252 | |||||
| Mortgage loans held for portfolio, net of allowance for credit losses of $711 and $840 at December 31, 2019 and 2018, respectively (Note 9 and Note 10) | 11,235,353 | 10,500,917 | |||||
| Accrued interest receivable | 182,252 | 169,982 | |||||
| Derivative assets (Note 11) | 267,165 | 65,765 | |||||
| Other assets | 27,667 | 20,191 | |||||
| TOTAL ASSETS | $ | 93,491,559 | $ | 99,202,573 | |||
| LIABILITIES | |||||||
| Deposits (Note 12) | $ | 951,296 | $ | 669,016 | |||
| Consolidated Obligations: (Note 13) | |||||||
| Discount Notes (includes $12,386,974 and $0 at fair value under fair value option at December 31, 2019 and 2018, respectively) | 49,084,219 | 46,943,632 | |||||
| Bonds (includes $4,757,177 and $3,906,610 at fair value under fair value option at December 31, 2019 and 2018, respectively) | 38,439,724 | 45,659,138 | |||||
| Total Consolidated Obligations | 87,523,943 | 92,602,770 | |||||
| Mandatorily redeemable capital stock (Note 15) | 21,669 | 23,184 | |||||
| Accrued interest payable | 126,091 | 147,337 | |||||
| Affordable Housing Program payable (Note 14) | 115,295 | 117,336 | |||||
| Derivative liabilities (Note 11) | 1,310 | 4,586 | |||||
| Other liabilities | 307,499 | 308,128 | |||||
| Total liabilities | 89,047,103 | 93,872,357 | |||||
| Commitments and contingencies (Note 20) | |||||||
| CAPITAL (Note 15) | |||||||
| Capital stock Class B putable ($100 par value); issued and outstanding shares: 33,664 shares at December 31, 2019 and 43,205 shares at December 31, 2018 | 3,366,428 | 4,320,459 | |||||
| Retained earnings: | |||||||
| Unrestricted | 648,374 | 631,971 | |||||
| Restricted | 446,048 | 390,829 | |||||
| Total retained earnings | 1,094,422 | 1,022,800 | |||||
| Accumulated other comprehensive loss (Note 16) | (16,394 | ) | (13,043 | ) | |||
| Total capital | 4,444,456 | 5,330,216 | |||||
| TOTAL LIABILITIES AND CAPITAL | $ | 93,491,559 | $ | 99,202,573 | |||
(a)Fair values: $10,269,821 and $9,792,136 at December 31, 2021 and 2020, respectively. | |||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||
The accompanying notes are an integral part of these financial statements.
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FEDERAL HOME LOAN BANK OF CINCINNATI
STATEMENTS OF INCOME
| (In thousands) | For the Years Ended December 31, | (In thousands) | For the Years Ended December 31, | |||||||||||||||||||||||||||||||
| 2019 | 2018 | 2017 | 2021 | 2020 | 2019 | |||||||||||||||||||||||||||||
| INTEREST INCOME: | INTEREST INCOME: | |||||||||||||||||||||||||||||||||
| Advances | $ | 1,195,128 | $ | 1,407,702 | $ | 903,620 | Advances | $ | 134,600 | $ | 434,815 | $ | 1,195,128 | |||||||||||||||||||||
| Prepayment fees on Advances, net | 8,421 | 679 | 1,351 | Prepayment fees on Advances, net | 12,654 | 34,583 | 8,421 | |||||||||||||||||||||||||||
| Interest-bearing deposits | 13,453 | 704 | 181 | Interest-bearing deposits | 663 | 4,467 | 13,453 | |||||||||||||||||||||||||||
| Securities purchased under agreements to resell | 64,336 | 48,454 | 23,340 | Securities purchased under agreements to resell | 400 | 11,124 | 64,336 | |||||||||||||||||||||||||||
| Federal funds sold | 228,761 | 179,552 | 70,287 | Federal funds sold | 5,265 | 32,051 | 228,761 | |||||||||||||||||||||||||||
| Investment securities: | Investment securities: | |||||||||||||||||||||||||||||||||
| Trading securities | 180,506 | 1,535 | 19 | Trading securities | 198,547 | 263,847 | 180,506 | |||||||||||||||||||||||||||
| Available-for-sale securities | 27,691 | 40,444 | 6,228 | Available-for-sale securities | 7,228 | 4,782 | 27,691 | |||||||||||||||||||||||||||
| Held-to-maturity securities | 386,526 | 380,304 | 306,204 | Held-to-maturity securities | 106,498 | 186,363 | 386,526 | |||||||||||||||||||||||||||
| Total investment securities | 594,723 | 422,283 | 312,451 | Total investment securities | 312,273 | 454,992 | 594,723 | |||||||||||||||||||||||||||
| Mortgage loans held for portfolio | 340,025 | 321,328 | 297,075 | Mortgage loans held for portfolio | 168,482 | 275,600 | 340,025 | |||||||||||||||||||||||||||
| Loans to other FHLBanks | 70 | 20 | — | Loans to other FHLBanks | — | 60 | 70 | |||||||||||||||||||||||||||
| Total interest income | 2,444,917 | 2,380,722 | 1,608,305 | Total interest income | 634,337 | 1,247,692 | 2,444,917 | |||||||||||||||||||||||||||
| INTEREST EXPENSE: | INTEREST EXPENSE: | |||||||||||||||||||||||||||||||||
| Consolidated Obligations: | Consolidated Obligations: | |||||||||||||||||||||||||||||||||
| Discount Notes | 988,600 | 915,032 | 384,976 | Discount Notes | 13,460 | 294,573 | 988,600 | |||||||||||||||||||||||||||
| Bonds | 1,033,508 | 951,298 | 786,922 | Bonds | 343,495 | 541,996 | 1,033,508 | |||||||||||||||||||||||||||
| Total Consolidated Obligations | 2,022,108 | 1,866,330 | 1,171,898 | Total Consolidated Obligations | 356,955 | 836,569 | 2,022,108 | |||||||||||||||||||||||||||
| Deposits | 15,861 | 14,009 | 4,738 | Deposits | 439 | 3,525 | 15,861 | |||||||||||||||||||||||||||
| Loans from other FHLBanks | 3 | 5 | 10 | Loans from other FHLBanks | — | — | 3 | |||||||||||||||||||||||||||
| Mandatorily redeemable capital stock | 1,113 | 1,806 | 2,514 | Mandatorily redeemable capital stock | 383 | 1,068 | 1,113 | |||||||||||||||||||||||||||
| Other borrowings | — | — | 2 | |||||||||||||||||||||||||||||||
| Total interest expense | 2,039,085 | 1,882,150 | 1,179,162 | Total interest expense | 357,777 | 841,162 | 2,039,085 | |||||||||||||||||||||||||||
| NET INTEREST INCOME | 405,832 | 498,572 | 429,143 | NET INTEREST INCOME | 276,560 | 406,530 | 405,832 | |||||||||||||||||||||||||||
| Provision for credit losses | — | — | 500 | |||||||||||||||||||||||||||||||
| NET INTEREST INCOME AFTER PROVISION FOR CREDIT LOSSES | 405,832 | 498,572 | 428,643 | |||||||||||||||||||||||||||||||
| NON-INTEREST INCOME (LOSS): | NON-INTEREST INCOME (LOSS): | |||||||||||||||||||||||||||||||||
| Net gains (losses) on investment securities | 210,207 | 7,086 | (6 | ) | Net gains (losses) on investment securities | (257,497) | 257,566 | 210,207 | ||||||||||||||||||||||||||
| Net gains (losses) on financial instruments held under fair value option | (53,852 | ) | (14,184 | ) | 10,409 | Net gains (losses) on financial instruments held under fair value option | 10,135 | (7,293) | (53,852) | |||||||||||||||||||||||||
| Net gains (losses) on derivatives and hedging activities | (177,912 | ) | (40,398 | ) | (24,464 | ) | ||||||||||||||||||||||||||||
| Net gains (losses) on derivatives | Net gains (losses) on derivatives | 82,264 | (273,253) | (177,912) | ||||||||||||||||||||||||||||||
| Letters of Credit fees | Letters of Credit fees | 25,118 | 13,936 | 9,429 | ||||||||||||||||||||||||||||||
| Other, net | 11,338 | 10,678 | 12,824 | Other, net | 1,708 | 1,976 | 1,909 | |||||||||||||||||||||||||||
| Total non-interest income (loss) | (10,219 | ) | (36,818 | ) | (1,237 | ) | Total non-interest income (loss) | (138,272) | (7,068) | (10,219) | ||||||||||||||||||||||||
| NON-INTEREST EXPENSE: | NON-INTEREST EXPENSE: | |||||||||||||||||||||||||||||||||
| Compensation and benefits | 46,077 | 46,317 | 42,272 | Compensation and benefits | 47,794 | 50,242 | 46,077 | |||||||||||||||||||||||||||
| Other operating expenses | 21,629 | 20,019 | 18,880 | Other operating expenses | 22,616 | 20,901 | 21,629 | |||||||||||||||||||||||||||
| Finance Agency | 6,715 | 6,389 | 6,598 | Finance Agency | 7,434 | 6,765 | 6,715 | |||||||||||||||||||||||||||
| Office of Finance | 4,930 | 4,984 | 4,484 | Office of Finance | 5,157 | 5,119 | 4,930 | |||||||||||||||||||||||||||
| Other | 9,367 | 7,010 | 6,484 | Other | 8,588 | 9,246 | 9,367 | |||||||||||||||||||||||||||
| Total non-interest expense | 88,718 | 84,719 | 78,718 | Total non-interest expense | 91,589 | 92,273 | 88,718 | |||||||||||||||||||||||||||
| INCOME BEFORE ASSESSMENTS | 306,895 | 377,035 | 348,688 | INCOME BEFORE ASSESSMENTS | 46,699 | 307,189 | 306,895 | |||||||||||||||||||||||||||
| Affordable Housing Program assessments | 30,801 | 37,884 | 35,120 | Affordable Housing Program assessments | 4,708 | 30,826 | 30,801 | |||||||||||||||||||||||||||
| NET INCOME | $ | 276,094 | $ | 339,151 | $ | 313,568 | NET INCOME | $ | 41,991 | $ | 276,363 | $ | 276,094 | |||||||||||||||||||||
The accompanying notes are an integral part of these financial statements.
77
FEDERAL HOME LOAN BANK OF CINCINNATI
STATEMENTS OF COMPREHENSIVE INCOME
| (In thousands) | For the Years Ended December 31, | ||||||||||||||||||||||
| 2021 | 2020 | 2019 | |||||||||||||||||||||
| Net income | $ | 41,991 | $ | 276,363 | $ | 276,094 | |||||||||||||||||
| Other comprehensive income adjustments: | |||||||||||||||||||||||
| Net unrealized gains (losses) on available-for-sale securities | 21,407 | 4,348 | 480 | ||||||||||||||||||||
| Pension and postretirement benefits | 6,672 | (2,939) | (3,831) | ||||||||||||||||||||
| Total other comprehensive income (loss) adjustments | 28,079 | 1,409 | (3,351) | ||||||||||||||||||||
| Comprehensive income | $ | 70,070 | $ | 277,772 | $ | 272,743 | |||||||||||||||||
| (In thousands) | For the Years Ended December 31, | ||||||||||
| 2019 | 2018 | 2017 | |||||||||
| Net income | $ | 276,094 | $ | 339,151 | $ | 313,568 | |||||
| Other comprehensive income adjustments: | |||||||||||
| Net unrealized gains (losses) on available-for-sale securities | 480 | 14 | (147 | ) | |||||||
| Pension and postretirement benefits | (3,831 | ) | 3,603 | (3,257 | ) | ||||||
| Total other comprehensive income (loss) adjustments | (3,351 | ) | 3,617 | (3,404 | ) | ||||||
| Comprehensive income | $ | 272,743 | $ | 342,768 | $ | 310,164 | |||||
The accompanying notes are an integral part of these financial statements.
78
FEDERAL HOME LOAN BANK OF CINCINNATI
STATEMENTS OF CAPITAL
| (In thousands) | Capital Stock Class B - Putable | Retained Earnings | Accumulated Other Comprehensive | Total | |||||||||||||||||||||||||||||||||||||
| Shares | Par Value | Unrestricted | Restricted | Total | Loss | Capital | |||||||||||||||||||||||||||||||||||
| BALANCE, DECEMBER 31, 2018 | 43,205 | $ | 4,320,459 | $ | 631,971 | $ | 390,829 | $ | 1,022,800 | $ | (13,043) | $ | 5,330,216 | ||||||||||||||||||||||||||||
| Comprehensive income (loss) | 220,875 | 55,219 | 276,094 | (3,351) | 272,743 | ||||||||||||||||||||||||||||||||||||
| Proceeds from sale of capital stock | 5,918 | 591,762 | 591,762 | ||||||||||||||||||||||||||||||||||||||
| Repurchase of capital stock | (15,386) | (1,538,544) | (1,538,544) | ||||||||||||||||||||||||||||||||||||||
| Net shares reclassified to mandatorily redeemable capital stock | (73) | (7,249) | (7,249) | ||||||||||||||||||||||||||||||||||||||
| Cash dividends on capital stock | (204,472) | (204,472) | (204,472) | ||||||||||||||||||||||||||||||||||||||
| BALANCE, DECEMBER 31, 2019 | 33,664 | $ | 3,366,428 | $ | 648,374 | $ | 446,048 | $ | 1,094,422 | $ | (16,394) | $ | 4,444,456 | ||||||||||||||||||||||||||||
| Adjustment for cumulative effect of accounting change | 366 | 366 | 366 | ||||||||||||||||||||||||||||||||||||||
| Comprehensive income (loss) | 221,090 | 55,273 | 276,363 | 1,409 | 277,772 | ||||||||||||||||||||||||||||||||||||
| Proceeds from sale of capital stock | 21,351 | 2,135,091 | 2,135,091 | ||||||||||||||||||||||||||||||||||||||
| Repurchase of capital stock | (23,000) | (2,300,000) | (2,300,000) | ||||||||||||||||||||||||||||||||||||||
| Net shares reclassified to mandatorily redeemable capital stock | (5,606) | (560,656) | (560,656) | ||||||||||||||||||||||||||||||||||||||
| Partial recovery of prior capital distribution to Financing Corporation | 16,533 | 16,533 | 16,533 | ||||||||||||||||||||||||||||||||||||||
| Cash dividends on capital stock | (83,648) | (83,648) | (83,648) | ||||||||||||||||||||||||||||||||||||||
| BALANCE, DECEMBER 31, 2020 | 26,409 | $ | 2,640,863 | $ | 802,715 | $ | 501,321 | $ | 1,304,036 | $ | (14,985) | $ | 3,929,914 | ||||||||||||||||||||||||||||
| Comprehensive income (loss) | 33,593 | 8,398 | 41,991 | 28,079 | 70,070 | ||||||||||||||||||||||||||||||||||||
| Proceeds from sale of capital stock | 11,090 | 1,109,046 | 1,109,046 | ||||||||||||||||||||||||||||||||||||||
| Repurchase of capital stock | (11,864) | (1,186,402) | (1,186,402) | ||||||||||||||||||||||||||||||||||||||
| Net shares reclassified to mandatorily redeemable capital stock | (735) | (73,491) | (73,491) | ||||||||||||||||||||||||||||||||||||||
| Cash dividends on capital stock | (53,236) | (53,236) | (53,236) | ||||||||||||||||||||||||||||||||||||||
| BALANCE, DECEMBER 31, 2021 | 24,900 | $ | 2,490,016 | $ | 783,072 | $ | 509,719 | $ | 1,292,791 | $ | 13,094 | $ | 3,795,901 | ||||||||||||||||||||||||||||
| (In thousands) | Capital Stock Class B - Putable | Retained Earnings | Accumulated Other Comprehensive | Total | ||||||||||||||||||||||
| Shares | Par Value | Unrestricted | Restricted | Total | Loss | Capital | ||||||||||||||||||||
| BALANCE, DECEMBER 31, 2016 | 41,569 | $ | 4,156,944 | $ | 574,122 | $ | 260,285 | $ | 834,407 | $ | (13,256 | ) | $ | 4,978,095 | ||||||||||||
| Comprehensive income (loss) | 250,854 | 62,714 | 313,568 | (3,404 | ) | 310,164 | ||||||||||||||||||||
| Proceeds from sale of capital stock | 3,547 | 354,654 | 354,654 | |||||||||||||||||||||||
Net shares reclassified to mandatorily redeemable capital stock | (2,705 | ) | (270,458 | ) | (270,458 | ) | ||||||||||||||||||||
| Cash dividends on capital stock | (207,942 | ) | (207,942 | ) | (207,942 | ) | ||||||||||||||||||||
| BALANCE, DECEMBER 31, 2017 | 42,411 | 4,241,140 | 617,034 | 322,999 | 940,033 | (16,660 | ) | 5,164,513 | ||||||||||||||||||
| Comprehensive income (loss) | 271,321 | 67,830 | 339,151 | 3,617 | 342,768 | |||||||||||||||||||||
| Proceeds from sale of capital stock | 4,392 | 439,157 | 439,157 | |||||||||||||||||||||||
| Repurchase of capital stock | (2,972 | ) | (297,252 | ) | (297,252 | ) | ||||||||||||||||||||
Net shares reclassified to mandatorily redeemable capital stock | (626 | ) | (62,586 | ) | (62,586 | ) | ||||||||||||||||||||
| Cash dividends on capital stock | (256,384 | ) | (256,384 | ) | (256,384 | ) | ||||||||||||||||||||
| BALANCE, DECEMBER 31, 2018 | 43,205 | 4,320,459 | 631,971 | 390,829 | 1,022,800 | (13,043 | ) | 5,330,216 | ||||||||||||||||||
| Comprehensive income (loss) | 220,875 | 55,219 | 276,094 | (3,351 | ) | 272,743 | ||||||||||||||||||||
| Proceeds from sale of capital stock | 5,918 | 591,762 | 591,762 | |||||||||||||||||||||||
| Repurchase of capital stock | (15,386 | ) | (1,538,544 | ) | (1,538,544 | ) | ||||||||||||||||||||
Net shares reclassified to mandatorily redeemable capital stock | (73 | ) | (7,249 | ) | (7,249 | ) | ||||||||||||||||||||
| Cash dividends on capital stock | (204,472 | ) | (204,472 | ) | (204,472 | ) | ||||||||||||||||||||
| BALANCE, DECEMBER 31, 2019 | 33,664 | $ | 3,366,428 | $ | 648,374 | $ | 446,048 | $ | 1,094,422 | $ | (16,394 | ) | $ | 4,444,456 | ||||||||||||
The accompanying notes are an integral part of these financial statements.
79
FEDERAL HOME LOAN BANK OF CINCINNATI
STATEMENTS OF CASH FLOWS
| (In thousands) | For the Years Ended December 31, | ||||||||||||||||
| 2021 | 2020 | 2019 | |||||||||||||||
| OPERATING ACTIVITIES: | |||||||||||||||||
| Net income | $ | 41,991 | $ | 276,363 | $ | 276,094 | |||||||||||
| Adjustments to reconcile net income to net cash provided by (used in) operating activities: | |||||||||||||||||
| Depreciation and amortization/(accretion) | 81,444 | 64,208 | 4,914 | ||||||||||||||
| Net change in derivative and hedging activities | 228,896 | (123,345) | (147,582) | ||||||||||||||
| Net change in fair value adjustments on trading securities | 257,497 | (257,566) | (210,207) | ||||||||||||||
| Net change in fair value adjustments on financial instruments held under fair value option | (10,135) | 7,293 | 53,852 | ||||||||||||||
| Other adjustments, net | 884 | 1,014 | 757 | ||||||||||||||
| Net change in: | |||||||||||||||||
| Accrued interest receivable | 25,036 | 68,750 | (12,408) | ||||||||||||||
| Other assets | 804 | (4,476) | (1,517) | ||||||||||||||
| Accrued interest payable | (27,971) | (54,159) | (21,224) | ||||||||||||||
| Other liabilities | (20,069) | 16,062 | 19,520 | ||||||||||||||
| Total adjustments | 536,386 | (282,219) | (313,895) | ||||||||||||||
| Net cash provided by (used in) operating activities | 578,377 | (5,856) | (37,801) | ||||||||||||||
| INVESTING ACTIVITIES: | |||||||||||||||||
| Net change in: | |||||||||||||||||
| Interest-bearing deposits | 219,561 | (87,411) | (771,791) | ||||||||||||||
| Securities purchased under agreements to resell | 535,828 | 530,316 | 2,053,624 | ||||||||||||||
| Federal funds sold | (1,265,000) | 593,000 | 5,960,000 | ||||||||||||||
| Premises, software, and equipment | (1,411) | (1,861) | (2,460) | ||||||||||||||
| Trading securities: | |||||||||||||||||
| Proceeds from maturities and paydowns | 1,275,119 | 5,885,074 | 139 | ||||||||||||||
| Proceeds from sales | 2,174,690 | — | — | ||||||||||||||
| Purchases | — | (4,499,938) | (11,181,646) | ||||||||||||||
| Available-for-sale securities: | |||||||||||||||||
| Proceeds from maturities and paydowns | — | 1,810,000 | 6,525,000 | ||||||||||||||
| Purchases | (4,872,885) | (550,267) | (5,673,500) | ||||||||||||||
| Held-to-maturity securities: | |||||||||||||||||
| Proceeds from maturities and paydowns | 2,868,790 | 3,919,706 | 3,561,188 | ||||||||||||||
| Purchases | (3,121,145) | (75,604) | (1,290,195) | ||||||||||||||
| Advances: | |||||||||||||||||
| Repaid | 409,411,398 | 512,521,226 | 1,343,898,413 | ||||||||||||||
| Originated | (407,357,984) | (490,263,028) | (1,336,290,080) | ||||||||||||||
| Mortgage loans held for portfolio: | |||||||||||||||||
| Principal collected | 3,585,322 | 4,291,048 | 1,922,162 | ||||||||||||||
| Purchases | (1,715,689) | (2,691,664) | (2,691,654) | ||||||||||||||
| Net cash provided by (used in) investing activities | 1,736,594 | 31,380,597 | 6,019,200 | ||||||||||||||
| The accompanying notes are an integral part of these financial statements. | |||||||||||||||||
80
| (In thousands) | For the Years Ended December 31, | ||||||||||
| 2019 | 2018 | 2017 | |||||||||
| OPERATING ACTIVITIES: | |||||||||||
| Net income | $ | 276,094 | $ | 339,151 | $ | 313,568 | |||||
| Adjustments to reconcile net income to net cash provided by (used in) operating activities: | |||||||||||
| Depreciation and amortization | 4,914 | 59,577 | 57,973 | ||||||||
| Net change in derivative and hedging activities | (147,582 | ) | (4,706 | ) | 6,927 | ||||||
| Net change in fair value adjustments on trading securities | (210,207 | ) | (7,086 | ) | 6 | ||||||
| Net change in fair value adjustments on financial instruments held under fair value option | 53,852 | 14,184 | (10,409 | ) | |||||||
| Other adjustments | 757 | (10 | ) | 489 | |||||||
| Net change in: | |||||||||||
| Accrued interest receivable | (12,408 | ) | (41,482 | ) | (18,701 | ) | |||||
| Other assets | (1,517 | ) | 1,651 | 23,686 | |||||||
| Accrued interest payable | (21,224 | ) | 18,077 | 4,743 | |||||||
| Other liabilities | 19,520 | 25,792 | 15,456 | ||||||||
| Total adjustments | (313,895 | ) | 65,997 | 80,170 | |||||||
| Net cash provided by (used in) operating activities | (37,801 | ) | 405,148 | 393,738 | |||||||
| INVESTING ACTIVITIES: | |||||||||||
| Net change in: | |||||||||||
| Interest-bearing deposits | (771,791 | ) | (7,089 | ) | 46,981 | ||||||
| Securities purchased under agreements to resell | 2,053,624 | 3,299,721 | (2,472,442 | ) | |||||||
| Federal funds sold | 5,960,000 | (7,143,000 | ) | 607,000 | |||||||
| Premises, software, and equipment | (2,460 | ) | (2,173 | ) | (2,647 | ) | |||||
| Trading securities: | |||||||||||
| Proceeds from maturities | 139 | 164 | 182 | ||||||||
| Purchases | (11,181,646 | ) | (216,277 | ) | — | ||||||
| Available-for-sale securities: | |||||||||||
| Proceeds from maturities | 6,525,000 | 6,850,000 | 2,350,000 | ||||||||
| Purchases | (5,673,500 | ) | (8,336,000 | ) | (1,950,000 | ) | |||||
| Held-to-maturity securities: | |||||||||||
| Proceeds from maturities | 3,561,188 | 2,917,912 | 2,484,142 | ||||||||
| Purchases | (1,290,195 | ) | (4,065,023 | ) | (3,058,634 | ) | |||||
| Advances: | |||||||||||
| Repaid | 1,343,898,413 | 2,889,037,056 | 2,366,633,884 | ||||||||
| Originated | (1,336,290,080 | ) | (2,873,930,828 | ) | (2,366,705,248 | ) | |||||
| Mortgage loans held for portfolio: | |||||||||||
| Principal collected | 1,922,162 | 1,117,727 | 1,218,035 | ||||||||
| Purchases | (2,691,654 | ) | (1,978,111 | ) | (1,788,156 | ) | |||||
| Net cash provided by (used in) investing activities | 6,019,200 | 7,544,079 | (2,636,903 | ) | |||||||
| The accompanying notes are an integral part of these financial statements. | |||||||||||
| (continued from previous page) | |||||||||||||||||
| FEDERAL HOME LOAN BANK OF CINCINNATI | |||||||||||||||||
| STATEMENTS OF CASH FLOWS | |||||||||||||||||
| (In thousands) | For the Years Ended December 31, | ||||||||||||||||
| 2021 | 2020 | 2019 | |||||||||||||||
| FINANCING ACTIVITIES: | |||||||||||||||||
| Net change in deposits and pass-through reserves | $ | 88,599 | $ | 371,585 | $ | 274,910 | |||||||||||
| Net proceeds (payments) on derivative contracts with financing elements | — | (10,764) | (619) | ||||||||||||||
| Net proceeds from issuance of Consolidated Obligations: | |||||||||||||||||
| Discount Notes | 193,534,651 | 275,314,658 | 823,242,543 | ||||||||||||||
| Bonds | 33,771,274 | 37,753,386 | 27,927,333 | ||||||||||||||
| Bonds transferred from other FHLBanks | — | — | 12,697 | ||||||||||||||
| Payments for maturing and retiring Consolidated Obligations: | |||||||||||||||||
| Discount Notes | (191,190,825) | (296,851,576) | (821,075,874) | ||||||||||||||
| Bonds | (41,132,595) | (44,193,670) | (35,191,800) | ||||||||||||||
| Proceeds from issuance of capital stock | 1,109,046 | 2,135,091 | 591,762 | ||||||||||||||
| Payments for repurchase of capital stock | (1,186,402) | (2,300,000) | (1,538,544) | ||||||||||||||
| Payments for repurchase/redemption of mandatorily redeemable capital stock | (71,734) | (562,871) | (8,764) | ||||||||||||||
| Cash dividends paid | (53,236) | (83,648) | (204,472) | ||||||||||||||
| Partial recovery of prior capital distribution to Financing Corporation | — | 16,533 | — | ||||||||||||||
| Net cash provided by (used in) financing activities | (5,131,222) | (28,411,276) | (5,970,828) | ||||||||||||||
| Net increase (decrease) in cash and due from banks | (2,816,251) | 2,963,465 | 10,571 | ||||||||||||||
| Cash and due from banks at beginning of the period | 2,984,073 | 20,608 | 10,037 | ||||||||||||||
| Cash and due from banks at end of the period | $ | 167,822 | $ | 2,984,073 | $ | 20,608 | |||||||||||
| Supplemental Disclosures: | |||||||||||||||||
| Interest paid | $ | 391,108 | $ | 955,423 | $ | 2,116,628 | |||||||||||
| Affordable Housing Program payments, net | $ | 30,976 | $ | 35,349 | $ | 32,842 | |||||||||||
| (continued from previous page) | |||||||||||
| FEDERAL HOME LOAN BANK OF CINCINNATI | |||||||||||
| STATEMENTS OF CASH FLOWS | |||||||||||
| (In thousands) | For the Years Ended December 31, | ||||||||||
| 2019 | 2018 | 2017 | |||||||||
| FINANCING ACTIVITIES: | |||||||||||
| Net change in deposits and pass-through reserves | $ | 274,910 | $ | 28,225 | $ | (99,633 | ) | ||||
| Net proceeds (payments) on derivative contracts with financing elements | (619 | ) | (1,107 | ) | (4,210 | ) | |||||
| Net proceeds from issuance of Consolidated Obligations: | |||||||||||
| Discount Notes | 823,242,543 | 552,603,900 | 449,775,543 | ||||||||
| Bonds | 27,927,333 | 29,071,856 | 27,080,080 | ||||||||
| Bonds transferred from other FHLBanks | 12,697 | — | — | ||||||||
| Payments for maturing and retiring Consolidated Obligations: | |||||||||||
| Discount Notes | (821,075,874 | ) | (551,919,437 | ) | (448,296,555 | ) | |||||
| Bonds | (35,191,800 | ) | (37,565,265 | ) | (26,065,750 | ) | |||||
| Proceeds from issuance of capital stock | 591,762 | 439,157 | 354,654 | ||||||||
| Payments for repurchase of capital stock | (1,538,544 | ) | (297,252 | ) | — | ||||||
| Payments for repurchase/redemption of mandatorily redeemable capital stock | (8,764 | ) | (69,433 | ) | (275,209 | ) | |||||
| Cash dividends paid | (204,472 | ) | (256,384 | ) | (207,942 | ) | |||||
| Net cash provided by (used in) financing activities | (5,970,828 | ) | (7,965,740 | ) | 2,260,978 | ||||||
| Net increase (decrease) in cash and due from banks | 10,571 | (16,513 | ) | 17,813 | |||||||
| Cash and due from banks at beginning of the period | 10,037 | 26,550 | 8,737 | ||||||||
| Cash and due from banks at end of the period | $ | 20,608 | $ | 10,037 | $ | 26,550 | |||||
| Supplemental Disclosures: | |||||||||||
| Interest paid | $ | 2,116,628 | $ | 1,851,838 | $ | 1,157,662 | |||||
| Affordable Housing Program payments, net | $ | 32,842 | $ | 30,425 | $ | 30,126 | |||||
The accompanying notes are an integral part of these financial statements.
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FEDERAL HOME LOAN BANK OF CINCINNATI
NOTES TO FINANCIAL STATEMENTS
Background Information
The Federal Home Loan Bank of Cincinnati (the FHLB), a federally chartered corporation, is one of 11 District Federal Home Loan Banks (FHLBanks). The FHLBanks are government-sponsored enterprises (GSEs) that serve the public by enhancing the availability of credit for residential mortgages and targeted community development. The FHLB provides a readily available, competitively-priced source of funds to its member institutions. The FHLB is a cooperative whose member institutions own nearly all of the capital stock of the FHLB and may receive dividends on their investment to the extent declared by the FHLB's Board of Directors. Former members own the remaining capital stock to support business transactions still carried on the FHLB's Statements of Condition. Regulated financial depositories and insurance companies engaged in residential housing finance may apply for membership. Housing associates, including state and local housing authorities, may also borrow from the FHLB; while eligible to borrow, housing authorities are not members of the FHLB and, therefore, are not allowed to hold capital stock. A housing authority is eligible to utilize the Advance programs of the FHLB if it meets applicable statutory requirements. It must be a U.S. Department of Housing and Urban Development approved mortgagee and must also meet applicable mortgage lending, financial condition, as well as charter, inspection and supervision requirements.
All members must purchase stock in the FHLB. Members must own capital stock in the FHLB based on the amount of their total assets. Each member also may be required to purchase activity-based capital stock as it engages in certain business activities with the FHLB. As a result of these requirements, the FHLB conducts business with stockholders in the normal course of business. For financial statement purposes, the FHLB defines related parties as those members with more than 10 percent of the voting interests of the FHLB's outstanding capital stock. See Note 2218 for more information relating to transactions with stockholders.
The Federal Housing Finance Agency (Finance Agency) is, an independent agency in the independent Federal regulatorexecutive branch of the U.S. government, supervises and regulates the FHLBanks, Federal Home Loan Mortgage Corporation (Freddie Mac) and Federal National Mortgage Association (Fannie Mae). The Finance Agency's stated mission, with respect to the FHLBanks, is to ensure that the housing government-sponsored enterprises operateFHLBanks fulfill their mission by operating in a safe and sound manner so that theyto serve as a reliable source of liquidity and funding for the housing finance and community investment.market throughout the economic cycle.
Each FHLBank operates as a separate entity with its own management, employees, and board of directors. The FHLB does not havesponsor any special purpose entities or any other type of off-balance sheet conduits.
The Office of Finance is a joint office of the FHLBanks established to facilitate the issuance and servicing of the debt instruments of the FHLBanks, known as Consolidated Obligations, and to prepare combined quarterly and annual financial reports of all FHLBanks. As provided by the Federal Home Loan Bank Act of 1932, as amended (the FHLBank Act), or by Finance Agency regulation, the FHLBanks' Consolidated Obligations are backed only by the financial resources of the FHLBanks and are the primary source of funds for the FHLBanks. Deposits, other borrowings, and capital stock issued to members provide other funds. The FHLB primarily uses its funds to provide Advances to members and to purchase loans from members through its Mortgage Purchase Program (MPP). The FHLB also provides member institutions with correspondent services, such as wire transfer, security safekeeping, and settlement services.
Note 1 - Summary of Significant Accounting Policies
Basis of Presentation
The FHLB's accounting and financial reporting policies conform to accounting principles generally accepted in the United States of America (GAAP).
Significant Accounting Policies
Beginning January 1, 2020, the FHLB adopted new accounting guidance related to the measurement of credit losses on financial instruments, which requires a financial asset or group of financial assets measured at amortized cost to be presented at the net amount expected to be collected. The new guidance also requires credit losses relating to these financial instruments and available-for-sale securities to be recorded through the allowance for credit losses. Consistent with the modified retrospective
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method of adoption, the FHLB recorded an immaterial cumulative adjustment to the opening balance of retained earnings as of January 1, 2020, and the prior periods were not revised to conform to the new basis of accounting.
Cash Flows. In the Statements of Cash Flows, the FHLB considers non-interest bearing cash and due from banks as cash and cash equivalents. Federal funds sold are not treated as cash equivalents for purposes of the Statements of Cash Flows, but are instead treated as short-term investments and are reflected in the investing activities section of the Statements of Cash Flows.
Subsequent Events. The FHLB has evaluated subsequent events for potential recognition or disclosure through the issuance of these financial statements and believes there have been no material subsequent events requiring additional disclosure or recognition in these financial statements.
Use of Estimates. The preparation of financial statements in accordance with GAAP requires management to make subjective assumptions and estimates. These assumptions and estimates affect the reported amounts of assets and liabilities, the disclosure of contingent assets and liabilities, and the reported amounts of income and expenses. Actual results could differ from these estimates.
Fair Values. Some of the FHLB's financial instruments lack an available trading market with prices characterized as those that would be received to sell an asset, or paid to transfer a liability, in an orderly transaction between market participants at the measurement date. Therefore, the FHLB uses pricing services and/or internal models employing significant estimates and present value calculations when disclosing fair values. See Note 1915 for more information.
Interest-Bearing Deposits, Securities Purchased Under Agreements to Resell, and Federal Funds Sold. These investments provide short-term liquidity and are carried at cost.amortized cost; however, accrued interest receivable is recorded separately on the Statement of Condition. Interest-bearing deposits include certificates of deposits (CDs) not meeting the definition of an investment security. The FHLB treats securities purchased under agreements to resell as short-term collateralized loans. Federal funds sold are unsecured loans that are generally transacted on an overnight term.
Interest-bearing deposits and federal funds sold are evaluated quarterly for expected credit losses if they are not expected to be repaid according to the relevant contractual terms. If applicable, an allowance for credit losses is recorded with a corresponding adjustment to the provision (reversal) for credit losses.
Securities purchased under agreements to resell are evaluated quarterly for expected credit losses.The FHLB applies the collateral maintenance provision practical expedient, which are classified as assetsallows expected credit losses to be measured based on the Statements of Condition. Ifdifference between the marketfair value of the underlyingcollateral and the investment's amortized cost, for securities decrease belowpurchased under agreements to resell. The credit loss would be limited to the marketdifference between the fair value required as collateral, the counterparty has the option to (1) place an equivalent amount of additional securities in safekeeping in the name of the FHLB or (2) remit an equivalent amount of cash. Federal funds sold consist of short-term, unsecured loans generally transacted with counterparties that are considered bycollateral and the FHLB to be of investment quality.investment’s amortized cost.
Trading. Securities classified as trading are acquired for liquidity purposes and asset/liability management and are carried at fair value. The FHLB records changes in the fair value of these securities through othernon-interest income (loss) as a net gain or loss on trading securities. However,Finance Agency regulations and the FHLB does not participate inFHLB's risk management policies prohibit the speculative trading practicesof these instruments and holds these investments indefinitely as management periodically evaluates its liquidity needs.limit credit risk arising from them.
Available-for-Sale. Securities that are not classified as held-to-maturity or trading are classified as available-for-sale and are carried at fair value. Generally, theThe change in fair value of available-for-sale securities is recorded in other comprehensive income as net unrealized gains (losses) on available-for-sale securities. Beginning January 1, 2019, the FHLB adopted new hedge accounting guidance, which, among other things, impacts the income statement presentation of gains (losses) on derivatives and hedging activities for qualifying hedges, including hedges on available-for-sale securities. For available-for-sale securities in hedging relationships that have been hedged and qualify as a fair value hedge,hedges, the FHLB records the portion of the change in the fair value of the investment related to the risk being hedged in interest income on available-for-sale securities together with the related change in the fair value of the derivative, and records the remainder of the change in the fair value of the investment in other comprehensive income as net unrealized gains (losses) on available-for-sale securities.
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flows is less than amortized cost, an allowance for credit losses is recorded with a corresponding adjustment to the risk being hedgedprovision (reversal) for credit losses. The allowance is limited by the amount of the unrealized loss. The allowance for credit losses excludes uncollectible accrued interest receivable, which is measured separately.
If management intends to sell an impaired security classified as available-for-sale, or more likely than not will be required to sell the security before expected recovery of its amortized cost basis, any allowance for credit losses is written off and the amortized cost basis is written down to the security’s fair value at the reporting date with any incremental impairment reported in non-interest income (loss)earnings as net gains (losses) on derivativesinvestment securities. If management does not intend to sell an impaired security classified as available-for-sale and hedging activities together withit is not more likely than not that management will be required to sell the related change indebt security, then the credit portion of the difference is recognized as an allowance for credit losses and any remaining difference between the security’s fair value of the derivative, and amortized cost is recorded the remainder of the change in the fair value of the investment in other comprehensive income asto net unrealized gains (losses) on available-for-sale securities.securities within other comprehensive income (loss).
Held-to-Maturity. Securities that the FHLB has both the ability and intent to hold to maturity are classified as held-to-maturity and are carried at amortized cost, representing the amount at which an investment is acquired adjusted fororiginal cost net of periodic principal repayments and amortization of premiums and accretion of discounts. Accrued interest receivable is recorded separately on the Statements of Condition.
Certain changes in circumstances may cause the FHLB to change its intent to hold a security to maturity without calling into question its intent to hold other debt securities to maturity in the future. Thus, the sale or transfer of a held-to-maturity security due to certain changes in circumstances, such as evidence of significant deterioration in the issuer's creditworthiness or changes in regulatory requirements, is not considered to be inconsistent with its original classification. Other events that are isolated,
nonrecurring, and unusual for the FHLB that could not have been reasonably anticipated may cause the FHLB to sell or transfer a held-to-maturity security without necessarily calling into question its intent to hold other debt securities to maturity.
In addition, sales of held-to-maturity debt securities that meet either of the following two conditions may be considered as maturities for purposes of the classification of securities: (1) the sale occurs near enough to the security's maturity date (for example, within three months of maturity), or call date if exercise of the call is probable, that interest rate risk is substantially eliminated as a pricing factor and changes in market interest rates would not have a significant effect on the security's fair value, or (2) the sale of the security occurs after the FHLB has already collected a substantial portion (at least 85 percent) of the principal outstanding at acquisition due either to prepayments on the security or to scheduled payments on the security payable in equal installments (both principal and interest) over its term.
Held-to-maturity securities are evaluated quarterly for expected credit losses on a pool basis unless an individual assessment is deemed necessary because the securities do not possess similar risk characteristics. If applicable, an allowance for credit losses is recorded with a corresponding adjustment to the provision (reversal) for credit losses. The allowance for credit losses excludes uncollectible accrued interest receivable, which is measured separately.
Premiums and Discounts. The FHLB amortizes purchased premiums and accretes purchased discounts on mortgage-backed securities (MBS) classified as available-for-sale or held-to-maturity using the retrospective interest method (retrospective method). The retrospective method requires that the FHLB estimate prepayments over the estimated life of the securities and make a retrospective adjustment of the effective yield each time that the FHLB changes the estimated life as if the new estimate had been known since the original acquisition date of the securities. The FHLB uses nationally recognized third-party prepayment models to project estimated cash flows. Due to their short term nature, the FHLB amortizes premiums and accretes discounts on other investment categories with a term of one year or less using a straight-line methodology based on the contractual maturity of the securities. Analyses of the straight-line compared to the interest, or level-yield, methodology have been performed by the FHLB, and it has determined that the impact of the difference on the financial statements for each period reported, taken individually and as a whole, is not material.
Gains and Losses on Sales. The FHLB computes gains and losses on sales of investment securities using the specific identification method and includes these gains and losses in other income.non-interest income (loss).
Advances. The FHLB reportsrecords Advances (loans to members, former members or housing associates) either at amortized cost or at fair value when the fair value option ishas been elected. Advances carriedrecorded at amortized cost are reportedcarried at original cost net of periodic principal repayments and amortization of premiums and accretion of discounts (including discounts on Advances related to the Affordable Housing Program (AHP), as discussed below)Program), unearned commitment fees, and hedgingfair value hedge adjustments. The FHLB amortizes or accretes premiums and discounts, and recognizes unearned commitment fees and hedging adjustments on Advances to interest income using a level-yield methodology. Refundable fees are deferred untilFor Advances recorded at amortized cost, accrued interest receivable is recorded separately on the commitment expires or until the Advance is made. Statements of Condition.
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The FHLB records interest on Advances to income as earned. For Advances carried at fair value, interest incomeamortized cost are evaluated quarterly for expected credit losses. If deemed necessary, an allowance for credit losses is recognized based onrecorded with a corresponding adjustment to the contractual interest rate.provision (reversal) for credit losses.
Advance Modifications. In cases in which the FHLB funds a new Advance concurrent with or within a short period of time before or after the prepayment of an existing Advance by the same borrower, the FHLB evaluates whether the new Advance meets the accounting criteria to qualify as a modification of an existing Advance or whether it constitutes a new Advance. The FHLB compares the present value of cash flows on the new Advance to the present value of cash flows remaining on the existing Advance. If there is at least a 10 percent difference in the cash flows, or if the FHLB concludes the differences between the Advances are more than minor based on qualitative factors, the Advance is accounted for as a new Advance. In all other instances, the new Advance is accounted for as a modification.
Prepayment Fees. The FHLB charges a borrower a prepayment fee when the borrower prepays certain Advances before the original maturity. The recognition of prepayment fees is dependent on whether a new Advance was funded. If there were no new Advances funded, the FHLB records prepayment fees, net of basis adjustments related to hedging activities included in the carrying value of the Advances, as “Prepayment fees on Advances, net” in the interest income section of the Statements of Income.
If a new Advance was funded, but does not qualify as a modification of a prepaid Advance, the prepaid Advance is treated as an Advance termination with subsequent funding of a new Advance and the fees on the prepaid Advance, net of related hedging adjustments, are recorded in interest income as “Prepayment fees on Advances, net.”
If a new Advance is funded and qualifies as a modification of the original Advance, the net prepayment fee is deferred, recorded in the basis of the modified Advance, and amortized/accreted using a level-yield methodology over the life of the modified Advance to Advance interest income. If the modified Advance is hedged and meets the hedge accounting requirements, the associated fair value gains or losses of the Advance and the prepayment fees are included in the basis of the modified Advance. Such gains or losses and prepayment fees are then amortized in interest income over the life of the modified Advance using a level-yield methodology.
Mortgage Loans Held for Portfolio. The FHLB classifies mortgageMortgage loans as held for portfolio and, accordingly, reports themare recorded at their principal amount outstandingamortized cost, which is original cost, net of unamortizedperiodic principal repayments and amortization of premiums and accretion of discounts, and hedging basis adjustments on loans initially classified as mortgage loan commitments.commitments, and direct write-downs. The FHLB has the intent and ability to hold these mortgage loans to maturity. Accrued interest receivable is recorded separately on the Statements of Condition. If deemed necessary, an allowance for credit losses is recorded with a corresponding adjustment to the provision (reversal) for credit losses. The FHLB does not purchase mortgage loans with credit deterioration present at the time of purchase.
The FHLB performs a quarterly assessment of its mortgage loans held for portfolio to estimate expected credit losses. The FHLB measures expected credit losses on mortgage loans on a collective basis, pooling loans with similar risk characteristics. If a mortgage loan no longer shares risk characteristics with other loans, it is removed from the pool and evaluated for expected credit losses on an individual basis.
When developing the allowance for credit losses, the FHLB measures the expected loss over the estimated remaining life of a mortgage loan, which also considers how the FHLB’s credit enhancements mitigate credit losses. If a loan is purchased at a discount, the discount does not offset the allowance for credit losses. The FHLB includes estimates of expected recoveries within the allowance for credit losses.
The allowance excludes uncollectible accrued interest receivable, as the FHLB writes off accrued interest receivable by reversing interest income if a mortgage loan is placed on non-accrual status.
Premiums and Discounts. The FHLB defers and amortizes premiums and accretes discounts paid to and received by the FHLB's participating members (Participating Financial Institutions, or PFIs) and hedging basis adjustments, as interest income using the contractual interest method (contractual method).
Other Fees. The FHLB may receive non-origination fees, called pair-off fees. Pair-off fees represent a make-whole provision and are assessed when a member fails to deliver the quantity of loans committed to in a Mandatory Delivery Contract. Pair-off fees are recorded in other income.non-interest income (loss). A Mandatory Delivery Contract is a legal commitment the FHLB makes to purchase, and a PFI makes to deliver, a specified dollar amount of mortgage loans, with a forward settlement date, at a specified range of mortgage note rates and prices.
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Collateral-dependent Loans. An impaired loan is considered collateral-dependent ifwhen the borrower is experiencing financial difficulty and repayment is expected to be provided solely bysubstantially through the sale of the underlying property; that is, there is no other available and reliable source of repayment.collateral. A loan that is considered collateral-dependent is measured for impairment based on the fair value of the underlying property less estimated selling costs, with any shortfall recognized as an allowance for loan loss or charged-off. Interest income on impaired loans is recognized in the same manner as non-accrual loans noted below.
Non-accrual Loans. The FHLB places a conventional mortgage loan on non-accrual status if it is determined that either (1) the collection of interest or principal is doubtful (e.g., when a related allowance for credit lossescharge-off is recorded on a loan considered to be a troubled debt restructuring as a result of the individual evaluation for impairment)loan), or (2) interest or principal is past due for 90 days or more, except when the loan is well-secured and in the process of collection (e.g., through credit enhancements
and with monthly remittances on a schedule/scheduled basis). Past due loans are those where the borrower has failed to make a full payment of principal and interest within one month of its due date. Loans with remittances on a schedule/scheduled basis means the FHLB receives monthly principal and interest payments from the servicer regardless of whether the mortgagee is making payments to the servicer. Loans with monthly remittances on an actual/actual basis are considered well-secured; however, servicers of actual/actual loanremittance types contractually do not advance principal and interest regardless of borrower creditworthiness. As a result, these loans are placed on non-accrual status once they become 90 days delinquent.
For those mortgage loans placed on non-accrual status, accrued but uncollected interest is reversed against interest income. The FHLB records cash payments received on non-accrual loans first as interest income and then as a reduction of principal as specified in the contractual agreement, unless the collection of the remaining principal amount due is considered doubtful. If the collection of the remaining principal amount due is considered doubtful, cash payments received are applied first solely to principal until the remaining principal amount due is expected to be collected and then as a recovery of any charge-off, if applicable, followed by recording interest income. A loan on non-accrual status may be restored to accrual status when (1) none of its contractual principal and interest is due and unpaid, and the FHLB expects repayment of the remaining contractual interest and principal, or (2) it otherwise becomes well secured and in the process of collection.
Charge-off Policy. A charge-off is recorded if it is estimated that the recorded investmentamortized cost and any applicable accrued interest in a loan will not be recovered. The FHLB evaluates whether to record a charge-off on a conventional mortgage loan upon the occurrence of a confirming event, such as notification of a claim against any of the credit enhancements. The FHLB also charges off the portion of outstanding conventional mortgage loan balances in excess of fair value of the underlying property, less cost to sell and adjusted for any available credit enhancements, for loans that are 180 days or more delinquent and/or certain loans thatwhere the borrower has filed for bankruptcy.
Premises, Software and Equipment, Net. Premises, software and equipment are included in other assets on the Statements of Condition. The FHLB records premises, software and equipment at cost less accumulated depreciation and amortization. The FHLB computes depreciation on a straight-line methodology over the estimated useful lives of assets ranging from three to ten years. Leasehold improvements are amortized on a straight-line basis over the shorter of the estimated useful life of the improvement or the remaining term of the lease. The FHLB capitalizes improvements and major renewals but expenses ordinary maintenance and repairs when incurred. The FHLB capitalizes and amortizes the cost of computer software developed or obtained for internal use over future periods. In addition, the FHLB includes gains and losses on the disposal of premises, software and equipment in other non-interest income (loss) in the Statements of Income.
Premises, software and equipment were $8,399,000$6,936,000 and $8,190,000,$7,905,000, which was net of accumulated depreciation and amortization of $31,106,000$35,748,000 and $29,007,000$33,439,000 as of December 31, 20192021 and 2018,2020, respectively. For the years ended December 31, 2019, 2018,2021, 2020, and 2017,2019, the depreciation and amortization expense for premises, software and equipment was $2,257,000, $2,889,000,$2,396,000, $2,367,000, and $2,949,000,$2,257,000, respectively.
Leases. The FHLB leases office space and office equipment to run its business operations. Beginning January 1, 2019, the FHLB adopted new lease accounting guidance. At December 31, 2019,2021 and 2020, the FHLB included in the Statement of Condition $5,816,000$4,079,000 and $4,980,000 of operating lease right-of-use assets in other assets, as well as $6,417,000net, and $4,500,000 and $5,500,000 of operating lease liabilities in other liabilities. The FHLB recognized operating lease costs in the other operating expenses line of the Statement of Income of $1,848,000, $1,832,000 and $1,842,000 for the yearyears ended December 31, 2021, 2020 and 2019.
Derivatives and Hedging Activities. All derivatives are recognized on the Statements of Condition at their fair values and are reported as either derivative assets or derivative liabilities, net of cash collateral, and accrued interest from counterparties. The fair values of derivatives are netted by counterparty when the netting requirements have been met. If these netted amounts are positive, they are classified as an asset and, if negative, they are classified as a liability. Cash flows associated with derivativesa derivative are reflected as cash flows from operating activities in the Statement of Cash Flows unless the derivative meets the criteria to be a financing derivative.
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The FHLB utilizes two Derivative Clearing Organizations (Clearinghouses), for all cleared derivative transactions, LCH Ltd. and CME Clearing. At both Clearinghouses, variation margin is characterized as daily settlement payments and initial margin is considered cash collateral.
Derivative Designations. Each derivative is designated as one of the following:
a.a qualifying hedge of the fair value of a recognized asset or liability or an unrecognized firm commitment (a "fair value" hedge); or
b.a non-qualifying hedge (“economic hedge”) for asset/liability management purposes.
Accounting for Fair Value Hedges. If hedging relationships meet certain criteria including, but not limited to, formal documentation of the hedging relationship and an expectation to be highly effective, they are eligible for fair value hedge accounting and the offsetting changes in fair value of the hedged items attributable to the hedged risk may be recorded in earnings. The application of fair value hedge accounting generally requires the FHLB to evaluate the effectiveness of the hedging relationships at inception and on an ongoing basis and to calculate the changes in fair value of the derivatives and related hedged items independently. This is known as the “long-haul” method of accounting. Transactions that meet more stringent criteria qualify for the “shortcut” method of hedge accounting in which an assumption can be made that the change in fair value of a hedged item exactly offsets the change in value of the related derivative.
Derivatives are typically executed at the same time as the hedged item, and the FHLB designates the hedged item in a qualifying hedgehedging relationship as of the trade date. In many hedging relationships, the FHLB may designate the hedging relationship upon its commitment to disburse an Advance, trade a Consolidated Obligation or purchase an investment security in which settlement occurs within the shortest period of time possible for the type of instrument based on market settlement conventions. The FHLB records the changes in fair value of the derivative and the hedged item beginning on the trade date.
Accounting for Economic Hedges. An economic hedge is defined as a derivative hedging specific or non-specific underlying assets, liabilities, or firm commitments that does not qualify, or was not designated, for hedge accounting, but is an acceptable hedging strategy under the FHLB's risk management program. These economic hedging strategies also comply with Finance Agency regulatory requirements prohibiting speculative hedge transactions. An economic hedge introduces the potential for earnings variability caused by the changes in fair value of the derivatives that are recorded in the FHLB's income but that are not offset by corresponding changes in the value of the economically hedged assets, liabilities, or firm commitments. As a result, theThe FHLB recognizes the net interest and the change in fair value of these derivatives in non-interest income (loss) as “Net gains (losses) on derivativesderivatives.”
Accrued Interest Receivables and hedging activities” with no offsetting fair value adjustments for the assets, liabilities, or firm commitments.Payables.
The difference between accruals of interest receivables and payables on derivatives that are designated as fair value hedgehedging relationships is recognized as adjustments to the interest income or expense of the designated hedged item. The difference between accruals of interest receivables and payables on economic hedges are recognized in non-interest income (loss) as “Net gains (losses) on derivatives and hedging activities.derivatives.”
Discontinuance of Hedge Accounting. The FHLB discontinues hedge accounting prospectively when: (1) it determines that the derivative is no longer highly effective in offsetting changes in the fair value of a hedged item attributable to the hedged risk; (2) the derivative and/or the hedged item expires or is sold, terminated, or exercised; or (3) management determines that designating the derivative as a hedging instrument is no longer appropriate.
When hedge accounting is discontinued because the FHLB determines that the derivative no longer qualifies as an effective fair value hedge of an existing hedged item, the FHLB continues to carry the derivative on the Statements of Condition at its fair value, ceases to adjust the hedged asset or liability for changes in fair value, and amortizes the cumulative basis adjustment on the hedged item into earnings over the remaining life of the hedged item using a level-yield methodology.
Embedded Derivatives. The FHLB may issue debt, make Advances, or purchase financial instruments in which a derivative instrument is “embedded.” Upon execution of these transactions, the FHLB assesses whether the economic characteristics of the embedded derivative are clearly and closely related to the economic characteristics of the remaining component of the debt, Advance, debt, or purchased financial instrument (the host contract) and whether a separate, non-embedded instrument with the same terms as the embedded instrument would meet the definition of a derivative instrument. When the FHLB determines that (1) the
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embedded derivative has economic characteristics that are not clearly and closely related to the economic characteristics of the host contract and (2) a separate, stand-alone instrument with the same terms would qualify as a derivative instrument, the embedded derivative is separated from the host contract, carried at fair value, and designated as a stand-alone derivative
instrument pursuant to an economic hedge. However, the entire contract is carried at fair value and no portion of the contract is designated as a hedging instrument if the entire contract (the host contract and the embedded derivative) is to be measured at fair value, with changes in fair value reported in current-period earnings (such as an investment security classified as “trading” as well as hybrid financial instruments that are selected for which the fair value option)option is elected), or if the FHLB cannot reliably identify and measure the embedded derivative for purposes of separating that derivative from its host contract.
Consolidated Obligations. Consolidated Obligations are recorded at amortized cost unless the FHLB has elected the fair value option, in which case the Consolidated Obligations are carried at fair value.
Concessions. Dealers receive concessions in connection with the issuance of certain Consolidated Obligations. The Office of Finance prorates the amount of the concession to the FHLB based upon the percentage of the debt issued that is assumed by the FHLB. Concessions paid on Consolidated Obligations designated under the fair value option are expensed as incurred in other non-interest expense. The FHLB records concessions paid on Consolidated Obligation Bonds not designated under the fair value option as a direct deduction from their carrying amounts, consistent with the presentation of discounts on Consolidated Obligations. The concessions are amortized, using a level-yield methodology, over the terms to maturity or the expected lives of the Consolidated Obligation Bonds. The amortization of those concessions is included in Consolidated Obligation Bond interest expense.
The FHLB charges to expense as incurred the concessions applicable to Consolidated Obligation Discount Notes because of the short maturities of these Notes. Analyses of expensing concessions as incurred compared to a level-yield methodology have been performed by the FHLB, and it has determined that the impact of the difference on the financial statements for each period reported, taken individually and as a whole, is not material.
Discounts and Premiums. The FHLB accretes the discounts and amortizes the premiums on Consolidated Obligation Bonds to interest expense using a level-yield methodology over the terms to maturity or estimated lives of the corresponding Consolidated Obligation Bonds. Due to their short-term nature, the FHLB expenses the discounts on Consolidated Obligation Discount Notes using a straight-line methodology over the term of the Discount Notes. Analyses of a straight-line compared to a level-yield methodology have been performed by the FHLB, and the FHLB has determined that the impact of the difference on the financial statements for each period reported, taken individually and as a whole, is not material.
Off-Balance Sheet Credit Exposures. The FHLB evaluates its off-balance sheet credit exposures on a quarterly basis for expected credit losses. If deemed necessary, an allowance for expected credit losses on these off-balance sheet exposures is recorded in other liabilities with a corresponding adjustment to the provision (reversal) for credit losses.
Mandatorily Redeemable Capital Stock. The FHLB reclassifies stock subject to redemption from equity to liability upon expiration of the “grace period” after a member provides written notice of redemption, gives notice of intent to withdraw from membership, or attains nonmember status by merger or acquisition, charter termination, or involuntary termination from membership, because the member's shares then meet the definition of a mandatorily redeemable financial instrument. Shares meeting this definition are reclassified to a liability at fair value. Dividends declared on shares classified as a liability are accrued at the expected dividend rate and reflected as interest expense in the Statements of Income. The repurchase or redemption of mandatorily redeemable capital stock is reflected as a cash outflow in the financing activities section of the Statements of Cash Flows.
If a member cancels its written notice of redemption or notice of withdrawal, the FHLB reclassifies the mandatorily redeemable capital stock from a liability to equity. After the reclassification, dividends on the capital stock are no longer classified as interest expense.
Restricted Retained Earnings. Under theThe Joint Capital Enhancement Agreement, as amended (Capital Agreement), provides that the FHLB contributeswill, on a quarterly basis, allocate 20 percent of its quarterly net income to a separate restricted retained earnings account until the balance of that account,balance calculated as of the last day of each calendar quarter, equals at least one percent of the FHLB's average balance of outstanding Consolidated Obligations for the previouscalendar quarter. TheseAdditionally, the Capital Agreement provides that amounts in restricted retained earnings in excess of 150 percent of the FHLB's restricted retained earnings minimum (i.e., one percent of the FHLB's average balance of outstanding Consolidated Obligations calculated as of the last day of each calendar quarter) may be released from restricted retained earnings. Restricted retained earnings are not available to pay dividends and are presented separately on the Statements of Condition.
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Finance Agency Expenses. The FHLB funds its proportionate share of the costs of operating the Finance Agency. The portion of the Finance Agency's expenses and working capital fund paid by each FHLBank has been allocated based on each FHLBank's pro rata share of total annual assessments (which are based on the ratio between each FHLBank's minimum required regulatory capital and the aggregate minimum required regulatory capital of every FHLBank).
Office of Finance Expenses. The FHLB is assessed for its proportionate share of the costs of operating the Office of Finance. Each FHLBank's proportionate share of Office of Finance operating and capital expenditures is calculated using a formula that is based upon the following components: (1) two-thirds based upon each FHLBank's share of total Consolidated Obligations outstanding and (2) one-third based upon an equal pro rata allocation.
Voluntary Housing Programs. The FHLB classifies amounts awarded under its voluntary housing programs as other non-interest expenses.
Affordable Housing Program (AHP). Assessments. The FHLBank Act requires each FHLBank to establish and fund an AHP. The FHLB charges the required funding for AHP to earnings and establishes a liability. The AHP funds provide subsidies to members to assist in the purchase, construction, or rehabilitation of housing for very low-, low-, and moderate-income households. TheCurrently, the FHLB makes subsidies available to members in the form of grants. However, in previous years, the FHLB also issuesprovided subsidies in the form of AHP Advances, which were issued at interest rates below the customary interest rate for non-subsidized Advances. When the FHLB makesFor an AHP Advance, the present value of the variation in the cash flow caused by the difference in the interest rate between the AHP Advance rate and the FHLB's related cost of funds for comparable maturity funding is charged against the AHP liability and recorded as a discount on the AHP Advance. As an alternative, the FHLB also has the authority to make the AHP subsidy available to members as a grant. The discount on AHP Advances is accreted to interest income on Advances using a level-yield methodology over the life of the Advance.
Note 2 - Recently Issued and Adopted Accounting Standards and InterpretationsGuidance
Facilitation of the Effects of Reference Rate Reform on Financial Reporting.Reporting, as amended. On March 12, 2020, the Financial Accounting Standards Board (FASB) issued temporary, optional guidance to ease the potential burden in accounting for reference rate reform. The new guidance provides optional expedients and exceptions for applying GAAP to transactions affected by reference rate reform if certain criteria are met. The transactions primarily include (1) contract modifications, (2) hedging relationships, and (3) sale and/or transfer of debt securities classified as held-to-maturity. This guidance isbecame effective immediately, forand the FHLB andmay elect to apply the amendments may be applied prospectively through December 31, 2022. The FHLB is ineither elected or plans to elect the processmajority of evaluating the guidance,optional expedients and itsexceptions provided, and the effect on the FHLB's financial condition, results of operations and cash flows hasis not yet been determined.
Note 3 - Cash and Due from Banks
Cash and due from banks on the Statement of Condition includes cash on hand, cash items in the process of collection, compensating balances, and amounts due from correspondent banks and the Federal Reserve Bank.
Compensating Balances. The FHLB maintains collected cash balances with commercial banks in return for certain services. These agreements contain no legal restrictions on the withdrawal of funds. The average collected cash balances for the years ended December 31, 20192021 and 20182020 were approximately $133,000$380,000 and $118,000.$260,000, respectively.
Note 4 - Investments
The FHLB actsmakes short-term investments in interest-bearing deposits, securities purchased under agreements to resell, and Federal funds sold and may make other investments in debt securities, which are classified as either trading, available-for-sale, or held-to-maturity.
89
Interest-Bearing Deposits, Securities Purchased under Agreements to Resell, and Federal Funds Sold
The FHLB invests in interest-bearing deposits, securities purchased under agreements to resell, and Federal funds sold to provide short-term liquidity. These investments are transacted with counterparties that have received a pass-through correspondentcredit rating of single-A or greater by a nationally recognized statistical rating organization (NRSRO). The FHLB’s internal ratings of these counterparties may differ from those issued by an NRSRO.
Federal funds sold are unsecured loans that are generally transacted on an overnight term. Finance Agency regulations include a limit on the amount of unsecured credit the FHLB may extend to a counterparty. At December 31, 2021 and 2020, all investments in interest-bearing deposits and Federal funds sold were repaid or expected to be repaid according to the contractual terms. No allowance for member institutions required to deposit reserves with thecredit losses was recorded for these assets at December 31, 2021 and 2020. Carrying values of interest-bearing deposits and Federal Reserve Banks. The amount shown as “Cashfunds sold exclude accrued interest receivable of (in thousands) $1 and due from banks” includes pass-through reserves deposited with Federal Reserve Banks of approximately $10,239,000 and $6,478,000$10 as of December 31, 20192021, and 2018.$72 and $10 as of December 31, 2020.
The FHLB invests in debt securities, which are classified as either trading, available-for-sale, or held-to-maturity. The FHLB is prohibited by Finance Agency regulations from purchasing certain higher-risk securities, such as equity securities and debt instruments that are not investment quality, other than certain investments targeted at low-income persons or communities and instruments that experienced credit deterioration after their purchase by the FHLB.
Trading Securities
Table 4.1 - Trading Securities by Major Security Types (in thousands)
| Fair Value | December 31, 2021 | December 31, 2020 | |||||||||
| Non-mortgage-backed securities (non-MBS): | |||||||||||
| U.S. Treasury obligations | $ | 5,030,946 | $ | 8,362,211 | |||||||
| GSE obligations | 1,749,661 | 2,125,580 | |||||||||
| Total non-MBS | 6,780,607 | 10,487,791 | |||||||||
| Mortgage-backed securities (MBS): | |||||||||||
| U.S. obligation single-family | 210 | 333 | |||||||||
| Total MBS | 210 | 333 | |||||||||
| Total | $ | 6,780,817 | $ | 10,488,124 | |||||||
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| Fair Value | December 31, 2019 | December 31, 2018 | |||||
| Non-MBS: | |||||||
| U.S. Treasury obligations | $ | 9,626,964 | $ | — | |||
| GSE obligations | 1,988,259 | 223,368 | |||||
| Total non-MBS | 11,615,223 | 223,368 | |||||
| MBS: | |||||||
| U.S. obligation single-family MBS | 470 | 612 | |||||
| Total | $ | 11,615,693 | $ | 223,980 | |||
Table 4.2 - Net Gains (Losses) on Trading Securities (in thousands)
| For the Years Ended December 31, | |||||||||||||||||||||||||||||
| 2021 | 2020 | 2019 | |||||||||||||||||||||||||||
| Net unrealized gains (losses) on trading securities held at period end | $ | (211,450) | $ | 268,392 | $ | 210,207 | |||||||||||||||||||||||
| Net gains (losses) on trading securities sold/matured during the period | (46,047) | (10,826) | — | ||||||||||||||||||||||||||
| Net gains (losses) on trading securities | $ | (257,497) | $ | 257,566 | $ | 210,207 | |||||||||||||||||||||||
| For the Years Ended December 31, | |||||||||||
| 2019 | 2018 | 2017 | |||||||||
| Net gains (losses) on trading securities held at period end | $ | 210,207 | $ | 7,086 | $ | (6 | ) | ||||
| Net gains (losses) on trading securities | $ | 210,207 | $ | 7,086 | $ | (6 | ) | ||||
Table 5.14.3 - Available-for-Sale Securities by Major Security Types (in thousands)
| December 31, 2019 | |||||||||||||||
Amortized Cost (1) | Gross Unrealized Gains | Gross Unrealized Losses | Fair Value | ||||||||||||
| Certificates of deposit | $ | 1,410,000 | $ | 111 | $ | — | $ | 1,410,111 | |||||||
| GSE obligations | 131,815 | 601 | (342 | ) | 132,074 | ||||||||||
| Total | $ | 1,541,815 | $ | 712 | $ | (342 | ) | $ | 1,542,185 | ||||||
| December 31, 2018 | |||||||||||||||
Amortized Cost (1) | Gross Unrealized Gains | Gross Unrealized Losses | Fair Value | ||||||||||||
| Certificates of deposit | $ | 2,350,000 | $ | 71 | $ | (69 | ) | $ | 2,350,002 | ||||||
| GSE obligations | 53,007 | 16 | (128 | ) | 52,895 | ||||||||||
| Total | $ | 2,403,007 | $ | 87 | $ | (197 | ) | $ | 2,402,897 | ||||||
| December 31, 2021 | |||||||||||||||||||||||
Amortized Cost (1) | Gross Unrealized Gains | Gross Unrealized Losses | Fair Value | ||||||||||||||||||||
| Non-MBS: | |||||||||||||||||||||||
| U.S. Treasury obligations | $ | 4,475,664 | $ | 23,206 | $ | — | $ | 4,498,870 | |||||||||||||||
| GSE obligations | 133,058 | 2,250 | — | 135,308 | |||||||||||||||||||
| Total non-MBS | 4,608,722 | 25,456 | — | 4,634,178 | |||||||||||||||||||
| MBS: | |||||||||||||||||||||||
| GSE multi-family | 632,276 | 2,961 | (2,292) | 632,945 | |||||||||||||||||||
| Total MBS | 632,276 | 2,961 | (2,292) | 632,945 | |||||||||||||||||||
| Total | $ | 5,240,998 | $ | 28,417 | $ | (2,292) | $ | 5,267,123 | |||||||||||||||
| December 31, 2020 | |||||||||||||||||||||||
Amortized Cost (1) | Gross Unrealized Gains | Gross Unrealized Losses | Fair Value | ||||||||||||||||||||
| Non-MBS: | |||||||||||||||||||||||
| GSE obligations | $ | 140,600 | $ | 1,802 | $ | — | $ | 142,402 | |||||||||||||||
| Total non-MBS | 140,600 | 1,802 | — | 142,402 | |||||||||||||||||||
| MBS: | |||||||||||||||||||||||
| GSE multi-family | 146,269 | 2,916 | — | 149,185 | |||||||||||||||||||
| Total MBS | 146,269 | 2,916 | — | 149,185 | |||||||||||||||||||
| Total | $ | 286,869 | $ | 4,718 | $ | — | $ | 291,587 | |||||||||||||||
| December 31, 2019 | |||||||||||||||||||||||
| Less than 12 Months | 12 Months or more | Total | |||||||||||||||||||||
| Fair Value | Gross Unrealized Losses | Fair Value | Gross Unrealized Losses | Fair Value | Gross Unrealized Losses | ||||||||||||||||||
| GSE obligations | $ | 17,071 | $ | (126 | ) | $ | 21,574 | $ | (216 | ) | $ | 38,645 | $ | (342 | ) | ||||||||
| Total | $ | 17,071 | $ | (126 | ) | $ | 21,574 | $ | (216 | ) | $ | 38,645 | $ | (342 | ) | ||||||||
| December 31, 2019 | December 31, 2018 | ||||||||||||||
| Year of Maturity | Amortized Cost | Fair Value | Amortized Cost | Fair Value | |||||||||||
| Due in 1 year or less | $ | 1,410,000 | $ | 1,410,111 | $ | 2,350,000 | $ | 2,350,002 | |||||||
| Due after 1 year through 5 years | — | — | — | — | |||||||||||
| Due after 5 years through 10 years | 119,771 | 119,870 | 48,999 | 48,904 | |||||||||||
| Due after 10 years | 12,044 | 12,204 | 4,008 | 3,991 | |||||||||||
| Total | $ | 1,541,815 | $ | 1,542,185 | $ | 2,403,007 | $ | 2,402,897 | |||||||
Table 5.4 - Interest Rate Payment Terms of Available-for-Sale Securities (in thousands)
| December 31, 2019 | December 31, 2018 | ||||||
| Amortized cost of available-for-sale securities: | |||||||
| Fixed-rate | $ | 1,541,815 | $ | 2,403,007 | |||
| December 31, 2019 | |||||||||||||||
Amortized Cost (1) | Gross Unrecognized Holding Gains | Gross Unrecognized Holding Losses | Fair Value | ||||||||||||
| Non-MBS: | |||||||||||||||
| U.S. Treasury obligations | $ | 35,171 | $ | 5 | $ | — | $ | 35,176 | |||||||
| Total non-MBS | 35,171 | 5 | — | 35,176 | |||||||||||
| MBS: | |||||||||||||||
| U.S. obligation single-family MBS | 1,670,783 | 13,499 | (239 | ) | 1,684,043 | ||||||||||
| GSE single-family MBS | 4,500,471 | 40,386 | (24,072 | ) | 4,516,785 | ||||||||||
| GSE multi-family MBS | 7,292,894 | 54 | (27,745 | ) | 7,265,203 | ||||||||||
| Total MBS | 13,464,148 | 53,939 | (52,056 | ) | 13,466,031 | ||||||||||
| Total | $ | 13,499,319 | $ | 53,944 | $ | (52,056 | ) | $ | 13,501,207 | ||||||
| December 31, 2018 | |||||||||||||||
Amortized Cost (1) | Gross Unrecognized Holding Gains | Gross Unrecognized Holding Losses | Fair Value | ||||||||||||
| Non-MBS: | |||||||||||||||
| U.S. Treasury obligations | $ | 35,667 | $ | — | $ | (6 | ) | $ | 35,661 | ||||||
| Total non-MBS | 35,667 | — | (6 | ) | 35,661 | ||||||||||
| MBS: | |||||||||||||||
| U.S. obligation single-family MBS | 2,040,642 | 540 | (47,463 | ) | 1,993,719 | ||||||||||
| GSE single-family MBS | 5,543,524 | 9,891 | (162,097 | ) | 5,391,318 | ||||||||||
| GSE multi-family MBS | 8,171,389 | 1,739 | (18,458 | ) | 8,154,670 | ||||||||||
| Total MBS | 15,755,555 | 12,170 | (228,018 | ) | 15,539,707 | ||||||||||
| Total | $ | 15,791,222 | $ | 12,170 | $ | (228,024 | ) | $ | 15,575,368 | ||||||
| December 31, 2019 | December 31, 2018 | ||||||
| Premiums | $ | 32,071 | $ | 42,299 | |||
| Discounts | (13,996 | ) | (19,730 | ) | |||
| Net purchased premiums | $ | 18,075 | $ | 22,569 | |||
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Table 6.34.4 - Held-to-MaturityAvailable-for-Sale Securities in a Continuous Unrealized Loss Position (in thousands)
| December 31, 2021 | |||||||||||||||||||||||||||||||||||
| Less than 12 Months | 12 Months or more | Total | |||||||||||||||||||||||||||||||||
| Fair Value | Gross Unrealized Losses | Fair Value | Gross Unrealized Losses | Fair Value | Gross Unrealized Losses | ||||||||||||||||||||||||||||||
| GSE multi-family MBS | $ | 489,983 | $ | (2,292) | $ | — | $ | — | $ | 489,983 | $ | (2,292) | |||||||||||||||||||||||
| Total | $ | 489,983 | $ | (2,292) | $ | — | $ | — | $ | 489,983 | $ | (2,292) | |||||||||||||||||||||||
| December 31, 2019 | |||||||||||||||||||||||
| Less than 12 Months | 12 Months or more | Total | |||||||||||||||||||||
| Fair Value | Gross Unrealized Losses | Fair Value | Gross Unrealized Losses | Fair Value | Gross Unrealized Losses | ||||||||||||||||||
| MBS: | |||||||||||||||||||||||
| U.S. obligation single-family MBS | $ | 148,586 | $ | (239 | ) | $ | — | $ | — | $ | 148,586 | $ | (239 | ) | |||||||||
| GSE single-family MBS | 702,730 | (2,682 | ) | 1,921,576 | (21,390 | ) | 2,624,306 | (24,072 | ) | ||||||||||||||
| GSE multi-family MBS | 3,385,731 | (7,704 | ) | 3,735,950 | (20,041 | ) | 7,121,681 | (27,745 | ) | ||||||||||||||
| Total | $ | 4,237,047 | $ | (10,625 | ) | $ | 5,657,526 | $ | (41,431 | ) | $ | 9,894,573 | $ | (52,056 | ) | ||||||||
| December 31, 2018 | |||||||||||||||||||||||
| Less than 12 Months | 12 Months or more | Total | |||||||||||||||||||||
| Fair Value | Gross Unrealized Losses | Fair Value | Gross Unrealized Losses | Fair Value | Gross Unrealized Losses | ||||||||||||||||||
| Non-MBS: | |||||||||||||||||||||||
| U.S. Treasury obligations | $ | 35,661 | $ | (6 | ) | $ | — | $ | — | $ | 35,661 | $ | (6 | ) | |||||||||
| Total non-MBS | 35,661 | (6 | ) | — | — | 35,661 | (6 | ) | |||||||||||||||
| MBS: | |||||||||||||||||||||||
| U.S. obligation single-family MBS | 175,663 | (1,571 | ) | 1,526,835 | (45,892 | ) | 1,702,498 | (47,463 | ) | ||||||||||||||
| GSE single-family MBS | 401,509 | (1,581 | ) | 3,859,608 | (160,516 | ) | 4,261,117 | (162,097 | ) | ||||||||||||||
| GSE multi-family MBS | 5,976,323 | (18,185 | ) | 229,739 | (273 | ) | 6,206,062 | (18,458 | ) | ||||||||||||||
| Total MBS | 6,553,495 | (21,337 | ) | 5,616,182 | (206,681 | ) | 12,169,677 | (228,018 | ) | ||||||||||||||
| Total | $ | 6,589,156 | $ | (21,343 | ) | $ | 5,616,182 | $ | (206,681 | ) | $ | 12,205,338 | $ | (228,024 | ) | ||||||||
All securities outstanding at December 31, 2020 had gross unrealized gains.
Table 6.44.5 - Available-for-Sale Securities by Contractual Maturity (in thousands)
| December 31, 2021 | December 31, 2020 | ||||||||||||||||||||||
| Year of Maturity | Amortized Cost | Fair Value | Amortized Cost | Fair Value | |||||||||||||||||||
| Non-MBS: | |||||||||||||||||||||||
| Due in 1 year or less | $ | — | $ | — | $ | — | $ | — | |||||||||||||||
| Due after 1 year through 5 years | 81,194 | 82,185 | 11,248 | 11,309 | |||||||||||||||||||
| Due after 5 years through 10 years | 4,515,054 | 4,538,945 | 116,096 | 117,507 | |||||||||||||||||||
| Due after 10 years | 12,474 | 13,048 | 13,256 | 13,586 | |||||||||||||||||||
| Total non-MBS | 4,608,722 | 4,634,178 | 140,600 | 142,402 | |||||||||||||||||||
MBS (1) | 632,276 | 632,945 | 146,269 | 149,185 | |||||||||||||||||||
| Total | $ | 5,240,998 | $ | 5,267,123 | $ | 286,869 | $ | 291,587 | |||||||||||||||
(1)MBS are not presented by contractual maturity because their expected maturities will likely differ from contractual maturities because borrowers may have the right to call or prepay obligations with or without call or prepayment fees.
Table 4.6 - Interest Rate Payment Terms of Available-for-Sale Securities (in thousands)
| December 31, 2021 | December 31, 2020 | ||||||||||
| Amortized cost of non-MBS: | |||||||||||
| Fixed-rate | $ | 4,608,722 | $ | 140,600 | |||||||
| Total amortized cost of non-MBS | 4,608,722 | 140,600 | |||||||||
| Amortized cost of MBS: | |||||||||||
| Fixed-rate | 632,276 | 146,269 | |||||||||
| Total amortized cost of MBS | 632,276 | 146,269 | |||||||||
| Total | $ | 5,240,998 | $ | 286,869 | |||||||
The FHLB had no sales of securities out of its available-for-sale portfolio for the years ended December 31, 2021, 2020 or 2019.
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Held-to-Maturity Securities
Table 4.7 - Held-to-Maturity Securities by Major Security Types (in thousands)
| December 31, 2021 | |||||||||||||||||||||||
Amortized Cost (1) | Gross Unrecognized Holding Gains | Gross Unrecognized Holding Losses | Fair Value | ||||||||||||||||||||
| Non-MBS: | |||||||||||||||||||||||
| U.S. Treasury obligations | $ | 46,879 | $ | — | $ | — | $ | 46,879 | |||||||||||||||
| Total non-MBS | 46,879 | — | — | 46,879 | |||||||||||||||||||
| MBS: | |||||||||||||||||||||||
| U.S. obligation single-family | 1,056,729 | 11,553 | (8,337) | 1,059,945 | |||||||||||||||||||
| GSE single-family | 1,860,197 | 49,026 | — | 1,909,223 | |||||||||||||||||||
| GSE multi-family | 7,252,951 | 4,841 | (4,018) | 7,253,774 | |||||||||||||||||||
| Total MBS | 10,169,877 | 65,420 | (12,355) | 10,222,942 | |||||||||||||||||||
| Total | $ | 10,216,756 | $ | 65,420 | $ | (12,355) | $ | 10,269,821 | |||||||||||||||
| December 31, 2020 | |||||||||||||||||||||||
Amortized Cost (1) | Gross Unrecognized Holding Gains | Gross Unrecognized Holding Losses | Fair Value | ||||||||||||||||||||
| Non-MBS: | |||||||||||||||||||||||
| U.S. Treasury obligations | $ | 41,398 | $ | 1 | $ | — | $ | 41,399 | |||||||||||||||
| Total non-MBS | 41,398 | 1 | — | 41,399 | |||||||||||||||||||
| MBS: | |||||||||||||||||||||||
| U.S. obligation single-family | 986,399 | 41,218 | — | 1,027,617 | |||||||||||||||||||
| GSE single-family | 3,013,326 | 105,657 | (2) | 3,118,981 | |||||||||||||||||||
| GSE multi-family | 5,607,048 | 5,146 | (8,055) | 5,604,139 | |||||||||||||||||||
| Total MBS | 9,606,773 | 152,021 | (8,057) | 9,750,737 | |||||||||||||||||||
| Total | $ | 9,648,171 | $ | 152,022 | $ | (8,057) | $ | 9,792,136 | |||||||||||||||
(1)Carrying value equals amortized cost. Amortized cost of held-to-maturity securities includes adjustments made to the cost basis of an investment for accretion and amortization and excludes accrued interest receivable of (in thousands) $7,461 and $9,609 as of December 31, 2021 and 2020.
Table 4.8 - Net Purchased Premiums Included in the Amortized Cost of MBS Classified as Held-to-Maturity (in thousands)
| December 31, 2021 | December 31, 2020 | ||||||||||
| Premiums | $ | 22,640 | $ | 18,299 | |||||||
| Discounts | (6,282) | (7,269) | |||||||||
| Net purchased premiums | $ | 16,358 | $ | 11,030 | |||||||
93
Table 4.9 - Held-to-Maturity Securities by Contractual Maturity (in thousands)
| December 31, 2021 | December 31, 2020 | ||||||||||||||||||||||
| Year of Maturity | Amortized Cost (1) | Fair Value | Amortized Cost (1) | Fair Value | |||||||||||||||||||
| Non-MBS: | |||||||||||||||||||||||
| Due in 1 year or less | $ | 46,879 | $ | 46,879 | $ | 41,398 | $ | 41,399 | |||||||||||||||
| Due after 1 year through 5 years | — | — | — | — | |||||||||||||||||||
| Due after 5 years through 10 years | — | — | — | — | |||||||||||||||||||
| Due after 10 years | — | — | — | — | |||||||||||||||||||
| Total non-MBS | 46,879 | 46,879 | 41,398 | 41,399 | |||||||||||||||||||
MBS (2) | 10,169,877 | 10,222,942 | 9,606,773 | 9,750,737 | |||||||||||||||||||
| Total | $ | 10,216,756 | $ | 10,269,821 | $ | 9,648,171 | $ | 9,792,136 | |||||||||||||||
| December 31, 2019 | December 31, 2018 | ||||||||||||||
| Year of Maturity | Amortized Cost (1) | Fair Value | Amortized Cost (1) | Fair Value | |||||||||||
| Non-MBS: | |||||||||||||||
| Due in 1 year or less | $ | 35,171 | $ | 35,176 | $ | 35,667 | $ | 35,661 | |||||||
| Due after 1 year through 5 years | — | — | — | — | |||||||||||
| Due after 5 years through 10 years | — | — | — | — | |||||||||||
| Due after 10 years | — | — | — | — | |||||||||||
| Total non-MBS | 35,171 | 35,176 | 35,667 | 35,661 | |||||||||||
MBS (2) | 13,464,148 | 13,466,031 | 15,755,555 | 15,539,707 | |||||||||||
| Total | $ | 13,499,319 | $ | 13,501,207 | $ | 15,791,222 | $ | 15,575,368 | |||||||
(2)MBS are not presented by contractual maturity because their expected maturities will likely differ from contractual maturities because borrowers may have the right to call or prepay obligations with or without call or prepayment fees.
Table 6.54.10 - Interest Rate Payment Terms of Held-to-Maturity Securities (in thousands)
| December 31, 2021 | December 31, 2020 | ||||||||||
| Amortized cost of non-MBS: | |||||||||||
| Fixed-rate | $ | 46,879 | $ | 41,398 | |||||||
| Total amortized cost of non-MBS | 46,879 | 41,398 | |||||||||
| Amortized cost of MBS: | |||||||||||
| Fixed-rate | 2,718,127 | 3,677,199 | |||||||||
| Variable-rate | 7,451,750 | 5,929,574 | |||||||||
| Total amortized cost of MBS | 10,169,877 | 9,606,773 | |||||||||
| Total | $ | 10,216,756 | $ | 9,648,171 | |||||||
| December 31, 2019 | December 31, 2018 | ||||||
| Amortized cost of non-MBS: | |||||||
| Fixed-rate | $ | 35,171 | $ | 35,667 | |||
| Total amortized cost of non-MBS | 35,171 | 35,667 | |||||
| Amortized cost of MBS: | |||||||
| Fixed-rate | 5,438,532 | 6,652,055 | |||||
| Variable-rate | 8,025,616 | 9,103,500 | |||||
| Total amortized cost of MBS | 13,464,148 | 15,755,555 | |||||
| Total | $ | 13,499,319 | $ | 15,791,222 | |||