ITEM 1B.
UNRESOLVED STAFF COMMENTS
None
The FHLBNY occupies approximately 41,000 square feet of leased office space at 101 Park Avenue, New York, New York. The FHLBNY also maintains 30,000 square feet of leased office space at 30 Montgomery Street, Jersey City, New Jersey, principally as an operations center.
On September 15, 2008, Lehman Brothers Holdings, Inc. (“LBHI”), the parent company of Lehman Brothers Special Financing Inc. (“LBSF”) and a guarantor of LBSF’s obligations, filed for protection under Chapter 11 of the United States Bankruptcy Code in the United States Bankruptcy Court in the Southern District of New York. LBSF filed for protection under Chapter 11 in the same court on October 3, 2008. LBSF was a counterparty to FHLBNY on multiple derivative transactions under an International Swap Dealers Association, Inc. master agreement with a total notional amount of $16.5 billion at the time of termination of the Bank’s derivative transactions with LBSF. The net amount that was due to the Bank after giving effect to obligations that were due LBSF was approximately $65 million. The FHLBNY filed timely proofs of claim in the amount of approximately $65 million as creditors of LBSF and LBHI in connection with the bankruptcy proceedings. The Bank fully reserved the LBSF receivables as the bankruptcies of LBHI and LBSF make the timing and the amount of any recovery uncertain.
As previously reported, the Bank received a Derivatives ADR Notice from LBSF dated July 23, 2010 making a Demand as of the date of the Notice of approximately $268 million owed to LBSF by the Bank. Subsequently, in accordance with the Alternative Dispute Resolution Procedure Order entered by the Bankruptcy Court dated September 17, 2009 (“Order”), the Bank responded to LBSF on August 23, 2010, denying LBSF’s Demand. LBSF served a reply on September 7, 2010, effectively reiterating its position. The mediation being conducted pursuant to the Order commenced on December 8, 2010 and, concluded without settlement on March 17, 2011. Pursuant to the Order, positions taken by the parties in the ADR process are confidential.
While the Bank believes that LBSF’s position is without merit, the amount the Bank actually recovers or pays will ultimately be decided in the course of the bankruptcy proceedings.
PART II
ITEM 5.
ITEM 5.
MARKET FOR REGISTRANT’S COMMON EQUITY, RELATED STOCKHOLDER MATTERS AND ISSUER PURCHASES OF EQUITY SECURITIES.
All of the stock of the FHLBNY is owned by its members. Stock may also be held by former members as a result of having been acquired by a non-member institution. The FHLBNY conducts its business in advances and mortgages exclusively with its stockholder members and housing associates. There is no established marketplace for FHLBNY stock as FHLBNY stock is not publicly traded. It may be redeemed at par value upon request, subject to regulatory limits. The par value of all FHLBNY stock is $100 per share. These shares of stock in the FHLBNY are registered under the Securities Exchange Act of 1934, as amended. At December 31, 2010 the FHLBNY had 336 members, who held 45,289,625 shares of capital stock between them. Former members held 632,192 shares. At December 31, 2009 the FHLBNY had 331 members with 50,589,563 shares of stock between them and 1,262,942 shares held by former members. Capital stock held by former members is classified as a liability, and deemed to be mandatorily redeemable under the accounting guidance for certain financial instruments with characteristics of both liabilities and equity.
Recent FHLBNY quarterly cash dividends are outlined in the table below. No dividends were paid in the form of stock. Dividend payments and earnings retention are subject to modification by the FHLBNY’s Board of Directors, at its discretion, and within the regulatory framework promulgated by the Finance Agency. The FHLBNY’s Retained Earnings and Dividends Policy outlined in the section titled Retained Earnings and Dividends under Part I, ITEM 1 of this Annual Report on Form 10-K provides additional information.
Dividends from a calendar quarter’s earnings are paid 1 subsequent to the end of that calendar quarter as summarized below (dollars in thousands):
Dividends are accrued for former members, and recorded as interest expense on mandatorily redeemable capital stock held by former members, and is a charge to Net income. Dividends on capital stock held by members are not accrued. Dividend is declared and paid subsequent to the quarter in which the dividend is earned, and is a direct charge to Retained earnings.
Issuer Purchases of Equity Securities
In accordance with correspondence from the Office of Chief Counsel of the Division of Corporate Finance of the U.S. Securities and Exchange Commission dated August 26, 2005, the FHLBNY is exempt from disclosures of unregistered sales of common equity securities or securities issued through the Office of Finance that otherwise would have been required under item 701 of the SEC’s Regulation S-K. By the same no-action letter, the FHLBNY is also exempt from disclosure of securities repurchases by the issuer that otherwise would have been required under Item 703 of Regulation S-K.
ITEM 6.
ITEM 6.
SELECTED FINANCIAL DATA.
Investments include held-to-maturity securities, available for-sale securities, Federal funds, loans to other FHLBanks, and other interest bearing deposits.
Allowances for credit losses were $5.8 million, $4.5 million, $1.4 million, $0.6 million, and $0.6 million for the years ended December 31, 2010, 2009, 2008, 2007 and 2006.
Equity to asset ratio is capital stock plus retained earnings and Accumulated other comprehensive income (loss) as a percentage of total assets.
Net interest income is net interest income before the provision for credit losses on mortgage loans.
Return on average equity is net income as a percentage of average capital stock plus average retained earnings and average Accumulated other comprehensive income (loss).
Operating expenses as a percentage of total average assets.
Excludes dividends accrued to non-members classified as interest expense under the accounting standards for certain financial instruments with characteristics of both liabilities and equity.
*
FRB program commenced in October 2008. On July 2, 2009, the Bank was no longer eligible to collect interest on excess balances.
Supplementary financial data for each quarter for the years ended December 31, 2010 and 2009 are presented below (in thousands):
Interim period - Infrequently occurring items recognized.
2010- There were no infrequently occurring items that were material in any interim period in 2010.
2009- There were no infrequently occurring items that were material in any interim period in 2009.
ITEM 7.
ITEM 7.
MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
Forward-Looking Statements
Statements contained in this Annual Report on Form 10-K, including statements describing the objectives, projections, estimates, or predictions of the Federal Home Loan Bank of New York (“FHLBNY” or “Bank”) may be “forward-looking statements.” These statements may use forward-looking terminology, such as “anticipates,” “believes,” “could,” “estimates,” “may,” “should,” “will,” or other variations on these terms or their negatives. The Bank cautions that, by their nature, forward-looking statements are subject to a number of risks or uncertainties, including the Risk Factors set forth in ITEM 1A and the risks set forth below, and that actual results could differ materially from those expressed or implied in these forward-looking statements. As a result, you are cautioned not to place undue reliance on such statements. The Bank does not undertake to update any forward-looking statement herein or that may be made from time to time on behalf of the Bank.
Forward-looking statements include, among others, the following:
•
the Bank’s projections regarding income, retained earnings, and dividend payouts;
•
the Bank’s expectations relating to future balance sheet growth;
•
the Bank’s targets under the Bank’s retained earnings plan; and
•
the Bank’s expectations regarding the size of its mortgage-loan portfolio, particularly as compared to prior periods.
Actual results may differ from forward-looking statements for many reasons, including but not limited to:
•
changes in economic and market conditions;
•
changes in demand for Bank advances and other products resulting from changes in members’ deposit flows and credit demands or otherwise;
•
an increase in advance prepayments as a result of changes in interest rates or other factors;
•
the volatility of market prices, rates, and indices that could affect the value of collateral held by the Bank as security for obligations of Bank members and counterparties to interest-rate-exchange agreements and similar agreements;
•
political events, including legislative developments that affect the Bank, its members, counterparties, and/or investors in the COs of the FHLBanks;
•
competitive forces including, without limitation, other sources of funding available to Bank members, other entities borrowing funds in the capital markets, and the ability to attract and retain skilled employees;
•
the pace of technological change and the ability of the Bank to develop and support technology and information systems, including the internet, sufficient to manage the risks of the Bank’s business effectively;
•
changes in investor demand for COs and/or the terms of interest-rate-exchange-agreements and similar agreements;
•
timing and volume of market activity;
•
ability to introduce new or adequately adapt current Bank products and services and successfully manage the risks associated with those products and services, including new types of collateral used to secure advances;
•
risk of loss arising from litigation filed against one or more of the FHLBanks;
•
realization of losses arising from the Bank’s joint and several liability on COs;
•
risk of loss due to fluctuations in the housing market;
•
inflation or deflation; and
•
issues and events within the FHLBank System and in the political arena that may lead to regulatory, judicial, or other developments that may affect the marketability of the COs, the Bank’s financial obligations with respect to COs, and the Bank’s ability to access the capital markets.
Risks and other factors could cause actual results of the Bank to differ materially from those implied by any forward-looking statements. These risk factors are not exhaustive. The Bank operates in a changing economic and regulatory environments, and new risk factors will emerge from time to time. Management cannot predict such new risk factors nor can it assess the impact, if any, of such new risk factors on the business of the Bank or the extent to which any factor, or combination of factors, may cause actual results to differ materially from those implied by any forward-looking statements.
Organization of Management’s Discussion and Analysis (“MD&A”).
The FHLBNY’s MD&A is designed to provide information that will assist the readers in better understanding the FHLBNY’s financial statements, the changes in key items in the Bank’s financial statements from year to year, the primary factors driving those changes as well as how accounting principles affect the FHLBNY’s financial statements. The MD&A is organized as follows:
MD&A TABLE REFERENCE
Executive Overview
This overview of management’s discussion and analysis highlights selected information and may not contain all of the information that is important to readers of this Form 10-K. For a more complete understanding of events, trends and uncertainties, as well as the liquidity, capital, credit and market risks, and critical accounting estimates, affecting the Federal Home Loan Bank of New York (“FHLBNY” or “Bank”), this Form 10-K should be read in its entirety.
Cooperative business model. As a cooperative, the FHLBNY seeks to maintain a balance between its public policy mission and its ability to provide adequate returns on the capital supplied by its members. The FHLBNY achieves this balance by delivering low-cost financing to members to help them meet the credit needs of their communities and by paying a dividend on the members’ capital stock. Reflecting the FHLBNY’s cooperative nature, the FHLBNY’s financial strategies are designed to enable the FHLBNY to expand and contract in response to member credit needs. The FHLBNY invests its capital in high quality, short- and medium-term financial instruments. This strategy allows the FHLBNY to maintain sufficient liquidity to satisfy member demand for short- and long-term funds, repay maturing consolidated obligations, and meet other obligations. The dividends paid by FHLBNY are largely the result of the FHLBNY’s earnings on invested member capital, net earnings on advances to members, mortgage loans and investments, offset in part by the FHLBNY’s operating expenses and assessments. FHLBNY’s board of directors and management determine the pricing of member credit and dividend policies based on the needs of its members and the cooperative.
Historical Perspective. The fundamental business of the FHLBNY is to provide member institutions and housing associates with advances and other credit products in a wide range of maturities to meet their needs. Congress created the FHLBanks in 1932 to improve the availability of funds to support home ownership. Although the FHLBanks were initially capitalized with government funds, members have provided all of the FHLBanks’ capital for over 50 years.
To accomplish its public purpose, the FHLBanks, including the FHLBNY, offer a readily available, low-cost source of funds, called advances, to member institutions and certain housing associates. Congress originally granted access to advances only to those institutions with the potential to make and hold long-term, amortizing home mortgage loans. Such institutions were primarily federally and state chartered savings and loan associations, cooperative banks, and state-chartered savings banks (thrift institutions). FHLBanks and its member thrift institutions are an integral part of the home mortgage financing system in the United States.
However, a variety of factors, including a severe recession, record-high interest rates, and deregulation, resulted in significant financial losses for thrift institutions in the 1980s. In response to the significant cost borne by the American taxpayer to resolve the failed thrift institutions, Congress restructured the home mortgage financing system in 1989 with the passage of the Financial Institutions Reform, Recovery and Enforcement Act (“FIRREA”). Through this legislation, Congress reaffirmed the housing finance mission of the FHLBanks and expanded membership eligibility in the FHLBanks to include commercial banks and credit unions with a commitment to housing finance.
Different FHLBank Business Strategies. Each FHLBank is operated as a separate entity with its own management, employees and board of directors. In addition, all FHLBanks operate under the Finance Agency’s supervisory and regulatory framework. However, each FHLBank’s management and board of directors determine the best approach for meeting its business objectives and serving its members. As such, the management and board of directors of each FHLBank have developed different business strategies and initiatives to fulfill that FHLBank’s mission, and they re-evaluate these strategies and initiatives from time to time.
Business segment. The FHLBNY manages its operations as a single business segment. Advances to members are the primary focus of the FHLBNY’s operations and the principal factor that impacts its operating results. The FHLBNY is exempt from ordinary federal, state, and local taxation except for local real estate tax. It is required to make payments to Resolution Funding Corporation (“REFCORP”), and set aside a percentage of its income towards an Affordable Housing Program (“AHP”). Together they are referred to as assessments.
Explanation of the use of certain non-GAAP measures of Interest Income and Expense, Net Interest income and margin. The FHLBNY has presented its results of operations in accordance with U.S. generally accepted accounting principles. The FHLBNY has also presented certain information regarding its Interest Income and Expense, Net Interest income and Net Interest spread that combines interest expense on debt with net interest paid on interest rate swaps associated with debt that were hedged on an economic basis. These are non-GAAP financial measures used by management that the FHLBNY believes are useful to investors and members of the FHLBNY in understanding the Bank’s operational performance and business and performance trends. Although the FHLBNY believes these non-GAAP financial measures enhance investor and members’ understanding of the Bank’s business and performance, these non-GAAP financial measures should not be considered an alternative to GAAP. When discussing non-GAAP measures, the Bank has provided GAAP measures in parallel.
2010 Highlights
The FHLBNY reported 2010 Net income of $275.5 million, or $5.86 per share compared with 2009 Net income of $570.8 million or $10.88 per share. The return on average equity, which is Net income divided by average Capital stock, Retained earnings, and Accumulated other comprehensive income (loss) (“AOCI”), was 5.24% in 2010 compared with 10.02% in 2009.
Net income contracted due to the significant decline in Net interest income. Net interest income was $455.8 million in 2010, down from $700.6 million in 2009, a decline of 34.9%. The primary cause of the lower Net interest income was the decline in business volume as measured by average member advances outstanding. Average outstanding advances in 2010 were $85.9 billion down from $99.0 billion in 2009. This adverse change in volume caused Net interest income to decline by $125.0 million over 2009. An additional decline of $119.8 million was caused by a 12 basis point contraction of Net interest spread, which is the difference between yields on interest-earning assets and yields on interest-costing liabilities. Net interest income and net interest spread have contracted to levels more typical of the years before 2009, primarily because the Bank’s funding advantage weakened in 2010.
The FHLBNY had used discount notes extensively in 2009 when spreads were favorable. This was one source of the funding advantage in 2009. In 2010, discount note spreads to LIBOR narrowed, adversely impacting FHLBNY’s interest margins. In early 2010, short-term yields and spreads to LIBOR had been volatile and the FHLBNY shifted its funding mix between bonds and discount notes to employ an optimal funding. That volatility appears to have abated to some extent with a helpful intervention by the Federal Reserve Board (“FRB”) to stabilize short-term yields by adjusting Treasury bill issuance strategy just enough to create a steady supply of bills. In a declining interest rate environment the intervention prevented yields from collapsing completely. The FRB has also stepped up its efforts to purchase debt. The FRB’s actions also stabilized the FHLBank discount note yields but that has not prevented discount note spreads from narrowing. As a result of the spread compression, discount note issuances were reduced, and maturing notes were replaced by floating-rate debt and short lockout callable bonds with short maturities.
Net cash generated from operating activities was higher than Net income, and the FHLBNY’s liquidity position remains in compliance with all regulatory requirements and Management does not foresee any changes to that position. Management also believes cash flows from operations, available cash balances and the FHLBNY’s ability to generate cash through the issuance of consolidated obligation bonds and discount notes are sufficient to fund the FHLBNY’s operating liquidity needs. For information about the Bank’s Cash flows, liquidity and short-term debt, see section in this MD&A titled: “Cash Flows, Liquidity, Short-term borrowings and Short-term debt.”
Earnings from investing members’ capital and net non interest-bearing liabilities in short-term interest-yielding assets were an important contributor to FHLBNY’s Net interest income. In 2010, deployed capital of $9.0 billion potentially could have earned a yield of 16-20 basis points, the weighted average yield on money market instruments in 2010. Contribution to Net interest income from deployed capital depends on (1) the absolute volume of deployed capital as measured by average capital stock, retained earnings, and net non interest-bearing liabilities, and (2) the short-term investment yields.
In 2010, credit related OTTI of $8.3 million was charged to income compared with $20.8 million in 2009. The OTTI charges were primarily as a result of additional credit losses recognized on previously impaired private-label mortgage-backed securities because of further deterioration in the performance parameters of the securities. The FHLBNY makes quarterly cash flow assessments of the expected credit performance of its entire portfolio of private-label MBS. Almost all securities that were deemed OTTI are insured by bond insurers, Ambac and MBIA, but the Bank’s analysis of the two bond insurers concluded that future credit losses due to projected collateral shortfalls of the insured securities would not be fully supported by the bond insurers. For more information about impairment methodology and bond insurer analysis, see Note 1 - Significant Accounting Policies and Estimates and Note 5 - Held-to-Maturity Securities.
In 2010, the FHLBNY recognized $26.8 million of net gains from derivative and hedging activities. In contrast, net gains of $164.7 million were recognized in 2009. Three factors contributed to the lower level of P&L impact of derivative and hedging activities: (1) The 3-month LIBOR rate, a benchmark rate for the Bank’s hedges, was less volatile in 2010, moderating the P&L impact of changes in fair values of interest rate swaps, particularly those designated as economic hedges; (2) Interest rate caps, also designated as economic hedges, reported fair value losses of $29.7 million in a declining interest rate environment in 2010, in contrast to a gain of $63.3 million in 2009, and (3) previously recorded fair value gains reversed in 2010, as much of the derivatives designated as economic hedges matured or were close to maturity at December 31, 2010. See Note 18 to the audited financial statements and Tables 8.1 - 8.6 in this MD&A for more information. In general, the FHLBNY holds derivatives and associated hedged instruments and consolidated obligation debt under the Fair Value Option accounting (“FVO”), to their maturity, call, or put dates. When such financial instruments are held to their contractual maturity (or put/call dates), nearly all of the cumulative net fair value gains and losses that are recorded as unrealized will generally reverse over time, and fair value changes will sum to zero over time. In limited instances, the FHLBNY may terminate these instruments prior to maturity or prior to call or put dates, which would result in a realized gain or loss.
Operating Expenses of the FHLBNY were $85.6 million in 2010, up from $76.1 million in 2009 as a result of higher employee costs and rising costs of benefits. The FHLBNY was also assessed for its share of the operating expenses for the Finance Agency and the Office of Finance, and those totaled $9.8 million in 2010, up from $8.1 million in 2009. The 12 FHLBanks and two other GSEs share the administrative cost of the Finance Agency.
REFCORP assessment payments totaled $68.9 million in 2010, down from $142.7 million in 2009. Affordable Housing Program (“AHP”) assessment set aside from income totaled $31.1 million in 2010, down from $64.3 million in 2009. Assessments are calculated on Net income before assessments, and the decreases were due to the significant decrease in 2010 Net income as compared to 2009. For more information about REFCORP and AHP assessments, see the section Assessments under Background in this Form 10-K, and Note 13 to the audited financial statements accompanying this report.
Based on projected payments by the 12 FHLBanks through the third quarter of 2011, it is likely that the FHLBanks will have satisfied its obligation to REFCORP and further payments would not be necessary thereafter. In anticipation of the termination of their REFCORP obligation, the FHLBanks have reached an agreement to set aside, once the obligation has ended, amounts that would have otherwise been paid to REFCORP as restricted retained earnings, with the objective of increasing the earnings reserves of the FHLBanks and enhancing the safety and soundness of the FHLBank System.
Cash dividend of $5.24 per share of capital stock was paid to stockholders in 2010, up from $4.95 per share paid in 2009.
The FHLBNY continued to experience balance sheet contraction, as both its lending and funding steadily declined through each of the quarters in 2010. Advances to member banks declined to $71.7 billion at December 31, 2010, a level more typical of that before the credit crisis, from a peak of approximately $109.2 billion in 2008 and $94.3 billion at December 31, 2009. The decline has occurred gradually as member banks have taken advantage of the improved availability of alternate funding sources such as deposits and senior unsecured borrowings in a more liquid market. Member demand for advances has also declined, as loan demand from their customers may have stayed lukewarm due to weak economic conditions.
Aside from advances, the FHLBNY’s primary earning assets are its investment portfolios, comprising mainly of GSE and U.S. agency issued mortgage-backed securities (“MBS”), and state and local government housing agency bonds. Such investment securities, classified as held-to-maturity and available-for-sale, totaled $11.8 billion, or 11.7% of Total assets at December 31, 2010, included $10.2 billion of GSE and agency issued MBS. Only $0.8 billion of private-label MBS remained outstanding. GSE issued investment security values have improved as liquidity has gradually returned to the market, and previously recorded unrealized fair value losses in AOCI reversed. At December 31, 2010, fair values of GSE issued MBS were generally in an unrealized gain position.
The FHLBNY’s capital remains strong. At December 31, 2010, actual risk based capital was $5.3 billion, compared to required risk based capital of $0.5 billion. To support $103.1 billion of Total assets at December 31, 2010, the required minimum regulatory capital was $4.0 billion, or 4.0 percent of assets. The FHLBNY’s actual regulatory capital was $5.3 billion, exceeding required capital by $1.3 billion at December 31, 2010. Aggregate capital ratio was at 5.3 percent, or 1.3 percent more than the 4.0 percent regulatory minimum. The FHLBNY has prudently retained capital through the period of credit turmoil. Retained earnings, excluding losses in AOCI, have grown to $712.1 million at December 31, 2010. AOCI losses declined to $96.7 million at December 31, 2010 from $144.5 million at December 31, 2009, primarily because of the improvement in the fair values of mortgage-backed securities designated as available-for-sale.
Shareholders’ equity, the sum of Capital stock, Retained earnings, and AOCI, was $5.1 billion at December 31, 2010, a decline of $458.9 million from December 31, 2009, because of the decline in members’ Capital stock, which declined by $530.0 million. Since members are required to purchase stock as a prerequisite to membership and to hold FHLBNY stock as a percentage of advances borrowed from the FHLBNY, the decrease in Capital stock was consistent with the decrease in advances borrowed by members. The Bank’s current practice is to redeem stock in excess of the amount necessary to support advance activity on a daily basis. As a result, the amount of capital stock outstanding varies in line with members’ outstanding advance borrowings. For more information about changes in Capital, Retained earnings and AOCI, see Note 14 to the audited financial statements accompanying this report.
Business Outlook
The following forward-looking statements are based upon the current beliefs and expectations of the FHLBNY’s management and are subject to risks and uncertainties which could cause the FHLBNY’s actual results to differ materially from those set forth in such forward-looking statements.
The FHLBNY expects its 2011 earnings to decline to ultimately reach levels more typical of the years before 2009, primarily as a result of lower net interest margins on the Bank’s core assets, primarily advances and investments in mortgage-backed securities, as the Bank expects continued erosion of its funding advantages.
In the low interest rate environment projected for 2011, opportunities to invest in high-quality assets and earn a reasonable spread will be limited, constraining earnings. The Bank’s core assets, primarily advances and investments in mortgage-backed securities, will yield lower interest margins as the Bank expects continued erosion of its funding advantages.
Advances - Management is unable to predict the timing and extent of the expected recovery in the U.S. economy, particularly the recovery in the housing market, or an expectation of continued stability in the financial markets. Against that backdrop, the management of the Bank believes it is also difficult to predict member demand for advances, which is the primary focus of the FHLBNY’s operations and the principal factor that impacts its operating results.
Generally, the growth or decline in advances is reflective of demand by members for both short-term liquidity and long-term funding driven by economic factors such as availability to the Bank’s members of alternative funding sources that are more attractive, such as consumer deposits, the interest rate environment, and the outlook for the economy. Members may choose to prepay advances, which may require prepayment fees, based on their expectations of interest rate changes and demand for liquidity. Demand for advances may also be influenced by the dividend payout rate to members on their capital stock investment in the FHLBNY. Members are required to invest in FHLBNY’s capital stock in the form of membership stock and activity-based stock. Members are required to purchase activity stock in order to borrow advances. Advance volume is also influenced by merger activity where members are either acquired by non-members or acquired by members of another FHLBank. When FHLBNY members are acquired by members of another FHLBank or a non-member, they no longer qualify for membership in the FHLBNY, which cannot renew outstanding advances or provide new advances to non-members. Subsequent to the merger, maturing advances may not be replaced, which has an immediate impact on short-term and overnight advance lending if the former member borrowed such advances.
Earnings - As existing high-yielding fixed-rate MBS and some intermediate-term advances continue to pay down or mature, it is unlikely they will be replaced by equivalent high-yielding assets due to the low interest rate environment, and this will tend to lower the overall yield on total assets. The FHLBNY expects general advance demand from members to continue to decline, and specifically, the Bank expects limited demand for large intermediate-term advances because many members have adequate liquidity, and other members have significant amounts of intermediate-term advances that were borrowed from the FHLBNY several years ago. The FHLBNY anticipates that such members may be considering prepaying those borrowings, or not replacing them at maturity. Members that have expressed interest in intermediate-term borrowing have not been significant borrowers in the past.
The FHLBNY earns income from investing its members’ capital and non-interest bearing liabilities, together referred to as deployed capital, to fund interest-earning assets. The two principal factors that impact earnings from deployed capital are the average amount of capital outstanding in a period and the interest rate environment in the period, which in turn impacts yields on earning assets. These factors determine the potential earnings from deployed capital, and both factors are subject to change. The Bank cannot predict with certainty the level of earnings from capital. In a lower interest rate environment, deployed capital, which consists of capital stock, retained earnings, and net non-interest bearing liabilities, will provide relatively lower income.
Demand for FHLBank debt - The FHLBNY’s primary source of funds is the sale of consolidated obligations in the capital markets, and the FHLBNY’s ability to obtain funds through the sale of consolidated obligations depends in part on prevailing conditions in the capital markets, which are beyond the FHLBNY’s control. The FHLBNY may not be able to obtain funding on acceptable terms given the extraordinary market conditions and structural changes in the debt market. If the FHLBNY cannot access funding when needed on acceptable terms, its ability to support and continue operations could be adversely affected, which could negatively affect its financial condition and results of operations. The pricing of the FHLBanks’ longer-term debt remains at levels that are still higher than historical levels, relative to LIBOR. To the extent the FHLBanks receive sub-optimal funding, the Bank’s member institutions in turn may experience higher costs for advance borrowings. To the extent the FHLBanks may not be able to issue long-term debt at economical spreads relative to the 3-month LIBOR rate, the FHLBNY’s members borrowing choices may also be limited.
Credit Impairment of Mortgage-backed securities - OTTI charges declined in 2010. However, without recovery in the near term such that liquidity returns to the mortgage-backed securities market, or if the credit losses of the underlying collateral within the mortgage-backed securities perform worse than expected, the FHLBNY could face additional credit losses. In addition, certain private-label MBS may be undergoing loan modification and forbearance proceedings at the loan level, and such processes may have an adverse impact on the amounts and timing of expected cash flows.
REFCORP Assessments - Based on projected payments by the 12 FHLBanks through the third quarter of 2011, it is likely that the FHLBanks will have satisfied its obligation to REFCORP and further payments would not be necessary thereafter. The FHLBanks have drafted a proposal for Congressional approval that would allow an amount that was previously paid to REFCORP to be set aside as a means of increasing the retained earnings reserves of the FHLBanks and create a buffer that would enhance safety and soundness of the FHLBank system.
The satisfaction of the REFCORP obligation in mid 2011 has provided the Federal Home Loan Banks an opportunity to increase their retained earnings in furtherance of their safety and soundness by setting aside 20 percent of their Net income after AHP in a restricted retained earnings account as part of stockholder’s capital. The 12 FHLBanks have agreed to set aside amounts that would have been paid to REFCORP, as restricted retained earnings, with the objective of increasing the earnings reserves of the FHLBanks and enhance safety and soundness of the FHLBank system. For more information about the agreement see section under Stockholders’ Capital, Retained earnings, and Dividend in this Form 10K.
Defined Pension Benefit Plan contribution - In March 2011, the FHLBNY contributed $24.0 million to its Defined Benefit Plan to eliminate a funding shortfall calculated by the DB Plan’s actuarial consultant as of July 2010. The DB Plan’s adjusted funding target attainment percentage (“AFTAP”) was 79.93% (80%) at July 1, 2010. The AFTAP equals DB Plan assets divided by plan liabilities. Under the Pension Protection Act of 2006 (“PPA”), if the AFTAP in any future year is less than 80%, then the DB Plan will be restricted in its ability to provided increased benefits and /or lump sum distributions. If the AFTAP in any future year is less than 60%, then benefit accruals will be frozen. The contribution to the DB Plan is expected to reduce the likelihood of such restrictions being placed on the Bank’s DB Plan in future years. The contribution will be charged to Net income in the 2011 first quarter.
Trends in the Financial Markets
Conditions in Financial Markets. The primary external factors that affect net interest income are market interest rates and the general state of the economy. The following table presents changes in key rates over the course of 2010 and 2009 (rates in percent):
Table 1.1: Market Interest Rates
Impact of general level of interest rates on the FHLBNY. The level of interest rates during a reporting period impacts the FHLBNY’s profitability, due primarily to the relatively shorter-term structure of earning assets and the impact of interest rates on invested capital. As of December 31, 2010 and 2009, investments, excluding mortgage-backed securities and state and local housing agency obligations, had stated maturities of less than one year. The FHLBNY also used derivatives to effectively change the repricing characteristics of a significant proportion of its advances and consolidated obligation debt to match shorter-term LIBOR rates that repriced at three-month or less intervals. Consequently, the current level of short-term interest rates, as represented by the overnight Federal funds target rate and the 3-month LIBOR rate, has an impact on the FHLBNY’s profitability.
The level of interest rates also directly affects the FHLBNY’s earnings on invested capital. Compared to other banking institutions, the FHLBNY operates at comparatively low net spreads between the yield it earns on assets and its cost of liabilities. Therefore, the FHLBNY generates a relatively higher proportion of its income from the investment of member-supplied capital at the average asset yield. As a result, changes in asset yields tend to have a greater effect on FHLBNY’s profitability than they do on the profitability of other banking institutions.
In summary, the FHLBNY’s average asset yields and the returns on capital invested in these assets largely reflect the short-term interest rate environment because the maturities of FHLBNY assets are generally short-term in nature, have rate resets that reference short-term rates, or have been hedged with derivatives in which a short-term rate is received.
Changes in rates paid on consolidated obligations and the spread of these rates relative to LIBOR and U.S. Treasury securities may also impact FHLBNY’s profitability. The rate and price at which the FHLBNY is able to issue consolidated obligations, and their relationship to other products such as Treasury securities and LIBOR, change frequently and are affected by a multitude of factors including: overall economic conditions; volatility of market prices, rates, and indices; the level of interest rates and shape of the Treasury curve; the level of asset swap rates and shape of the swap curve; supply from other issuers (including GSEs such as Fannie Mae and Freddie Mac, supra/sovereigns, and other highly-rated borrowers); the rate and price of other products in the market such as mortgage-backed securities, repurchase agreements, and commercial paper; investor preferences; the total volume, timing, and characteristics of issuance by the FHLBanks; the amount and type of advance demand from the FHLBNY’s members; political events, including legislation and regulatory action; press interpretations of market conditions and issuer news; the presence of inflation or deflation; actions by the Federal Reserve; and currency exchange rates.
Recently Issued Accounting Standards and Interpretations, and Significant Accounting Policies and Estimates.
Recently issued Accounting Standards and Interpretations
For a discussion of recently issued accounting standards and interpretations, see the audited financial statements accompanying this report (specifically, Note 2 Recently Issued Accounting Standards and Interpretations).
Significant Accounting Policies and Estimates
The FHLBNY has identified certain accounting policies that it believes are significant because they require management to make subjective judgments about matters that are inherently uncertain and because of the likelihood that materially different amounts would be reported under different conditions or by using different assumptions. These policies include estimating the liabilities for pension, and estimating fair values of certain assets and liabilities, evaluating the impairment of the Bank’s securities portfolios, estimating the allowance for credit losses on the advance and mortgage loan portfolios, accounting for derivatives and hedging activities, and amortization of premiums and accretion of discounts. The Bank has discussed each of these significant accounting policies, the related estimates and its judgment with the Audit Committee of the Board of Directors. For additional discussion regarding the application of these and other accounting policies, see Note 1 to the Bank’s audited financial statements accompanying this report.
Fair Value Measurements and Disclosures
The accounting standards on fair value measurements and disclosures discuss how entities should measure fair value based on whether the inputs to those valuation techniques are observable or unobservable. Observable inputs reflect market data obtained from independent sources or those that can be directly corroborated to market sources, while unobservable inputs reflect the FHLBNY’s market assumptions. 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 in the principal or most advantageous market for the asset or liability between market participants at the measurement date. This definition is based on an exit price rather than transaction or entry price.
Valuation Techniques - Three valuation techniques are prescribed under the fair value measurement standards: Market approach, Income approach and Cost approach. Valuation techniques for which sufficient data is available and that are appropriate under the circumstances should be used.
In determining fair value, FHLBNY uses various valuation methods, including both the market and income approaches.
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Market approach - This technique uses prices and other relevant information generated by market transactions involving identical or comparable assets or liabilities.
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Income approach - This technique uses valuation techniques to convert future amounts (for example, cash flows or earnings) to a single present amount (discounted), based on assumptions used by market participants. The present value technique used to measure fair value depends on the facts and circumstances specific to the asset or liability being measured and the availability of data.
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Cost approach - This approach is based on the amount that currently would be required to replace the service capacity of an asset (often referred to as current replacement cost).
The accounting guidance on fair value measurements and disclosures establishes a hierarchy for inputs used in measuring fair value that maximizes the use of observable inputs and minimizes the use of unobservable inputs by requiring that the most observable inputs be used when available. Observable inputs are inputs that market participants would use in pricing the asset or liability, and would be based on market data obtained from sources independent of FHLBNY. Unobservable inputs are inputs that reflect FHLBNY’s assumptions about the parameters market participants would use in pricing the asset or liability, and would be based on the best information available in the circumstances.
The fair value hierarchy is broken down into three levels based on the reliability of inputs as follows:
Level 1 - Quoted prices for identical instruments in active markets.
Level 2 - Quoted prices for similar instruments in active markets; quoted prices for identical or similar instruments in markets that are not active; and model-based valuations in which all significant inputs and significant parameters are observable in active markets.
Level 3 - Valuations based upon valuation techniques in which significant inputs and significant parameters are unobservable.
The availability of observable inputs can vary from product to product and is affected by a wide variety of factors including, for example, the characteristics peculiar to the transaction. To the extent that valuation is based on models or inputs that are less observable or unobservable in the market, the determination of fair value requires more judgment. Accordingly, the degree of judgment exercised by FHLBNY in determining fair value is greatest for instruments categorized as Level 3. In certain cases, the inputs used to measure fair value may fall into different levels of the fair value hierarchy. In such cases, for disclosure purpose the level in the fair value hierarchy within which the fair value measurement falls is determined based on the lowest level input that is significant to the fair value measurement in its entirety.
At December 31, 2010 and 2009, the FHLBNY measured and recorded fair values using the above guidance for derivatives, available-for-sale securities, consolidated obligation bonds that were designated and recorded at fair value using the fair value option (“FVO”). At December 31, 2010 and 2009, the Bank had designated consolidated obligation debt of $15.2 billion and $6.0 billion under the FVO accounting. Held-to-maturity securities determined to be credit impaired or OTTI at December 31, 2010 were also measured at fair value on a non-recurring basis. Recorded fair values of OTTI securities were $15.8 million and $42.9 million at December 31, 2010 and 2009.
Fair values of all derivatives were computed and recorded in the Statements of Condition using quantitative models and employed multiple market inputs including interest rates, prices and indices to generate continuous yield or pricing curves and volatility factors. These multiple market inputs were predominantly actively quoted and verifiable through external sources, including brokers and market transactions.
Fair values of mortgage-backed securities (classified as held-to-maturity or available-for-sale), were computed consistent with the guidance from the MBS Pricing Committee (“Pricing Committee”) (See Pricing of mortgage-backed securities in Note 1 - Significant Accounting Polices and Estimates to the audited financial statements accompanying this report), and the FHLBNY updated its pricing methodology used to estimate the fair value of mortgage-backed securities starting in the interim periods ended September 30, 2009 and thereafter. Under the approved methodology, the FHLBNY requested prices for all mortgage-backed securities from four specific third-party vendors. Prior to the change, the FHLBNY used three of the four vendors specified by the Pricing Committee. Depending on the number of prices received from the four vendors for each security, the FHLBNY selects a median or average price as defined by the methodology. The methodology also incorporates variance thresholds to assist in identifying median or average prices that may require further review by the FHLBNY. In certain limited instances (i.e. prices are outside of variance thresholds or the third-party services do not provide a price), the FHLBNY will obtain a price from securities dealers that is deemed most appropriate after consideration of all relevant facts and circumstances that would be considered by market participants.
In addition to the instruments carried at fair value as described above, a significant percentage of fixed-rate advances and consolidated obligation bonds were hedged to mitigate the risk of fair value changes that are attributable solely to changes in LIBOR, the designated benchmark interest rate for the FHLBNY, and accounted under hedge accounting rules in a fair value hedging relationship. To the extent the FHLBNY’s valuation model is used to calculate changes in the benchmark fair values of hedged items, the inputs have a significant effect on the reported carrying values of assets and liabilities and the related income and expense; the use of different inputs could result in materially different net income and reported carrying values. When the FHLBNY deems that a hedge relationship is either not operationally practical or considers the hedge may not be highly effective as defined under hedge accounting standards, the FHLBNY may designate certain derivatives as economic hedges of advances and consolidated obligation bonds and discount notes.
In addition to those items that are carried at fair value, the Bank estimates fair values for its other financial instruments for disclosure purposes. The Bank’s fair value measurement methodologies for assets and liabilities that are carried at fair value are more fully described in Note 1 - Significant Accounting Policies and Estimates, and Note 19 - Fair Values of Financial Instruments to the audited financial statements accompanying this report.
The FHLBNY’s pricing models are subject to annual validation and the Bank periodically reviews and refines, as appropriate, its assumptions and valuation methodologies to reflect market indications as closely as possible. The Bank believes it has the appropriate personnel, technology, and policies and procedures in place to value its financial instruments in a reasonable and consistent manner and in accordance with established accounting policies.
Other-than-temporary impairment (“OTTI”)
The FHLBNY regularly evaluates its investments for impairment and determines if unrealized losses are temporary based in part on the creditworthiness of the issuers, and in part on the underlying collateral within the structure of the security and the cash flows expected to be collected on the security. A security is considered impaired if its fair value is less than its amortized cost basis. If management has made a decision to sell such an impaired security, OTTI is considered to have occurred. If a decision to sell the impaired investment has not been made, but management concludes that it is likely that it will be required to sell such a security before recovery of the amortized cost basis of the security, an OTTI is also considered to have occurred.
Even if management does not intend to sell such an impaired security, an OTTI has occurred if cash flow analysis determines that a credit loss exists. The difference between the present value of the cash flows expected to be collected and the amortized cost basis is a credit loss. To determine if a credit loss exists, management compares the present value of the cash flows expected to be collected to the amortized cost basis of the security. If the present value of the cash flows expected to be collected is less than the security’s amortized cost, an OTTI exists, irrespective of whether management will be required to sell such a security. The Bank’s methodology to calculate the present value of expected cash flows is to discount the expected cash flows (principal and interest) of a fixed-rate security that is being evaluated for OTTI, by using the effective interest rate of the security as of the date it was acquired. For a variable-rate security that is evaluated for OTTI, the expected cash flows are computed using a forward-rate curve and discounted using the forward rates.
If the FHLBNY determines that OTTI has occurred, it accounts for the investment security as if it had been purchased on the measurement date of the other-than-temporary impairment. The investment security is written down to fair value, which becomes its new amortized cost basis. The new amortized cost basis is not adjusted for subsequent recoveries in fair value.
For securities designated as available-for-sale, subsequent unrealized changes to the fair values (other than OTTI) are recorded in AOCI. For securities designated as held-to-maturity, the amount of OTTI recorded in AOCI for the non-credit component of OTTI is amortized prospectively over the remaining life of the securities based on the timing and amounts of estimated future cash flows. Amortization out of AOCI is offset by an increase in the carrying value of securities until the securities are repaid or are sold or subsequent OTTI is recognized in earnings.
For OTTI securities that were previously impaired and have subsequently incurred additional credit losses, those credit losses are reclassified out of non-credit losses in AOCI and charged to earnings.
If subsequent evaluation indicates a significant increase in cash flows greater than previously expected to be collected or if actual cash flows are significantly greater than previously expected, the increases are accounted for as a prospective adjustment to the accretable yield through interest income. In subsequent periods, if the fair value of the investment security has further declined below its then-current carrying value and there has been a decrease in the estimated cash flows the FHLBNY expects to collect, the FHLBNY will deem the security as OTTI.
For additional discussion regarding FHLBank impairment and pricing policies for mortgage-backed securities, and Bond insurer methodology, see Note 1 to the Bank’s audited financial statements accompanying this report.
Provision for Credit Losses
The provision for credit losses for advances (none) and mortgage loans, including those acquired under the Mortgage Partnership Finance Program (MPF), represents management’s estimate of the probable credit losses inherent in these two portfolios. Determining the amount of the provision for credit losses is considered a critical accounting estimate because management’s evaluation of the adequacy of the provision is subjective and requires significant estimates, including the amounts and timing of estimated future cash flows, estimated losses based on historical loss experience, and consideration of current economic trends, all of which are susceptible to change. The FHLBNY’s assumptions and judgments on its provision for credit losses are based on information available as of the date of the financial statements. Actual losses could differ from these estimates.
Advances - No provisions for credit losses were required. The FHLBNY has policies and procedures in place to manage its credit risk effectively. Outlined below are the underlying assumptions that the FHLBNY uses for evaluating its exposure to credit loss.
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Monitoring the creditworthiness and financial condition of the institutions to which it lends funds.
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Reviewing the quality and value of collateral pledged by members.
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Estimating borrowing capacity based on collateral value and type for each member, including assessment of margin requirements based on factors such as cost to liquidate and inherent risk exposure based on collateral type.
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Evaluating historical loss experience.
Significant changes to any of the factors described above could materially affect the FHLBNY’s provision for losses on advances. For example, the FHLBNY’s current assumptions about the financial strength of any member may change due to various circumstances, such as new information becoming available regarding the member’s financial strength or future changes in the national or regional economy. New information may require the FHLBNY to place a member on credit watch and require collateral to be delivered, adjust its current margin requirement, or provide for losses on advances.
The FHLBNY is required by Finance Agency regulations to obtain sufficient collateral on advances to protect against losses, and to accept only certain kinds of collateral on its advances, such as U.S. government or government-agency securities, residential mortgage loans, deposits in the FHLBNY, and other real-estate related assets. The FHLBNY has never experienced a credit loss on an advance. Based on the collateral held as security for advances, management’s credit analyses, and prior repayment history, no allowance for credit losses on advances was deemed necessary by management at December 31, 2010, 2009 and 2008.
At December 31, 2010, 2009 and 2008, the FHLBNY had rights to collateral, either loans or securities, on a member-by-member basis, with an estimated liquidation value in excess of outstanding advances.
Mortgage Loans - MPF Program. The FHLBNY has policies and procedures in place to manage its credit risk effectively. These include:
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Evaluation of members to ensure that they meet the eligibility standards for participation in the MPF Program.
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Evaluation of the purchased and originated loans to ensure that they are qualifying conventional, conforming fixed-rate, first lien mortgage loans with fully amortizing loan terms of up to 30 years, secured by owner-occupied, single-family residential properties.
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Estimation of loss exposure and historical loss experience to establish an adequate level of loss reserves.
The FHLBNY places a mortgage loan on non-accrual status when the collection of the contractual principal or interest is 90 days or more past due. When a mortgage loan is placed on non-accrual status, accrued but uncollected interest is reversed against interest income. The FHLBNY records cash payments received on non-accrual loans as a reduction of principal.
Allowance for credit losses on MPF Program loans, which are classified either under regulatory criteria (Special Mention, Sub-standard, or Loss) or past due, are segregated from the aggregate pool. If adversely classified, or on non-accrual status, MPF loans, except Federal Housing Administration and Veterans Administration insured loans, are analyzed under liquidation scenarios on a loan level basis and identified losses greater than $1,000 are fully reserved. Federal Housing Administration and Veterans Administration insured mortgage loans have minimal inherent credit risk; risk generally arises mainly from the servicer defaulting on their obligations. If adversely classified, Federal Housing Administration and Veterans Administration mortgage loans will have reserves established only in the event of a default of a PFI. Reserves are based on the estimated costs to recover any uninsured portion of the MPF loan.
Mortgage loans, other than those included in large groups of smaller-balance homogeneous loans, are considered impaired when, based on current information and events, it is probable that the FHLBNY will be unable to collect all principal and interest amounts due according to the contractual terms of the mortgage loan agreements.
Management of the FHLBNY identifies inherent losses through analysis of the conventional loans (loss analysis excludes Federal Housing Administration and Veterans Administration insured loans) that are not adversely classified or past due. Reserves are based on the estimated costs to recover any portion of the MPF loans that are not FHA and VA insured.
When a mortgage loan is foreclosed, the FHLBNY will charge to the loan loss reserve account any excess of the carrying value of the loan over the net realizable value of the foreclosed loan.
Accounting for Derivatives
The Bank records and reports its hedging activities in accordance with accounting standards for derivatives and hedging. In compliance with the standards, the accounting for derivatives requires the FHLBNY to make the following assumptions and estimates: (i) assessing whether the hedging relationship qualifies for hedge accounting, (ii) assessing whether an embedded derivative should be bifurcated, (iii) calculating the effectiveness of the hedging relationship, (iv) evaluating exposure associated with counterparty credit risk, and (v) estimating the fair value of the derivatives. The FHLBNY’s assumptions and judgments include subjective estimates based on information available as of the date of the financial statements and could be materially different based on different assumptions, calculations, and estimates.
The FHLBNY specifically identifies the hedged asset or liability and the associated hedging strategy. Prior to execution of each transaction, the FHLBNY documents the following items:
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Identification of the item being hedged
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Determination of the accounting designation
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Determination of method used to assess the effectiveness of the hedge relationship
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Assessment that the hedge is expected to be effective in the future if designated as a qualifying hedge accounting standards for derivatives and hedging.
All derivatives are recorded on the Statements of Condition at their fair value and designated as either fair value or cash flow hedges for qualifying hedges or as non-qualifying hedges (economic hedges, or customer intermediations) under the accounting standards for derivatives and hedging. In an economic hedge, the Bank executes derivative contracts, which are economically effective in reducing risk, either because a qualifying hedge is not available or because the cost of a qualifying hedge is not economical.
Changes in the fair values of a derivative that qualifies as a fair value hedge are recorded in current period earnings or in AOCI if the derivative qualifies as a cash flow hedge.
In addition, the FHLBNY evaluates the products offered to its members and debt issued to investors to determine whether an embedded derivative exists under the accounting standards for derivatives and hedging. The evaluation includes reviewing the terms of the instrument to identify whether some or all of the cash flows or the value of other exchanges required by the instrument are similar to a derivative and should be bifurcated from the host contract. If it is determined that an embedded derivative should be bifurcated, the FHLBNY measures the fair value of the embedded derivative separately from the host contract and records the changes in fair value in earnings. The FHLBNY did not have to bifurcate any embedded derivative in any period reported.
Assessment of Effectiveness. Highly effective hedging relationships that use interest rate swaps as the hedging instrument to hedge a recognized asset or liability and that meet certain specific criteria under the accounting standards for derivatives and hedging qualify for an assumption of no ineffectiveness (also referred to as the “short-cut” method). The short-cut method allows the FHLBNY to assume that the change in fair value of the hedged item attributable to the benchmark interest rates (LIBOR for the Bank) equals the change in fair value of the derivative during the life of the hedge.
For a hedging relationship that does not qualify for the short-cut method, the FHLBNY measures its effectiveness by assessing and recording the change in fair value of the hedged item attributable to the risk being hedged separately from the change in fair value of the derivative. This method for measuring effectiveness is also referred to as the “long-haul” method. The FHLBNY designs effectiveness testing criteria based on its knowledge of the hedged item and hedging instrument that were employed to create the hedging relationship. The FHLBNY uses regression analyses to evaluate effectiveness results, which must fall within established tolerances. Effectiveness testing is performed at hedge inception and on at least a quarterly basis for both prospective considerations and retrospective evaluations.
Hedge Discontinuance. When a hedging relationship fails the effectiveness test, the FHLBNY immediately discontinues hedge accounting. In addition, the FHLBNY discontinues hedge accounting for a cash flow hedge when it is no longer probable that a forecasted transaction will occur in the original expected time period, or when the fair value hedge of a firm commitment no longer meets the required criteria of a firm commitment. The FHLBNY treats modifications of hedged items (e.g. reduction in par amounts, change in maturity date, and change in strike rates) that are other than minor as a termination of a hedge relationship. The FHLBNY records the effect of discontinuance of hedges to earnings as a Net realized and unrealized gain (loss) on derivatives and hedging activities in “Other income (loss)” in the Statements of Income.
Accounting for Hedge Ineffectiveness. The FHLBNY quantifies and records the ineffectiveness portion of a hedging relationship as a Net realized and unrealized gain (loss) on derivatives and hedging activities in Other income (loss) in the Statements of income. Ineffectiveness for fair value hedging relationships is calculated as the difference in the change in fair value of the hedging instrument and the change in fair value of the hedged item that is attributable to the risk being hedged, which has been designated by the Bank as LIBOR. Ineffectiveness for anticipatory hedge relationships is recorded when the change in the fair value of the hedging instrument differs from the related change in the present value of the cash flows from the anticipated hedged item.
Credit Risk from Counterparties. The FHLBNY is subject to credit risk as a result of nonperformance by counterparties to the derivative agreements. The FHLBNY enters into master netting arrangements and bilateral security agreements with all active non-member derivative counterparties, which provide for delivery of collateral at specified levels to limit the FHLBNY’s net unsecured credit exposure to these counterparties. The FHLBNY makes judgments on each counterparty’s creditworthiness and estimates of collateral values in analyzing its credit risk for nonperformance by counterparties. Bilateral agreements consider the credit risks and the agreement specifies thresholds that change with changes in credit ratings. Typically, collateral is exchanged when fair values of derivative positions exceed the predetermined thresholds. To the extent that the fair values do not equal the collateral posted as a result of the thresholds in place, the FHLBNY or the derivative counterparty is exposed to credit risk in the event of a default. Also, to the extent that the posted collateral does not equal the replacement fair values of open derivative positions in a scenario such as a default, the FHLBNY or the derivative counterparty is exposed to credit risk. All extensions of credit, including those associated with the purchase or sale of derivatives to members of the FHLBNY, are fully secured by eligible collateral.
Recording of Derivatives and Hedged items. The FHLBNY records derivatives on trade date, but records the associated hedged consolidated obligations and advances on settlement date. Hedge accounting commences on trade date, at which time subsequent changes to the derivative’s fair value are recorded along with the offsetting changes in the fair value of the hedged item. On settlement date, the adjustments to the hedge items carrying amount are combined with the proceeds and become part of its total carrying amount.
The FHLBNY has defined its market settlement conventions for hedged items to be five business days or less for advances and thirty calendar days or less, using a next business day convention for consolidated obligation bonds and discount notes. These market settlement conventions are the shortest period possible for each type of advance and consolidated obligation from the time the instruments are committed to the time they settle.
The FHLBNY considers hedges of committed advances and consolidated obligations bonds eligible for the short-cut accounting (hedges must meet certain specific criteria under the accounting standards for derivatives and hedging to qualify for an assumption of no ineffectiveness), as long as settlement of the committed asset or liability occurs within the shortest period possible for that type of instrument. The FHLBNY also believes the conditions of no ineffectiveness are met if the fair value of the swap is zero on the date the FHLBNY commits itself to issue the consolidated obligation bond.
Amortization of Premiums and Accretion of Discounts
The FHLBNY estimates prepayments for purposes of amortizing premiums and accreting discounts associated with certain investment securities in accordance with accounting guidance for investments in debt and equity securities, which requires premiums and discounts to be recognized in income at a constant effective yield over the life of the instrument. Because actual prepayments often deviate from the estimates, the FHLBNY periodically recalculates the effective yield to reflect actual prepayments to date.
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Adjustments of the effective yields for mortgage-backed securities are recorded on a retrospective basis, as if the new estimated life of the security had been known at its original acquisition date. Changes in interest rates have a direct impact on prepayment speeds and estimated life, which will result in yield adjustments and can be a source of income volatility. Reductions in interest rates generally accelerate prepayments, which accelerate the amortization of premiums and reduce current earnings. Typically, declining interest rates also accelerate the accretion of discounts, thereby increasing current earnings. On the other hand, in a rising interest rate environment, prepayments will generally extend over a longer period, shifting some of the premium amortization and discount accretion to future periods.
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The Bank uses the contractual method to amortize premiums and accrete discounts on mortgage loans held-for-portfolio. The contractual method recognizes the income effects of premiums and discounts in a manner that is reflective of the actual behavior of the mortgage loans during the period in which the behavior occurs while also reflecting the contractual terms of the assets without regard to changes in estimated prepayments based upon assumptions about future borrower behavior.
For more information about amortization and accretion recorded in the Statements of Income see Note 5 - Held-to-Maturity Securities, Note 6 - Available-for-Sale Securities, and Note 8 - Mortgage Loans Held-for-Portfolio to the audited financial statements accompanying this report.
Legislative and Regulatory Developments
The legislative and regulatory environment for the Bank has been one of profound change during the period covered by this report, the most notable of which was the enactment of the Dodd-Frank Act on July 21, 2010. Further, the issuance of several proposed and final regulations from the Finance Agency as well as from non-FHLBank financial regulators, such as the FDIC, have added to the climate of rapid regulatory change. The Bank expects 2011 to involve additional, significant legislative and regulatory changes as regulations are issued to implement the Dodd-Frank Act and proposals for GSE housing reform are introduced.
Dodd-Frank Act
The Dodd-Frank Act, among other things: (1) creates an interagency oversight council (the Oversight Council) that is charged with identifying and regulating systemically important financial institutions; (2) regulates the over-the-counter derivatives market; (3) imposes new executive compensation proxy and disclosure requirements; (4) establishes new requirements for MBS, including a risk-retention requirement; (5) reforms the credit rating agencies; (6) makes a number of changes to the federal deposit insurance system, including making permanent the temporary increase in the standard maximum deposit insurance amount of $250,000; and (7) creates a consumer financial protection bureau. Although the FHLBanks were exempted from several notable provisions of the Dodd-Frank Act, the FHLBanks’ business operations, funding costs, rights, obligations, and/or the environment in which the FHLBanks carry out their housing-finance mission are likely to be impacted by the Dodd-Frank Act. Certain regulatory actions resulting from the Dodd-Frank Act that may have an important impact on the Bank are summarized below, although the full impact of the Dodd-Frank Act will become known only after the required regulations, studies and reports are issued and finalized.
The Dodd-Frank Act’s Impact on the Bank’s Derivatives Transactions
The Dodd-Frank Act provides for new statutory and regulatory requirements for derivative transactions, including those utilized by the Bank to hedge its interest rate and other risks. As a result of these requirements, certain derivative transactions will be required to be cleared through a third-party central clearinghouse and traded on regulated exchanges or new swap execution facilities. Such cleared trades are expected to be subject to initial and variation margin requirements established by the clearinghouse and its clearing members. While clearing swaps may reduce counterparty credit risk, the margin requirements for cleared trades have the potential of making derivative transactions more costly and less attractive as risk management tools for the Bank.
The Dodd-Frank Act will also change the regulatory landscape for derivative transactions that are not subject to mandatory clearing requirements (uncleared trades). While the Bank expects to continue to enter into uncleared trades on a bilateral basis, such trades are expected to be subject to new regulatory requirements, including new mandatory reporting requirements and, potentially, new minimum margin and capital requirements imposed by bank and other federal regulators. Any such margin and capital requirements could adversely impact the liquidity and pricing of certain uncleared derivative transactions entered into by the Bank, making uncleared trades more costly and less attractive as risk management tools for the Bank.
The Dodd-Frank Act will require swap dealers and certain other large users of derivatives to register as swap dealers or major swap participants, as the case may be, with the CFTC and/or the SEC. Based on proposed rules jointly issued by the CFTC and SEC, it seems unlikely that the Bank will be required to register as a major swap participant, although this remains a possibility. It also seems unlikely that the Bank will be required to register as a swap dealer with respect to derivative transactions that it enters into with dealer counterparties for the purpose of hedging and managing its interest rate risk, which constitute the great majority of the Bank’s derivative transactions. However, based on the proposed rules, it is possible that the Bank could be required to register with the CFTC as a swap dealer based on the intermediated “swaps” that it enters into with its members.
It is also unclear how the final rule will treat caps, floors and other derivatives embedded in member advances. The scope of the term “swap” in the Dodd-Frank Act has not yet been addressed in proposed rules. Accordingly, it is not known at this time whether certain transactions between the FHLBanks and their member customers will be treated as “swaps.” Depending on how the terms “swap” and “swap dealer” are finally defined in the rules, the Bank may be faced with the business question of whether to continue to offer “swaps” to member customers if those transactions would require the Bank to register as a swap dealer.
Designation as a swap dealer would subject the Bank to considerable additional regulation and cost including registration with the CFTC, new internal and external business conduct standards, additional reporting requirements and additional swap-based capital and margin requirements. Even if the Bank is designated as a swap dealer, the proposed rule would permit the Bank to apply to the CFTC to limit such designation to those specified activities as to which the Bank is acting as a swap dealer. Thus, the hedging activities of the Bank may not be subject to the full requirements that are generally imposed on traditional swap dealers.
The Bank, together with the other FHLBanks, is actively participating in the development of the regulations under the Dodd-Frank Act by formally providing comments to the regulators regarding the rulemakings that could impact the FHLBanks. It is not expected that final rules implementing the Dodd-Frank Act will become effective until the latter half of 2011 and delays beyond that time are possible.
Other Regulatory Activity Pursuant to the Dodd-Frank Act
Oversight Council and Federal Reserve Board Proposed Rules Regarding Authority to Supervise and Regulate Certain Nonbank Financial Companies. On January 26, 2011, the Oversight Council issued a proposed rule with a comment deadline of February 25, 2011, that would implement the Oversight Council’s authority to subject nonbank financial companies to the supervision of the Board of Governors of the Federal Reserve System (the Federal Reserve Board) and certain prudential standards. The proposed rule defines “nonbank financial company” broadly enough to likely cover the Bank. The rule provides certain factors that the Oversight Council will consider in determining whether to subject a nonbank financial company to such supervision and prudential standards. These factors include the availability of substitutes for the financial services and products the entity provides as well as the entity’s size, interconnectedness with other financial firms, leverage, liquidity risk and existing regulatory scrutiny.
On February 11, 2011, the Federal Reserve Board issued a proposed rule with a comment deadline of March 30, 2011 that would define certain key terms to determine which nonbank financial companies will be subject to the Federal Reserve Board’s regulatory oversight. The proposed rule provides that a company is “predominantly engaged in financial activities” if:
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the annual gross financial revenue of the company represents 85 percent or more of the company’s gross revenue in either of its two most recent completed fiscal years; or
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the company’s total financial assets represent 85 percent or more of the company’s total assets as of the end of either of its two most recently completed fiscal years.
The Bank is predominantly engaged in financial activities under either prong of the proposed test. In pertinent part, the proposed rule also defines “significant nonbank financial company” to mean a nonbank financial company with $50 billion or more in total assets as of the end of its most recently completed fiscal year. The Bank had $100.2 billion in total assets at December 31, 2010.
If the Bank is determined to be a nonbank financial company subject to the Federal Reserve Board’s regulatory oversight, then the Bank’s operations and business may be adversely impacted by such oversight.
Oversight Council Recommendations on Implementing the Volcker Rule. In January 2011, the Oversight Council issued certain recommendations for implementing certain prohibitions on proprietary trading, commonly referred to as the Volcker Rule. Institutions subject to the Volcker Rule may be subject to various limits with regard to their proprietary trading and various regulatory requirements to ensure compliance with the Volcker Rule. If the FHLBanks are subject to the Volcker Rule, then the Bank may be subject to additional limitations on the composition of its investment portfolio beyond existing Finance Agency regulations. These limitations may potentially result in less profitable investment alternatives. Further, complying with related regulatory requirements would likely increase the Bank’s regulatory burden with attendant incremental costs. The FHLBank System’s consolidated obligations generally are exempt from the operation of this rule, subject to certain limitations, including the absence of conflicts of interest and certain financial risks.
FDIC Regulatory Actions
FDIC Final Rule on Assessment System. In February 2011, the FDIC issued a final rule to revise the assessment system applicable to FDIC-insured financial institutions. The rule, among other things, implements a provision in the Dodd-Frank Act to redefine the assessment base used for calculating deposit insurance assessments. Specifically, the rule changes the assessment base for most institutions from adjusted domestic deposits to average consolidated total assets minus average tangible equity. Once this rule takes effect on April 1, 2011, FHLBank advances will be included in their members’ assessment base. The rule also eliminates an adjustment to the base assessment rate paid for secured liabilities, including FHLBank advances, in excess of 25% of an institution’s domestic deposits because these are now part of the assessment base. This rule may negatively affect demand for FHLBank advances to the extent that these assessments increase the cost of advances for some members.
FDIC Final Rule on Unlimited Deposit Insurance for Non-Interest-Bearing Transaction Accounts. On November 15, 2010, the FDIC adopted a final rule providing for unlimited deposit insurance for non-interest-bearing transaction accounts from December 31, 2010 until January 1, 2013. Deposits are a source of liquidity for our members and a rise in deposits, which may occur as a result of the FDIC’s unlimited support of non-interest-bearing transaction accounts, tends to weaken member demand for Bank advances.
FDIC Interim Final Rule on Dodd-Frank Orderly Liquidation Resolution Authority. On January 25, 2011, the FDIC issued an interim final rule with a comment deadline of March 28, 2011, on how the FDIC would treat certain creditor claims under the new orderly liquidation authority established by the Dodd-Frank Act. The Dodd-Frank Act provides for the appointment of the FDIC as receiver for a financial company (not including FDIC-insured depository institutions) in instances where the failure of the company and its liquidation under other insolvency procedures (such as bankruptcy) would pose a significant risk to the financial stability of the United States. The interim final rule provides, among other things, that:
•
all unsecured creditors must expect to absorb losses in any liquidation and that secured creditors will only be protected to the extent of the fair value of their collateral;
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all unsecured creditors must expect to absorb losses in any liquidation and that secured creditors will only be protected to the extent of the fair value of their collateral;
•
to the extent that any portion of a secured creditor’s claim is unsecured, it will absorb losses along with other unsecured creditors; and
•
secured obligations collateralized with U.S. government obligations will be valued at fair market value.
GSE Housing Reform
On February 11, 2011, the Department of the Treasury and the U.S. Department of Housing and Urban Development issued a report to Congress on Reforming America’s Housing Finance Market. The report primarily focused on Fannie Mae and Freddie Mac by providing options for the long-term structure of housing finance. The report recognized the vital role the FHLBanks play in helping financial institutions access liquidity and capital to compete in an increasingly competitive marketplace and noted that the Obama Administration would work, in consultation with the FHFA and Congress, to restrict the areas of mortgage finance in which Fannie Mae, Freddie Mac and the FHLBanks operate so that overall government support of the mortgage market will be substantially reduced over time. Specifically, with respect to the FHLBanks, the report stated the Obama Administration supports limiting the level of advances and reducing portfolio investments, consistent with the FHLBanks’ mission of providing liquidity and access to capital for insured depository institutions. If housing GSE reform legislation is enacted incorporating these requirements, the FHLBanks could be significantly limited in their ability to make advances to their members and subject to additional limitations on their investment authority.
The report also supports consideration of additional means of advance funding to housing lenders, including potentially the development of a covered bond market. A developed covered bond market could compete with FHLBank advances.
Additionally, the report sets forth various reforms for Fannie Mae and Freddie Mac, each of which would ultimately wind down those entities. The Bank has traditionally allocated a significant portion of its investment portfolio to investments in Fannie Mae and Freddie Mac debt securities. Accordingly, the Bank’s investment strategies may be impacted by the winding down of those entities. To the extent that Fannie Mae and Freddie Mac wind down or limit the amount of mortgages they purchase, FHLBank members may determine to increase their mortgage loans held in portfolio which could potentially increase demand for FHLBank advances. In any case, the impact of housing GSE reform on the Bank will depend on the content of legislation that is enacted to implement housing GSE reform.
Finance Agency Regulatory Actions
Finance Agency Final Rule on Restructuring the Office of Finance. On May 3, 2010, the Finance Agency issued a final regulation restructuring the Office of Finance’s board of directors, which became effective on June 2, 2010. Among other things, the regulation: (1) increased the size of the board such that it is now comprised of the twelve FHLBank presidents and five independent directors; (2) created an audit committee; (3) provided for the creation of other committees; (4) set a method for electing independent directors along with setting qualifications for these directors; and (5) provided that the method of funding the Office of Finance and allocating its expenses among the FHLBanks shall be as determined by policies adopted by the board of directors. The audit committee may only be comprised of the five independent directors and has been charged with oversight of greater consistency in accounting policies and procedures among the FHLBanks.
Finance Agency Final Rule on Reporting Fraudulent Financial Instruments and Loans. On January 27, 2010, the Finance Agency issued a final regulation, which became effective on February 26, 2010, requiring the FHLBanks to report to the Finance Agency any such entity’s purchase or sale of fraudulent financial instruments or loans, or financial instruments or loans such entity suspects are possibly fraudulent. The regulation imposes requirements on the timeframe, format, document retention, and nondisclosure obligations for reporting fraud or possible fraud to the Finance Agency. The Bank is also required to establish and maintain adequate internal controls, policies, procedures, and an operational training program to discover and report fraud or possible fraud. The adopting release provides that the regulation will apply to all of the Bank’s programs and products. Given such a scope, it potentially creates significant investigatory and reporting obligations for the Bank. The adopting release for the regulation provides that the Finance Agency will issue certain guidance specifying the investigatory and reporting obligations under the regulation. However, such guidance has not yet been issued. The Bank will be in a position to assess the significance of the reporting obligations once the Finance Agency has issued its guidance.
Finance Agency Final Rule on the Office of Minority and Women Inclusion. On December 20, 2010, the Finance Agency issued a final rule requiring the FHLBanks to promote diversity and the inclusion of women, minorities and individuals with disabilities in all activities. The rule requires each FHLBank to either establish an Office of Minority and Women Inclusion or designate an office to be responsible for carrying out this rule’s requirements at every level of the organization including management, employment and contracting. Additionally, the rule requires the Bank to make certain periodic reports on its compliance with the rule to the Director of the Finance Agency (the Director). The Bank expects that complying with the rule will increase the Bank’s regulatory burden with attendant incremental costs but cannot establish any meaningful projections yet regarding such costs as it continues to develop strategies to comply with the rule. This rule became effective on January 27, 2011.
The Bank has established the Office of Minority and Women Inclusion under the direct supervision of the Head of Enterprise Services. The rule was communicated to the Bank’s Board of Directors and a new policy was approved on November 18, 2010, which became effective on January 1, 2011. The Bank has also contracted a third party to assist with the identification and reporting of eligible vendors for use in implementing the new rule. The Bank also now mandates greater diversity for our vendors and suppliers, with workforce and supplier diversity as company-wide priorities.
Finance Agency Final Rule on FHLBank Directors’ Eligibility, Elections, Compensation and Expenses. On April 5, 2010, the Finance Agency issued a final rule on FHLBank director elections, compensation, and expenses. Regarding elections, the final regulation changes the process by which FHLBank directors are chosen after a directorship is re-designated to a new state prior to the end of the term as a result of the annual designation of FHLBank directorships. Specifically, the re-designation causes the original directorship to terminate at the end of the calendar year and creates a new directorship that will be filled by an election of the members. Regarding compensation, the final rule, among other things: allows FHLBanks to pay directors reasonable compensation and reimburse necessary expenses; requires FHLBanks to adopt a written compensation and reimbursement of expenses plan; prescribes certain related reporting requirements; and prohibits payments to FHLBank directors who regularly fail to attend board or committee meetings.
Finance Agency Final Rule on the Use of Community Development Loans by CFIs to Secure Advances and Secured Lending to FHLBank Members and Their Affiliates. On December 9, 2010, the Finance Agency issued a final rule that, among other things:
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provides the Bank regulatory authority to receive community development loans as collateral for advances from CFIs that are members, subject to other regulatory requirements; and
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codifies the Finance Agency’s position that secured lending to a member by an FHLBank in any form is an “advance” and therefore subject to all requirements applicable to an advance, including stock investment requirements. However, the final rule (i) clarifies that it was not intended to prohibit a Bank’s derivatives activities with members or other obligations that may cause a credit exposure to a Bank but that do not arise from a Bank’s lending of cash funds and (ii) does not include a prohibition on secured transactions with members’ affiliates, as was initially proposed. This latter prohibition would have prohibited the Bank from entering into many of the repurchase transactions that it currently enters for liquidity and investment purposes.
This rule became effective on January 10, 2011.
Finance Agency Rule on Temporary Increases in Minimum Capital Levels. On March 3, 2011, the Finance Agency issued a final rule effective April 4, 2011 authorizing the Director of the Finance Agency to increase the minimum capital level for an FHLBank if the Director determines that the current level is insufficient to address such FHLBank’s risks. The rule provides the factors that the Director may consider in making this determination including such FHLBank’s:
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current or anticipated declines in the value of assets held by it;
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its ability to access liquidity and funding;
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credit, market, operational and other risks;
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current or projected declines in its capital;
•
such FHLBank’s material compliance with regulations, written orders, or agreements;
•
housing finance market conditions;
•
levels of retained earnings;
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initiatives, operations, products or practices that entail heightened risk;
•
the ratio of market value of equity to the part value of capital stock; and/or
•
other conditions as notified by the Director.
The rule provides that the Director shall consider the need to maintain, modify or rescind any such increase no less than every 12 months. Should the Bank be required to increase its minimum capital level, the Bank could need to require additional stock purchases from its members and/or lower or suspend dividend payments to increase retained earnings to satisfy such increase. Alternatively, the Bank could try to satisfy the increased requirement by disposing of assets to lower the size of its balance sheet relative to its total outstanding stock, which disposal may adversely impact the Bank’s results of operations and ability to satisfy its mission.
Finance Agency Proposed Rule on Voluntary FHLBank Mergers. On November 26, 2010, the Finance Agency issued a proposed rule with a comment deadline of January 25, 2010, that would establish the conditions and procedures for the consideration and approval of voluntary mergers between FHLBanks. Pursuant to the proposed rule, two or more FHLBanks may merge provided:
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such FHLBanks have agreed upon the terms of the proposed merger and the board of directors of each such FHLBank has authorized the execution of the merger agreement;
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such FHLBanks have jointly field a merger application with the Finance Agency to obtain the approval of the Director;
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the Director has granted preliminary approval of the merger;
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the members of each such FHLBank have ratified the merger agreement; and
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the Director has granted final approval of the merger agreement.
Finance Agency Proposed Rule on Conservatorship and Receivership. On July 9, 2010, the Finance Agency issued a proposed rule with a comment deadline of September 7, 2010, that would set forth the basic authorities of the Finance Agency when acting as conservator or receiver for any of the entities it regulates, including the FHLBanks and the Office of Finance. The basic authorities set forth in the proposed rule include the authority to enforce and repudiate contracts, establish procedures for conservators and receivers and priorities of claims for contract parties and other claimants, and address whether and to what extent claims by current and former holders of equity interests in the regulated entities will be paid.
Advance Notice of Proposed Rulemaking Regarding FHLBank Members. On December 27, 2010, the Finance Agency issued an advance notice of proposed rulemaking with a comment deadline of March 28, 2011, which provides that the Finance Agency is reviewing its regulations on FHLBank membership to ensure such regulations are consistent with maintaining a nexus between FHLBank membership and the housing and community development mission of the FHLBanks. The notice provides certain alternatives designed to strengthen that nexus including, among other things:
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requiring compliance with membership standards on a continuous basis rather than only at the time of admission to membership; and
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creating additional quantifiable standards for membership.
The Bank’s results of operations may be adversely impacted should the Finance Agency ultimately issue a regulation that excludes prospective institutions from becoming Bank members or precludes existing members from continuing as Bank members due to the reduced business opportunities that would result.
Finance Agency Proposed Rule on Temporary Increases in Minimum Capital Levels. On February 8, 2010, the Finance Agency issued a proposed regulation with a comment deadline of April 9, 2010, that, if adopted as proposed, would set forth certain standards and procedures that the Director of the Finance Agency would employ in determining whether to require or rescind a temporary increase in the minimum capital levels for any of the FHLBanks. To the extent that the final rule results in an increase in the Bank’s capital requirements, the Bank’s ability to pay dividends and repurchase or redeem capital stock may be adversely impacted.
Finance Agency Advanced Notice of Proposed Rule on the use of NRSRO Credit Ratings. On January 31, 2011, the Finance Agency issued an advanced notice of proposed rule with a comment deadline of March 17, 2011, that would implement a provision in Dodd-Frank Act that requires all federal agencies to remove regulations that require use of NRSRO credit ratings in the assessment of a security. The notice seeks comment regarding certain specific Finance Agency regulations applicable to FHLBanks including risk-based capital requirements, prudential requirements, investments and COs.
Finance Agency Proposed Rule on Private Transfer Fee Covenants. On February 8, 2011, the Finance Agency issued a proposed rule with a comment deadline of April 11, 2011, that would restrict the Bank from acquiring, or taking security interests in mortgages on properties encumbered by certain private transfer fee covenants and related securities. The proposed rule prohibits the Bank from purchasing or investing in any mortgages on properties encumbered by private transfer fee covenants, securities backed by such mortgages or securities backed by the income stream from such covenants, unless such covenants are excepted transfer fee covenants. Excepted transfer fee covenants are covenants that pay a private transfer fee to a homeowner association, condominium, cooperative or certain other tax-exempt organizations that use the private transfer fees for the direct benefit of the property. The proposed rule also prohibits the FHLBanks from accepting such mortgages or securities as collateral unless such covenants are excepted transfer fee covenants. Pursuant to the proposed rule, the foregoing restrictions would apply only to mortgages on properties encumbered by private transfer fee covenants created on or after February 8, 2011, and to such securities backed by such mortgages, and to securities issued after that date and backed by revenue from private transfer fees regardless of when the covenants were created. The Bank would be required to comply with the regulation within 120 days of the publication of the final rule.
Finance Agency Proposed Rule on Rules of Practice and Procedure for Enforcement Proceedings. On August 12, 2010, the Finance Agency issued a proposed rule with a comment deadline of October 12, 2010, that would amend existing regulations implementing stronger Finance Agency enforcement powers and procedures if adopted as proposed.
Finance Agency Proposed Rule on FHLBank Liabilities. On November 8, 2010, the Finance Agency issued a proposed rule with a comment deadline of January 7, 2011, that would, among other things:
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reorganize and re-adopt Finance Board regulations dealing with COs, as well as related regulations addressing other authorized FHLBank liabilities and book entry procedures for COs;
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implement recent statutory amendments that removed authority from the Finance Agency to issue COs;
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specify that the FHLBanks issue COs that are the joint and several obligations of the FHLBanks as provided for in the statute rather than as joint and several obligations of the FHLBanks as provided for in the current regulation; and
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provide that COs are issued under Section 11(c) of the FHLBank Act rather than under Section 11(a) of the FHLBank Act.
The adoption of the proposed rule would not have any adverse impact on the FHLBanks’ joint and several liability for the principal and interest payments on COs.
Separately, the proposed rule requests comment on how the Finance Agency should implement a provision in Dodd-Frank Act that requires all federal agencies to remove regulations that require use of NRSRO credit ratings in the assessment of the credit-worthiness of a security and to replace those provisions with other measures of credit-worthiness.
Finance Agency Proposed Rule on FHLBank Investments. On May 4, 2010, the Finance Agency issued a proposed regulation with a comment deadline of July 6, 2010, that, among other things, requests comment on whether additional limitations on an FHLBank’s MBS investments, including its private-label MBS investments, should be adopted as part of a final regulation and whether, for private-label MBS investments, such limitations should be based on an FHLBank’s level of retained earnings.
Additional Developments
Final SEC Rule on Money Market Reform. On March 4, 2010, the SEC published a final rule, amending the rules governing money market funds under the Investment Company Act. These amendments have resulted in certain tightened liquidity requirements, such as: maintaining certain financial instruments for short-term liquidity; reducing the maximum weighted-average maturity of portfolio holdings and improving the quality of portfolio holdings. The final rule includes overnight FHLBank discount notes in the definition of “daily liquid assets” and “weekly liquid assets” and will encompass FHLBank discount notes with remaining maturities of up to 60 days in the definition of “weekly liquid assets.” The final rule’s requirements became effective on May 5, 2010.
Expiration of Authority to Issue Tax-Exempt Letters of Credit. The Bank’s authority to issue letters of credit to support non-housing related tax-exempt state and local bond issuances on behalf of members generally expired on December 31, 2010, in accordance with the Housing and Economic Recovery Act of 2008, although an FHLBank may renew a letter of credit issued between the date of enactment of that Act and December 31, 2010. During 2010, contributions to the FHLBNY’s Net income from such letters were insignificant.
Basel Committee on Banking Supervision Capital Framework. In September 2010, the Basel Committee on Banking Supervision (the Basel Committee) approved a new capital framework for internationally active banks. Banks subject to the new regime will be required to have increased amounts of capital with core capital being more strictly defined to include only common equity and other capital assets that are able to fully absorb losses. While it is uncertain how the new capital regime or other standards being developed by the Basel Committee, such as liquidity standards, will be implemented by the U.S. regulatory authorities, the new regime could require some of our members to divest assets in order to comply with the more stringent capital requirements, thereby tending to decrease their need for advances. Likewise, any new liquidity requirements may also adversely impact member demand for advances and/or investor demand for COs.
Financial Condition (dollars in thousands):
Table 2.1: Statements of Condition - Year-Over-Year Comparison
Balance sheet overview
The FHLBNY continued to experience steady balance sheet contraction through the quarters in 2010 in parallel with the decline in Advances to $81.2 billion at December 31, 2010 from a peak of $109.1 billion in 2008 and $94.3 billion at December 31, 2009. Reported balances include fair value basis of hedged advances. The decline in demand for member borrowings has occurred as member banks have taken advantage of improved availability of alternate funding sources such as deposits and senior unsecured borrowings in a more liquid market. Member demand for borrowed advances has also declined as loan demand from members’ customers may have stayed lukewarm due to nationally weak economic conditions.
Advances - At December 31, 2010, the FHLBNY’s Total assets were $100.2 billion, a decrease of 12.4%, or $14.2 billion from December 31, 2009. The Bank’s balance sheet management strategy has been to keep balance sheet growth or decline in line with the changes in member demand for advances, which declined 13.9%.
Table 2.2: Advance Graph
Investments - The FHLBNY’s investment strategies continue to be restrained, and acquisitions were limited to investments in mortgage-backed securities (“MBS”) issued by GSEs and U.S. government agencies. Acquisitions even in such securities have been made when they justified the Bank’s risk-reward preferences.
In 2010, the Bank purchased $472.3 million of GSE issued MBS for the HTM portfolio, and $2.9 billion of floating-rate GSE issued MBS for the AFS portfolio. Market pricing of GSE issued MBS improved at December 31, 2010 as liquidity appeared to return to the market place, and substantially all of MBS in the AFS portfolio were in net unrealized fair value gain positions. Fair values of the Bank’s private-label securities also improved at December 31, 2010 relative to 2009, but were still depressed, as market conditions for such securities remained uncertain. For more information about fair values of AFS and HTM securities, see Note 19 to the audited financial statements accompanying this report.
Leverage - At December 31, 2010, balance sheet leverage was 19.5 times shareholders’ equity, compared to 20.4 times capital at December 31, 2009. The Bank’s balance sheet management strategy is to keep the balance sheet change in line with the changes in member demand for advances, although from time to time the Bank may maintain excess liquid investments to meet unexpected member demand for funds. Increases or decreases in investments have a direct impact on leverage, but generally, growth in or shrinkage of advances does not significantly impact balance sheet leverage under existing capital stock management practices. This is because changes in shareholders’ capital are in line with changes in advances, and the ratio of assets to capital generally remains unchanged. Under existing capital management practices, members are required to purchase capital stock to support their borrowings from the Bank, and when capital stock is in excess of the amount that is required to support advance borrowings, the Bank redeems the excess capital stock immediately. Therefore, stockholders’ capital increases and decreases with members’ advance borrowings, and the capital to asset ratios remain relatively unchanged. As capital increases or declines in line with higher or lower volumes of advances, the Bank may also adjust its assets by increasing or decreasing holdings of short-term investments in certificates of deposit, and, to some extent, its positions in Federal funds sold, which it inventories to accommodate unexpected member needs for liquidity.
Debt - In 2010 as in 2009, the primary source of funds for the FHLBNY continued to be the issuance of consolidated obligation bonds and discount notes. Discount notes are consolidated obligations with maturities up to one year, and consolidated bonds have maturities of one year or longer. The mix between the use of discount notes and bonds has fluctuated during 2010 and 2009, partly because of fluctuations in the market pricing of discount notes relative to the pricing of fixed-rate bonds with similar maturities, and partly because of the price attractiveness of short-term callable and non-callable bonds that could be swapped back to 3-month LIBOR rates as an alternative to discount notes. In the 2010 first quarter, the Bank had decreased its issuances of discount notes mainly because of unfavorable pricing relative to alternative funding, primarily short-term callable bonds. Then the interest rate environment for the FHLBank issued debt was such that the effective duration of callable bonds, on an option adjusted basis, was shorter than its contractual maturities and their issuance achieved the Bank’s asset/liability management profile and discount notes lost their attractiveness. In the 2010 second quarter, discount note pricing became favorable with the rise of the 3-month LIBOR index, and the Bank increased its usage of discount notes, which replaced maturing/called bonds. In the 2010 third quarter, the 3-month LIBOR index declined, spreads narrowed, and the FHLBNY reduced issuances of discount notes. In the 2010 fourth quarter, spreads improved, yields stabilized and discount note issuances became an attractive alternative to the issuance of short-term, callable bonds.
Liquidity and Short-term Debt - The following table summarizes the FHLBNY’s short-term debt (in thousands). Also see Tables 6.1 - 6.10 and 9.4 for additional information.
Table 2.3: Short-term debt
Outstanding at end of the period - carrying value
Outstanding at end of the period - par value
The FHLBNY has reduced its utilization of short-term debt to fund its assets, in part by reducing investments in overnight money market assets and in part by reducing leverage. The FHLBNY’s liquid assets included cash at the FRB, federal funds sold, and a portfolio of highly-rated GSE securities that were available-for-sale.
The FHLBanks’ GSE status enables the Banks, including FHLBNY, to fund its consolidated obligation debt at tight margins to U.S. Treasury. These are discussed in more detail under “Debt Financing and Consolidated Obligations” in this MD&A. The FHLBNY’s internal source of liquidity position remains strong, and was in compliance with all regulatory requirements and Management does not foresee any changes to that position.
Among other liquidity measures, the FHLBNY is required to maintain sufficient liquidity, through short-term investments, in an amount at least equal to that Bank’s anticipated cash outflows under two different scenarios. The first scenario assumes that the FHLBNY cannot access the capital markets for 15 days and that during that time, members do not renew their maturing, prepaid and called advances. The second scenario assumes that the FHLBNY cannot access the capital market for five days and that during that period, members renew maturing and called advances. The FHLBNY was in compliance within these scenarios.
The FHLBNY also has in place other liquidity measures - Deposit Liquidity and Operational Liquidity indicated that the FHLBNY’s liquidity buffers were in excess of required reserves. For more information about the FHLBNY’s liquidity measures and see section “Liquidity, Short-term borrowings and Short-term Debt” in this MD&A.
Advances
The FHLBNY’s primary business is making collateralized loans, known as “advances,” to members.
Member demand for advance borrowings has steadily declined in 2010, a continuing trend from 2009. Advance book value included fair value basis adjustments of $4.3 billion at December 31, 2010, compared to $3.6 billion at December 31, 2009. Fair value basis adjustments of hedged advances are recorded under the hedge accounting provisions. When medium- and long-term interest rates rise or fall, the fair values of fixed-rate advances move in the opposite direction.
Generally, the growth or decline in advances is reflective of demand by members for both short-term liquidity and term funding driven by economic factors, such as availability to the Bank’s members of alternative funding sources that are more attractive, or by the interest rate environment, and the outlook for the economy. Members may choose to prepay advances (which may generate prepayment penalty fees) based on their expectations of interest rate changes and demand for liquidity. Advance volume is also influenced by merger activity where members are either acquired by non-members or acquired by members of another FHLBank. When FHLBNY members are acquired by members of another FHLBank or a non-member, the former members no longer qualify for membership and the FHLBNY may not offer renewals or additional advances to the former members. Subsequent to the merger, maturing advances may not be replaced, which has an immediate impact on short-term and overnight lending if the former member borrowed short-term and overnight advances.
Advances - Product Types
The following table summarizes par values of advances by product type (dollars in thousands):
Table 3.1: Advances by Product Type
Member demand for advance products
Fixed-rate advances and Adjustable-rate advances (“ARCs”) have been the more significant products that have declined in 2010 relative to the balances at December 31, 2009.
Adjustable Rate Advances (“ARC Advances”) - ARC advances declined steadily in 2009 and that trend has continued through 2010, as demand has remained weak. Generally, the FHLBNY’s larger members have been the more significant borrowers of ARCs.
ARC advances are medium- and long-term loans that can be linked to a variety of indices, such as 1-month LIBOR, 3-month LIBOR, the Federal funds rate, or Prime. Members use ARC advances to manage interest rate and basis risks by efficiently matching the interest rate index and repricing characteristics of floating-rate assets. The interest rate is set and reset (depending upon the maturity of the advance and the type of index) at a spread to that designated index. Principal is due at maturity and interest payments are due at each reset date, including the final payment date.
Fixed-rate Advances - Fixed-rate advances, comprising putable and non-putable advances, remain the largest category of advances.
Member demand for fixed-rate advances had been steady in the first three quarters of 2010, although compared to 2009, borrowings have declined, and on aggregate, maturing advances had been replaced by new borrowings. In the fourth quarter, outstanding balances declined by $2.6 billion as maturing advances were not replaced by new borrowings. In 2010, demand has been concentrated around medium-term advances, as members remain uncertain about locking into long-term advances perhaps because of unfavorable pricing of longer-term advances, or an uncertain outlook over the direction and timing of interest rate changes, or lukewarm demand from members’ customer base for longer-term fixed-rate loans.
Fixed-rate advances are flexible funding tools that can be used by members to meet short- to long-term liquidity needs. Terms vary from two days to 30 years.
A significant composition of Fixed-rate advances consists of advances with a “put” option feature (“putable advance”). Historically, Fixed-rate putable advances have been more competitively priced relative to fixed-rate “bullet” advances (without put option) because of the “put” feature that the Bank purchases from the member, driving down the coupon on the advance. The price advantage of a putable advance increases with the numbers of puts sold and the length of the term of a putable advance. With a putable advance, the FHLBNY has the right to exercise the put option and terminate the advance at predetermined exercise date(s), which the FHLBNY normally would exercise when interest rates rise, and the borrower may then apply for a new advance at the then prevailing coupon and terms. In the present interest rate environment, the price advantage has not been significant because of constraints in offering longer-term-advances.
Member demand for the competitively priced putable advances had remained steady through the third quarter in 2009, contracted somewhat in the fourth quarter of 2009, and declined steadily in 2010 as maturing putable advances were either not replaced or replaced by bullet advance (without the put feature). Putable advances stood at $34.7 billion at December 31, 2010 compared to $41.4 billion at December 31, 2009.
Short-term Advances - Demand for Short-term fixed-rate advances has remained very weak in 2010, a continuing trend from 2009. Borrowed amounts stood at $1.4 billion, down from $2.2 billion at December 31, 2009. By way of contrast, the outstanding balance was $7.8 billion at December 31, 2008.
Overnight advances - Overnight borrowings also remained lackluster in 2010, a continuation of the trend seen in 2009. Member demand for the overnight Advances may also reflect the seasonal needs of certain member banks for their short-term liquidity requirements. Some large members also use overnight advances to adjust their balance sheet in line with their own leverage targets.
The overnight advances program gives members a short-term, flexible, readily accessible revolving line of credit for immediate liquidity needs. Overnight Advances mature on the next business day, at which time the advance is repaid.
Merger Activity
Merger activity is an important factor and, if significant, would contribute to an uneven pattern in advance balances. Merger activity may result in the loss of new business if a member is acquired by a non-member. The FHLBank Act does not permit new advances to replace maturing advances to former members. Advances held by members who are acquired by non-members may remain outstanding until their contractual maturities. Merger activity may also result in a decline in the advance book if the acquired member decides to prepay existing advances partially or in full depending on the post-merger liquidity needs.
The following table summarizes merger activity (dollars in thousands):
Table 3.2: Merger Activity
Members who became non-members because of mergers.
The former members are not considered to have a significant borrowing potential.
Prepayment of Advances
Prepayment initiated by members or former members is another important factor that impacts advances. The FHLBNY charges a prepayment fee when the member or a former member prepays certain advances before the original maturity.
The following table summarizes prepayment activity (in thousands):
Table 3.3: Prepayment Activity
For advances that are prepaid and hedged under hedge accounting rules, the FHLBNY generally terminates the hedging relationship upon prepayment and adjusts the prepayment fees received for the associated fair value basis of the hedged prepaid advance.
Advances - Maturities and coupons
The FHLBNY’s advances outstanding are summarized below by year of maturity (dollars in thousands):
Table 3.4: Advances Outstanding by Year of Maturity
Coupons were generally lower in 2010 but the greatest declines in yields were in the shorter-term advances because of the low short-term rates at December 31, 2010. Contractual maturities of advances outstanding have remained relatively unchanged at December 31, 2010 compared to 2009, an indicator that members have generally not changed their borrowing terms with respect to the term to maturity. A lower volume of advances will mature within one year at December 31, 2010 relative to December 31, 2009.
Advances - Interest Rate Terms
The following table summarizes interest-rate payment terms for advances (dollars in thousands):
Table 3.5: Advances by Interest-Rate Payment Terms
Fixed-rate borrowings remained popular with members but amounts borrowed have declined in line with the overall decline in member demand for advances. The product is popular with members as reflected by an increasing percentage of total advances outstanding at December 31, 2010. Variable-rate advances outstanding declined in percentage terms and amounts outstanding. Member demand for adjustable-rate LIBOR-based funding has been weak, as members may perceive the risk of a combination of an unsettled interest rate environment and a steepening yield curve to make variable-rate borrowing relatively unattractive from an interest-rate risk management perspective. Variable-rate capped advances also declined in a declining interest rate environment. Typically, capped ARCs are in demand by members only in a rising rate environment as they would purchase cap options from the FHLBNY to limit borrowers’ interest rate exposure. With a capped variable rate advance, the FHLBNY had offsetting purchased cap options that mirrored the terms of the caps sold to members, offsetting the FHLBNY’s exposure on the advance.
The following table summarizes variable-rate advances by reference-index type (in thousands):
Table 3.6: Variable-Rate Advances
The following table summarizes maturity and yield characteristics of par amounts of advances (dollars in thousands):
Table 3.7: Advances by Maturity and Yield Type
Impact of Derivatives and hedging activities to the balance sheet carrying values of Advances
The Bank hedges certain advances by the use of both cancellable and non-cancellable interest rate swaps. These qualify as fair value hedges under the derivatives and hedge accounting rules. Recorded fair value basis adjustments to advances in the Statements of Condition were a result of these hedging activities. The Bank hedges the risk of changes in the benchmark rate, which the FHLBNY has adopted as LIBOR and is also the discounting basis for computing changes in fair values of hedged advances. Fair value changes of qualifying hedged advances under the derivatives and hedge accounting rules are recorded in the Statements of Income as a Net realized and unrealized gain (loss) on derivative and hedging activities, a component of Other income (loss). An offset is recorded as a fair value basis adjustment to the carrying amount of the advances in the Statements of Condition.
•
Derivative transactions are employed to hedge fixed-rate advances in the following manner and to achieve the following principal objectives. The FHLBNY:
•
Makes extensive use of the derivatives to restructure interest rates on fixed-rate advances, both putable and non-putable (“bullet”), to better match the FHLBNY’s cash flows, to enhance yields, and to manage risk from a changing interest rate environment.
•
Converts at the time of issuance, certain simple fixed-rate bullet and putable fixed-rate advances into synthetic floating-rate advances by the simultaneous execution of interest rate swaps that convert the cash flows of the fixed-rate advances to conventional adjustable rate instruments tied to an index, typically 3-month LIBOR.
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Uses derivatives to manage the risks arising from changing market prices and volatility of a fixed coupon advance by matching the cash flows of the advance to the cash flows of the derivative, and making the FHLBNY indifferent to changes in market conditions. Putable advances are typically hedged by an offsetting derivative with a mirror-image call option with identical terms.
•
Adjusts the reported carrying value of hedged fixed-rate advances for changes in their fair value (“fair value basis” or “fair value”) that are attributable to the risk being hedged in accordance with hedge accounting rules. Amounts reported for advances in the Statements of Condition include fair value hedge basis adjustments.
The most significant element that impacts balance sheet reporting of advances is the recording of fair value basis adjustments to the carrying value of advances in the Statements of Condition. In addition, when putable advances are hedged by cancellable swaps, the possibility of exercise of the call shortens the expected maturity of the advance. The impact of derivatives to the Bank’s income is discussed in this MD&A under “Results of Operations.” Fair value basis adjustments as measured under the hedging rules are impacted by hedge volume, the interest rate environment, and the volatility of the interest rates.
Hedge volume - The Bank primarily hedges putable advances and certain “bullet” fixed-rate advances that qualify under the hedging provisions of the accounting standards for derivatives and hedging, and as economic hedges when the hedge accounting provisions are operationally difficult to establish, or a high degree of hedge effectiveness cannot be asserted. The following table summarizes hedged advances by type of option features (in thousands):
Table 3.8: Hedged Advances by Type
Either hedged economically or qualified under a hedge accounting rules
Except for an insignificant notional amount of derivatives that were designated as economic hedges of advances, hedged advances were in a qualifying hedging relationship under the accounting standards for derivatives and hedging. (See Tables 8.1 - 8.6). No advances were designated under the FVO. The FHLBNY typically hedges fixed-rate advances in order to convert fixed-rate cash flows to LIBOR-indexed cash flows through the use of interest rate swaps.
The FHLBNY has allowed its fixed-rate putable advances to decline, and since almost all advances with put or call features are hedged, the decline in hedged advances was consistent with the contraction of fixed-rate putable advances. The put option in the advance is purchased by the FHLBNY from borrowing member and mirrors the cancellable swap option owned by the swap counterparty. Under the terms of the put option, the Bank has the right to terminate the advance at agreed-upon dates. The period until the option is exercisable is known as the lockout period. If the advance is put by the FHLBNY at the end of the lockout period, the member can borrow an advance product of the member’s choice at the then-prevailing market rates and at the then-existing terms and conditions.
Non-cancellable hedged advances (bullet advances) have grown over the years.
Fair value basis adjustments - The Bank uses interest rate derivatives to hedge the risk of changes in the benchmark rate, which the FHLBNY has adopted as LIBOR, and is also the discounting basis for computing changes in fair values of hedged advances. Recorded fair value basis adjustments in the Statements of Condition were associated with hedging activities under the hedge accounting provisions. Advances designated at inception as economic hedges do not have any basis adjustments, and were insignificant. The reported carrying values of advances at December 31, 2010 included net unrealized fair value basis gains of $4.3 billion up from $3.6 billion at December 31, 2009 associated with hedged advances that qualified under hedge accounting rules at those dates.
Fair value gains at December 31, 2010 and 2009 were consistent with the higher contractual coupons of hedged long-and medium-term fixed-rate advances which had been issued at prior years at the then-prevailing higher interest rate environment compared to the lower interest rate environment at the balance sheet dates that were projecting forward rates below the contractual coupons of hedged fixed-rate advances. Fixed-rate advances, in a lower interest rate environment relative to the coupons of the advances, will exhibit net unrealized fair value basis gains.
The year-over-year increase in net fair value basis adjustments of hedged Advances was primarily caused by the downward shift of the forward swap interest rates at December 31, 2010, relative to December 31, 2009, as displayed below. As future swap rates decline, the higher contractual coupons of the advances become more “valuable” and fair value gains increase.
Table 3.9: LIBOR Graph
Unrealized gains from fair value basis adjustments to advances were almost entirely offset by net fair value unrealized losses of the derivatives associated with the fair value hedges of advances, thereby achieving the Bank’s hedging objectives of mitigating fair value basis risk.
Advances - Call Dates and Exercise Options
The table below offers a view of the advance portfolio with the possibility of the exercise of the put option that is controlled by the FHLBNY, and put dates are summarized into similar maturity tenors as the previous table that summarizes advances by contractual maturities (dollars in thousands).
Table 3.10: Advances by Put Date
Due or putable in one year or less includes two callable advances.
Contrasting advances by contractual maturity dates (See Tables 3.1 - 3.11) with potential put dates illustrates the impact of hedging on the effective duration of the Bank’s advances. The Bank’s advances borrowed by members include a significant amount of putable advances in which the Bank has purchased from members the option to terminate advances at agreed-upon dates. Typically, almost all putable advances are hedged by cancellable interest rate swaps in which the derivative counterparty has the right to exercise and terminate the swap at par at agreed upon dates. Under current hedging practices, when the swap counterparty exercises its right to call the cancellable swap, the Bank would typically also exercise its right to put the advance at par. Under this hedging practice, on a put option basis, the potential exercised maturity is significantly accelerated, and is an important factor in the Bank’s current hedge strategy. This is best illustrated by the fact that on a contractual maturity basis, 41.0% of advances would mature after five years, while on a put basis, the percentage declines to 3.6%.
The following table summarizes notional amounts of advances that were still putable or callable (one or more pre-determined option exercise dates remaining) (in thousands):
Table 3.11: Putable and Callable Advances
The FHLBNY has allowed its fixed-rate putable advances to decline and member borrowings have been weak for putable advances, which are typically medium and long-term.
Investments
The FHLBNY maintains investments for liquidity purposes, to manage stock repurchases and redemptions, to provide additional earnings, and to ensure the availability of funds to meet the credit needs of its members. The FHLBNY also maintains longer-term investment portfolios, which are principally mortgage-backed securities issued by government-sponsored mortgage agencies, a smaller portfolio of MBS issued by private enterprises, and securities issued by state or local housing finance agencies. Finance Agency regulations prohibit the FHLBanks, including the FHLBNY, from investing in certain types of securities and limit the investment in mortgage- and asset-backed securities.
Investments - Policies and Practices
Finance Agency regulations limit investment in housing-related obligations of state and local governments and their housing finance agencies to obligations that carry ratings of double-A or higher. Mortgage- and asset-backed securities acquired must carry the highest ratings from Moody’s Investors Service (“Moody’s”) or Standard & Poor’s Rating Services (“S&P”) at the time of purchase. Finance Agency regulations further limit the mortgage- and asset-backed investments of each FHLBank to 300 percent of that FHLBank’s capital. The FHLBNY was within the 300 percent limit for all periods reported. The FHLBNY’s investment in mortgage-backed securities during all periods reported complied with FHLBNY’s Board-approved policy of acquiring mortgage-backed securities issued or guaranteed by the government-sponsored housing enterprises, or prime residential mortgages rated triple-A by both Moody’s and Standard & Poor’s rating services at acquisition.
The FHLBNY’s practice is not to lend unsecured funds to members, including overnight Federal funds and certificates of deposit. The FHLBNY does not preclude or specifically seek out investments any differently than it would in the normal course of acquiring securities for investments, unless it is prohibited by existing regulations. Unsecured lending to members is not prohibited by Finance Agency regulations or Board of Directors’ policy. The FHLBNY is prohibited from purchasing a consolidated obligation issued directly by another FHLBank, but may acquire consolidated obligations for investment in the secondary market after the bond settles. There were no investments in consolidated obligations by the FHLBNY at December 31, 2010 or December 31, 2009. On March 24, 2008, the Board of Directors of the Federal Housing Finance Board, predecessor to the Finance Agency adopted Resolution 2008-08, which temporarily expanded the authority of a FHLBank to purchase mortgage-backed securities (“MBS”) under certain conditions. The resolution allowed a FHLBank to increase its investments in MBS issued by Fannie Mae and Freddie Mac by an amount equal to three times its capital, which is to be calculated in addition to the existing limit. The expanded authority permitted MBS investments to be as much as 600 percent of the FHLBNY’s capital. The FHLBNY did not exercise the expanded authority provided under the temporary regulations to purchase MBS issued by Fannie Mae and Freddie Mac. The expanded authority expired in March 2010.
The following table summarizes changes in investments by categories (including held-to-maturity securities, available-for-sale securities, and money market investments). No securities classified as available-for-sale were OTTI (dollars in thousands):
Table 4.1: Investments by Categories
Classified as held-to-maturity securities, at carrying value.
Classified as available-for-sale securities, at fair value and represents investments in registered mutual funds and other fixed-income securities maintained under the grantor trusts.
Long-Term Investments
Investments with original long-term contractual maturities were comprised of mortgage- and asset-backed securities, and investment in securities issued by state and local housing agencies. These investments were classified either as “Held-to-maturity” or as “Available-for-sale” securities in accordance with accounting standard on investments in debt and equity securities as amended by the guidance on recognition and presentation of other-than-temporary impairments. Several grantor trusts have been established and owned by the FHLBNY to fund current and potential future payments to retirees for supplemental pension plan obligations. The trust funds are invested in fixed-income and equity funds, which were classified as available-for-sale.
Mortgage-Backed Securities - By Issuer
Issuer composition of held-to-maturity mortgage-backed securities was as follows (carrying values; dollars in thousands):
Table 4.2: Mortgage-Backed Securities - By Issuer
Held-to-maturity mortgage- and asset-backed securities (“MBS”) - The Bank’s conservative purchasing practices over the years are evidenced by the high concentration of MBS issued by the GSEs. Privately issued mortgage-backed securities made up the remaining 11.7% and 10.9% at December 31, 2010 and 2009.
Local and housing finance agency bonds - The FHLBNY had investments in primary public and private placements of taxable obligations of state and local housing finance authorities (“HFA”) classified as held-to-maturity. Investments in state and local housing finance bonds help to fund mortgages that finance low- and moderate-income housing. The FHLBNY purchased $74.6 million HFA bonds in 2010.
Available-for-sale securities - The FHLBNY classifies investments that it may sell before maturity as available-for-sale (“AFS”) and carries them at fair value. Fair value changes are recorded in AOCI until the security is sold or is anticipated to be sold. Composition of FHLBNY’s available-for-sale securities was as follows (dollars in thousands):
Table 4.3: Available-for-Sale Securities Composition
One hundred percent of the mortgage-backed securities in the AFS portfolio was comprised of securities issued by Fannie Mae, Freddie Mac, and a U.S. agency. The Bank acquired $2.9 billion of GSE issued, triple-A rated MBS in 2010. The Bank also has grantor trusts designed to fund current and potential future payments to retirees for supplemental pension plan obligations. The trusts are invested in money market funds, fixed-income and equity funds, and are designated as available-for-sale.
For more information and analysis with respect to investment securities, see Investment Quality in the section captioned Asset Quality and Concentration- Advances, Investment securities, and Mortgage loans in this MD&A. Also see Notes 5 and 6 to the audited financial statements accompanying this report.
External rating information of the held-to-maturity portfolio was as follows. (Carrying values; in thousands):
Table 4.4: External Rating of the Held-to-Maturity Portfolio
External rating information of the available-for-sale portfolio was as follows (the carrying values of AFS investments are at fair values; in thousands):
Table 4.5: External Rating of the Available-for-Sale Portfolio
Weighted average rates - Mortgage-backed securities (HTM and AFS)
The following table summarizes weighted average rates and amounts by contractual maturities. A significant portion of the MBS portfolio consisted of floating-rate securities and the weighted average rates will change in parallel with changes in the LIBOR rate (dollars in thousands):
Table 4.6: Mortgage-Backed Securities Weighted Average Rates by Contractual Maturities
Credit Impairment analysis (Other-than-temporary Impairment - OTTI)
Management evaluates its investments for OTTI on a quarterly basis, under amended OTTI guidance issued in the prior year first quarter by the Financial Accounting Standards Board (“FASB”). This amended OTTI guidance, which the FHLBNY early adopted in the 2009 first quarter, results in only the credit portion of OTTI securities being recognized in earnings. The non-credit portion of OTTI, which represent fair value losses of OTTI securities, is recognized in AOCI. Prior to the adoption of the amended guidance, if an impairment was determined to be other-than-temporary, the impairment loss recognized in earnings was equal to the entire difference between the security’s amortized cost basis and its fair value. The FHLBNY had not determined any security as impaired prior to 2009. Beginning with the quarter ended September 30, 2009, at each subsequent quarter, the FHLBNY performed its OTTI analysis by cash flow testing 100 percent of it private-label MBS. Prior to September 30, 2009, the FHLBNY’s methodology was to analyze all of its private-label MBS to isolate securities that were considered to be at risk of OTTI and to perform cash flow analysis on those securities.
In 2010, the OTTI charge to income was $8.3 million compared to $20.8 million in 2009. The OTTI charges were primarily as a result of additional credit losses recognized on previously impaired private-label mortgage-backed securities because of further deterioration in the performance parameters of the securities. The non-credit portion of OTTI recorded in AOCI was not significant primarily because the market values of the securities were generally in excess of their recorded carrying values and no additional significant non-credit losses were identified. In 2009, the non-credit portion of OTTI recorded in AOCI was $120.1 million.
The FHLBNY makes quarterly cash flow assessments of the expected credit performance of its entire portfolio of private-label MBS. Almost all OTTI securities are insured by bond insurers, Ambac and MBIA, but the Bank’s analysis of the two bond insurers concluded that future credit losses due to projected collateral shortfalls of the insured securities would not be fully supported by the bond insurers. For more information about impairment methodology and bond insurer analysis, see Note 1 - Significant Accounting Policies and Estimates and Note 5 - Held-to-Maturity Securities.
Based on detailed cash flow credit analysis on a security level at December 31, 2010, the Bank has concluded the gross unrealized losses for the remainder of the Bank’s investment securities (other than the four securities credit impaired) were primarily caused by interest rate changes, credit spread widening and reduced liquidity, and the securities were temporarily impaired as defined under the new guidance for recognition and presentation of other-than-temporary impairment.
Adverse Case Scenario
The FHLBNY evaluated its credit impaired private-label MBS under a base case (or best estimate) scenario, and also performed a cash flow analysis for each of those securities under more adverse external assumptions that forecasted a larger home price decline and a slower rate of housing price recovery. The stress test scenario and associated results do not represent the Bank’s current expectations and therefore should not be construed as a prediction of the Bank’s future results, market conditions or the actual performance of these securities.
The results of the adverse case scenario are presented below alongside the FHLBNY’s expected outcome for the credit impaired securities (the base case) (in thousands):
Table 4.7: Base and Adverse Case Stress Scenarios
In the adverse case scenario, expected losses are not significantly greater than those assessed and recorded at December 31, 2010 under the base case expected loss scenario.
Fair values of investment securities
The Bank requests prices for all mortgage-backed securities from four specified third-party vendors, and, depending on the number of prices received for each security, selected a median or average price as defined by the methodology. If four prices are received by the FHLBNY from the pricing vendors, the average of the middle two prices is used; if three prices are received, the middle price is used; if two prices are received, the average of the two prices is used; and if one price is received, it is used subject to additional validation. To compute fair values at December 31, 2010, four vendor prices were received for substantially all of the FHLBNY’s MBS holdings and substantially all of those prices fell within the specified thresholds. The relative proximity of the prices received supported the FHLBNY’s conclusion that the final computed prices were reasonable estimates of fair value.
The four specialized pricing services use pricing models or quoted prices of securities with similar characteristics. The valuation techniques used by pricing services employ cash flow generators and option-adjusted spread models. Pricing spreads used as inputs in the models are based on new issue and secondary market transactions if the securities are traded in sufficient volumes in the secondary market.
These pricing vendors typically employ valuation techniques that incorporate benchmark yields, recent trades, dealer estimates, valuation models, benchmarking of like securities, sector groupings, and/or matrix pricing, as may be deemed appropriate for the security. Such inputs into the pricing models employed by pricing services for most of the Bank’s investments are market based and observable and are considered Level 2 of the fair value hierarchy.
The valuation of the FHLBNY’s private-label mortgage-backed securities, all designated as held-to-maturity, may require pricing services to use significant inputs that are subjective and may be considered to be Level 3 of the fair value hierarchy because of the current lack of significant market activity so that the inputs may not be market based and observable. All private-label mortgage-backed securities were classified as held-to-maturity and were recorded in the balance sheet at their carrying values. Carrying value of a security is the same as its amortized cost, unless the security is determined to be OTTI. In the period the security is determined to be OTTI, its carrying value is generally adjusted down to its fair value.
Prior to the adoption of the new pricing methodology in the prior year third quarter, the Bank used a similar process that utilized three third-party vendors and similar variance thresholds. This change in pricing methodology did not have a significant impact on the Bank’s estimated fair values of its mortgage-backed securities.
For a comparison of carrying values and fair values of mortgage-backed securities, see Notes 5 and 6 to the audited financial statements accompanying this report.
In the Statement of Conditions in this Form 10K, the carrying values of certain HTM securities determined to be OTTI were written down to $15.8 million, their fair values, which were classified as Level 3 financial instruments within the fair value hierarchy. This determination was made based on management’s view that the private-label instruments may not have an active market because of the specific vintage of the impaired securities as well as inherent conditions surrounding the trading of private-label mortgage-backed securities.
For more information about the corroboration and other analytical procedures performed by the FHLBNY, see Note 1 - Significant Accounting Policies and Estimates, and Note 19 - Fair Values of Financial Instruments to the audited financial statements accompanying this report. Examples of securities priced under such a valuation technique, which are classified within Level 2 of the valuation hierarchy and valued using the “market approach” as defined in the accounting standards for fair value measurements and disclosures, include GSE issued collateralized mortgage obligations and money market funds.
Short-term investments
The FHLBNY typically maintains substantial investments in high quality, short- and intermediate-term financial instruments-such as certificates of deposit, as well as overnight and term Federal funds sold to highly rated financial institutions. These investments provide the liquidity necessary to meet members’ credit needs. Short-term investments also provide a flexible means of implementing the asset/liability management decisions to increase liquidity. The Bank invests in certificates of deposit with maturities not exceeding 270 days and issued by major financial institutions. Certificates of deposit are recorded at amortized cost basis and designated as held-to-maturity investment. No certificates of deposit were outstanding at December 31, 2010 or 2009.
Federal funds sold - Historically, the FHLBNY has been a provider of Federal funds to its members, allowing the FHLBNY to warehouse and provide balance sheet liquidity to meet unexpected member borrowing demands. For more information, see Tables 4.1 - 4.7.
Cash collateral pledged - Cash deposited by the FHLBNY as pledged collateral to derivative counterparties is reported as a deduction to Derivative liabilities in the Statements of Condition. The FHLBNY generally executes derivatives with major financial institutions and typically enters into bilateral collateral agreements. When the FHLBNY’s derivatives are in a net unrealized loss position, as a liability from the FHLBNY’s perspective, counterparties are exposed and the FHLBNY would be called upon to pledge cash collateral to mitigate the counterparties’ credit exposure. Collateral agreements include certain thresholds and pledge requirements that are generally triggered if exposures exceed the agreed upon thresholds. At December 31, 2010 and 2009, the Bank had deposited $2.7 billion and $2.2 billion in interest-earning cash as pledged collateral to derivative counterparties. Typically, such cash deposit pledges earn interest at the overnight Federal funds rate. For more information, see Tables 8.1 - 8.6.
Mortgage Loans Held-for-Portfolio
At December 31, 2010 and 2009, the portfolio of mortgage loans was comprised of investments in Mortgage Partnership Finance loans (“MPF” or “MPF Program”) and Community Mortgage Asset loans (“CMA”). More details about the MPF program can be found in Mortgage Partnership Finance Program under the caption Acquired Member Assets Program in this MD&A. In the CMA program, the FHLBNY holds participation interests in residential and community development mortgage loans. Acquisition of participations under the CMA program was suspended indefinitely in November 2001 and the loans were performing under their contractual terms. The remaining investment in this program was not significant.
MPF Program - Paydowns slightly outpaced acquisitions in 2010. The FHLBNY does not expect the MPF loans to increase substantially, and the Bank provides this product to its members as another alternative for them to sell their mortgage production.
For more information see Note 8 to the audited financial statements accompanying this report. Also see, section titled “Asset Quality and Concentration” in this MD&A.
Mortgage loans by loan type
The following table presents information on mortgage loans held-for-portfolio (dollars in thousands):
Table 5.1: Mortgage Loans by Loan Type
Represents fair value basis of open and closed delivery commitments.
Mortgage loans - Conventional and insured loans.
The following classifies mortgage loans between conventional loans and loans insured by FHA/VA (in thousands):
Table 5.2: Mortgage Loans - Conventional and Insured Loans
Mortgage Loans - Credit Losses
Roll-forward of the allowance for credit losses was as follows (in thousands):
Table 5.3: Mortgage Loans - Allowance for Credit Losses
For more information about impairment methodologies and impairment analysis, see Note 1 Significant Accounting Policies and Estimates and Note 8 Mortgage Loans Held-for-Portfolio in the audited financial statements accompanying this MD&A.
Deposit Liabilities
Deposit liabilities comprised of member deposits and, from time to time, may also include unsecured overnight borrowings from other FHLBanks.
Member deposits - The FHLBNY operates deposit programs for the benefit of its members. Deposits are primarily short-term in nature, with the majority maintained in demand accounts that reprice daily based upon rates prevailing in the overnight Federal funds market. Members’ liquidity preferences are the primary determinant of the level of deposits. Deposits at December 31, 2010 stood at $2.4 billion, slightly below the balances at December 31, 2009. The Bank may accept deposits from governmental and semi-governmental institutions in addition to member deposit. Fluctuations in member deposits have little impact on the Bank and are not a significant source of liquidity for the Bank.
Borrowings from other FHLBanks - The Bank borrows from other FHLBanks, generally for a period of one day and at market terms. There were no significant borrowings in 2010, and no amounts were outstanding at December 31, 2010 and 2009.
Debt Financing Activity and Consolidated Obligations
Consolidated obligations, which consist of consolidated bonds and consolidated discount notes, are the joint and several obligations of the FHLBanks and are the principal funding source for the FHLBNY’s operations. Discount notes are consolidated obligations with maturities of up to 365 days, and consolidated bonds have maturities of one year or longer. Member deposits, capital, and to a lesser extent borrowings from other FHLBanks, are also funding sources.
Consolidated Obligation Liabilities
The issuance and servicing of consolidated obligations debt are performed by the Office of Finance, a joint office of the FHLBanks established by the Finance Agency. Each FHLBank independently determines its participation in each issuance of consolidated obligations based on, among other factors, its own funding and operating requirements, maturities, interest rates, and other terms available for consolidated obligations in the market place. Although the FHLBNY is primarily liable for its portion of consolidated obligations (i.e. those issued on its behalf), the FHLBNY is also jointly and severally liable with the other FHLBanks for the payment of principal and interest on the consolidated obligations of all the FHLBanks. The FHLBanks, including the FHLBNY, have emphasized diversification of funding sources and channels as the need for funding from the capital markets has grown.
The two major debt programs offered by the Office of Finance are the Global Debt Program and the TAP issue programs as described below. The FHLBNY participates in both programs.
The Global Debt Program provides the FHLBanks with the ability to distribute debt into multiple primary markets across the globe. The FHLBank global debt issuance facility has been in place since July 1994. FHLBank global bonds are known for their variety and flexibility; all can be customized to meet changing market demand with different structures, terms and currencies. Global Debt Program bonds are available in maturities ranging from one year to 30 years with the majority of global issues between one and five years. The most common Global Debt Program structures are bullets, floaters and fixed-rate callable bonds with maturities of one through ten years. Issue sizes are typically from $500 million to $5 billion and individual bonds can be reopened to meet additional demand. Bullets are the most common global bonds, particularly in sizes of $3 billion or larger.
In mid-1999, the Office of Finance implemented the TAP issue program on behalf of the FHLBanks. This program consolidates domestic bullet bond issuance through daily auctions of common maturities by reopening previously issued bonds. Effectively, the program has reduced the number of separate FHLBanks bullet issues and individual issues have grown as large as $1.0 billion. The increased issue sizes have a number of market benefits for investors, dealers and the 12 FHLBanks. TAP issues have improved market awareness, expanded secondary market trading opportunities, improved liquidity and stimulated greater demand from investors and dealers seeking high-quality Government Sponsored Enterprises securities with U.S. Treasury-like characteristics. The TAP issues follow the same 3-month quarterly cycles used for the issuance of “on-the-run” Treasury securities and also have semi-annual coupon payment dates (March, June, September and December). The coupons for new issues are determined by the timing of the first auction during a given quarter.
The FHLBanks also issue global consolidated obligation bonds. Effective in January 2009, a debt issuance process was implemented by the FHLBanks and the Office of Finance to provide a scheduled monthly issuance of global bullet consolidated obligation bonds. As part of this process, management from each of the FHLBanks will determine and communicate a firm commitment to the Office of Finance for an amount of scheduled global debt to be issued on its behalf. If the FHLBanks’ orders do not meet the minimum debt issue size, the proceeds are allocated to all FHLBanks based on the larger of the FHLBank’s commitment or allocated proceeds based on the individual FHLBank’s capital to total system capital. If the FHLBanks’ commitments exceed the minimum debt issue size, the proceeds are allocated based on relative capital of the FHLBanks’ with the allocation limited to the lesser of the allocation amount or actual commitment amount. The Finance Agency and the U.S. Secretary of the Treasury have oversight over the issuance of FHLBank debt through the Office of Finance. The FHLBanks can, however, pass on any scheduled calendar slot and not issue any global bullet consolidated obligation bonds upon agreement of eight of the 12 FHLBanks.
The FHLBanks, including the FHLBNY, continue to issue debt that is both competitive and attractive in the marketplace. In addition, the FHLBanks continuously monitor and evaluate their debt issuance practices to ensure that consolidated obligations are efficiently and competitively priced.
Consolidated obligations are issued with either fixed- or variable-rate coupon payment terms that use a variety of indices for interest rate resets. These indices include the London Interbank Offered Rate (“LIBOR”), Constant Maturity Treasury (“CMT”), 11th District Cost of Funds Index (“COFI”), Prime rate, the Federal funds rate, and others. In addition, to meet the expected specific needs of certain investors in consolidated obligations, both fixed- and variable-rate bonds may also contain certain features that will result in complex coupon payment terms and call options. When the FHLBNY cannot use such complex coupons to hedge its assets, FHLBNY enters into derivative transactions containing offsetting features that effectively convert the terms of the bond to those of a simple variable-rate bond.
The consolidated obligations, beyond having fixed- or variable-rate coupon payment terms, may also be Optional Principal Redemption Bonds (callable bonds) that the FHLBNY may redeem in whole or in part at its discretion on predetermined call dates according to the terms of the bond offerings.
Highlights - Debt issuance and funding management
The FHLBNY’s consolidated obligations outstanding has contracted at December 31, 2010 from December 31, 2009, in part due to the contraction of the Bank’s advance business, and in part due to reduction in overall funding requirements, as the Bank has also been cautious about increasing its investment portfolios. However, the primary source of funds for the FHLBNY continued to be through issuance of consolidated bonds and discount notes. Reported amounts of consolidated obligations outstanding, comprising of bonds and discount notes, at December 31, 2010 and December 31, 2009, were $91.1 billion and $104.8 billion, and funded 90.9% and 91.6% of Total assets at those dates. These financing ratios have remained substantially unchanged over the years at around 90 percent, indicative of the stable funding strategy pursued by the FHLBNY. Fixed-rate non-callable debt remains the largest component of consolidated obligation debt. In early 2010, in response to market conditions for FHLBank debt, the FHLBNY shifted its funding strategy, reducing its issuance of discount notes while increasing the utilization of callable debt. In the second quarter, as market pricing of discount notes became relatively more attractive, the FHLBNY increased issuance of discount notes to replace callable bonds that had been called or had naturally matured. In the third quarter, as discount note pricing and spreads became less attractive, issuances of discount notes declined. In the 2010 fourth quarter, spreads improved, yields stabilized and discount note issuances became an attractive alternative to the issuance of short-term, callable bonds.
Market trends for FHLBank bonds and discount notes and tactical changes in funding mix
While key investors from Asia had reduced acquisitions of FHLBank debt and limited their participation in debt issuances in 2009, in 2010, there are now encouraging signs of the return of central banks from Asia to FHLBank debt issuances and increased participation in the debt offerings. In 2010, central banks in the Americas have also been strong buyers of “Global” FHLBank bonds. The most active issues were the 3-year and 2-year new issue Global bullets. The cost of long-term debt issuance has continued to be under pressure in 2010.
FHLBank consolidated obligation bonds
The general market conditions in the bond markets has been uneven in 2010 and has also impacted FHLBank issued consolidated obligation bonds. The 3-month LIBOR has also been uneven in 2010 and that too has impacted the FHLBanks’ issuance strategies since much of the bonds are swapped to LIBOR indexed floating interest rate, and the low LIBOR rate tends to narrow spreads to LIBOR and to compress the FHLBanks’ margins.
2010 first quarter - Several government support programs, including the Federal Reserve’s Agency debt program, expired during the 2010 first quarter. With the absence of Fed purchasing GSE debt, spreads deteriorated, with March 2010 witnessing the lowest weighted-average monthly bond pricing spreads since February 2009. At the same time, compression of swapped funding levels of FHLBank consolidated bonds to LIBOR had effectively driven up the cost of funding for the FHLBank debt, as much of FHLBank fixed-rate debt is swapped back to LIBOR.
2010 second quarter - Several factors helped improve the pricing of the FHLBank debt. First, the 3-month LIBOR index had risen to 53 basis points, from around 25 basis points at March 31, 2010. That brought some relief to the FHLBank debt spreads (to LIBOR). Second, a decline in the availability of competing GSE issued debt in the 2010 second quarter also helped to improve funding costs of FHLBank debt. Lastly, the credit concerns in Europe heightened credit risk about sovereign debt and inter-bank lending, resulting in a flight to quality to FHLBank short-term debt. By the close of the 2010 second quarter, debt costs had improved for almost all short-term FHLBank debt. Cost of bullet bonds (non-callable, non-amortizing) was more favorable for all maturities with the exception of longer-term maturities. Investor demand had been particularly strong for bullets with maturities of less than 15 months. Cost of callable bonds improved on a swapped out basis to 3-month LIBOR in parallel with the 3-month LIBOR rising to 53 basis points. Cost of callable step-up bonds also improved and investor interest warmed as the structure can be used as an effective hedge by investors in a rising rate environment. Some investors also saw opportunities in investing in step-up bonds on the assumption that the step-up callable bond would be called on the first call date and the investor would benefit from the higher yield on the step-up bond relative to alternative short-term investment. Investor demand for floating-rate FHLBank bonds was weak and volume was down.
2010 third quarter - Shrinking FHLBanks’ balance sheets and the resulting lower volume of debt issuances adversely compressed spreads. Evidence of a slowing economy had caused yields to fall for potential investors, who were, for the most part, cash rich. At the same time, callable bond redemptions were on the rise in a low interest rate environment, and that too added to investor’s liquidity. All of these factors drove investors to seek out ways to reinvest, driving intermediate-term callable bond spreads even tighter. As a result of these factors, investor demand had shifted towards the shorter lockout (3-months or shorter) short-maturity callable bonds, also on the assumption that the callable bonds would be called on the first call date and investors would benefit from higher yield on the callable bond. Bullet bond issuances have declined for the same reason - investor perception of relatively low yields.
2010 fourth quarter - In the very low interest rate environment where short-term rates have hit new lows, investors showed renewed interest in short-term callable bonds. With a callable bond, investors can enhance yield by selling options and buying the FHLBank bonds, including step-up callable bonds. The demand was for the shorter lockout callable bonds with Bermudan (quarterly) style calls versus European (one-time) option. With a short-lockout, investor expectation is that the bond will be called at the first exercise date, and investor would benefit from a “yield pickup” over an equivalent tenor short-term investment. In the 2010 fourth quarter, the FHLBNY increased its issuances of short-term, short lock-out callable bonds.
The outlook for the issuances of longer-term debt is still uncertain. It remains uneconomical for the FHLBanks to issue longer-term debt. Yields demanded by investors for longer-term FHLBank debt and spreads between 3-month LIBOR and FHLBank long-term debt yield have remained at levels that make it expensive for the FHLBNY to issue term debt and offer longer-term advances to members, even if there was sufficient investor demand for such debt.
FHLBank consolidated obligation discount notes
The FHLBNY’s issuances of FHLBank discount notes have also been uneven because of changing market conditions.
2010 first quarter - In 2009, the U.S. money market funds had become key drivers of the increased demand for FHLBank discount notes. That changed in the 2010 first quarter as money market funds experienced a steady outflow of funds, limiting additional demand for discount notes longer than 2-months. With credit markets returning to normalcy in early 2010, money market fund balances declined, demand for discount notes declined, resulting in lower volumes of issuances of discount notes in the 2010 first quarter.
2010 second quarter - Relief was in sight for the FHLBank discount notes with the amendments to SEC’s Rule 2a-7, effective May 28, 2010, that tightened the credit restrictions on money market funds, who are required to purchase a greater percentage of “first tier” securities. This benefited FHLBank issued discount notes due to the triple A rating ascribed to the debt. The FHLBank discount notes also benefited as money market funds actively purchased discount notes out to 60 days, since these maturities are categorized as weekly liquid assets under the revised Rule 2a-7. The combination of the liquidity and maturity requirements, coupled with limits on second tier securities, had a favorable impact on pricing levels in the short end of the FHLBank discount note curve. Pricing along the longer end of the discount note curve had also improved. Investors sought out the high credit quality of FHLBank discount notes because of heightened inter-bank counterparty credit risk in light of European sovereign concerns. The cost of discount notes in June 2010 was lower for the length of the discount note curve, relative to equivalent term LIBOR, a key benchmark for the FHLBanks.
2010 third quarter - The 3-month LIBOR declined to levels in the first quarter. Since the FHLBank discount note is offered at yields below the equivalent LIBOR, declining rates tend to compress the spread to LIBOR and typically results in adverse pricing for the FHLBank debt. Further declines in short-term yields would have created further erosion of discount note spreads to LIBOR, but that yield volatility was stabilized by the FRB’s action to ensure support for Treasury bills by weekly auction of bills, just sufficient to meet maturing bills. That action stabilized Treasury bill supply, stabilized Repo yields, and prevented further discount note spread erosion.
2010 fourth quarter - In the 2010 fourth quarter, as discount note yields stabilized and spreads to LIBOR improved, the FHLBNY increased its issuances of discount notes.
Debt extinguishment - The following table summarizes debt transferred to or from another FHLBank and debt retired by the FHLBNY (in thousands):
Table 6.1: Transferred and Retired Debt
In 2010 and 2009 debt transfer and retirement resulted in a charge to Net income of $2.1 million and $69.5 thousand. Debt extinguished was from an unrelated financial institution. There was no debt transfer or retirement in 2008.
Consolidated obligation bonds
The following summarizes types of bonds issued and outstanding (dollars in thousands):
Table 6.2: Consolidated Obligation Bonds by Type
FHLBNY - Tactical changes in the funding mix
In 2010, the FHLBNY issued fixed-rate and floating-rate bonds, and discount notes in a mix of issuances to achieve its asset/liability management goals and to be responsive to the changing market dynamics. The issuance of bonds has been the primary financing vehicle for the Bank, although the use of term and overnight discount notes remains vital sources of funding because of the ease of issuance of discount notes as a flexible funding tool for day-to-day operations.
The 3-month LIBOR index is a vital indicator as the FHLBNY attempts to execute interest rate swaps to synthetically convert fixed-rate cash flows to sub-LIBOR cash flows, earning the FHLBNY a spread. In addition, the use of interest rate swaps effectively changes the repricing characteristics of a significant portion of the FHLBNY’s fixed-rate advances and consolidated obligation debt to match shorter-term LIBOR rates that reprice at intervals of three-months or less. When the Bank executes an interest rate swap to change the fixed payments on its debt to a LIBOR rate, it results in the recognition of the spread (between the fixed payments and the LIBOR cash receipts) as the FHLBNY’s effective funding cost. Consequently, the current level of spread between the 3-month LIBOR rate and the swap rate for a fixed-rate FHLBank debt has an impact on the FHLBNY’s profitability. Also, the change in the absolute level of the index tends to impact the sub-LIBOR spread, which in turn impacts interest margin and profitability.
In mid 2010, the Fed’s action to support Treasury bills by issuing enough Treasury bills each week to replace maturing bills, stabilized yield volatility. Without this action, yields may have collapsed to near-zero for bills and would have also made the FHLBank discount notes unattractive to investors. The Fed’s intervention reduced yield volatility for bills and FHLB discount notes. In the 2010 fourth quarter, the U.S. Treasury and the Federal Reserve purchases of bonds also brought some relief for investors seeking improved yields, and higher Treasury yields drove swap spreads wider, resulting in some improvements in the cost of FHLBank short-term bullet bonds and discount notes. As discount note yields stabilized in the 2010 fourth quarter, spreads to LIBOR improved, and the FHLBNY increased its issuances of discount notes. In the low interest rate environment where short-term rates had hit new lows, investors showed renewed interest in short-term callable bonds, because with a callable bond, investors can enhance yield by selling options and buying the FHLBank bonds, including step-up callable bonds. The demand was for the shorter lockout callable bonds with Bermudan (quarterly) style calls versus European (one-time) option. With a short-lockout option, investor expectation is that the bond will be called at the first exercise date, and the investor will benefit from a “yield pickup” over an equivalent tenor short-term investment, and due to increased investor demand, the FHLBNY also increased its issuances of short-term, short lock-out callable bonds in the 2010 fourth quarter.
In the 2010 third quarter, the 3-month LIBOR index declined to 29 basis points (at September 30, 2010), down from 53 basis points at June 30, 2010, causing adverse spread compression. In response to changing interest rate market conditions, the FHLBNY made tactical changes to its funding mix by reducing issuances of discount notes. As spreads compress, the bond becomes relatively expensive on a swapped-out basis for the FHLBNY. In response, the FHLBNY reduced issuance of discount notes, instead relying on floating-rate notes and bullet bonds to replace maturing discount notes.
In mid-2010 second quarter, the increase in the 3-month LIBOR had benefited the pricing of short- and intermediate-term FHLBank bonds as well as discount notes. The SEC’s money market rule also had a positive impact. In the 2010 second quarter, discount notes made a comeback with increased investor demand for the 60-day maturity notes as a result of the amendment to SEC’s Rule 2a-7 that impacted the money market industry, and resulted in improved pricing for FHLBank discount notes. Cost of funding on the long-end of the discount note curve also improved as investors shifted from bank certificates of deposit and other forms of debt to higher quality FHLBank debt because of sovereign and increased counterparty risk concerns in Europe. In response, the FHLBNY increased issuance of discount notes in June 2010, replacing significant amounts of called and maturing bonds with new issuances of discount notes.
In the 2010 first quarter, the very low LIBOR level provided very little opportunity for FHLBank bonds and discount notes to yield their historic sub-LIBOR spreads. As investor demand in the 2010 first quarter shifted away from discount notes to callable debt, the FHLBNY was opportunistic in pursuing the debt structure most in demand at a reasonable price consistent with the Bank’s asset/liability match. The Bank shifted its funding mix between bonds and discount notes, reducing its issuance of discount notes. The money-market sector, which had become a significant investor segment for FHLBank discount notes during much of the credit crisis, was seeking short-term investments that offered a higher rate of return. As a result, discount note pricing was adversely impacted, spreads to LIBOR narrowed, and as a funding tool, discount notes were no longer as attractive as they had been in the prior year. Spread deterioration affected not just FHLBank discounts notes but short-callable bonds as well, although not as significantly. Since December 31, 2009, the weighted-average bond funding costs deteriorated relative 3-month LIBOR and resulted in increased funding costs on debt swapped to 3-month LIBOR. While short-term callable bond spreads to LIBOR also worsened, the spread compression had been relatively small compared to other FHLBank debt structures. Callable bonds became an attractive funding alternative in the 2010 first quarter. Investor demand for short and medium-term callable bonds with call lockouts of 1-year or less was encouraging and the FHLBNY increased issuance of callable bonds. These structures tended to fill in as a substitute for discount notes. Swapped short-lockout callable bonds offered effective durations that could be as short as a term discount note. In the falling interest rate environment, the swap counterparty is likely to exercise its rights to terminate the swap at the first exercise opportunity, and the FHLBNY would also exercise its right and terminate the debt.
The principal tactical funding strategy changes employed in executing issuances of FHLBank bonds are outlined below:
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Non-callable bonds - Non-callable bond remains the primary funding vehicle for the FHLBNY. Issuances of non-callable debt are predicated partly on pricing of such debt and investor demand, and partly on the need to achieve asset/liability management goals. The Bank has made a strong effort to issue fixed-rate longer-term debt and lock-in the relative low rates in the current interest-rate environment. This has been a challenge as investor appetite for term debt has continued to be lukewarm, given investor preference for discount notes, short-term bullets and short lock-out callable debt.
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Callable-bonds - In 2010, investors were receptive to the FHLBank short lockout callable bonds with short maturities as an alternative to comparable debt available in the capital markets, and execution pricing fared relatively better even under deteriorating pricing conditions for other types of bond structures. Fixed-rate callable bonds with maturities up to 15 months and a short lockout call option have been the more popular FHLBank bond structure. Responding to investor preference, the FHLBNY issued short lockout callable bonds, with call dates as short as 3 months from issue date. Such debt structures offer an alternative at an attractive pricing to similar maturity discount notes. FHLBank longer-term fixed-rate callable-bonds have not been an attractive investment asset for investors over the last several years, and have continued to be under price pressure.
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With a callable bond, the Bank purchases a call option from the investor and the option allows the Bank to terminate the bond at predetermined call dates at par. When the Bank purchases the call option from investors, it typically lowers the cost to the investor, who has traditionally been receptive to callable-bond yields offered by the FHLBNY.
Impact of hedging fixed-rates consolidated obligation bonds
The Bank hedges certain fixed-rate debt by the use of both cancellable and non-cancellable interest rate swaps in fair value hedges under the accounting standards for derivatives and hedging. The Bank may also hedge the anticipatory issuance of bonds under the provisions of “cash flow” hedging rules as provided in the accounting standards for derivatives and hedging.
Net interest accruals from qualifying interest rate swaps under the derivatives and hedge accounting rules are recorded together with interest expense of consolidated obligation bonds in the Statements of Income. Fair value changes of debt in a qualifying fair value hedge are recorded in Other income (loss) as a Net realized and unrealized gain (loss) on derivative and hedging activities. An offset is recorded as a fair value basis adjustment to the carrying amount of the debt in the balance sheet. Net interest accruals associated with derivatives not qualifying under derivatives and hedge accounting rules are recorded in Other income (loss) as a Net realized and unrealized gain (loss) on derivatives and hedging activities.
Derivatives are employed to hedge consolidated bonds in the following manner to achieve the indicated principal objectives:
The FHLBNY:
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Makes extensive use of the derivatives to restructure interest rates on consolidated obligation bonds, both callable and non-callable, to better meet its members’ funding needs, to reduce funding costs, and to manage risk in a changing market environment.
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Converts, at the time of issuance, certain simple fixed-rate bullet and callable bonds into synthetic floating-rate bonds by the simultaneous execution of interest rate swaps that convert the cash flows of the fixed-rate bonds to conventional adjustable rate instruments tied to an index, typically 3-month LIBOR.
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Uses derivatives to manage the risk arising from changing market prices and volatility of a fixed coupon bond by matching the cash flows of the bond to the cash flows of the derivative and making the FHLBNY indifferent to changes in market conditions. Except when issued to fund MBS and MPF loans, callable bonds are typically hedged by an offsetting derivative with a mirror-image call option and identical terms.
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Adjusts the reported carrying value of hedged consolidated bonds for changes in their fair value (“fair value basis adjustments” or “fair value”) that are attributable to the risk being hedged in accordance with hedge accounting rules. Amounts reported for consolidated obligation bonds in the Statements of Condition include fair value basis adjustments.
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Lowers its funding cost by the issuance of a callable bond and the execution of an associated interest rate swap with mirrored call options, which results in funding at a lower cost than the FHLBNY would otherwise have achieved. The issuance of callable bonds and the simultaneous swapping with a derivative instrument depends on the price relationships in both the bond and the derivatives markets.
The most significant element that impacts balance sheet reporting of debt is the recording of fair value basis and valuation adjustments. In addition, when callable bonds are hedged by cancellable swaps, the possibility of exercise of the call shortens the expected maturity of the bond. The impact of hedging debt on recorded interest expense is discussed in this MD&A under “Results of Operations”. Its impact as a risk management tool is discussed under ITEM 7A.
ITEM 7A.
QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
Market Risk Management. Market risk or interest rate risk (“IRR”) is the risk of loss to market value or future earnings that may result from changes in the interest rate environment. Embedded in IRR is a tradeoff of risk versus reward wherein the FHLBNY could earn higher income by having higher IRR through greater mismatches between its assets and liabilities at the cost of potentially significant declines in market value and future income if the interest rate environment turned against the FHLBNY’s expectations. The FHLBNY has opted to retain a modest level of IRR which allows it to preserve its capital value while generating steady and predictable income. In keeping with that philosophy, the FHLBNY’s balance sheet consists of predominantly short-term and LIBOR-based assets and liabilities. More than 85 percent of the FHLBNY’s financial assets are either short-term or LIBOR-based, and a similar percentage of its liabilities are also either short-term or LIBOR based. These positions protect the FHLBNY’s capital from large changes in value arising from interest rate or volatility changes.
The primary tool used by management to achieve the desired risk profile is the use of interest rate exchange agreements (“Swaps”). All the LIBOR-based advances are long-term advances that are swapped to 3- or 1-month LIBOR or possess adjustable rates which periodically reset to a LIBOR index. Similarly, a majority of the long-term consolidated obligations are swapped to 3- or 1-month LIBOR. These features create a relatively steady income that changes in concert with prevailing interest rate changes to maintain a spread to short-term rates.
Despite its conservative philosophy, IRR does arise from a number of aspects of the FHLBNY’s portfolio. These include the embedded prepayment rights, refunding needs, rate resets between the FHLBNY’s short-term assets and liabilities, and basis risks arising from differences between the yield curves associated with the FHLBNY’s assets and its liabilities. To address these risks, the FHLBNY uses certain key IRR measures including re-pricing gaps, duration of equity (“DOE”), value at risk (“VaR”), net interest income (“NII”) at risk, key rate durations (“KRD”), and forecasted dividend rates.
Risk Measurements. The FHLBNY’s Risk Management Policy sets up a series of risk limits that the FHLBNY calculates on a regular basis. The risk limits are as follows:
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The one-year cumulative re-pricing gap is limited to 10 percent of total assets.
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The sensitivity of expected net interest income over a one-year period is limited to a -15 percent change under both the +/-200bps shocks compared to the rates unchanged case.
The FHLBNY’s portfolio, including its derivatives, is tracked and the overall mismatch between assets and liabilities is summarized by using a DOE measure. The FHLBNY’s last five quarterly DOE results are shown in years in the table below (note that, due to the on-going low interest rate environment, there was no down-shock measurement performed between the fourth quarter of 2009 and the fourth quarter of 2010):
The DOE has remained within its limits. Duration indicates any cumulative re-pricing/maturity imbalance in the FHLBNY’s financial assets and liabilities. A positive DOE indicates that, on average, the liabilities will re-price or mature sooner than the assets while a negative DOE indicates that, on average, the assets will re-price or mature earlier than the liabilities. The FHLBNY measures its DOE using software that incorporates any optionality within the FHLBNY’s portfolio using well-known and tested financial pricing theoretical models.
The FHLBNY does not solely rely on the DOE measure as a mismatch measure between its assets and liabilities. It also performs the more traditional gap measure that subtracts re-pricing/maturing liabilities from re-pricing/maturing assets over time. The FHLBNY observes the differences over various horizons, but has set a 10 percent of assets limit on cumulative re-pricings at the one-year point. This quarterly observation of the one-year cumulative re-pricing gap is provided in the table below and all values are below 10 percent of assets; well within the limit:
The FHLBNY’s review of potential interest rate risk issues also includes the effect of changes in interest rates on expected net income. The FHLBNY projects asset and liability volumes and spreads over a one-year horizon and then simulates expected income and expenses from those volumes and other inputs. The effects of changes in interest rates are measured to test whether the FHLBNY has too much exposure in its net interest income over the coming twelve-month period. To measure the effect, the change to the spread in the shocks is calculated and compared against the base case and subjected to a -15 percent limit. The quarterly sensitivity of the FHLBNY’s expected net interest income under both +/-200bps shocks over the next twelve months is provided in the table below (note that, due to the on-going low interest rate environment, the down-shock measurement was not performed between the fourth quarter of 2009 and the fourth quarter of 2010):
Aside from net interest income, the other significant impact on changes in the interest rate environment is the potential impact on the value of the portfolio. These calculated and quoted market values are estimated based upon their financial attributes including optionality and then re-estimated under the assumption that interest rates suddenly rise or fall by 200bps. The worst effect, whether it is the up or the down shock, is compared to the internal limit of 10 percent. The quarterly potential maximum decline in the market value of equity under these 200bps shocks is provided below (note that, due to the on-going low interest rate environment the down-shock measurement was not performed between the fourth quarter of 2009 and the fourth quarter of 2010):
As noted, the potential declines under these shocks are within the FHLBNY’s limits of a maximum 10 percent.
The following table displays the FHLBNY’s maturity/re-pricing gaps as of December 31, 2010 (in millions):
Re-pricing gaps are estimated at the scheduled rate reset dates for floating rate instruments, and at maturity for fixed rate instruments. For callable instruments, the re-pricing period is estimated by the earlier of the estimated call date under the current interest rate environment or the instrument’s contractual maturity.
The following tables display the FHLBNY’s maturity/re-pricing gaps as of December 31, 2009 (in millions):
Re-pricing gaps are estimated at the scheduled rate reset dates for floating rate instruments, and at maturity for fixed rate instruments. For callable instruments, the re-pricing period is estimated by the earlier of the estimated call date under the current interest rate environment or the instrument’s contractual maturity.
ITEM 8.
ITEM 8.
FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA.
Federal Home Loan Bank of New York
Friday, March 25, 2011
Management’s Assessment of Internal Control over Financial Reporting
The management of the Federal Home Loan Bank of New York (the “Bank”) is responsible for establishing and maintaining adequate internal control over financial reporting. The Bank’s internal control over financial reporting is designed by, or under the supervision of, the Principal Executive Officer and the Principal Financial Officer to provide reasonable assurance regarding the reliability of financial reporting and the preparation of financial statements for external reporting purposes in accordance with accounting principles generally accepted in the United States of America.
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 Bank’s management assessed the effectiveness of the Bank’s internal control over financial reporting as of December 31, 2010. In making this assessment, it used the criteria set forth by the Committee of Sponsoring Organizations of the Treadway Commission (“COSO”) in Internal Control-Integrated Framework. Based on its assessment, management of the Bank determined that as of December 31, 2010, the Bank’s internal control over financial reporting was effective based on those criteria.
PricewaterhouseCoopers LLP, the Bank’s independent registered public accounting firm that audited the accompanying Financial Statements has also issued an audit report on the effectiveness of internal control over financial reporting. Their report, which expresses an unqualified opinion on the effectiveness of the Bank’s internal control over financial reporting as of December 31, 2010, appears on the following page.
Federal Home Loan Bank of New York
Report of Independent Registered Public Accounting Firm
To the Board of Directors and Shareholders of the Federal Home Loan Bank of New York:
In our opinion, the accompanying statements of condition and the related statements of income, of capital and of cash flows present fairly, in all material respects, the financial position of the Federal Home Loan Bank of New York (the “Bank”) at December 31, 2010 and 2009, and the results of its operations and its cash flows for each of the three years in the period ended December 31, 2010, in conformity with accounting principles generally accepted in the United States of America. Also in our opinion, the Bank maintained, in all material respects, effective internal control over financial reporting as of December 31, 2010, based on criteria established in Internal Control - Integrated Framework issued by the Committee of Sponsoring Organizations of the Treadway Commission (COSO). The Bank’s management is responsible for these financial statements, for maintaining effective internal control over financial reporting and for its assessment of the effectiveness of internal control over financial reporting, included in the accompanying Management’s Report on Internal Control over Financial Reporting. Our responsibility is to express opinions on these financial statements and on the Bank’s internal control over financial reporting based on our integrated audits. We conducted our audits in accordance with the standards of the Public Company Accounting Oversight Board (United States). Those standards require that we plan and perform the audits to obtain reasonable assurance about whether the financial statements are free of material misstatement and whether effective internal control over financial reporting was maintained in all material respects. Our audits of the financial statements included examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements, assessing the accounting principles used and significant estimates made by management, and evaluating the overall financial statement presentation. 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.
As discussed in Note 1 to the financial statements, effective January 1, 2009, the Bank adopted guidance that revises the recognition and reporting requirements for other-than-temporary impairments of debt securities classified as held-to-maturity.
A company’s internal control over financial reporting is a process designed to provide reasonable assurance regarding the reliability of financial reporting and the preparation of financial statements for external purposes in accordance with generally accepted accounting principles. A company’s internal control over financial reporting includes those policies and procedures that (i) pertain to the maintenance of records that, in reasonable detail, accurately and fairly reflect the transactions and dispositions of the assets of the company; (ii) provide reasonable assurance that transactions are recorded as necessary to permit preparation of financial statements in accordance with generally accepted accounting principles, and that receipts and expenditures of the company are being made only in accordance with authorizations of management and directors of the company; and (iii) provide reasonable assurance regarding prevention or timely detection of unauthorized acquisition, use, or disposition of the company’s assets that could have a material effect on the financial statements.
Because of its inherent limitations, internal control over financial reporting may not prevent or detect misstatements. Also, projections of any evaluation of effectiveness to future periods are subject to the risk that controls may become inadequate because of changes in conditions, or that the degree of compliance with the policies or procedures may deteriorate.
PricewaterhouseCoopers LLP
New York, NY
March 25, 2011
Federal Home Loan Bank of New York
Statements of Condition (in thousands, except par value)
As of December 31, 2010 and 2009
The accompanying notes are an integral part of these financial statements.
Federal Home Loan Bank of New York
Statements of Income (in thousands, except per share data)
Years Ended December 31, 2010, 2009 and 2008
The accompanying notes are an integral part of these financial statements.
Federal Home Loan Bank of New York
Statements of Capital (in thousands, except per share data)
Years Ended December 31, 2010, 2009 and 2008
The accompanying notes are an integral part of these financial statements.
Federal Home Loan Bank of New York
Statements of Cash Flows - (in thousands)
Years Ended December 31, 2010, 2009 and 2008
The accompanying notes are an integral part of these financial statements.
Federal Home Loan Bank of New York
Statements of Cash Flows - (in thousands)
Years Ended December 31, 2010, 2009 and 2008
The accompanying notes are an integral part of these financial statements.
Background
The Federal Home Loan Bank of New York (“FHLBNY” or “the Bank”) is a federally chartered corporation, exempt from federal, state and local taxes except local real estate taxes. It is one of twelve district Federal Home Loan Banks (“FHLBanks”). The FHLBanks are U.S. government-sponsored enterprises (“GSEs”), organized under the authority of the Federal Home Loan Bank Act of 1932, as amended (“FHLBank Act”). Each FHLBank is a cooperative owned by member institutions located within a defined geographic district. The members purchase capital stock in the FHLBank and receive dividends on their capital stock investment. The FHLBNY’s defined geographic district is New Jersey, New York, Puerto Rico, and the U.S. Virgin Islands. The FHLBNY provides a readily available, low-cost source of funds for its member institutions. The FHLBNY does not have any wholly or partially owned subsidiaries, nor does it have an equity position in any partnerships, corporations, or off-balance-sheet special purpose entities.
The FHLBNY obtains its funds from several sources. A primary source is the issuance of FHLBank debt instruments, called consolidated obligations, to the public. The issuances and servicing of consolidated obligations are performed by the Office of Finance, a joint office of the FHLBanks. These debt instruments represent the joint and several obligations of all the FHLBanks. Additional sources of FHLBNY funding are member deposits and the issuance of capital stock. Deposits may be accepted from member financial institutions and federal instrumentalities.
Members of the cooperative must purchase FHLBNY stock according to regulatory requirements (For more information, see Note 12 - Mandatorily Redeemable Capital Stock and Note 14 - Capital). The business of the cooperative is to provide liquidity for the members (primarily in the form of loans referred to as “advances”) and to provide a return on members’ investment in FHLBNY stock in the form of a dividend. Since the members are both stockholders and customers, the Bank operates such that there is a trade-off between providing value to them via low pricing for advances with a relatively lower dividend versus higher advances pricing with a relatively higher dividend. The FHLBNY is managed to deliver balanced value to members, rather than to maximize profitability or advance volume through low pricing.
All federally insured depository institutions, insured credit unions and insurance companies engaged in residential housing finance can apply for membership in the FHLBank in their district. All members are required to purchase capital stock in the FHLBNY as a condition of membership. A member of another FHLBank or a financial institution that is not a member of any FHLBank may also hold FHLBNY stock because of having acquired an FHLBNY member. Because the Bank operates as a cooperative, the FHLBNY conducts business with related parties in the normal course of business and considers all members and non-member stockholders as related parties in addition to the other FHLBanks. For more information, see Note 21 - Related Party Transactions.
The FHLBNY’s primary business is making collateralized advances to members which is the principal factor that impacts the financial condition of the FHLBNY.
Since July 30, 2008, the FHLBNY has been supervised and regulated by the Federal Housing Finance Agency (“Finance Agency”), which is an independent agency in the executive branch of the U.S. government. With the passage of the “Housing and Economic Recovery Act of 2008” (“Housing Act”), the Finance Agency was established and became the new independent Federal regulator (the “Regulator”) of the FHLBanks, effective July 30, 2008. The Federal Housing Finance Board (“Finance Board”), the FHLBanks’ former regulator, was merged into the Finance Agency as of October 27, 2008. The Finance Board was abolished one year after the date of enactment of the Housing Act. Finance Board regulations, orders, determinations and resolutions remain in effect until modified, terminated, set aside or superseded in accordance with the Housing Act by the FHFA Director, a court of competent jurisdiction or by operation of the law.
The Finance Agency’s mission statement is to provide effective supervision, regulation and housing mission oversight of Fannie Mae, Freddie Mac and the Federal Home Loan Banks to promote their safety and soundness, support housing finance and affordable housing, and to support a stable and liquid mortgage market. However, while the Finance Agency establishes regulations governing the operations of the FHLBanks, the Bank functions as a separate entity with its own management, employees and board of directors.
Tax Status
The FHLBanks, including the FHLBNY, are exempt from ordinary federal, state, and local taxation except for local real estate taxes.
Assessments
Resolution Funding Corporation (“REFCORP”) Assessments. Although the FHLBNY is exempt from ordinary federal, state, and local taxation except for local real estate taxes, it is required to make payments to REFCORP.
Congress established REFCORP in 1989 to help facilitate the U.S. government’s bailout of failed financial institutions. The REFCORP assessments are used by the U.S. Treasury to pay a portion of the annual interest expense on long-term obligations issued to finance a portion of the cost of the bailout. Principal of those long-term obligations is paid from a segregated account containing zero-coupon U.S. government obligations, which were purchased using funds that Congress directed the FHLBanks to provide for that purpose in 1989.
Each FHLBank is required to make payments to REFCORP as described above until the total amount of payments actually made is equivalent to a $300 million annual annuity, whose final maturity date is April 15, 2030. The Resolution Funding Corporation has been designated as the calculation agent for the Affordable Housing Program and REFCORP assessments. Each FHLBank provides the amount of quarterly income before Affordable Housing Program and REFCORP assessments and other information to the Resolution Funding Corporation, which then performs the calculations for each quarter end.
REFCORP expense is calculated on Net income after the assessment for the Affordable Housing Program, but before the assessment for REFCORP. The Affordable Housing Program and REFCORP assessments are calculated simultaneously because of their dependence on each other. The FHLBNY accrues its REFCORP assessment on a monthly basis.
However, based on anticipated payments to be made by the 12 FHLBanks through the third quarter of 2011, it is likely that the FHLBanks will satisfy their obligation to REFCORP by the end of that period and, assuming that such is the case, further payments will not be necessary after that quarter.
In anticipation of the termination of their REFCORP obligation, the FHLBanks have reached an agreement to set aside, once the obligation has ended, amounts that would have otherwise been paid to REFCORP as restricted retained earnings, with the objective of increasing the earnings reserves of the FHLBanks and enhancing the safety and soundness of the FHLBank System.
Affordable Housing Program (“AHP”) Assessments. Section 10(j) of the FHLBank Act requires each FHLBank to establish an Affordable Housing Program. Each FHLBank provides subsidies in the form of direct grants and below-market interest rate advances to members who use the funds to assist in the purchase, construction, or rehabilitation of housing for very low-, low-, and moderate-income households. Annually, the FHLBanks must set aside for the Affordable Housing Program the greater of $100 million or 10 percent of regulatory defined net income. Regulatory defined net income is GAAP net income before (1) interest expense related to mandatorily redeemable capital stock, and (2) the assessment for Affordable Housing Program, but after the assessment for REFCORP. The exclusion of interest expense related to mandatorily redeemable capital stock is a regulatory interpretation of the Finance Agency. The FHLBNY accrues the AHP expense monthly.
Note 1. Significant Accounting Policies and Estimates.
Significant Accounting Policies and Estimates
The FHLBNY has identified certain accounting policies that it believes are significant because they require management to make subjective judgments about matters that are inherently uncertain and because of the likelihood that materially different amounts would be reported under different conditions or by using different assumptions. These policies include estimating the allowance for credit losses on the advance and mortgage loan portfolios, evaluating the impairment of the Bank’s securities portfolios, estimating the liabilities for employee benefit programs, and estimating fair values of certain assets and liabilities.
Fair Value Measurements and Disclosures
The accounting standard on fair value measurements and disclosures discusses how entities should measure fair value based on whether the inputs to those valuation techniques are observable or unobservable. In January 2010, the Financial Accounting Standards Board (“FASB”) provided further guidelines effective January 1, 2010, that required enhanced disclosures about fair value measurements that the FHLBNY adopted in the 2010 first quarter. For more information, see Note 19 - Fair Values of Financial Instruments.
Observable inputs reflect market data obtained from independent sources or those that can be directly corroborated to market sources, while unobservable inputs reflect the FHLBNY’s market assumptions. 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 in the principal or most advantageous market for the asset or liability between market participants at the measurement date. This definition is based on an exit price rather than transaction or entry price.
Valuation Techniques - Three valuation techniques are prescribed under the fair value measurement standards - Market approach, Income approach and Cost approach. Valuation techniques for which sufficient data is available and that are appropriate under the circumstances should be used.
In determining fair value, FHLBNY uses various valuation methods, including both the market and income approaches.
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Market approach - This technique uses prices and other relevant information generated by market transactions involving identical or comparable assets or liabilities.
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Income approach - This technique uses valuation techniques to convert future amounts (for example, cash flows or earnings) to a single present amount (discounted), based on assumptions used by market participants. The present value technique used to measure fair value depends on the facts and circumstances specific to the asset or liability being measured and the availability of data.
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Cost approach - This approach is based on the amount that currently would be required to replace the service capacity of an asset (often referred to as current replacement cost).
The accounting guidance on fair value measurements and disclosures establishes a hierarchy for inputs used in measuring fair value that maximizes the use of observable inputs and minimizes the use of unobservable inputs by requiring that the most observable inputs be used when available. Observable inputs are inputs that market participants would use in pricing the asset or liability, and would be based on market data obtained from sources independent of FHLBNY. Unobservable inputs are inputs that reflect FHLBNY’s assumptions about the parameters market participants would use in pricing the asset or liability, and would be based on the best information available in the circumstances.
The fair value hierarchy is broken down into three levels based on the reliability of inputs as follows:
Level 1 - Quoted prices for identical instruments in active markets.
Level 2 - Quoted prices for similar instruments in active markets; quoted prices for identical or similar instruments in markets that are not active; and model-based valuations in which all significant inputs and significant parameters are observable in active markets.
Level 3 - Valuations based upon valuation techniques in which significant inputs and significant parameters are unobservable.
The availability of observable inputs can vary from product to product and is affected by a wide variety of factors including, for example, the characteristics peculiar to the transaction. To the extent that valuation is based on models or inputs that are less observable or unobservable in the market, the determination of fair value requires more judgment. Accordingly, the degree of judgment exercised by FHLBNY in determining fair value is greatest for instruments categorized as Level 3. In certain cases, the inputs used to measure fair value may fall into different levels of the fair value hierarchy. In such cases, for disclosure purpose the level in the fair value hierarchy within which the fair value measurement falls is determined based on the lowest level input that is significant to the fair value measurement in its entirety.
In its Statements of Condition at December 31, 2010 and 2009, the FHLBNY measured and recorded fair values using the above guidance for derivatives, available-for-sale securities, and certain consolidated obligation bonds and discount notes that were designated under the fair value option accounting (“FVO”). Certain held-to-maturity securities determined to be credit impaired or other-than-temporarily impaired (“OTTI”) at December 31, 2010 and 2009 were measured and recorded at their fair values on a non-recurring basis.
Fair Values of Derivative positions - The FHLBNY is an end-user of over-the-counter (“OTC”) derivatives to hedge assets and liabilities under hedge accounting rules to mitigate fair value risks. In addition, the Bank records the fair value of an insignificant amount of mortgage-delivery commitments as derivatives. For additional information, see Note 18 - Derivatives and Hedging Activities.
Valuations of derivative assets and liabilities reflect the value of the instrument including the value associated with counterparty risk. Derivative values also take into account the FHLBNY’s own credit standing. The computed fair values of the FHLBNY’s OTC derivatives take into consideration the effects of legally enforceable master netting agreements that allow the FHLBNY to settle positive and negative positions and offset cash collateral with the same counterparty on a net basis. The agreements include collateral thresholds that reflect the net credit differential between the FHLBNY and its derivative counterparties. On a contract-by-contract basis, the collateral and netting arrangements sufficiently mitigated the impact of the credit differential between the FHLBNY and its derivative counterparties to an immaterial level such that an adjustment for nonperformance risk was not deemed necessary. Fair values of the derivatives were computed using quantitative models and employed multiple market inputs including interest rates, prices and indices to generate continuous yield or pricing curves and volatility factors. These multiple market inputs were predominantly actively quoted and verifiable through external sources, including brokers and market transactions.
Fair Values of investments classified as available-for-sale securities - The FHLBNY measures and records fair values of available-for-sale securities in the Statements of Condition in accordance with the fair value measurement standards. Changes in the values of available-for-sale securities are recorded in Accumulated other comprehensive income (loss) (“AOCI”), a component of members’ capital, with an offset to the recorded value of the investments in the Statements of Condition. The Bank’s investments classified as available-for-sale (“AFS”) are comprised of mortgage-backed securities that are primarily GSE issued variable-rate collateralized mortgage obligations and are marketable at their recorded fair values. A small percentage of the AFS portfolio at December 31, 2010 and 2009 consisted of investments in equity and bond mutual funds held by grantor trusts owned by the FHLBNY. The unit prices, or the “Net asset values,” of the underlying mutual funds were available through publicly viewable websites and the units were marketable at recorded fair values.
The fair values of these investment securities are estimated by management using specialized pricing services that employ pricing models or quoted prices of securities with similar characteristics. Inputs into the pricing models are market based and observable. Examples of securities, which would generally be classified within Level 2 of the valuation hierarchy and valued using the “market approach” as defined under the accounting standard for fair value measurements and disclosures, include GSE issued collateralized mortgage obligations and money market funds.
See Note 19 - Fair Values of Financial Instruments - for additional disclosures about fair values and Levels associated with assets and liabilities recorded on the Bank’s Statements of Condition at December 31, 2010 and 2009.
Fair Value of held-to-maturity securities on a Nonrecurring Basis - Certain held-to-maturity investment securities are measured at fair value on a nonrecurring basis; that is, they are not measured at fair value on an ongoing basis but are subject to fair value adjustments when there is evidence of other-than-temporary impairment. In accordance with the guidance on recognition and presentation of other-than-temporary impairment, certain held-to-maturity mortgage-backed securities were determined to be credit impaired at December 31, 2010 and 2009 and the securities were recorded at their fair values in the Statements of Condition at those dates. For more information, see Note 5 - Held-to-Maturity Securities and Note 19 - Fair Values of Financial Instruments.
Financial Assets and Financial Liabilities recorded under the Fair Value Option - The accounting standards on the fair value option for financial assets and liabilities, created the Fair Value Option (“FVO”) allowing, but not requiring, an entity to irrevocably elect fair value as the initial and subsequent measurement attribute for the selected financial assets and financial liabilities with changes in fair value recognized in earnings as they occur. The FHLBNY has elected the FVO designation for certain consolidated obligations. At December 31, 2010 and 2009, the Bank had designated certain consolidated obligation debt under the FVO and recorded their fair values in the Statements of Condition at those dates. The changes in fair values of the designated debt are economically hedged by interest rate swaps. See Note 19 - Fair Values of Financial Instruments for more information.
Investments
Early adoption by the FHLBNY of the guidance on disclosures about the fair value of financial instruments at January 1, 2009 required the Bank to incorporate certain clarifications and definitions in its investment policies. The guidance amended the pre-existing accounting rules for investments in debt and equity securities, and the guidance was primarily intended to provide greater clarity to investors about the credit and noncredit component of an other-than-temporary impairment (“OTTI”) event and to more effectively communicate when an OTTI event has occurred. The guidance was incorporated in the Bank’s investment policies as summarized below.
Held-to-maturity securities - The FHLBNY classifies investments for which it has both the ability and intent to hold to maturity as held-to-maturity investments. Such investments are recorded at amortized cost basis, which includes adjustments made to the cost of an investment for accretion and amortization of discounts and premiums, collection of cash, and fair value hedge accounting adjustments. If a held-to-maturity security is determined to be OTTI, the amortized cost basis of the security is adjusted for credit losses. Amortized cost basis of a held-to-maturity OTTI security is further adjusted for impairment related to all other factors (also referred to as the non-credit component of OTTI) and recognized in AOCI; the adjusted amortized cost basis is the carrying value of the OTTI security as reported in the Statements of Condition. Carrying value for a held-to-maturity security that is not OTTI is its amortized cost basis.
Under the accounting guidance for investments in debt and equity securities, changes in circumstances may cause the FHLBNY to change its intent to hold certain securities 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 changes in circumstances, such as evidence of significant deterioration in the issuer’s creditworthiness or changes in regulatory requirements, is not considered inconsistent with its original classification. Other events that are isolated, nonrecurring, and unusual for the FHLBNY that could not have been reasonably anticipated may cause the FHLBNY to sell or transfer a held-to-maturity security without necessarily calling into question its intent to hold other debt securities to maturity. The Bank did not transfer or sell any held-to-maturity securities due to changes in circumstances in any period in this report.
In accordance with accounting guidance for investments in debt and equity securities, sales of 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 its maturity date (or call date if exercise of the call is probable) such that interest rate risk is substantially eliminated as a pricing factor and the changes in market interest rates would not have a significant effect on the security’s fair value, or (2) the sale of a security occurs after the FHLBNY has already collected a substantial portion (at least 85 percent) of the principal outstanding at acquisition.
Available-for-sale securities - The FHLBNY classifies investments that it may sell before maturity as available-for-sale and carries them at fair value.
Until available-for-sale securities are sold, changes in fair values are recorded in AOCI as Net unrealized gain or (loss) on available-for-sale securities. If available-for-sale securities had been hedged under a fair value hedge qualifying for hedge accounting, the FHLBNY would record the portion of the change in fair value related to the risk being hedged in Other income (loss) as a Net realized and unrealized gain (loss) on derivatives and hedging activities together with the related change in the fair value of the derivative, and would record the remainder of the change in AOCI as a Net unrealized gain (loss) on available-for-sale securities. If available-for-sale securities had been hedged under a cash flow hedge qualifying for hedge accounting, the FHLBNY would record the effective portion of the change in value of the derivative related to the risk being hedged in AOCI as a Net unrealized gain (loss) on derivatives and hedging activities. The ineffective portion would be recorded in Other income (loss) and presented as a Net realized and unrealized gain (loss) on derivatives and hedging activities.
The FHLBNY computes gains and losses on sales of investment securities using the specific identification method and includes these gains and losses in Other income (loss). The FHLBNY treats securities purchased under agreements to resell as collateralized financings because the counterparty retains control of the securities.
Other-than-temporary impairment (“OTTI”) - Accounting and Governance Policies - Impairment analysis, Pricing of mortgage-backed securities, and Bond insurer methodology.
The FHLBNY regularly evaluates its investments for impairment and determines if unrealized losses are temporary based in part on the creditworthiness of the issuers, and in part on the underlying collateral within the structure of the security and the cash flows expected to be collected on the security. A security is considered impaired if its fair value is less than its amortized cost basis. If management has made a decision to sell such an impaired security, OTTI is considered to have occurred. If a decision to sell the impaired investment has not been made, but management concludes that “it is more likely than not” that it will be required to sell such a security before recovery of the amortized cost basis of the security, an OTTI is also considered to have occurred.
Even if management does not intend to sell such an impaired security, an OTTI has occurred if cash flow analysis determines that a credit loss exists. The difference between the present value of the cash flows expected to be collected and the amortized cost basis is a credit loss. To determine if a credit loss exists, management compares the present value of the cash flows expected to be collected to the amortized cost basis of the security. If the present value of the cash flows expected to be collected is less than the security’s amortized cost, an OTTI exists, irrespective of whether management will be required to sell such a security. The Bank’s methodology to calculate the present value of expected cash flows is to discount the expected cash flows (principal and interest) of a fixed-rate security that is being evaluated for OTTI, by using the effective interest rate of the security as of the date it was acquired. For a variable-rate security that is evaluated for OTTI, the expected cash flows are computed using a forward-rate curve and discounted using the forward rates.
If the FHLBNY determines that OTTI has occurred, it accounts for the investment security as if it had been purchased on the measurement date of the other-than-temporary impairment. The investment security is written down to fair value, which becomes its new amortized cost basis. The new amortized cost basis is not adjusted for subsequent recoveries in fair value.
For securities designated as available-for-sale, subsequent unrealized changes to the fair values (other than OTTI) are recorded in AOCI. For securities designated as held-to-maturity, the amount of OTTI recorded in AOCI for the non-credit component of OTTI is amortized prospectively over the remaining life of the securities based on the timing and amounts of estimated future cash flows. Amortization out of AOCI is offset by an increase in the carrying value of securities until the securities are repaid or are sold or subsequent OTTI is recognized in earnings.
For previously impaired OTTI securities that have subsequently incurred additional credit losses, those credit losses are reclassified out of non-credit losses in AOCI and charged to earnings.
If subsequent evaluation indicates a significant increase in cash flows greater than previously expected to be collected or if actual cash flows are significantly greater than previously expected, the increases are accounted for as a prospective adjustment to the accretable yield through interest income. In subsequent periods, if the fair value of the investment security has further declined below its then-current carrying value and there has been a decrease in the estimated cash flows the FHLBNY expects to collect, the FHLBNY will deem the security as OTTI.
OTTI FHLBank System Governance Committee - On April 28, 2009 and May 7, 2009, the Finance Agency, the FHLBanks’ regulator, provided the FHLBanks with guidance on the process for determining OTTI with respect to the FHLBanks’ holdings of private-label MBS and for adoption of the guidance for recognition and presentation of OTTI. The goal of the guidance is to promote consistency among all FHLBanks in the process for determining and presenting OTTI for private-label MBS.
Beginning with the second quarter of 2009, the FHLBanks formed an OTTI Governance Committee (“OTTI Committee”) with the responsibility for reviewing and approving key modeling assumptions, inputs, and methodologies to be used by the FHLBanks to generate the cash flow projections used in analyzing credit losses and determining OTTI for private-label MBS. The OTTI Committee charter was approved on June 11, 2009, and provides a formal process by which the FHLBanks can provide input on and approve the assumptions.
Although a FHLBank may engage another FHLBank to perform its OTTI analysis under the guidelines of the OTTI Committee, each FHLBank is responsible for making its own determination of impairment and the reasonableness of assumptions, inputs, and methodologies used and for performing the required present value calculations using appropriate historical cost basis and yields. FHLBanks that hold the same private-label MBS are required to consult with one another to make sure that any decision that a commonly held private-label MBS is other-than-temporarily impaired, including the determination of fair value and the credit loss component of the unrealized loss, is consistent among those FHLBanks.
The OTTI Committee’s role and scope with respect to the assessment of credit impairment for the FHLBNY’s private-label MBS are discussed further in the section “Impairment analysis of mortgage-backed securities.”
FHLBank System Pricing Committee - In an effort to achieve consistency among the FHLBanks’ pricing of investments of mortgage-backed securities, in the third quarter of 2009 the FHLBanks also formed the MBS Pricing Governance Committee (“Pricing Committee”), which was responsible for developing a fair value methodology for mortgage-backed securities that all FHLBanks could adopt. Consistent with the guidance from the Pricing Committee, the FHLBNY conformed its pre-existing methodology for estimating the fair value of mortgage-backed securities starting with the interim period ended September 30, 2009. Under the approved methodology, the FHLBNY requests prices for all mortgage-backed securities from four specific third-party vendors. Prior to the change, the FHLBNY used three of the four vendors specified by the Pricing Committee. Depending on the number of prices received from the four vendors for each security, the FHLBNY selects a median or average price as defined by the methodology. The methodology also incorporates variance thresholds to assist in identifying median or average prices that may require further review by the FHLBNY. In certain limited instances (i.e., when prices are outside of variance thresholds or the third-party services do not provide a price), the FHLBNY obtains a price from securities dealers that may be deemed the most appropriate after consideration of all relevant facts and circumstances that would be considered by market participants. Prices for CUSIPs held in common with other FHLBanks are reviewed for consistency. The incorporation of the Pricing Committee guidelines did not have a significant impact in the FHLBNY’s estimate of the fair values of its investment securities at implementation of the policy as of September 30, 2009 and thereafter.
Bond Insurer analysis - Certain held-to-maturity private-label MBS owned by the FHLBNY are insured by third-party bond insurers (“monoline insurers”). The bond insurance on these investments guarantees the timely payments of principal and interest if these payments cannot be satisfied from the cash flows of the underlying mortgage pool. The FHLBNY performs cash flow credit impairment tests on all of its private-label insured securities, and the analysis of the MBS protected by such third-party insurance looks first to the performance of the underlying security, and considers its embedded credit enhancements in the form of excess spread, overcollateralization, and credit subordination, to determine the collectability of all amounts due. If the embedded credit enhancement protections are deemed insufficient to make timely payment of all amounts due, then the FHLBNY considers the capacity of the third-party bond insurer to cover any shortfalls.
Certain monoline insurers have been subject to adverse ratings, rating downgrades, and weakening financial performance measures. In estimating the insurers’ capacity to provide credit protection in the future to cover any shortfall in cash flows expected to be collected for securities deemed to be OTTI, the FHLBNY has developed a methodology to assess the ability of the monoline insurers to meet future insurance obligations.
The methodology calculates the length of time a monoline is expected to remain financially viable to pay claims for securities insured. It employs, for the most part, publicly available information to identify cash flows used up by a monoline for insurance claims. Based on the monoline’s existing insurance reserves, the methodology attempts to predict the length of time over which the monoline’s claims-paying resources could sustain bond insurance losses. The methodology establishes boundaries that can be used on a consistent basis, and includes both quantitative factors and qualitative considerations that management utilizes to estimate the period of time that it is probable that the Bank’s insured securities will receive cash flow support from the monolines.
For the FHLBNY’s insured securities that are deemed to be credit impaired absent insurer protection, the methodology compares the timing and amount of the cash flow shortfall to the timing of when a monoline’s claim-paying resource is deemed exhausted. The analysis quantifies both the timing and the amount of cash flow shortfall that the insurer is unlikely to be able to cover. However, estimation of an insurer’s financial strength to remain viable over a long time horizon requires significant judgment and assumptions. Predicting when the insurers may no longer have the ability to perform under their contractual agreements, then comparing the timing and amounts of cash flow shortfalls of securities that are credit impaired absent insurer protection requires significant judgment.
Up until March 31, 2010, both Ambac Assurance Corp (“Ambac”), and MBIA Insurance Corp (“MBIA”), the two primary bond insurers for the FHLBNY, had been paying claims in order to meet any cash flow deficiency within the structure of the insured securities. On March 24, 2010, Ambac, with the consent of the Commissioner of Insurance for the State of Wisconsin (the “Commissioner”), entered into a temporary injunction to suspend payments to bond holders and to create a segregated account for bondholders. As a result, payments from Ambac to trustees of certain insured bonds owned by the FHLBNY were also temporarily suspended. The amounts suspended were not significant as of December 31, 2010. MBIA is continuing to meet claims for bonds owned by the FHLBNY.
Within the boundaries set in the methodology outlined above, which are re-assessed at each quarter, the Bank believes it is appropriate to assert whether or not insurer credit support can be relied upon over a certain period of time. For Ambac that support period ended at March 31, 2010 (no-reliance after that date) based on the FHLBNY’s analysis of the temporary injunction by the Commissioner. In March 2010, S&P revised its counterparty credit rating on Ambac to “R” from below investment grade. S&P’s rating action was consistent with the level of regulatory intervention (R rating) at Ambac. MBIA is currently rated below investment grade. As with all assumptions, changes to these assumptions (if bond insurers are deemed fully viable and able to fulfil their insurance obligations for bonds owned by the FHLBNY) may result in materially different outcomes.
Although the FHLBNY has temporarily suspended its reliance on Ambac, effectively immediately, and MBIA, effective June 30, 2011 for reasons outlined in previous paragraphs, the FHLBNY believes that bond insurance is an inherent aspect of credit support within the structure of the security itself and it is appropriate to include insurance in its evaluation of expected cash flows and determination of OTTI in future periods. The FHLBNY has also established that the terms of insurance enable the insurance to travel with the security if the security is sold in the future.
Impairment analysis of mortgage-backed securities
Securities with a fair value below amortized cost basis are considered impaired. Determining whether a decline in fair value is OTTI requires significant judgment. The FHLBNY evaluates its individual held-to-maturity investment in private-label issued mortgage- and asset-backed securities for OTTI on a quarterly basis. As part of this process, the FHLBNY assesses if it has the intent to sell the security or “it is more likely than not” that it will be required to sell the impaired investment before recovery of its amortized cost basis. To assess whether the entire amortized cost basis of the FHLBNY’s private-label MBS will be recovered in future periods, beginning with the quarter ended September 30, 2009 and thereafter, the Bank performed OTTI analysis by cash flow testing 100 percent of its private-label MBS. In the first two quarters of 2009, the FHLBNY’s methodology was to analyze all its private- label MBS to isolate securities that were considered to be at risk of OTTI and to perform cash flow analysis on securities at risk of OTTI.
Cash flow analysis derived from the FHLBNY’s own assumptions - Assessment for OTTI employed by the FHLBNY’s own techniques and assumptions were determined primarily using historical performance data of the 53 private-label MBS at December 31, 2010. These assumptions and performance measures were benchmarked by comparing to (1) performance parameters from “market consensus,” and (2) the assumptions and parameters provided by the OTTI Committee for the FHLBNY’s private-label MBS, which represented about 50 percent of the FHLBNY’s private-label MBS portfolio.
The internal process calculates the historical average of each bond’s prepayments, defaults, and loss severities, and considered other factors such as delinquencies and foreclosures. Management’s assumptions are primarily based on historical performance statistics extracted from reports from trustees, loan servicer reports and other sources. In arriving at historical performance assumptions, which is the FHLBNY’s expected case assumptions, the FHLBNY also considers various characteristics of each security including, but not limited to, the following: its credit rating and related outlook or status; the creditworthiness of the issuers of the debt securities; the underlying type of collateral; the year of securitization or vintage, the duration and level of the unrealized loss, credit enhancements, if any; and other collateral-related characteristics such as FICO® credit scores, and delinquency rates. The relative importance of this information varies based on the facts and circumstances surrounding each security as well as the economic environment at the time of assessment.
If the security is insured by a bond insurer and the security relies on the insurer for support either currently or potentially in future periods, the FHLBNY performs another analysis to assess the financial strength of the monoline insurers. The results of the insurer financial analysis (“monoline burn-out period”) are then incorporated in the third-party cash flow model, as a key input. If the cash flow model projected cash flow shortfalls (credit impairment) on an insured security, the monoline’s burnout period (an end date for credit support), is then input to the cash flow model. The end date, also referred to as the burnout date, provides the necessary information as an input to the cash flow model for the continuation of cash flows up until the burnout date. Any cash flow shortfalls that occur beyond the “burn-out” date are considered to be not recoverable and the insured security is then deemed to be credit impaired.
Each bond’s performance parameters, primarily prepayments, defaults and loss severities, and bond insurance financial guarantee predictors, as calculated by the Bank’s internal approach, are then input into the specialized bond cash flow model that allocates the projected collateral level losses to the various security classes in the securitization structure, in accordance with its prescribed cash flow and loss allocation rules. In a securitization in which the credit enhancements for the senior securities are derived from the presence of subordinate securities, losses are generally allocated first to the subordinate securities until their principal balance is reduced to zero.
Role and scope of the OTTI Governance Committee
Beginning with the third quarter of 2009, the OTTI Committee adopted guidelines that each FHLBank should assess credit impairment by cash flow testing of 100 percent of private-label securities. Of the 53 private-label MBS owned by the FHLBNY, approximately 50 percent of MBS backed by sub-prime loans, home equity loans, and manufactured housing loans were deemed to be outside the scope of the OTTI Committee because sufficient loan level collateral data was not available to determine the assumptions under the OTTI Committee’s approach described below. The remaining securities were modeled in the OTTI Committee common platform. The FHLBNY developed key modeling assumptions and forecasted cash flows using the FHLBNY’s own assumptions for 100 percent of its private-label MBS.
Cash flow derived from the OTTI Committee common platform - Consistent with the guidelines provided by the OTTI Committee, the FHLBNY has contracted with the FHLBanks of San Francisco and Chicago to perform cash-flow analyses for the securities within the scope of the OTTI Committee as a means of benchmarking the FHLBNY’s own cash flow analysis. At December 31, 2010 and 2009, the FHLBanks of San Francisco and Chicago cash flow tested approximately 50 percent of the FHLBNY’s private-label MBS. Although the FHLBNY has engaged the two FHLBanks to perform the cash flow analysis, the FHLBNY is ultimately responsible for making its own determination of impairment, the reasonableness of assumptions, inputs, and methodologies used and for performing the required present value calculations using appropriate historical cost basis and yields.
The FHLBanks of San Francisco and Chicago performed cash flow analysis for the FHLBNY’s private-label securities in scope using two third-party models to establish the modeling assumptions and calculate the forecasted cash flows in the structure of the MBS. The first model considered borrower characteristics and the particular attributes of the loans underlying a security in conjunction with assumptions about future changes in home prices and interest rates to project prepayments, defaults and loss severities. A significant input to the first model was the forecast of future housing price changes for the relevant states and core based statistical areas (“CBSAs”), which were based upon an assessment of the individual housing markets. CBSA refers collectively to metropolitan and micropolitan statistical areas as defined by the United States Office of Management and Budget; as currently defined, a CBSA must contain at least one urban area with a population of 10,000 or more people. The Bank’s housing price forecast as of December 31, 2010 assumed current-to-trough home price declines ranging from 1 percent to 10 percent over the 3- to 9-month period beginning October 1, 2010. Thereafter, home prices were projected to recover using one of five different recovery paths that vary by housing market. Under those recovery paths, home prices were projected to increase within a range of 0 percent to 2.8 percent in the first year, 0 percent to 3.0 percent in the second year, 1.5 percent to 4.0 percent in the third year, 2.0 percent to 5.0 percent in the fourth year, 2.0 percent to 6.0 percent in each of the fifth and sixth years, and 2.3 percent to 5.6 percent in each subsequent year.
The month-by-month projections of future loan performance derived from the first model, which reflected projected prepayments, defaults and loss severities, were then input into a second model that allocated the projected loan level cash flows and losses to the various security classes in the securitization structure in accordance with its prescribed cash flow and loss allocation rules. In a securitization in which the credit enhancement for the senior securities was derived from the presence of subordinate securities, losses were generally allocated first to the subordinate securities until their principal balance was reduced to zero.
The projected cash flows were based on a number of assumptions and expectations, and the results of these models can vary significantly with changes in assumptions and expectations. The scenario of cash flows determined based on model approach described above reflects a best estimate scenario and includes a base case current-to-trough housing price forecast and a base case housing price recovery path described in the prior paragraph.
GSE issued securities - The FHLBNY evaluates its individual securities issued by Fannie Mae and Freddie Mac or a government agency by considering the creditworthiness and performance of the debt securities and the strength of the GSE’s guarantees of the securities. Based on the Bank’s analysis, GSE and U.S. agency issued securities are performing in accordance with their contractual agreements. The Housing Act contains provisions allowing the U.S. Treasury to provide support to Fannie Mae and Freddie Mac. In September 2008, the Finance Agency placed Fannie Mae and Freddie Mac into conservatorship in an attempt to stabilize their financial conditions and their ability to support the secondary mortgage market. The FHLBNY believes that it will recover its investments in GSE and agency issued securities given the current levels of collateral and credit enhancements and guarantees that exist to protect the investments.
Allowance for loan Losses
Establishing Allowance for Credit Loss. An allowance for credit losses is a valuation allowance separately established for each identified portfolio segment, if necessary, on a loan-by-loan basis, to provide for probable losses inherent in the FHLBNY’s portfolio. To the extent necessary, an allowance for credit losses for off-balance sheet credit exposures is recorded as a liability. Monitoring and evaluation of credit losses in the mortgage loans, primarily MPF loans, is evaluated on a loan level basis, and the FHLBNY does not collectively evaluate mortgage loans for credit losses. Monitoring and evaluation of Advances to members and financial letters of credits and commitments issued on behalf of members is based on the credit evaluation of members and the quality and level of over collateralization of advances borrowed by members. All member obligations with the FHLBNY are fully collateralized throughout their entire term. Monitoring and evaluation of short-term investments, such as term federal funds sold and certificates of deposits sold is based on the credit standing of counterparties.
Portfolio Segments. The FHLBNY has developed and documented a systematic methodology for determining an allowance for credit losses, where applicable, for (1) advances, letters of credit and other extensions of credit to members, (2) government-guaranteed or -insured mortgage loans held for portfolio (primarily MPF loans); (3) uninsured MPF loans mortgage-loans held for portfolio, (3) term federal funds sold and other short-term money market investments.
Classes of Financing Receivables. Classes of financing receivables generally are a disaggregation of a portfolio segment to the extent that it is needed to understand the exposure to credit risk arising from these financing receivables. The FHLBNY has determined that no further disaggregation of portfolio segments is needed other than as identified.
Non-accrual status, Impairment methodology, and Charge-off policy. The FHLBNY’s policies and methodologies are summarized within the significant accounting and impairment policies of each assets described below (Federal funds sold, Advances, and MPF/Mortgage loans).
Federal Funds Sold
Federal funds sold represents short-term, unsecured lending to major banks and financial institutions. Federal funds sold are recorded at cost on settlement date and interest is accrued using contractual rates.
Impairment Analysis of federal funds sold. The amount of unsecured credit risk that may be extended to individual counterparties is commensurate with the counterparty’s credit quality, which is determined by management based on the credit ratings of counterparty’s debt securities or deposits as reported by Nationally Recognized Statistical Rating Organizations.
Advances
Accounting for Advances. The FHLBNY reports advances at amortized cost, net of unearned commitment fees, discounts (which are generally associated with advances for the Affordable Housing Program) and premiums, and any hedging adjustments. The FHLBNY records interest on advances to income as earned, and amortizes the premium and accretes the discounts on advances prospectively to interest income using a level-yield methodology over the term of the advance.
Impairment Analysis of Advances. The FHLBNY has established asset classification and reserve policies. All adversely classified assets of the FHLBNY will have a reserve established for probable losses. Based upon the collateral held as security and prior repayment histories, no allowance for losses on advances is currently deemed necessary by management.
Following the requirements of the Federal Home Loan Bank Act of 1932 (“FHLBank Act”), as amended, the FHLBNY obtains sufficient collateral on advances to protect it from losses. The FHLBank Act limits eligible collateral to certain investment securities, residential mortgage loans, cash or deposits with the FHLBNY, and other eligible real estate related assets. In addition, the FHLBNY has a lien on each member’s investment in the capital stock of the FHLBNY.
The FHLBNY’s loan and collateral agreements give the FHLBNY a security interest in assets held by borrowers that is sufficient to cover their obligations to the FHLBNY. The FHLBNY may supplement this security interest by imposing additional reporting, segregation or delivery requirements on the borrower. The FHLBNY assigns specific collateral requirements to a borrower, based on a number of factors. These include, but are not limited to: (1) the borrower’s overall financial condition; (2) the degree of complexity involved in the pledging, verifying, and reporting of collateral between the borrower and the FHLBNY, especially when third-party pledges, custodians, outside service providers and pledges to other entities are involved; and (3) the type of collateral pledged.
The FHLBNY closely monitors the creditworthiness of its members and closely monitors the quality and value of assets that are pledged as collateral by its members. The FHLBNY periodically assesses the mortgage underwriting and documentation standards of its borrowing members. In addition, the FHLBNY has lending procedures to manage its exposure to those members experiencing difficulty in meeting their capital requirements or other standards of credit worthiness. An advance will be considered impaired when, based on current information and events, it is probable that the FHLBNY will be unable to collect all amounts due according to the contractual terms of the advance agreement.
The FHLBNY has also established collateral maintenance levels for borrower collateral that are intended to help ensure that the FHLBNY has sufficient collateral to cover credit extensions and reasonable expenses arising from potential collateral liquidation and other unknown factors. Collateral maintenance levels are designated by collateral type and are periodically adjusted to reflect current market and business conditions. Maintenance levels for individual borrowers may also be adjusted, based on the overall financial condition of the borrower or another, third-party entity involved in the collateral relationship with the FHLBNY. Borrowers are required to maintain an amount of eligible collateral with a liquidation value at least equal to the borrower’s current collateral maintenance level.
As Note 7 - Advances, more fully describes, community financial institutions (FDIC-insured institutions with assets of $1,029 million or less during 2010) are subject to more expanded statutory collateral rules for small business and agricultural loans. The FHLBNY has not incurred any credit losses on advances since its inception. Based upon financial condition of its borrowers, the collateral held as security on the advances and repayment history, management of the FHLBNY believes that an allowance for credit losses on advances is unnecessary.
Prepayment Fees on advances. The FHLBNY charges a member a prepayment fee when the member prepays certain advances before the original maturity. The FHLBNY records prepayment fees net of fair value basis adjustments included in the book basis of the advance as interest income from advances. From time to time, the FHLBNY will enter into an agreement with a member to modify the terms of an existing advance. The FHLBNY evaluates whether the modified advance meets the accounting criteria to qualify as a modification of an existing advance or as a new advance in accordance with provisions under creditor’s accounting for a modification or exchange of debt instruments. If the new advance qualifies as a modification of the existing hedged advance, the hedging fair value adjustments and the net prepayment fee on the prepaid advance are recorded in the carrying value of the modified advance and amortized over the life of the modified advance as interest income from advances.
For advances that are hedged and meet the accounting standards for derivatives and hedging, the FHLBNY terminates the hedging relationship upon prepayment and records the associated fair value gains and losses, adjusted for the prepayment fees, in interest income. If the FHLBNY funds a new advance to a member concurrent with the prepayment of a previous advance to that member, the FHLBNY evaluates whether the new advance qualifies as a modification of the original advance. The evaluation includes analysis of (i) whether the effective yield on the new advance is at least equal to the effective yield for a comparable advance to a similar member that is not refinancing or restructuring and (ii) whether the modification of the original advance is more than minor. If the new advance qualifies as a modification of the original hedged advance, the fair value gains or losses of the advance and the prepayment fees are included in the carrying amount of the modified advance, and gains or losses and prepayment fees are amortized to interest income over the life of the modified advance using the level-yield method. If the modified advance is also hedged and the hedge meets the hedging criteria in accordance with accounting standards for derivatives and hedging, basis adjustments continue to be made after the modification, and subsequent value changes attributable to hedged risks are recorded in Other income (loss) as Net realized and unrealized gain (loss) on derivatives and hedging activities.
If the FHLBNY determines that the transaction does not qualify as a modification of an existing advance, it is treated as an advance termination with subsequent funding of a new advance and the net prepayment fees are recorded as interest income from advances.
Mortgage Loans Held-for-Portfolio
The FHLBNY participates in the Mortgage Partnership Finance program® (“MPF” ®) by purchasing conventional mortgage loans from its participating members, hereafter referred to as Participating Financial Institutions (“PFI”). Federal Housing Administration (“FHA”) and Veterans Administration (“VA”) insured loans purchased were not a significant total of the outstanding mortgage loans held-for-portfolio at December 31, 2010 and 2009. The FHLBNY manages the liquidity, interest rate and prepayment option risk of the MPF loans, while the PFIs retain servicing activities.
Credit enhancement obligations and loss layers of mortgage loans. The FHLBNY and the PFI share the credit risks of the uninsured MPF loans by structuring potential credit losses into layers. Collectability of the loans is first supported by liens on the real estate securing the loan. For conventional mortgage loans, additional loss protection is provided by private mortgage insurance required for MPF loans with a loan-to-value ratio of more than 80 percent at origination, which is paid for by the borrower. Credit losses are absorbed by the FHLBNY to the extent of the First Loss Account (“FLA”) for which the maximum exposure as estimated to be $12.0 million and $13.9 million at December 31, 2010 and 2009. The aggregate amount of FLA is memorialized and tracked but is neither recorded nor reported as a loan loss reserve in the FHLBNY’s financial statements. If “second losses” beyond this layer are incurred, they are absorbed through a credit enhancement provided by the PFI. The credit enhancement held by PFIs ensures that the lender retains a credit stake in the loans it sells to the FHLBNY. For assuming this risk, PFIs receive monthly “credit enhancement fees” from the FHLBNY.
The amount of the credit enhancement is computed with the use of a Standard & Poor’s model to determine the amount of credit enhancement necessary to bring a pool of uninsured loans to “AA” credit risk. The credit enhancement becomes an obligation of the PFI. For certain MPF products, the credit enhancement fee is accrued and paid each month. For other MPF products, the credit enhancement fee is accrued and paid monthly after the FHLBNY has accrued 12 months of credit enhancement fees.
Delivery commitment fees are charged to a PFI for extending the scheduled delivery period of the loans. Pair-off fees may be assessed and charged to PFI when the settlement of the delivery commitment (1) fails to occur, or (2) the principal amount of the loans purchased by the FHLBNY under a delivery commitment is not equal to the contract amount beyond established limits.
Accounting for mortgage loans. The FHLBNY classifies mortgage loans as held-for-portfolio and, accordingly, reports them at their principal amount outstanding, net of premiums, costs and discounts, which is the fair value of the mortgage loan on settlement date. The FHLBNY has the intent and ability to hold these mortgage loans to maturity.
Mortgage loans in foreclosure are written down and measured at their fair values on a non-recurring basis (see Note 19. - Fair Values of Financial Instruments. The FHLBNY records credit enhancement fees as a reduction to mortgage loan interest income. The FHLBNY records other non-origination fees, such as delivery commitment extension fees and pair-off-fees, as derivative income over the life of the commitment. All such fees were inconsequential for all periods reported. The FHLBNY defers and amortizes premiums, costs, and discounts as interest income using the level yield method to the loan’s contractual maturities. Loan origination costs were deemed insignificant and were not included in the basis of the mortgage loans.
Non-accrual mortgage loans. The FHLBNY places a mortgage loan on non-accrual status when the collection of the contractual principal or interest is 90 days or more past due. When a mortgage loan is placed on non-accrual status, accrued but uncollected interest is reversed against interest income. A loan on non-accrual status may be restored to accrual when (1) principal and interest are no longer 90 days or more past due, (2) the FHLBNY expects to collect the remaining interest and principal, and (3) the collection is not under legal proceedings. For mortgage-loans on non-accrual status, accrued but uncollected interest is reversed against mortgage-loan interest income. The FHLBNY records cash received on such loans first as interest income and then as a reduction of principal. If the collection of the remaining principal and interest due is determined to be doubtful, then cash received would be applied first to principal until the remaining principal amount due is expected to be collected and then as a recovery of any charge-offs, followed by recording as interest income.
Allowance for credit losses on mortgage loans. The Bank reviews its portfolio to identify the losses inherent within the portfolio and to determine the likelihood of collection of the principal and interest. An allowance for credit losses is a valuation allowance separately established for each identified loan in order to provide for probable losses inherent in loans that are conventional MPF loans and uninsured MPF loans and past due 90 days or more, or MPF loans that are classified under regulatory criteria (Sub-standard, doubtful, and loss). Each impaired loan is evaluated separately for impairment. See Note 8. Mortgage Loans Held-for-portfolio.
The allowance for credit losses on mortgage loans was $5.8 million and $4.5 million as of December 31, 2010 and 2009.
Impairment methodology and portfolio segmentation and disaggregation of mortgage loans - A conventional mortgage loan is considered impaired by the FHLBNY when it is past due 90 days or more and is analyzed for credit losses. Measurement of credit losses is based on current information and events and when it is probable that the FHLBNY will be unable to collect all amounts due according to the contractual terms of the loan agreement. Each such loan is measured for impairment based on the fair value of the underlying property less estimated selling costs. It is assumed that repayment will be provided solely by the sale of the underlying property; that is, there is no other available and reliable source of repayment. To the extent that the net fair value of the property (collateral) is less than the carrying value of the loan, a loan loss allowance is recorded. FHA and VA are insured loans, and are excluded from the analysis. FHA- and VA-insured mortgage loans have minimal inherent credit risk; risk generally arises mainly from the servicers defaulting on their obligations. FHA- and VA-insured mortgage loans, if adversely classified, would have reserves established only in the event of a default of a PFI, and would be based on aging, collateral value and estimated costs to recover any uninsured portion of the MPF loan.
Interest income on impaired loans is recognized in the same manner as non-accrual loans noted below.
The FHLBNY has determined that no further disaggregation and or portfolio segmentation is needed as the credit risk is measured at the individual loan level.
Charge-off policy of mortgage loans - The FHLBNY records a charge-off on a conventional loan generally at the foreclosure of a loan, and typically occurs when the fair value of the underlying collateral, less estimated selling costs, is less than the recorded investment in the loan.
Real estate owned (“REO”) - REO includes assets that have been received in satisfaction of a mortgage loan through foreclosure. REO is recorded at the lower of cost or fair value less estimated selling costs. The FHLBNY recognizes a charge-off to allowance for credit losses if the fair value is less than the recorded investment in the loan at the date of transfer from mortgage-loan to REO. Any subsequent realized gains, realized or unrealized losses, and carrying costs are included in Other income in the Statements of Income. REO is recorded in Other assets in the Statements of Condition.
Mandatorily Redeemable Capital Stock
Generally, the FHLBNY’s capital stock is redeemable at the option of both the member and the FHLBNY, subject to certain conditions, and is subject to the provisions under the accounting guidance for certain financial instruments with characteristics of both liabilities and equity. Dividends related to capital stock classified as mandatorily redeemable stock are accrued at an estimated dividend rate and reported as interest expense in the Statements of Income.
Mandatorily redeemable capital stock at December 31, 2010 and 2009 represented stocks held by former members who were no longer members by virtue of being acquired by members of another FHLBank. Under existing practice, such stock will be repurchased when the stock is no longer required to support outstanding transactions with the FHLBNY. The FHLBNY repurchases excess stock upon the receipt of a request for redemption of such stock from a member, and the member’s stock is typically repurchased by the Bank by the next business day.
Redemption rights under the Capital Plan.
Under the FHLBNY’s Capital Plan, no provision is available for the member to request the redemption of stock in excess of the stock required to support the member’s business transactions with the FHLBNY. This type of stock is referred to as “Activity-Based Stock” in the Capital Plan. However, the FHLBNY may at its discretion repurchase excess Activity-Based Stock. Separately, the member may request the redemption of Membership Capital Stock (the capital stock representing the member’s basic investment in the FHLBNY) in excess of the member’s Membership Stock purchase requirement, and the FHLBNY may also in its discretion repurchase such excess stock.
Under the Capital Plan, a notice of intent to withdraw from membership must be provided to the FHLBNY five years prior to the withdrawal date. At the end of such five-year period, the FHLBNY will redeem such stock unless it is needed to meet any applicable minimum stock investment requirements in the Capital Plan (e.g., to help secure any remaining advances) or if other limitations apply as specified in the Capital Plan.
The redemption notice may be cancelled by giving written notice to the FHLBNY at any time prior to the expiration of the five-year period. Also, the notice will be automatically cancelled if, within five business days of the expiration of the five-year period, the member would be unable to meet its minimum stock investment requirements following such redemption. However, if the member rescinds the redemption notice during the five-year period (or if the notice is automatically cancelled), the FHLBNY may charge a $500 cancellation fee, which may be waived only if the FHLBNY’s Board of Directors determines that the requesting member has a bona fide business reason to do so and the waiver is consistent with Section 7(j) of the FHLBank Act. Section 7(j) requires that the FHLBNY’s Board of Directors administer the affairs of the FHLBNY fairly and impartially and without discrimination in favor of or against any member.
Accounting considerations under the Capital Plan. Generally, there are three triggering events that could cause the FHLBNY to repurchase capital stock.
•
a member requests redemption of excess membership stock;
•
a member delivers notice of its intent to withdraw from membership; and
•
a member attains non-member status (through merger into or acquisition by a non-member, or involuntary termination from membership).
The member’s request to redeem excess Membership Stock will be considered to be revocable until the stock is repurchased. Since the member’s request to redeem excess Membership Stock can be withdrawn by the member without penalty, the FHLBNY considers the member’s intent regarding such request to not be substantive in nature and therefore no reclassification to a liability will be made at the time the request is delivered.
Under the Capital Plan, when a member delivers a notification of its intent to withdraw from membership, the reclassification from equity to a liability will become effective upon receipt of the notification. The FHLBNY considers the member’s intent regarding such notification to be substantive in nature and, therefore reclassification to a liability will be made at the time the notification of the intent to withdraw is delivered. When a member is acquired by a non-member, the FHLBNY reclassifies stock of former members to a liability on the day the member’s charter is dissolved.
In compliance with the accounting guidance for certain financial instruments with characteristics of both liabilities and equity, the FHLBNY reclassifies stock subject to mandatory redemption from equity to a liability once a member exercises a written redemption right, gives notice of intent to withdraw from membership, or attains non-member status by merger or acquisition, charter termination, or involuntary termination from membership. Shares of capital stock meeting this definition are reclassified to a liability at fair value. Unpaid dividends related to capital stock reclassified as a liability are accrued at an estimated dividend rate and reported as interest expense in the Statements of Income. The repurchase of these mandatorily redeemable financial instruments is reflected as a cash outflow in the financing activities section of the Statements of Cash Flows.
The Bank reports capital stock subject to mandatory redemption at the redemption value of the stock, which is par plus accrued estimated dividends. Accrued estimated dividends were not material and were included with interest payable in the Statements of Condition. The FHLBanks have a unique cooperative structure. Stocks can only be acquired and redeemed at par value. Shares are not traded and no market mechanism exists for the exchange of stock outside the cooperative structure.
Affordable Housing Program
The FHLBank Act requires each FHLBank to establish and fund an AHP (see Note 13 - Affordable Housing Program and REFCORP). The FHLBNY 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. The FHLBNY also issues AHP advances at interest rates below the customary interest rates for non-subsidized advances. When the FHLBNY makes an AHP advance, the present value of the variation in the cash flow caused by the difference between the AHP advance interest rate and the Bank’s related cost of funds for comparable maturity funding is charged against the AHP liability. The amounts are then recorded as a discount on the AHP advance, and were inconsequential for all periods reported. As an alternative, the FHLBNY has the authority to make the AHP subsidy available to members as a grant.
AHP assessment is based on a fixed percentage of income before assessments and before adjustment for dividends associated with mandatorily redeemable capital stock. Dividend payments on non-member stock, considered to be mandatorily redeemable, are reported as interest expense in accordance with the accounting guidance for certain financial instruments with characteristics of both liabilities and equity. If the FHLBNY incurs a loss for the entire year, no AHP assessment or assessment credit is due or accrued, as explained more fully in Note 13 - Affordable Housing Program and REFCORP.
Commitment Fees
The FHLBNY records the present value of fees receivable from standby letters of credit as an asset and an offsetting liability for the obligation. Fees, which are generally received for one year in advance, are recorded as unrecognized standby commitment fees (deferred credit) and amortized monthly over the commitment period. The FHLBNY amortizes fees received to income using the level-yield method. The amount of fees was not significant for each of the periods reported.
Derivatives
The contractual or notional amount of derivatives reflects the involvement of the FHLBNY in the various classes of financial instruments. The notional amount of derivatives does not measure the credit risk exposure of the FHLBNY, and the maximum credit exposure of the FHLBNY is substantially less than the notional amount. The maximum credit risk is the estimated cost of replacing favorable interest-rate swaps, forward agreements, mandatory delivery contracts for mortgage loans, and purchased caps and floors if the derivative counterparties default and the related collateral, if any, is of insufficient value to the FHLBNY. Accounting for derivatives is addressed under accounting standards for derivatives and hedging. All derivatives are recognized on the balance sheet at their estimated fair values, including accrued unpaid interest as either a derivative asset or a derivative liability net of cash collateral received from or pledged to derivative counterparties.
Each derivative is designated as one of the following:
(1)
a qualifying 1 hedge of the fair value of a recognized asset or liability or an unrecognized firm commitment (a “fair value” hedge);
(2)
a qualifying 1 hedge of a forecasted transaction or the variability of cash flows that are to be received or paid in connection with a recognized asset or liability (a “cash flow” hedge);
(3)
a non-qualifying 1 hedge of an asset or liability (“economic hedge”) for asset-liability management purposes; or
(4)
a non-qualifying 1 hedge of another derivative (an “intermediation” hedge) that is offered as a product to members or used to offset other derivatives with non-member counterparties.
The terms “qualifying” and “non-qualifying” refer to accounting standards for derivatives and hedging.
The FHLBNY had no foreign currency assets, liabilities or hedges in 2010, 2009 or 2008.
Changes in the fair value of a derivative that is designated and qualifies as a fair value hedge, along with changes in the fair value of the hedged asset or liability that are attributable to the hedged risk (including changes that reflect losses or gains on firm commitments), are recorded in current period’s earnings in Other income (loss) as a Net realized and unrealized gain (loss) on derivatives and hedging activities.
Changes in the fair value of a derivative that is designated and qualifies as a cash flow hedge (to the extent that the hedge is effective) are reported in AOCI, a component of equity, until earnings are affected by the variability of the cash flows of the hedged transaction (i.e., until the recognition of interest on a variable rate asset or liability is recorded in earnings).
The FHLBNY records derivatives on trade date, but records the associated hedged consolidated obligations and advances on settlement date. Hedge accounting commences on trade date, at which time subsequent changes to the derivative’s fair value are recorded along with the offsetting changes in the fair value of the hedged item attributable to the risk being hedged. On settlement date, the basis adjustments to the hedged item’s carrying amount are combined with the principal amounts and the basis becomes part of the total carrying amount of the hedged item.
The FHLBNY has defined its market settlement conventions for hedged items to be five business days or less for advances and thirty calendar days or less, using a next business day convention, for consolidated obligations bonds and discount notes. These market settlement conventions are the shortest period possible for each type of advance and consolidated obligation from the time the instruments are committed to the time they settle.
The FHLBNY considers hedges of committed advances and consolidated obligation bonds eligible for the “short cut” provisions, under accounting standards for derivatives and hedging, as long as settlement of the committed asset or liability occurs within the market settlement conventions for that type of instrument. A short-cut hedge is a highly effective hedging relationship that uses an interest rate swap as the hedging instrument to hedge a recognized asset or liability and that meets the criteria under the accounting standards for derivatives and hedging to qualify for an assumption of no ineffectiveness.
To meet the short-cut provisions that assume no ineffectiveness, the fair value of the swap approximates zero on the date the FHLBNY designates the hedge.
For both fair value and cash flow hedges that qualify for hedge accounting treatment, any hedge ineffectiveness (which represents the amount by which the change in the fair value of the derivative differs from the change in the fair value of the hedged item or the variability in the cash flows of the forecasted transaction) is recorded in current period’s earnings in Other income (loss) as a Net realized and unrealized gains (losses) on derivatives and hedging activities. The differentials between accruals of interest income and expense on derivatives designated as fair value or cash flow hedges that qualify for hedge accounting treatment is recognized as adjustments to the interest income or expense of the hedged advances and consolidated obligations.
Changes in the fair value of a derivative not qualifying for hedge accounting are recorded in current period earnings with no fair value adjustment to the asset or liability being hedged. Both the net interest and the fair value adjustments on the derivative are recorded in Other income (loss) as a Net realized and unrealized gains (losses) on derivatives and hedging activities. Interest income and expense and changes in fair values of derivatives designated as economic hedges (also referred to as standalone hedges), or when executed as intermediated derivatives for members, are also recorded in the manner described above.
The FHLBNY routinely issues debt to investors and makes advances to members in which a derivative instrument is “embedded”. Upon execution of these transactions, the FHLBNY assesses whether the economic characteristics of the embedded derivative are clearly and closely related to the economic characteristics of the remaining component of the advance or debt (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. If the FHLBNY determines that (1) the embedded derivative has economic characteristics that are not clearly and closely related to the economic characteristics of the host contract, and (2) a separate, standalone instrument with the same terms would qualify as a derivative instrument, the embedded derivative would be separated from the host contract as prescribed for hybrid financial instruments under accounting standards for derivatives and hedge accounting, and carried at fair value. However, if the entire contract (the host contract and the embedded derivative) is to be measured at fair value, the changes in fair value would be reported in current earnings (such as an investment security classified as “trading”; or, if the FHLBNY cannot reliably identify and measure the embedded derivative for purposes of separating that derivative from its host contract, the entire contract would be carried on the balance sheet at fair value and no portion of the contract would be designated as a hedging instrument). The FHLBNY had no financial instruments with embedded derivatives that required bifurcation at December 31, 2010 and 2009.
When hedge accounting is discontinued because the FHLBNY determines that the derivative no longer qualifies as an effective fair value hedge of an existing hedged item, the FHLBNY continues to carry the derivative on the balance sheet 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 the level-yield methodology.
When hedge accounting is discontinued because the FHLBNY determines that the derivative no longer qualifies as an effective cash flow hedge of an existing hedged item, the FHLBNY continues to carry the derivative on the balance sheet at its fair value and reclassifies the basis adjustment in AOCI to earnings when earnings are affected by the existing hedge item, which is the original forecasted transaction. Under limited circumstances, when the FHLBNY discontinues cash flow hedge accounting because it is no longer probable that the forecasted transaction will occur in the originally expected period plus the following two months, but it is probable the transaction will still occur in the future, the gain or loss on the derivative remains in AOCI and is recognized into earnings when the forecasted transaction affects earnings. However, if it is probable that a forecasted transaction will not occur by the end of the originally specified time period or within two months after that, the gains and losses that were included in AOCI are recognized immediately in earnings.
When hedge accounting is discontinued because the hedged item no longer meets the definition of a firm commitment, the FHLBNY would continue to carry the derivative on the balance sheet at its fair value, removing from the balance sheet any asset or liability that was recorded to recognize the firm commitment and recording it as a gain or loss in current period earnings.
Cash Collateral associated with Derivative Contracts. The Bank reports derivative assets and derivative liabilities in its Statements of Condition after giving effect to legally enforceable master netting agreements with derivative counterparties, which include interest receivable and payable on derivative contracts and the fair values of the derivative contracts. The Bank records cash collateral received and paid in the Statements of Condition as derivative assets and liabilities in the following manner: Cash collateral pledged by the Bank is reported as a deduction to Derivative liabilities; cash collateral received from derivative counterparties is reported as a deduction to Derivative assets. No securities were either pledged or received as collateral for derivatives at December 31, 2010 or 2009.
Premises, Software and Equipment
The Bank computes depreciation using the straight-line method over the estimated useful lives of assets ranging from three to seven years. Leasehold improvements are amortized on a straight-line basis over the lesser of their useful lives or the terms of the underlying leases, which range up to seven years. The Bank capitalizes improvements and major renewals but expenses ordinary maintenance and repairs when incurred. The Bank includes gains and losses on disposal of premises and equipment in Other income (loss).
The following table summarizes premises, software and equipment and the associated accumulated depreciation and amortization (in thousands):
Concessions on Consolidated Obligations
Concessions are paid to dealers in connection with the issuance of certain consolidated obligation bonds. The Office of Finance prorates the amount of the concession to the FHLBNY based upon the percentage of the debt issued that is assumed by the FHLBNY. Concessions paid on consolidated obligations designated under the Fair Value Option (“FVO”) accounting standards are expensed as incurred. Concessions paid on consolidated obligations not designated under the FVO, are deferred and amortized, using a level-yield methodology, over the terms to maturity or the estimated lives of the consolidated obligations. The FHLBNY charges to expense as incurred the concessions applicable to the sale of consolidated obligation discount notes because of their short maturities; amounts are recorded in consolidated obligations interest expense.
Discounts and Premiums on Consolidated Obligations
The FHLBNY expenses the discounts on consolidated obligation discount notes, using the level-yield method, over the term of the related notes and amortizes the discounts and premiums on callable and non-callable consolidated bonds, also using the level-yield method, over the contractual term to maturity of the consolidated obligation bonds.
Resolution Funding Corporation (“REFCORP”) Assessments
Although the FHLBNY is exempt from ordinary federal, state, and local taxation except for local real estate tax, it is required to make payments to REFCORP. Each FHLBank is required to pay 20 percent of income calculated in accordance with accounting principles generally accepted in the U.S. (“GAAP”) after the assessment for Affordable Housing Program, but before the assessment for the REFCORP. The Affordable Housing Program and REFCORP assessments are calculated simultaneously because of their interdependence on each other. The FHLBNY accrues its REFCORP assessment on a monthly basis. Each FHLBank is required to make payments to REFCORP (20 percent) until the total amount of payments actually made is equivalent to a $300 million annual annuity, whose final maturity date is April 15, 2030. However, based on anticipated payments to be made by the 12 FHLBanks through the third quarter of 2011, it is likely that the FHLBanks will satisfy their obligation to REFCORP by the end of that period and, assuming that such is the case, further payments will not be necessary after that quarter.
In anticipation of the termination of their REFCORP obligation, the FHLBanks have reached an agreement to set aside, once the obligation has ended, amounts that would have otherwise been paid to REFCORP as restricted retained earnings, with the objective of increasing the earnings reserves of the FHLBanks and enhancing the safety and soundness of the FHLBank System.
Finance Agency and Office of Finance Expenses
The FHLBNY is assessed for its proportionate share of the costs of operating the Finance Agency and the Office of Finance. The Finance Agency is authorized to impose assessments on the FHLBanks and two other GSEs in amounts sufficient to pay the Finance Agency’s annual operating expenses and capital expenditures.
The Office of Finance is also authorized to impose assessments on the FHLBanks, including the FHLBNY, in amounts sufficient to pay the Office of Finance’s annual operating and capital expenditures. Each FHLBank is assessed a prorated amount based on the amount of capital stock outstanding, the volume of consolidated obligations issued, and the amount of consolidated obligations outstanding as a percentage of the total of the items for all 12 FHLBanks.
Earnings per Common Share
Basic earnings per share is computed by dividing income available to common stockholders by the weighted average number of common shares outstanding for the period. Diluted earnings per share reflect the potential dilution that could occur if convertible securities or other contracts to issue common stock were converted or exercised into common stock. Capital stock classified as mandatorily redeemable capital stock is excluded from this calculation. Basic and diluted earnings per share are the same as the Bank has no additional potential common shares that may be dilutive.
Cash Flows
In the Statements of Cash Flows, the FHLBNY considers Cash and due from banks to be cash. Federal funds sold, certificates of deposit, and interest-earning balances at the Federal Reserve Banks are reported in the Statements of Cash Flows as investing activities. Cash collateral pledged is reported as a deduction to Derivative liabilities and cash collateral received is reported as a deduction to Derivative assets in the Statements of Condition. In the Statements of Cash Flows, cash collateral pledged or received is reported as net changes in investing and financing activities.
Cash flows from a derivative instrument that is accounted for as a fair value or cash flow hedge, including those designated as economic hedges, are reflected as cash flows from operating activities provided that the derivative instrument does not include an other-than-insignificant financing element at inception.
In the third quarter of 2008, the Bank replaced a significant amount of derivative contracts that had been executed with Lehman Brothers Special Financing Inc. (“LBSF”), when LBSF filed for bankruptcy. The derivatives were replaced at terms that were generally “off-market” and required the derivative counterparties to pay cash to the FHLBNY to assume the derivatives which were primarily in a gain position from the perspective of the counterparties. All cash inflows and outflows of the replacement trades were reported as a financing activity at the inception of the trades in the Statements of Cash Flows. Consistent with the accounting provisions of derivatives and hedge accounting, the interest rate exchanges at each payment dates are reported as a financing activity because the derivatives contained a financing element considered to be more-than-insignificant at inception.
The Bank treats gains and losses on debt extinguishments as an operating activity and reports the cash payments from the early retirement of debt net of these amounts under financing activity in the Statements of Cash Flows.
Note 2. Recently Issued Accounting Standards and Interpretations.
Accounting for the Consolidation of Variable Interest Entities. In June 2009, the Financial Accounting Standards Board (“FASB”) issued guidance to improve financial reporting by enterprises involved with variable interest entities (“VIEs”) and to provide more relevant and reliable information to users of financial statements. This guidance amended the manner in which entities evaluate whether consolidation is required for VIEs. The guidance also required that an entity continually evaluate VIEs for consolidation, rather than making such an assessment based upon the occurrence of triggering events. Additionally, the guidance required enhanced disclosures about how an entity’s involvement with a VIE affects its financial statements and its exposure to risks. This guidance was effective as of the beginning of each reporting entity’s first annual reporting period that began after November 15, 2009 (January 1, 2010 for the FHLBNY), for interim periods within that first annual reporting period, and for interim and annual reporting periods thereafter. Earlier application was prohibited. The FHLBNY has evaluated its operations and investments and concluded that the impact of VIEs were insignificant. The guidance did not impact the financial statements, results of operations or cash flows of the FHLBNY.
Fair Value Measurements and Disclosures. Improving Disclosures about Fair Value Measurements - In January 2010, the FASB issued additional guidance for fair value measurements and disclosures. The new guidance requires a reporting entity to disclose separately the amounts of significant transfers in and out of Level 1 and Level 2 fair value measurements and describe the reasons for the transfers. Furthermore, this update requires a reporting entity to present separately information about purchases, sales, issuances, and settlements in the reconciliation for fair value measurements using significant unobservable inputs; clarifies existing fair value disclosures about the level of disaggregation and about inputs and valuation techniques used to measure fair value; and amends guidance on employers’ disclosures about postretirement benefit plan assets to require that disclosures be provided by classes of assets instead of by major categories of assets. The new guidance is effective for interim and annual reporting periods beginning after December 15, 2009 (January 1, 2010 for the FHLBNY), except for the disclosures about purchases, sales, issuances, and settlements in the rollforward of activity in Level 3 fair value measurements. Those disclosures are effective for fiscal years beginning after December 15, 2010 (January 1, 2011 for the FHLBNY), and for interim periods within those fiscal years. In the period of initial adoption, entities will not be required to provide amended disclosures for any previous periods presented for comparative purposes. Early adoption is permitted. The FHLBNY adopted this guidance as of January 1, 2010. Adoption of the guidance resulted in increased financial statement footnote disclosures only. It did not impact the Statements of Condition, Operations, Cash Flows, or Changes in Capital or the determination of fair values.
Accounting for Transfers of Financial Assets. On June 12, 2009, the FASB issued guidance, which is intended to improve the relevance, representational faithfulness, and comparability of the information that a reporting entity provides in its financial reports about a transfer of financial assets; the effects of a transfer on its financial position, financial performance, and cash flows; and a transferor’s continuing involvement in transferred financial assets. Key provisions of the guidance include: (i) the removal of the concept of qualifying special purpose entities; (ii) the introduction of the concept of a participating interest, in circumstances in which a portion of a financial asset has been transferred; and (iii) the requirement that to qualify for sales accounting, the transferor must evaluate whether it maintains effective control over transferred financial assets either directly or indirectly. The guidance also requires enhanced disclosures about transfers of financial assets and the transferor’s continuing involvement. This guidance is effective as of the beginning of each reporting entity’s first annual reporting period that begins after November 15, 2009 (January 1, 2010 for the FHLBNY), for interim periods within that first annual reporting period and for interim and annual reporting periods thereafter. Early application is prohibited. The FHLBNY has evaluated the effect of the adoption of this guidance and has concluded that adoption had no impact on its financial statements, results of operations or cash flows.
Scope Exception Related to Embedded Credit Derivatives. On March 5, 2010, the FASB issued amended guidance to clarify that the only type of embedded credit derivative feature related to the transfer of credit risk that is exempt from derivative bifurcation requirements is one that is in the form of subordination of one financial instrument to another. As a result, entities that have contracts containing an embedded credit derivative feature in a form other than such subordination will need to assess those embedded credit derivatives to determine if bifurcation and separate accounting as a derivative is required. This guidance is effective at the beginning of the first interim reporting period beginning after June 15, 2010 (July 1, 2010 for the Bank). Early adoption is permitted at the beginning of an entity’s first interim reporting period beginning after issuance of this guidance. The Bank adopted this guidance on July 1, 2010 and the adoption did not have any impact on the Bank’s results of operations or financial condition.
Disclosures about the Credit Quality of Financing Receivables and the Allowance for Credit Losses. On July 21, 2010, the FASB issued ASU 2010-20 “Disclosures about the Credit Quality of Financing Receivables and the Allowance for Credit Losses,” which amends the existing disclosure requirements to require a greater level of disaggregated information about the credit quality of financing receivables and the allowance for credit losses. The requirements are intended to enhance transparency regarding the nature of an entity’s credit risk associated with its financing receivables and an entity’s assessment of that risk in estimating its allowance for credit losses as well as changes in the allowance and the reasons for those changes. The disclosures that relate to information as of the end of a reporting period are effective for interim and annual reporting periods ending on or after December 15, 2010 (December 31, 2010 for the Bank). The disclosures about activity that occurs during a reporting period are effective for interim and annual reporting periods beginning on or after December 15, 2010 (January 1, 2011 for the Bank). Adoption of the guidance resulted in increased financial statement footnote disclosures only. It did not impact the Statements of Condition, Operations, Cash Flows, or Changes in Capital or the determination of fair value.
Subsequent Events. On February 25, 2010, the FASB issued final guidance establishing general standards of accounting for and disclosure of events that occur after the balance sheet date but before financial statements are issued (FASB ASC 855-10). This guidance sets forth: (1) the period after the balance sheet date during which management of a reporting entity should evaluate events or transactions that may occur for potential recognition or disclosure in the financial statements; (2) the circumstances under which an entity should recognize events or transactions occurring after the balance sheet date in its financial statements; and (3) the disclosures that an entity should make about events or transactions that occurred after the balance sheet date. This guidance does not apply to subsequent events or transactions that are within the scope of other applicable GAAP that provide different guidance on the accounting treatment for subsequent events or transactions. This guidance was effective for interim and annual financial periods ending after June 15, 2009. The FHLBNY adopted this guidance in the quarter ended June 30, 2009. and its adoption resulted in additional disclosures in the financial statements for certain interim periods. For more information about subsequent events as of the date of the filing of this report, see Note 23 - Subsequent Events.
Enhanced Disclosures about Derivative Instruments and Hedging Activities. On March 19, 2008, the FASB issued guidance which was intended to improve financial reporting about derivative instruments and hedging activities by requiring enhanced disclosures to enable investors to better understand their effects on an entity’s financial position, financial performance, and cash flows (FASB ASC 815-10-65-1). The standard was effective for financial statements issued for fiscal years and interim periods beginning after November 15, 2008 (January 1, 2009 for the FHLBNY). Since the new guidance only required additional disclosures concerning derivatives and hedging activities, its adoption as of January 1, 2009 did not have an effect on our financial condition, results of operations or cash flows. The expanded disclosures related to this guidance are included in Note 18 - Derivatives and Hedging Activities.
In September 2008, the FASB issued guidance to require enhanced disclosures about credit derivatives and guarantees and amend the existing guidance on guarantor’s accounting and disclosure requirements for guarantees, including indirect guarantees of indebtedness of others (FASB ASC 460-10) to exclude credit derivative instruments accounted for at fair value under the accounting standard for derivatives and hedge accounting (FASB ASC 815-10). The new guidance was effective for financial statements issued for reporting periods ending after November 15, 2008. Since the new guidance only required additional disclosures concerning credit derivatives and guarantees, its adoption as of January 1, 2009 did not have an effect on our financial condition, results of operations or cash flows.
Recognition and Presentation of Other-Than-Temporary Impairments. On April 9, 2009, the FASB issued guidance for recognition and presentation of other-than-temporary impairment (OTTI) (FASB ASC 320-10-65-1). The new guidance was intended to provide greater clarity to investors about the credit and noncredit component of an OTTI event and to more effectively communicate when an OTTI event has occurred. The guidance applies to debt securities and requires that the total OTTI be presented in the statement of income with an offset for the amount of impairment that is recognized in other comprehensive income (loss), which is the noncredit component. Noncredit component losses are to be recorded in accumulated other comprehensive income (loss) if an investor can assert that (a) it does not have the intent to sell, or (b) it is not more likely than not that it will have to sell the security prior to its anticipated recovery, and (c) it expects to recover the amortized cost basis of the security. The guidance was applicable for all entities beginning with the quarter ended June 30, 2009, with earlier adoption at January 1, 2009 permitted. The FHLBNY early adopted this guidance at January 1, 2009, and has recorded OTTI on its securities under the new rules. No cumulative effect transition adjustment was recorded since the FHLBNY had no OTTI securities prior to 2009. The expanded disclosures related to the new guidance are included in Note 5 - Held-to-Maturity Securities and Note 6 - Available-for-Sale Securities.
Determining Fair Value When the Volume and Level of Activity for the Asset or Liability Have Significantly Decreased and Identifying Transactions That Are Not Orderly. On April 9, 2009, the FASB issued guidance, which clarified the approach to, and provided additional factors to consider in estimating fair value when the volume and level of activity for the asset or liability have significantly decreased (FASB ASC 820-10-65-4). It also included guidance on identifying circumstances that indicate a transaction is not orderly. The guidance was effective prospectively for financial statements issued for interim and annual reporting periods ending after June 15, 2009, with early adoption permitted for reporting periods ending after March 15, 2009. The FHLBNY elected to early adopt this guidance effective January 1, 2009. The enhanced disclosures related to this guidance are included in Note 19 - Fair Values of Financial Instruments.
Note 3. Cash and Due from Banks.
Cash on hand, cash items in the process of collection, and amounts due from correspondent banks and the Federal Reserve Banks are included in cash and due from banks.
Compensating balances
The Bank maintained average required clearing balances with the Federal Reserve Banks of approximately $1.0 million for the years ended December 31, 2010 and 2009. The Bank uses earnings credits on these balances to pay for services received from the Federal Reserve Banks.
Pass-through deposit reserves
The Bank acts as a pass-through correspondent for member institutions required to deposit reserves with the Federal Reserve Banks. Pass-through reserves deposited with Federal Reserve Banks were $49.5 million and $29.3 million as of December 31, 2010 and 2009. The Bank includes member reserve balances in Other liabilities in the Statements of Condition.
Note 4. Interest-Bearing Deposits.
In October 2008, the Board of Governors of the Federal Reserve System directed the Federal Reserve Banks (“FRB”) to pay interest on balances in excess of certain required reserve and clearing balances. The formula for calculating interest earned was based on average excess balances over the calculation period; rates are generally tied to the federal funds rate. At December 31, 2008, the Bank had invested $12.2 billion in excess balances placed with the FRB as interest-bearing deposit. Effective July 2, 2009, the FHLBNY no longer collected interest on excess balances with the FRB. The FRB will pay interest only on required reserves. At December 31, 2010 and 2009, the cash at the FRB was classified as Cash and Due from Banks as the balances did not earn interest.
Note 5. Held-to-Maturity Securities.
Held-to-maturity securities consist of mortgage- and asset-backed securities (collectively mortgage-backed securities or “MBS”), state and local housing finance agency bonds, and short-term certificates of deposit issued by highly rated banks and financial institutions.
Mortgage-backed securities - The FHLBNY’s investments in MBS are predominantly government-sponsored, enterprise-issued securities. The carrying value of investments in mortgage-backed securities issued by Federal National Mortgage Association (“Fannie Mae”) and the Federal Home Loan Mortgage Corp. (“Freddie Mac”) (together, government sponsored enterprises or “GSEs”) and a U.S. government agency at December 31, 2010 was $6.2 billion, or 88.3% of the total MBS classified as held-to-maturity. The comparable carrying value of GSE issued MBS at December 31, 2009 was $8.7 billion, or 89.1% of the total MBS classified as held-to-maturity. The carrying value (amortized cost less non-credit component of OTTI) of privately issued mortgage- and asset-backed securities at December 31, 2010 and 2009 was $0.8 billion and $1.1 billion. Privately issued MBS primarily included asset-backed securities, mortgage pass-throughs and Real Estate Mortgage Investment Conduit bonds, and securities supported by manufactured housing loans.
State and local housing finance agency bonds - Investments in primary public and private placements of taxable obligations of state and local housing finance authorities (“HFA”) were classified as held-to-maturity and the amortized cost basis was $770.6 million and $751.8 million at December 31, 2010 and 2009.
Major Security Types
The amortized cost basis, the gross unrecognized holding gains and losses1, the fair values of held-to-maturity securities, and OTTI recognized in AOCI were as follows (in thousands):
Unrealized Losses
The following tables summarize held-to-maturity securities with fair values below their amortized cost basis. The fair values and gross unrealized holding losses1 are aggregated by major security type and by the length of time individual securities have been in a continuous unrealized loss position as follows (in thousands):
Unrealized losses represent the difference between amortized cost and fair value of a security. The baseline measure of unrealized losses is amortized cost, which is not adjusted for non-credit OTTI. Unrealized losses will not equal gross unrecognized losses, which is adjusted for non-credit OTTI.
Redemption terms
The amortized cost and estimated fair value of held-to-maturity securities, by contractual maturity, were as follows (in thousands). Expected maturities may differ from contractual maturities because borrowers may have the right to call or prepay obligations with or without call or prepayment fees.
The amortized cost of held-to-maturity securities at December 31, 2010 included discounts of $19.2 million ($29.8 million at December 31, 2009) and premiums of $15.1 million ($14.9 million at December 31, 2009). In 2010, accretion of $6.7 million, net of amortization, was recorded to interest income. In 2009, accretion of $6.4 million, net of amortization, was recorded to interest income. In 2008, amortization expenses of $1.8 million, net of accretion, were charges to interest income.
Interest rate payment terms
The following table summarizes interest rate payment terms of long-term securities classified as held-to-maturity (in thousands):
Impairment analysis of GSE issued securities
The FHLBNY evaluates its individual securities issued by Fannie Mae, Freddie Mac and a government agency by considering the creditworthiness and performance of the debt securities and the strength of the GSE’s guarantees of the securities. Based on the Bank’s analysis, GSE and agency issued securities are performing in accordance with their contractual agreements. The Housing Act contains provisions allowing the U.S. Treasury to provide support to Fannie Mae and Freddie Mac. In September 2008, the U.S. Treasury and the Finance Agency placed Fannie Mae and Freddie Mac into conservatorship in an attempt to stabilize their financial conditions and their ability to support the secondary mortgage market. The FHLBNY believes that it will recover its investments in GSE and agency issued securities given the current levels of collateral, credit enhancements and guarantees that exist to protect the investments.
Impairment analysis of held-to-maturity non-agency private-label mortgage- and asset-backed securities (“PLMBS”)
Management evaluates its investments for OTTI on a quarterly basis, under amended OTTI guidance issued by the Financial Accounting Standards Board (“FASB”) in the 2009 first quarter. This amended OTTI guidance, which the FHLBNY early adopted in the 2009 first quarter, results in only the credit portion of OTTI securities being recognized in earnings. The noncredit portion of OTTI, which represents fair value losses of OTTI securities, is recognized in AOCI. Prior to 2009, if impairment was determined to be other-than-temporary, the impairment loss recognized in earnings was equal to the entire difference between the security’s amortized cost basis and its fair value. Prior to 2009, the FHLBNY had no impaired securities. Beginning with the quarter ended September 30, 2009, and thereafter, the FHLBNY performed its OTTI analysis by cash flow testing 100 percent of it private-label MBS.
Base case (best estimate) assumptions and adverse case scenarios - In evaluating its private-label MBS for OTTI, the FHLBNY develops a base case assumption about future changes in home prices, prepayments, default and loss severities. The base case assumptions are the Bank’s best estimate of the performance parameters of its private-label MBS. The assumptions are then input to an industry standard bond cash flow model that generates expected cash flows based on various security classes in the securitization structure of each private-label MBS. See Note 1 for information with respect to critical estimates and assumptions about the Bank’s impairment methodologies. In addition to evaluating its private-label MBS under a base case scenario, the FHLBNY also performs a cash flow analysis for each security determined to be OTTI under a more stressful performance scenario. For more information, see Table: “Adverse case scenario - December 31, 2010” that summarizes the base case assumptions and OTTI results under an adverse case scenario.
Third-party Bond Insurers (Monoline insurers) - Certain held-to-maturity private-label MBS owned by the FHLBNY are insured by third-party bond insurers (“monoline insurers”). The bond insurance on these investments guarantees the timely payments of principal and interest if these payments cannot be satisfied from the cash flows of the underlying mortgage pool. The FHLBNY performs cash flow credit impairment tests on all of its private-label insured securities, and the analysis of the MBS protected by such third-party insurance looks first to the performance of the underlying security, and considers its embedded credit enhancements in the form of excess spread, overcollateralization, and credit subordination, to determine the collectability of all amounts due. If the embedded credit enhancement protections are deemed insufficient to make timely payment of all amounts due, then the FHLBNY considers the capacity of the third-party bond insurer to cover any shortfalls.
The two primary monoline insurers, Ambac and MBIA, have been subject to adverse ratings, rating downgrades, and weakening financial performance measures. In estimating the insurers’ capacity to provide credit protection in the future to cover any shortfall in cash flows expected to be collected for securities deemed to be OTTI, the FHLBNY has developed a methodology to assess the ability of the monoline insurers to meet future insurance obligations. Predicting when bond insurers may no longer have the ability to perform under their contractual agreements is a key impairment measurement parameter which the FHLBNY continually adjusts to factor the changing operating conditions at Ambac and MBIA. MBIA is currently rated below investment grade. Ambac’s rating was recently updated from below investment grade to “R,” which is indicative of regulatory intervention, as Ambac is under conservatorship. Financial information, cash flows and results of operations from the two monolines are closely monitored and analyzed by the management of FHLBNY. Based on on-going analysis of Ambac and MBIA at each interim period in 2010, the FHLBNY management has shortened the period it believes the two monolines can continue to provide insurance support as a result of the changing operating conditions at Ambac and MBIA. For OTTI assessment, the management of the Bank has effectively excluded Ambac as a reliable provider of support for any future short-falls on securities insured by Ambac, and will not rely on support from MBIA beyond June 30, 2011 for securities insured by MBIA. The FHLBNY performs this analysis and makes a re-evaluation of the bond insurance support period quarterly.
Up until March 31, 2010, both Ambac and MBIA had been paying claims in order to meet any current cash flow deficiency within the structure of the insured securities. As of December 31, 2010, MBIA is continuing to meet claims. On March 24, 2010, Ambac, with the consent of the Commissioner of Insurance for the State of Wisconsin (the “Commissioner”), entered into a temporary injunction to suspend payments to bond holders and to create a segregated account for bond holders, which had no effect on payments due from Ambac through March 31, 2010. As a result, payments from Ambac to trustees of certain insured bonds owned by the FHLBNY were suspended. The amounts suspended were not material. Changes to these and other key assumptions may result in materially different outcomes and the realization of additional other-than-temporary impairment charges in the future.
OTTI Year ended December 31, 2010 - To assess whether the entire amortized cost basis of the Bank’s private-label MBS will be recovered, the Bank performed cash flow analysis for 100 percent of the FHLBNY’s private-label MBS outstanding at December 31, 2010 and at each quarter in 2010. Cash flow assessments identified credit impairment on eight HTM private-label mortgage-backed securities, resulting in $8.3 million of other-than-temporary impairment (“OTTI”) charged to earnings in 2010. Seven of the securities had been previously determined to be OTTI, and the additional impairment (or re-impairment) in 2010 was due to further deterioration in the credit performance metrics of the securities. The non-credit portion of OTTI recorded in AOCI was not significant in 2010 as the fair values of almost all securities deemed OTTI were in excess of their carrying values.
The table below summarizes the key characteristics of the impact of securities determined to be OTTI during 2010, including securities determined to be OTTI in the fourth quarter of 2010 (dollars in thousands):
*
RMBS-Prime - Private-label MBS supported by prime residential loans; HEL Subprime - MBS supported by home equity loans.
Positive non-credit loss represents the net amount of non-credit losses reclassified from OCI to increase the carrying value of securities previously deemed OTTI.
The table below summarizes the key characteristics of the securities that were deemed OTTI in the fourth quarter of 2010 (dollars in thousands):
*
RMBS-Prime - Private-label MBS supported by prime residential loans; HEL Subprime - MBS supported by home equity loans.
With respect to the Bank’s remaining investments at December 31, 2010, the Bank believes no OTTI exists. The Bank’s conclusion is based upon multiple factors: bond issuers’ continued satisfaction of their obligations under the contractual terms of the securities; the estimated performance of the underlying collateral; the evaluation of the fundamentals of the issuers’ financial condition; and the estimated support from the monoline insurers under the contractual terms of insurance. Management has not made a decision to sell such securities at December 31, 2010. Management has also concluded that it is more likely than not that it will not be required to sell such securities before recovery of the amortized cost basis of the securities. Based on factors outlined above, the FHLBNY believes that the remaining securities classified as held-to-maturity were not other-than-temporarily impaired as of December 31, 2010.
However, without recovery in the near term such that liquidity returns to the mortgage-backed securities market and spreads return to levels that reflect underlying credit characteristics, or if the credit losses of the underlying collateral within the mortgage-backed securities perform worse than expected, additional OTTI may be recognized in future periods.
OTTI Year ended December 31, 2009 - Beginning with the third quarter of 2009 and at December 31, 2009, the FHLBNY cash flow tested 100 percent of its private-label MBS to identify credit impairment. Certain uninsured bonds were also determined to be credit impaired based on cash flow shortfall in the earlier interim periods of 2009. In many instances, the FHLBNY’s cash flow analysis observed additional credit impairment also referred to as credit re-impairments. Observed historical performance parameters of certain securities had deteriorated in 2009, and these factors had increased loss severities in the cash flow analyses of those private-label MBS. Credit related OTTI charged to earnings was $20.8 million, and the non-credit charge to AOCI was $120.1 million.
The tables provide summary analysis of the securities that were deemed OTTI in the fourth quarter of 2009 and cumulatively through December 31, 2009 (in thousands):
*
HEL Subprime - MBS supported by home equity loans.
*
RMBS-Prime - Private-label MBS supported by prime residential loans; HEL Subprime - MBS supported by home equity loans.
The following table provides rollforward information of the credit component of OTTI recognized as a charge to earnings related to held-to-maturity securities for which a significant portion of the OTTI (non-credit component) was recognized in AOCI (in thousands):
OTTI Year ended December 31, 2008 - The Bank did not experience any OTTI during 2008. At December 31, 2008, the FHLBNY’s screening and monitoring process, which included pricing, credit rating and credit enhancement coverage, had identified 21 private-label MBS with weak performance measures indicating the possibility of OTTI. Bonds selected through the screening process were cash flow tested for credit impairment. Fourteen of the securities were determined to be impaired absent bond insurer support to meet scheduled cash flows in the future. Based on financial analysis of the bond insurers at December 31, 2008, it was determined that Ambac Assurance Corp. (“Ambac”) and MBIA Insurance Corp. (“MBIA”) had the ability to meet future claims, and the 14 bonds were determined to be credit-protected by the two insurers, and no OTTI charge was deemed necessary. The remaining securities were considered to be only temporarily impaired based on cash flow analysis at December 31, 2008.
Key Base Assumptions
The table below summarizes the weighted average and range of Key Base Assumptions ** for securities determined to be OTTI in 2010:
RMBS Prime - Private-label MBS supported by prime residential loans; HEL Subprime - MBS supported by home equity loans.
The table below summarizes the weighted average and range of Key Base Assumptions for all private-label MBS at December 31, 2010, including those deemed OTTI:
**
Conditional Prepayment Rate (CPR): 1- ((1-SMM)^12) where, SMM is defined as the “Single Monthly Mortality (SMM)” = (Voluntary partial and full prepayments + repurchases + Liquidated Balances)/(Beginning Principal Balance - Scheduled Principal). Voluntary prepayment excludes the liquidated balances mentioned above.
**
Conditional Default Rate (CDR): 1- ((1-MDR)^12) where, MDR is defined as the “Monthly Default Rate (MDR)” = (Beginning Principal Balance of Liquidated Loans)/(Total Beginning Principal Balance).
**
Loss Severity (Principal and interest in the current period) = Sum (Total Realized Loss Amount)/Sum (Beginning Principal and interest Balance of Liquidated Loans).
**
If the present value of cash flows expected to be collected (discounted at the security’s effective yield) is less than the amortized cost basis of the security, other-than-temporary impairment is considered to have occurred because the entire amortized cost basis of the security will not be recovered. The Bank considers whether or not it will recover the entire amortized cost of the security by comparing the present value of the cash flows expected to be collected from the security (discounted at the security’s effective yield) with the amortized cost basis of the security.
Third-party Bond Insurer (Monoline insurer support)
The FHLBNY has identified certain MBS that have been determined to be credit impaired despite credit protection from Ambac and MBIA to meet scheduled payments in the future. Cash flows on certain insured securities are currently experiencing cash flow shortfalls.
Monoline Analysis and Methodology - The two monoline insurers have been subject to adverse ratings, rating downgrades, and weakening financial performance measures. A rating downgrade implies an increased risk that the insurer will fail to fulfill its obligations to reimburse the investor for claims under the insurance policies. Monoline insurers are segmented into two categories of claims paying ability - (1) Adequate, and (2) At Risk. These categories represent an assessment of an insurer’s ability to perform as a financial guarantor.
Adequate. Monolines determined to possess “adequate” claims paying ability are expected to provide full protection on their insured private-label mortgage-backed securities. Accordingly, bonds insured by monolines with adequate ability to cover written insurance are run with full financial guarantee set to “on” in the cashflow model.
At Risk. For monolines with at risk coverage, further analysis is performed to establish an expected case regarding the time horizon of the monoline’s ability to fulfill its financial obligations and provide credit support. Accordingly, bonds insured by monolines in the at risk category are run with a partial financial guarantee in the cashflow model. This partial claim paying condition is expressed in the cashflow model by specifying a “coverage ignore” date. The ignore date is based on the “burnout period” calculation method.
Burnout Period. The projected time horizon of credit protection provided by an insurer is a function of claims paying resources and anticipated claims in the future. This assumption is referred to as the “burnout period” and is expressed in months, and is computed by dividing each (a) insurers’ total claims paying resources by the (b) “burnout rate” projection. This variable uses monthly or aggregate dollar amount of claims each insurer has paid most recently, and additional qualitative information pertinent to the financial guarantor.
Based on the methodology, the Bank has classified FSA (name changed in 2009 to Assured Guaranty Municipal Corp.) as adequate, and MBIA and Ambac as “at risk”. As of December 31, 2010, MBIA and Assured Guaranty Municipal “AGM” were performing under the terms of their contractual agreements with respect to the FHLBNY’s insured bonds. As discussed previously, Ambac has suspended payments under regulatory orders, and the FHLBNY believes the suspension is temporary. However, estimation of an insurer’s financial strength to remain viable over a long time horizon requires significant judgment and assumptions. Predicting when the insurers may no longer have the ability to perform under their contractual agreements, then comparing the timing and amounts of cash flow shortfalls of securities that are credit impaired to when insurer protection may not be available, and determining credit impairment requires significant judgment.
The monoline analysis methodology resulted in the following “Burnout Period” time horizon dates for Ambac and MBIA:
Note 6. Available-for-Sale Securities.
Major Security types - The unamortized cost, gross unrealized gains, losses, and the fair value1 of investments classified as available-for-sale were as follows (in thousands):
The carrying value of Available-for-sale securities equals fair value.
Unrealized Losses - MBS classified as available-for-sale securities (in thousands):
Amortized cost of available-for-sale securities includes adjustments made to the cost basis of an investment for accretion, amortization, collection of cash, previous OTTI recognized in earnings and/or fair value hedge accounting adjustments. There were no AFS securities determined to be OTTI at December 31, 2010 or 2009. No AFS securities were hedged at December 31, 2010 and 2009. Accretion of discounts recorded to income were $7.5 million, $5.2 million and $3.8 million for the years ended December 31, 2010, 2009 and 2008.
Management of the FHLBNY has concluded that gross unrealized losses at December 31, 2010 and 2009, as summarized in the table above, were caused by interest rate changes, credit spreads widening and reduced liquidity in the applicable markets. The FHLBNY has reviewed the investment security holdings and determined, based on creditworthiness of the securities and including any underlying collateral and/or insurance provisions of the security, that unrealized losses in the analysis above represent temporary impairment.
Impairment analysis on Available-for-sale securities - The Bank’s portfolio of mortgage-backed securities classified as available-for-sale (“AFS”) is comprised entirely of GSE issued collateralized mortgage obligations which are “pass through” securities. The FHLBNY evaluates its individual securities issued by Fannie Mae and Freddie Mac by considering the creditworthiness and performance of the debt securities and the strength of the government-sponsored enterprises’ guarantees of the securities. Based on the Bank’s analysis, GSE securities are performing in accordance with their contractual agreements. The Housing Act contains provisions allowing the U.S. Treasury to provide support to Fannie Mae and Freddie Mac. The U.S. Treasury and the Finance Agency placed Fannie Mae and Freddie Mac into conservatorship in an attempt to stabilize their financial conditions and their ability to support the secondary mortgage market. The FHLBNY believes that it will recover its investments in GSE issued securities given the current levels of collateral, credit enhancements, and guarantees that exist to protect the investments. Management has not made a decision to sell such securities at December 31, 2010 or subsequently. Management also concluded that it is more likely than not that it will not be required to sell such securities before recovery of the amortized cost basis of the security. The FHLBNY believes that these securities were not other-than-temporarily impaired as of December 31, 2010 or 2009.
The Bank has established certain grantor trusts to fund current and future payments for its employee supplemental pension plans and investment in the trusts are classified as available-for-sale. The grantor trusts invest in money market, equity and fixed-income and bond funds. Investments in equity and fixed-income funds are redeemable at short notice, and realized gains and losses from investments in the funds were not significant. No available-for-sale-securities had been pledged at December 31, 2010 or 2009.
Redemption terms
The amortized cost and estimated fair value1 of investments classified as available-for-sale, by contractual maturity, were as follows (in thousands). Expected maturities may differ from contractual maturities because borrowers may have the right to call or prepay obligations with or without call or prepayment fees.
*
Determined to be redeemable at anytime.
The carrying value of Available-for-sale securities equals fair value.
Interest rate payment terms
The following table summarizes interest rate payment terms of investments classified as available-for-sale securities (in thousands):
Note 7. Advances.
Redemption terms
Contractual redemption terms and yields of advances were as follows (dollars in thousands):
Impact of putable advances on advance maturities
The Bank offers fixed-rate advances also with a put option feature (“putable advance”). With a putable advance, the Bank purchases a put option from the member that allows the Bank to terminate the fixed-rate advance, which is normally exercised when interest rates have increased from those prevailing at the time the advance was made. When the Bank exercises the put option, it will offer to extend additional credit to members at the then prevailing market rates and terms. Typically, the Bank will hedge putable advances with cancellable interest rate swaps with matching terms and will sell the exercise option that will allow swap counterparties to terminate the swaps at the same predetermined exercise dates as the advances. As of December 31, 2010 and 2009, the Bank had putable advances outstanding totaling $34.7 billion and $41.4 billion, representing 45.0% and 45.6% of par amounts of advances outstanding at those dates.
The table below offers a view of the advance portfolio with the possibility of the exercise of the put option that is controlled by the FHLBNY, and put dates are summarized into similar maturity tenors as the previous table that summarizes advances by contractual maturities (dollars in thousands):
Due or putable in one year or less includes two callable advances.
Monitoring and evaluating credit losses
Security Terms. The FHLBNY lends to financial institutions involved in housing finance within its district. In addition, the FHLBNY is permitted, but not required, to accept collateral in the form of small business or agricultural loans (“expanded collateral”) from Community Financial Institutions (“CFIs”). CFIs are defined in the Housing Act as those institutions that have, as of the date of the transaction at issue, less than $1,029 million in average total assets over the three years preceding that date (subject to annual adjustment by the Finance Agency director based on the Consumer Price Index). It is the FHLBNY’s policy not to accept such expanded collateral for advances. Borrowing members pledge their capital stock of the FHLBNY as additional collateral for advances. As of December 31, 2010, the FHLBNY had rights to collateral with an estimated value greater than outstanding advances. Based upon the financial condition of the member, the FHLBNY:
(1)
Allows a member to retain possession of the collateral assigned to the FHLBNY, if the member executes a written security agreement and agrees to hold such collateral for the benefit of the FHLBNY; or
(2)
Requires the member specifically to assign or place physical possession of such collateral with the FHLBNY or its safekeeping agent.
Beyond these provisions, Section 10(e) of the FHLBank Act affords any security interest granted by a member to the FHLBNY priority over the claims or rights of any other party. The two exceptions are claims that would be entitled to priority under otherwise applicable law or perfected security interests. All member obligations with the Bank were fully collateralized throughout their entire term. The total of collateral pledged to the Bank includes excess collateral pledged above the Bank’s minimum collateral requirements. However, a “Maximum Lendable Value” is established to ensure that the Bank has sufficient eligible collateral securing credit extensions. The Maximum Lendable Values range from 90 percent to 70 percent for mortgage collateral and is applied to the lesser of book or market value. For securities, it ranges from 97 percent to 67 percent and is applied to the market value. There are not any Maximum Lendable Value ranges for deposit collateral pledged. It is common for members to maintain excess collateral positions with the Bank for future liquidity needs. Based on several factors (e.g. advance type, collateral type or member financial condition) members are required to comply with specified collateral requirements, including but not limited to a detailed listing of pledged mortgage collateral and/or delivery of pledged collateral to the Bank or its designated collateral custodian(s). For example, all pledged securities collateral must be delivered to the Bank’s nominee name at Citibank, N.A., its securities safekeeping custodian. Mortgage collateral that is required to be in the Bank’s possession is typically delivered to the Bank’s Jersey City, New Jersey facility. However, in certain instances, delivery to a Bank approved custodian may be allowed. In both instances, the members provide periodic listings updating the information of the mortgage collateral in possession.
Collateral received. As of December 31, 2010 and 2009, members had pledged a total of $147.8 billion and $163.3 billion. At a minimum, each member pledged sufficient collateral to adequately collateralize their outstanding obligations with the Bank. At December 31, 2010 and 2009, $48.6 billion and $57.7 billion of collateral were in the Bank’s physical possession or that of its safekeeping agent(s); $99.3 billion and $105.7 billion were specifically listed. Under this collateralization arrangement, the member holds or had engaged a third party custodian for physical possession of specific collateral pledged to the FHLBNY. Member borrowers regardless of assigned collateral category provide listings of loans pledged to the Bank with detailed information such as loan amount, payments, maturity date, interest rate, loan-to-value, collateral type, FICO scores, etc.
In addition, the FHLBNY has a lien on each member’s investment in the capital stock of the FHLBNY.
Credit Risk. The FHLBNY has never experienced a credit loss on an advance. The management of the Bank has policies and procedures in place to appropriately manage credit risk. There were no past due advances and all advances were current for each of the periods ended December 31, 2010 and 2009. Management does not anticipate any credit losses, and accordingly, the Bank has not provided an allowance for credit losses on advances. The Bank’s potential credit risk from advances is concentrated in commercial banks, savings institutions and insurance companies.
Concentration of advances outstanding. Advances to the FHLBNY’s top ten borrowing member institutions aggregated $54.1 billion and $59.5 billion as of December 31, 2010 and 2009, representing 70.3% and 65.6% of the par amounts of advances outstanding. The FHLBNY held sufficient collateral to cover the advances to all of these institutions, and it does not expect to incur any credit losses.
Interest Rate Payment Terms
The following table summarizes interest rate payment terms for advances (dollars in thousands):
Variable-rate advances were mainly indexed to the London Interbank Offered Rate (“LIBOR”) or the Federal funds effective rate.
Note 8. Mortgage Loans Held-for-Portfolio.
Mortgage Partnership Finance program loans, or (MPF), constitute the majority of the mortgage loans held-for-portfolio. The MPF program involves investment by the FHLBNY in mortgage loans that are purchased from its participating financial institutions (“PFIs”). The members retain servicing rights and may credit-enhance the portion of the loans participated to the FHLBNY. No intermediary trust is involved.
The following table presents information on mortgage loans held-for-portfolio (dollars in thousands):
Represents fair value basis of open and closed delivery commitments.
The estimated fair values of the mortgage loans as of December 31, 2010 and 2009 are reported in Loans insured by the Federal Housing Administration and Veteran Administration were $5.6 million and $6.0 million at December 31, 2010 and 2009. Conventional mortgages constituted the remaining balance of mortgage loans held-for-portfolio.
The FHLBNY and its members share the credit risk of MPF loans by structuring potential credit losses into layers (See Note 1 - Significant Accounting Policies and Estimates). The first layer is typically 100 basis points but varies with the particular MPF program. The amount of the first layer, or First Loss Account (“FLA”), was estimated as $12.0 million and $13.9 million at December 31, 2010 and 2009. The FLA is not recorded or reported as a reserve for loan losses as it serves as a memorandum or information account. The FHLBNY is responsible for absorbing the first layer. The second layer is that amount of credit obligations that the PFI has taken on which will equate the loan to a double-A rating. The FHLBNY pays a Credit Enhancement fee to the PFI for taking on this obligation. The FHLBNY assumes all residual risk. Credit Enhancement fees accrued were $1.4 million for the year ended December 31, 2010, $1.6 million for year ended December 31, 2009, and $1.7 million for the years ended December 31, 2008, and reported as a reduction to mortgage loan interest income. The amount of charge-offs in each period reported was insignificant and it was not necessary for the FHLBNY to recoup any losses from the PFIs.
Allowance methodology for loan losses. The Bank performs periodic reviews of individual impaired mortgage loans within the MPF loan portfolio to identify the potential for losses inherent in the portfolio and to determine the likelihood of collection of the principal and interest. Mortgage loans that are past due 90 days or more or classified under regulatory criteria (Sub-standard, doubtful or Loss) are evaluated separately on a loan level basis for impairment. The FHLBNY bases its provision for credit losses on its estimate of probable credit losses inherent in the impaired MPF loan. The FHLBNY computes the provision for credit losses without considering the private mortgage insurance and other accompanying credit enhancement features (except the “First Loss Account”) to provide credit assurance to the FHLBNY. If adversely classified, or past due 90 days or more, reserves for conventional mortgage loans, except FHA- and VA-insured loans, are analyzed under liquidation scenarios on a loan level basis, and identified losses are fully reserved.
When a loan is foreclosed and the Bank takes possession of real estate, the Bank will charge to the loan loss reserve account any excess of the carrying value of the loan over the net realizable value of the foreclosed loan.
FHA- and VA- insured mortgage loans have minimal inherent credit risk; risk of such loans generally arises from servicers defaulting on their obligations, if adversely classified, the FHLBNY will have reserves established only in the event of a default of a PFI. Reserves would be based on the estimated costs to recover any uninsured portion of the MPF loan.
Classes of the MPF loan portfolio would be subject to disaggregation to the extent that it is needed to understand the exposure to credit risk arising from these loans. The FHLBNY has determined that no further disaggregation of portfolio segments is needed, other than the methodology discussed above. The FHLBNY does not evaluate MPF loans collectively.
Allowance for loan losses have been recorded against the uninsured MPF loans. All other types of mortgage-loans were insignificant and no allowances were necessary.
Allowance for loan losses
The following provides roll-forward analysis of the allowance for credit losses (in thousands):
Non-performing loans
As of December 31, 2010 and 2009, the FHLBNY had $26.8 million and $16.0 million of non-accrual loans. Mortgage loans are considered impaired when, based on current information and events, it is probable that the FHLBNY will be unable to collect all principal and interest amounts due according to the contractual terms of the mortgage loan agreements. As of December 31, 2010 and 2009, the FHLBNY had no investment in impaired mortgage loans, other than the non-accrual loans.
The following table contrasts Non-performing loans and 90 - day past due loans1 to total mortgage (in thousands):
Includes loans classified as sub-standard, doubtful or loss under regulatory criteria.
The following table summarizes the recorded investment, the unpaid principal balance and related allowance for impaired loans (individually assessed for impairment), and the average recorded investment of impaired loans (in thousands):
Based on analysis of the nature of risks of the Bank’s investments in MPF loans, including its methodologies for identifying and measuring impairment, the management of the FHLBNY has determined that presenting such loans as a single class is appropriate.
Mortgage loans - Interest on Non-performing loans
The FHLBNY’s interest contractually due and actually received for non-performing loans were as follows (in thousands):
The Bank does not recognize interest received as income from uninsured loans past due 90-days or greater.
Recorded investments in MPF loans that were past due loans and real-estate owned are summarized below (in thousands):
*
Does not include loans in foreclosure
Loss Allocation
Credit losses on conventional MPF Loans not absorbed by the borrower’s equity in the mortgaged property, property insurance or primary mortgage insurance are allocated between the FHLBNY and PFI as follows:
First, to the FHLBNY, up to an agreed upon amount, called a First Loss Account.
Original MPF. The FLA starts out at zero on the day the first MPF Loan under a Master Commitment is purchased but increases monthly over the life of the Master Commitment at a rate that ranges from 0.03% to 0.05% (3 to 5 basis points) per annum based on the month end outstanding aggregate principal balance of the Master Commitment. The FLA is structured so that over time, it should cover expected losses on a Master Commitment, though losses early in the life of the Master Commitment could exceed the FLA and be charged in part to the PFI’s CE Amount.
MPF 100 and MPF 125. The FLA is equal to 1.00% (100 basis points) of the aggregate principal balance of the MPF Loans funded under the Master Commitment. Once the Master Commitment is fully funded, the FLA is intended to cover expected losses on that Master Commitment, although the FHLBNY may economically recover a portion of losses incurred under the FLA by withholding performance CE Fees payable to the PFI.
MPF Plus. The FLA is equal to an agreed upon number of basis points of the aggregate principal balance of the MPF Loans funded under the Master Commitment that is not less than the amount of expected losses on the Master Commitment. Once the Master Commitment is fully funded, the FLA is intended to cover expected losses on that Master Commitment, although the FHLBNY may economically recover a portion of losses incurred under the FLA by withholding performance CE Fees payable to the PFI.
Second, to the PFI under its credit enhancement obligation, losses for each Master Commitment in excess of the FLA, if any, up to the CE Amount. The CE Amount may consist of a direct liability of the PFI to pay credit losses up to a specified amount, a contractual obligation of the PFI to provide SMI or a combination of both.
Third, any remaining unallocated losses are absorbed by the MPF Bank.
With respect to participation interests, MPF Loan losses allocable to the FHLBNY are allocated amongst the participating MPF Banks pro ratably based upon their respective participation interests in the related Master Commitment.
Note 9. Deposits.
The FHLBNY accepts demand, overnight and term deposits from its members. A member that services mortgage loans may deposit in the FHLBNY funds collected in connection with the mortgage loans, pending disbursement of such funds to the owners of the mortgage loans.
The following table summarizes term deposits (in thousands):
Note 10. Borrowings.
Securities sold under agreements to repurchase
The FHLBNY did not have any securities sold under agreement to repurchase as of December 31, 2010 or 2009. Terms, amounts and outstanding balances of borrowings from other Federal Home Loan Banks are described under Note 21 - Related Party Transactions.
Note 11. Consolidated Obligations.
Consolidated obligations are the joint and several obligations of the FHLBanks and consist of bonds and discount notes. The FHLBanks issue consolidated obligations through the Office of Finance as their fiscal agent. Consolidated bonds are issued primarily to raise intermediate- and long-term funds for the FHLBanks and are not subject to any statutory or regulatory limits on maturity. Consolidated discount notes are issued primarily to raise short-term funds. Discount notes sell at less than their face amount and are redeemed at par value when they mature.
The Finance Agency, at its discretion, may require any FHLBank to make principal or interest payments due on any consolidated obligations. Although it has never occurred, to the extent that an FHLBank would make a payment on a consolidated obligation on behalf of another FHLBank, the paying FHLBank would be entitled to reimbursement from the non-complying FHLBank. However, if the Finance Agency determines that the non-complying FHLBank is unable to satisfy its obligations, then the Finance Agency may allocate the outstanding liability among the remaining FHLBanks on a pro rata basis in proportion to each FHLBank’s participation in all consolidated obligations outstanding, or on any other basis the Finance Agency may determine.
Based on management’s review, the FHLBNY has no reason to record actual or contingent liabilities with respect to the occurrence of events or circumstances that would require the FHLBNY to assume an obligation on behalf of other FHLBanks. The par amounts of the FHLBanks’ outstanding consolidated obligations, including consolidated obligations held by other FHLBanks, were approximately $0.8 trillion and $0.9 trillion as of December 31, 2010 and 2009.
Finance Agency regulations require the FHLBanks to maintain, in the aggregate, unpledged qualifying assets equal to the consolidated obligations outstanding. Qualifying assets are defined as cash; secured advances; assets with an assessment or rating at least equivalent to the current assessment or rating of the consolidated obligations; obligations, participations, mortgages, or other securities of or issued by the United States or an agency of the United States; and securities in which fiduciary and trust funds may invest under the laws of the state in which the FHLBank is located.
The FHLBNY met the qualifying unpledged asset requirements in each of the years reported as follows:
To provide the holders of consolidated obligations issued before January 29, 1993 (prior bondholders) with the protection equivalent to that provided under the FHLBanks’ previous leverage limit of twelve times the FHLBanks’ capital stock, prior bondholders have a claim on the qualifying assets [Special Asset Account (SAA)] if capital stock is less than 8.33% of consolidated obligations. As of December 31, 2010 and 2009, the combined FHLBanks’ capital stock was 6.1% and 5.7% of the par value of consolidated obligations outstanding, and the SAA balance was approximately $3 thousand and $5 thousand at December 31, 2010 and 2009. Further, the regulations require each FHLBank to transfer qualifying assets in the amount of its allocated share of the FHLBanks’ SAA to a trust for the benefit of the prior bondholders, if its capital-to-assets ratio falls below 2.0%. No transfer has been made because the ratio has never been below 2.0%.
General Terms
FHLBank consolidated obligations are issued with either fixed- or variable-rate coupon payment terms that use a variety of indices for interest rate resets. These indices include the London Interbank Offered Rate (“LIBOR”), Constant Maturity Treasury (“CMT”), 11th District Cost of Funds Index (“COFI”), and others. At December 31, 2010 and 2009, variable-rate consolidated obligation coupons issued for the FHLBNY were primarily indexed to LIBOR and the Federal funds rate.
Consolidated obligations, beyond having fixed-rate or simple variable-rate coupon payment terms, may also include Optional Principal Redemption Bonds (callable bonds) that the FHLBNY may redeem in whole or in part at its discretion on predetermined call dates, according to the terms of the bond offerings.
With respect to interest payment terms, consolidated bonds may also have step-up, or step-down terms. Step-up bonds generally pay interest at increasing fixed rates for specified intervals over the life of the bond. Step-down bonds pay interest at decreasing fixed rates. These bonds generally contain provisions enabling the FHLBNY to call bonds at its option on predetermined exercise dates at par.
The following summarizes consolidated obligations issued by the FHLBNY and outstanding at December 31, 2010 and 2009 (in thousands):
Redemption Terms of consolidated obligation bonds
The following is a summary of consolidated bonds outstanding by year of maturity (dollars in thousands):
Amortization of bond premiums and discounts resulted in net reduction of interest expense of $32.8 million, $29.9 million and $14.1 million in 2010, 2009 and 2008. Amortization of basis adjustments from terminated hedges totaled $7.2 million, $7.0 million and $5.9 million, and were recorded as an expense in 2010, 2009 and 2008.
Debt extinguished
During 2010 and 2009, the FHLBNY retired $300.5 million and $500.0 million of consolidated obligation bonds at a cost that exceeded book value by $2.1 million and $69.5 thousand, which were recorded as a loss. The bonds retired were generally associated with the prepayment of advances for which prepayment fees were received. During the year ended December 31, 2008, the FHLBNY did not retire any consolidated bonds.
Transfers of consolidated bonds to other FHLBanks
The Bank may transfer certain bonds at negotiated market rates to other FHLBanks to meet the FHLBNY’s asset and liability management objectives. During 2010, the bank assumed debt from another FHLBank totaling $193.9 million (par amounts). There were no transfers in 2009. Also see Note 21 - Related Party Transactions for more information.
Impact of callable bonds on consolidated bond maturities
The Bank issues callable bonds to investors. With a callable bond, the Bank purchases an option from the investor that allows the Bank to terminate the consolidated obligation bond at pre-determined option exercise dates, which are normally exercised when interest rates have decreased from those prevailing at the time the bonds were issued. Typically, the Bank will hedge callable bonds with cancellable interest rate swaps with matching terms and will sell the exercise option that will allow swap counterparties to terminate the swaps at the same predetermined exercise dates as the bonds. As of December 31, 2010 and 2009, the Bank had callable bonds totaling $11.5 billion and $11.7 billion, representing 16.3% and 15.9% of par amounts of consolidated bonds outstanding at those dates.
The following summarizes bonds outstanding by year of maturity or next call date (dollars in thousands):
Callable and non-callable consolidated obligation bonds
The FHLBNY uses fixed-rate callable debt to finance callable advances and mortgage-backed securities. Simultaneous with the debt issuance, the FHLBNY may also execute a cancellable interest-rate swap (in which the FHLBNY pays variable and receives fixed) with a call feature that mirrors the option embedded in the debt (a sold callable swap). The combined sold callable swap and callable debt allows the Bank to provide members attractively priced, fixed-rate advances (in thousands):
Interest rate payment terms
The following summarizes types of bonds issued and outstanding (in thousands).
Discount Notes
Consolidated discount notes are issued to raise short-term funds. Discount notes are consolidated obligations with original maturities of up to one year. These notes are issued at less than their face amount and redeemed at par when they mature. The FHLBNY’s outstanding consolidated discount notes were as follows (dollars in thousands):
Note 12. Mandatorily Redeemable Capital Stock.
Generally, the FHLBNY’s capital stock is redeemable at the option of either the member or the FHLBNY subject to certain conditions, and is subject to the provisions under the accounting guidance for certain financial instruments with characteristics of both liabilities and equity.
The FHLBNY is a cooperative whose member financial institutions own almost all of the FHLBNY’s capital stock. Member shares cannot be purchased or sold except between the Bank and its members at its $100 per share par value. Also, the FHLBNY does not have equity securities that trade in a public market. Future filings with the SEC will not be in anticipation of the sale of equity securities in a public market, as the FHLBNY is prohibited by law from doing so and is not controlled by an entity that has equity securities traded or contemplated to be traded in a public market. Therefore, the FHLBNY is a nonpublic entity based on the definition given in the accounting guidance for certain financial instruments with characteristics of both liabilities and equity. In addition, although the FHLBNY is a nonpublic entity, the FHLBanks issue consolidated obligations that are traded in the public market. Based on this factor, the FHLBNY complies with the provisions of the accounting guidance for certain financial instruments with characteristics of both liabilities and equity as a nonpublic SEC registrant.
In accordance with the accounting guidance for certain financial instruments with characteristics of both liabilities and equity, the FHLBNY generally reclassifies the stock subject to redemption from equity to a liability once a member: irrevocably exercises a written redemption right; gives notice of intent to withdraw from membership; or attains non-member status by merger or acquisition, charter termination, or involuntary termination from membership. Under such circumstances, the member shares will then meet the definition of a mandatorily redeemable financial instrument and are reclassified to a liability at fair value. Dividends on member shares are accrued and also classified as a liability in the Statements of Condition and reported as interest expense in the Statements of Income. The repayment of these mandatorily redeemable financial instruments, once settled, is reflected as financing cash outflows in the Statements of Cash Flows. In compliance with the accounting guidance, dividends on mandatorily redeemable capital stock in the amounts of $4.3 million, $7.5 million and $9.0 million were recorded as interest expense for the years ended December 31, 2010, 2009 and 2008.
If a member cancels its notice of voluntary withdrawal, the FHLBNY will reclassify the mandatorily redeemable capital stock from a liability to equity. After the reclassification, dividends on the capital stock will no longer be classified as interest expense.
At December 31, 2010 and 2009, mandatorily redeemable capital stock of $63.2 million and $126.3 million were held by former members who had attained non-member status by virtue of being acquired by non-members. A small number of members had also become non-members by relocating their charters to outside the FHLBNY’s membership district.
Anticipated redemptions of mandatorily redeemable capital stock were as follows (in thousands):
Anticipated redemptions assume the Bank will follow its current practice of daily redemption of capital in excess of the amount required to support advances. Commencing January 1, 2008, the Bank has exercised its discretionary authority provided under its Capital Plan to also redeem non-members’ membership stock.
Voluntary withdrawal from membership - As of December 31, 2010, no additional members had formally notified the Bank of their intent to withdraw from membership and voluntarily redeem their capital stock. There were five terminations from membership due to insolvency during 2010. As of December 31, 2009, one member had formally notified the Bank of its intent to withdraw from membership and voluntarily redeem its capital stock, and redemption requests for stock remained pending at December 31, 2010. Additionally, there was one termination due to insolvency from membership during 2009. These amounts were not significant.
Members acquired by non-members - Two members became non-members in 2010. When a member is acquired by a non-member, the FHLBNY reclassifies stock of the member to a liability on the day the member’s charter is dissolved. Under existing practice, the FHLBNY repurchases stock held by former members if such stock is considered “excess” and is no longer required to support outstanding advances. Membership stock held by former members is reviewed and repurchased annually.
The following table provides roll-forward information with respect to changes in mandatorily redeemable capital stock liabilities (in thousands):
Note 13. Affordable Housing Program and REFCORP.
The FHLBank Act requires each FHLBank to establish an AHP. Each FHLBank provides subsidies in the form of direct grants and below-market interest rate advances to members who use the funds to assist the purchase, construction, or rehabilitation of housing for very low-, low-, and moderate-income households. Annually, the FHLBanks must set aside for the AHP the greater of $100 million or 10 percent of regulatory income. The FHLBNY charges the amount set aside for AHP to income and recognizes it as a liability. The FHLBNY relieves the AHP liability as members use the subsidies. If the result of the aggregate 10 percent calculation described above is less than $100 million for all twelve FHLBanks, then the FHLBank Act requires the shortfall to be allocated among the FHLBanks based on the ratio of each FHLBank’s income before AHP and REFCORP to the sum of the income before AHP and REFCORP of the twelve FHLBanks. There was no shortfall in 2010, 2009 or 2008. The FHLBNY had outstanding principal in AHP-related advances of $0.6 million and $2.1 million as of December 31, 2010 and 2009.
Regulatory income is income before assessments, and before interest expense related to mandatorily redeemable capital stock under the accounting guidance for certain financial instruments with characteristics of both liabilities and equity, but after the assessment for REFCORP. The exclusion of interest expense related to mandatorily redeemable capital stock is a regulatory interpretation by the Finance Agency. The AHP and REFCORP assessments are calculated simultaneously because of their interdependence on each other. Each FHLBank accrues this expense monthly based on its income before assessments. A FHLBank reduces its AHP liability as members use subsidies.
If a FHLBank experienced a loss during a quarter, but still had income for the year, the FHLBank’s obligation to the AHP would be calculated based on the FHLBank’s year-to-date income. If the FHLBank had income in subsequent quarters, it would be required to contribute additional amounts to meet its calculated annual obligation. If the FHLBank experienced a loss for a full year, the FHLBank would have no obligation to the AHP for the year unless the aggregate 10 percent calculation described above was less than $100 million for all 12 FHLBanks, if it were, each FHLBank would be required to assure that the aggregate contribution of the FHLBanks equals $100 million. The pro ration would be made on the basis of an FHLBank’s income in relation to the income of all FHLBanks for the previous year. Each FHLBank’s required annual AHP contribution is limited to its annual net earnings.
The following provides roll-forward information with respect to changes in Affordable Housing Program liabilities (in thousands):
Each FHLBank is required to pay to REFCORP 20 percent of income calculated in accordance with GAAP after the assessment for AHP, but before the assessment for REFCORP. The AHP and REFCORP assessments are calculated simultaneously because of their interdependence on each other. Each FHLBank accrues its REFCORP assessment on a monthly basis. REFCORP has been designated as the calculation agent for AHP and REFCORP assessments. Each FHLBank provides its net income before AHP and REFCORP to REFCORP, which then performs the calculations for each quarter end.
Note 14. Capital.
The FHLBanks, including the FHLBNY, have a cooperative structure. To access FHLBNY’s products and services, a financial institution must be approved for membership and purchase capital stock in FHLBNY. A member’s stock requirement is generally based on its use of FHLBNY products, subject to a minimum membership requirement, as prescribed by the FHLBank Act and the FHLBNY Capital Plan. FHLBNY stock can be issued, exchanged, redeemed and repurchased only at its stated par value of $100 per share. It is not publicly traded. An option to redeem capital stock that is greater than a member’s minimum requirement is held by both the member and the FHLBNY.
Under the Gramm-Leach-Bliley Act of 1999 (“GLB Act”) and the Finance Agency’s capital regulations, the FHLBNY’s Capital Plan offers two sub-classes of Class B capital stock, Class B1 and Class B2. Class B1 stock is issued to meet membership stock purchase requirements. Class B2 stock is issued to meet activity-based requirements. The FHLBNY requires member institutions to maintain Class B1 stock based on a percentage of the member’s mortgage-related assets and Class B2 stock-based on a percentage of advances and acquired member assets outstanding with the FHLBank and certain commitments outstanding with the FHLBank. Class B1 and Class B2 stockholders have the same voting rights and dividend rates.
Members can redeem Class A stock by giving six months’ notice, and redeem Class B stock by giving five year’s notice. Only “permanent” capital, defined as retained earnings and Class B stock, satisfies the FHLBank risk-based capital requirement. In addition, the GLB Act specifies a 5.0 percent minimum leverage ratio based on total capital and a 4.0 percent minimum capital ratio that does not include the 1.5 weighting factor applicable to the permanent capital that is used in determining compliance with the 5.0 percent minimum leverage ratio.
Capital Plan under GLB Act
The FHLBNY implemented its current capital plan on December 1, 2005 through the issuance of Class B stock. The conversion was considered a capital exchange and was accounted for at par value. Members’ capital stock held immediately prior to the conversion date was automatically exchanged for an equal amount of Class B Capital Stock, comprised of Membership Stock (referred to as “Subclass B1 Stock”) and Activity-Based Stock (referred to as “Subclass B2 Stock”).
Any member that withdraws from membership must wait five years from the divestiture date for all capital stock that is held as a condition of membership unless the institution has cancelled its notice of withdrawal prior to that date and before being readmitted to membership in any FHLBank. Commencing in 2008, the Bank at its discretion may repay a non-member’s membership stock before the end of the five-year waiting period.
The FHLBNY is subject to risk-based capital rules. Specifically, the FHLBNY is subject to three capital requirements under its capital plan. First, the FHLBNY must maintain at all times permanent capital in an amount at least equal to the sum of its credit risk, its market risk, and operations risk capital requirements calculated in accordance with the FHLBNY policy, rules, and regulations of the Finance Agency. Only permanent capital, defined as Class B stock and retained earnings, satisfies this risk-based capital requirement. The Finance Agency may require the FHLBNY to maintain a greater amount of permanent capital than is required as defined by the risk-based capital requirements. In addition, the FHLBNY is required to maintain at least a 4.0% total capital-to-asset ratio and at least a 5.0% leverage ratio at all times. The leverage ratio is defined as the sum of permanent capital weighted 1.5 times and nonpermanent capital weighted 1.0 time divided by total assets. The FHLBNY was in compliance with the aforementioned capital rules and requirements for all periods presented.
On December 12, 2007 the Finance Board (predecessor to the Finance Agency) approved amendments to the FHLBNY’s ‘s capital plan. The amendments allow the FHLBNY to recalculate the membership stock purchase requirement any time after 30 days subsequent to a merger. The amendments also permit the FHLBNY to use a zero mortgage asset base in performing the calculation, which recognizes the fact that the corporate entity that was once its member no longer exists. As a result of these amendments, the FHLBNY could determine that all of the membership stock formerly held by the member becomes excess stock, which would give the FHLBNY the discretion, but not the obligation, to repurchase that stock prior to the expiration of the five-year notice period.
Risk-based capital
The following table summarizes the Bank’s risk-based capital ratios (dollars in thousands):
Actual “Risk-based capital” is capital stock and retained earnings plus mandatorily redeemable capital stock. Section 932.2 of the Finance Agency’s regulations also refers to this amount as “Permanent Capital.”
Required “Total capital” is 4.0% of total assets. Actual “Total capital” is Actual “Risk-based capital” plus allowance for credit losses. Does not include reserves for the Lehman Brothers receivable which is a specific reserve.
Actual “Leverage capital” is Actual “Risk-based capital” times 1.5 plus allowance for loan losses.
Required minimum.
The Finance Agency has indicated that the accounting treatment for certain shares determined to be mandatorily redeemable will not be included in the definition of total capital for purposes of determining the Bank’s compliance with regulatory capital requirements, calculating mortgage securities investment authority (300 percent of total capital), calculating unsecured credit exposure to other GSEs (100 percent of total capital), or calculating unsecured credit limits to other counterparties (various percentages of total capital depending on the rating of the counterparty).
Note 15. Total Comprehensive Income.
Total comprehensive income is comprised of Net income and Accumulated other comprehensive income (loss) (“AOCI”), which includes unrealized gains and losses on available-for-sale securities, cash flow hedging activities, employee supplemental retirement plans, and the non-credit portion of OTTI on HTM securities. Changes in AOCI and total comprehensive income were as follows for each of the three years ended December 31, 2010 (in thousands):
Note 16. Earnings Per Share of Capital.
The following table sets forth the computation of earnings per share (dollars in thousands except per share amounts):
Basic and diluted earnings per share of capital are the same. The FHLBNY has no dilutive potential common shares or other common stock equivalents.
Note 17. Employee Retirement Plans.
The Bank participates in the Pentegra Defined Benefit Plan for Financial Institutions (“DB Plan”). The DB Plan is a tax-qualified multiple-employer defined benefit pension plan that covers all officers and employees of the Bank. For accounting purposes, the DB Plan is a multi-employer plan and does not segregate its assets, liabilities, or costs by participating employer. The Bank also participates in the Pentegra Defined Contribution Plan for Financial Institutions, a tax-qualified defined contribution plan. The Bank’s contributions are a matching contribution equal to a percentage of voluntary employee contributions, subject to certain limitations.
In addition, the Bank maintains a Benefit Equalization Plan (“BEP”) that restores defined benefits and contribution benefits to those employees who have had their qualified defined benefit and defined contribution benefits limited by IRS regulations. The contribution component of the BEP is a supplemental defined contribution plan. The plan’s liability consists of the accumulated compensation deferrals and accrued interest on the deferrals. The BEP is an unfunded plan. The Bank has established grantor trusts to meet future benefit obligations and current payments to beneficiaries in the supplemental pension plans. The Bank also offers a Retiree Medical Benefit Plan, which is a postretirement health benefit plan. There are no funded plan assets that have been designated to provide postretirement health benefits. The Board of Directors of the FHLBNY approved certain amendments to the Retiree Medical Benefit Plan effective as of January 1, 2008. The amendments did not have a material impact on reported results of operations or financial condition of the Bank.
On January 1, 2009, the Bank offered a Nonqualified Deferred Compensation Plan to certain officer employees and to the members of the Board of Directors of the Bank. Participants in the plan would elect to defer all or a portion of their compensation earned for a minimum period of five years. This benefit plan and other nonqualified supplemental pension plans were terminated effective November 10, 2009. Plan terminations had no material effect on the Bank’s financial results, financial position or cash flows for all reported periods.
Retirement Plan Expenses - Summary
The following table presents employee retirement plan expenses for the years ended (in thousands):
In March 2011, the FHLBNY contributed $24.0 million to its Defined Benefit Plan as to eliminate a funding shortfall calculated by the DB Plan’s actuarial consultant as of July 2010. The DB Plan’s adjusted funding target attainment percentage (“AFTAP”) was 79.93% (80%) at July 1, 2010. The AFTAP equals DB Plan assets divided by plan liabilities. Under the Pension Protection Act of 2006 (“PPA”), if the AFTAP in any future year is less than 80%, then the DB Plan will be restricted in its ability to provided increased benefits and /or lump sum distributions. If the AFTAP in any future year is less than 60%, then benefit accruals will be frozen. The contribution to the DB Plan will be charged to Net income in the 2011 first quarter.
Benefit Equalization Plan (BEP)
The plan’s liability consisted of the accumulated compensation deferrals and accrued interest on the deferrals. There were no plan assets that have been designated for the BEP plan.
The accrued pension costs for the BEP plan were as follows (in thousands):
Components of the projected benefit obligation for the BEP plan were as follows (in thousands):
The measurement date used to determine current period projected benefit obligation for the BEP plan was December 31, 2010.
Amounts recognized in the Statements of Condition for the BEP plan were as follows (in thousands):
Changes in the BEP plan assets were as follows (in thousands):
Components of the net periodic pension cost for the defined benefit component of the BEP, an unfunded plan, were as follows (in thousands):
Other changes in benefit obligations recognized in AOCI were as follows (in thousands):
The net transition obligation (asset), prior service cost (credit), and the estimated net loss (gain) for the BEP plan that are expected to be amortized from AOCI into net periodic benefit cost over the next fiscal year are shown in the table below (in thousands):
Key assumptions and other information for the actuarial calculations to determine current year’s benefit obligations for the BEP plan were as follows (dollars in thousands):
Future BEP plan benefits to be paid were estimated to be as follows (in thousands):
The net periodic benefit cost for 2011 is expected to be $2.8 million (2010 was $2.3 million).
Postretirement Health Benefit Plan
The FHLBNY has a postretirement health benefit plan for retirees called the Retiree Medical Benefit Plan. Assumptions used in determining the accumulated postretirement benefit obligation (“APBO”) included a discount rate of 5.35%. At December 31, 2010, the effect of a percentage point increase in the assumed healthcare trend rates would be an increase in postretirement benefit expense of $272.1 thousand and in APBO of $2.7 million. At December 31, 2009, the effect of a percentage point increase in the assumed healthcare trend rates would be an increase in postretirement benefit expense of $255.2 thousand and in APBO of $2.4 million. At December 31, 2010, the effect of a percentage point decrease in the assumed healthcare trend rates would be a decrease in postretirement benefit expense of $221.9 thousand and in APBO of $2.2 million. At December 31, 2009, the effect of a percentage point decrease in the assumed healthcare trend rates would be a decrease in postretirement benefit expense of $208.4 thousand and in APBO of $2.0 million. Employees over the age of 55 are eligible provided they have completed ten years of service after age 45.
Components of the accumulated postretirement benefit obligation for the postretirement health benefits plan for the years ended December 31, 2010 and 2009 were (in thousands):
Changes in postretirement health benefit plan assets were (in thousands):
Amounts recognized in AOCI for the postretirement benefit obligation were (in thousands):
The net transition obligation (asset), prior service cost (credit), and estimated net loss (gain) for the postretirement health benefit plan are expected to be amortized from AOCI into net periodic benefit cost over the next fiscal year are shown in the table below (in thousands);
Components of the net periodic benefit cost for the postretirement health benefit plan were (in thousands):
Other changes in benefit obligations recognized in AOCI were as follows (in thousands):
The measurement date used to determine current year’s benefit obligation was December 31, 2010.
Key assumptions and other information to determine current year’s obligation for the postretirement health benefit plan were as follows:
The discount rate was based on the Citigroup Pension Liability Index at December 31, 2010 and adjusted for duration.
Future postretirement benefit plan expenses to be paid were estimated to be as follows (in thousands):
The Bank’s postretirement health benefit plan expense for 2011 is expected to be $1.1 million (2010 was $1.1 million).
Note 18. Derivatives and Hedging Activities.
General - The FHLBNY may enter into interest-rate swaps, swaptions, and interest-rate cap and floor agreements to manage its exposure to changes in interest rates. The FHLBNY may also use callable swaps to potentially adjust the effective maturity, repricing frequency, or option characteristics of financial instruments to achieve risk management objectives. The FHLBNY uses derivatives in three ways: by designating them as a fair value or cash flow hedge of an underlying financial instrument or a forecasted transaction that qualifies for hedge accounting treatment; by acting as an intermediary; or by designating the derivative as an asset-liability management hedge (i.e., an “economic hedge”). For example, the FHLBNY uses derivatives in its overall interest-rate risk management to adjust the interest-rate sensitivity of consolidated obligations to approximate more closely the interest-rate sensitivity of assets (both advances and investments), and/or to adjust the interest-rate sensitivity of advances, investments or mortgage loans to approximate more closely the interest-rate sensitivity of liabilities. In addition to using derivatives to manage mismatches of interest rates between assets and liabilities, the FHLBNY also uses derivatives: to manage embedded options in assets and liabilities; to hedge the market value of existing assets and liabilities and anticipated transactions; to hedge the duration risk of prepayable instruments; and to reduce funding costs where possible.
In an economic hedge, a derivative hedges specific or non-specific underlying assets, liabilities or firm commitments, but the hedge does not qualify for hedge accounting under the accounting standards for derivatives and hedging; it is, however, an acceptable hedging strategy under the FHLBNY’s risk management program. These strategies also comply with the Finance Agency’s regulatory requirements prohibiting speculative use of derivatives. An economic hedge introduces the potential for earnings variability due to the changes in fair value recorded on the derivatives that are not offset by corresponding changes in the value of the economically hedged assets, liabilities, or firm commitments. The FHLBNY will execute an interest rate swap to match the terms of an asset or liability that is elected under the Fair Value Option (“FVO”) and the swap is also considered as an economic hedge to mitigate the volatility of the FVO designated asset or liability due to change in the full fair value of the designated asset or liability. The FHLBNY elected the FVO for certain consolidated obligation debt and executed interest rate swaps to offset the fair value changes of the bonds.
The FHLBNY, consistent with Finance Agency’s regulations, enters into derivatives to manage the market risk exposures inherent in otherwise unhedged assets and funding positions. The FHLBNY utilizes derivatives in the most cost efficient manner and may enter into derivatives as economic hedges that do not qualify for hedge accounting under the accounting standards for derivatives and hedging. As a result, when entering into such non-qualified hedges, the FHLBNY recognizes only the change in fair value of these derivatives in Other income (loss) as a Net realized and unrealized gain (loss) on derivatives and hedging activities with no offsetting fair value adjustments for the hedged asset, liability, or firm commitment.
Hedging activities
Consolidated Obligations - The FHLBNY manages the risk arising from changing market prices and volatility of a consolidated obligation by matching the cash inflows on the derivative with the cash outflow on the consolidated obligation. While consolidated obligations are the joint and several obligations of the FHLBanks, one or more FHLBanks may individually serve as counterparties to derivative agreements associated with specific debt issues. For instance, in a typical transaction, fixed-rate consolidated obligations are issued for one or more FHLBanks, and each of those FHLBanks could simultaneously enter into a matching derivative in which the counterparty pays to the FHLBank fixed cash flows designed to mirror in timing and amount the cash outflows the FHLBank pays on the consolidated obligations. When such transactions qualify for hedge accounting they are treated as fair value hedges under the accounting standards for derivatives and hedging. The FHLBNY has also elected the FVO for certain consolidated obligation bonds and discount notes and these were measured under the accounting standards for fair value measurements as economic hedges. To mitigate the volatility resulting from changes in fair values of bonds and notes designated under the FVO, the Bank has also executed interest rate swaps as economic hedges of bonds and notes.
The FHLBNY has issued variable-rate consolidated obligations bonds indexed to 1 month-LIBOR, the U.S. Prime rate, or Federal funds rate and simultaneously executed interest-rate swaps (“basis swaps”) to hedge the basis risk of the variable rate debt to 3-month LIBOR, the FHLBNY’s preferred funding base. The interest rate basis swaps were accounted for as economic hedges of the floating-rate bonds because the FHLBNY deemed that the operational cost of designating the hedges under accounting standards for derivatives and hedge accounting would outweigh the accounting benefits. The issuance of the consolidated obligation fixed-rate bonds to investors and the execution of interest rate swaps typically results in cash flow pattern in which the FHLBNY has effectively converted the bonds’ fixed cash flows to variable cash flows that closely match the interest payments it receives on short-term or variable-rate advances. From time-to-time, this intermediation between the capital and swap markets has permitted the FHLBNY to raise funds at a lower cost than would otherwise be available through the issuance of simple fixed- or floating-rate consolidated obligations in the capital markets. The FHLBNY does not issue consolidated obligations denominated in currencies other than U.S. dollars.
Advances - With a putable fixed-rate advance borrowed by a member, the FHLBNY may purchase from the member a put option that enables the FHLBNY to effectively convert an advance from fixed-rate to floating-rate by exercising the put option and terminating the advance at par on the pre-determined put exercise dates. Typically, the FHLBNY will exercise the option in a rising interest rate environment. The FHLBNY may hedge a putable advance by entering into a cancelable interest rate swap in which the FHLBNY pays to the swap counterparty fixed-rate cash flows and receives variable-rate cash flows. This type of hedge is treated as a fair value hedge under the accounting standards for derivatives and hedging. The swap counterparty can cancel the swap on the put date, which would normally occur in a rising rate environment, and the FHLBNY can terminate the advance and extend additional credit to the member on new terms.
The optionality embedded in certain financial instruments held by the FHLBNY can create interest-rate risk. When a member prepays an advance, the FHLBNY could suffer lower future income if the principal portion of the prepaid advance were reinvested in lower-yielding assets that would continue to be funded by higher-cost debt. To protect against this risk, the FHLBNY generally charges a prepayment fee that makes it financially indifferent to a borrower’s decision to prepay an advance. When the Bank offers advances (other than short-term) that are prepayable by members without a prepayment fee, it usually finances such advances with callable debt. The Bank has not elected the FVO for any advances.
Mortgage Loans - The FHLBNY invests in mortgage assets. The prepayment options embedded in mortgage assets can result in extensions or reductions in the expected maturities of these investments, depending on changes in estimated prepayment speeds. Finance Agency regulations limit this source of interest-rate risk by restricting the types of mortgage assets the Bank may own to those with limited average life that changes under certain interest-rate shock scenarios and by establishing limitations on duration of equity and changes in market value of equity. The FHLBNY may manage against prepayment and duration risk by funding some mortgage assets with consolidated obligations that have call features. In addition, the FHLBNY may use derivatives to manage the prepayment and duration variability of mortgage assets. Net income would decline if the FHLBNY replaced the mortgages with lower yielding assets and if the Bank’s higher funding costs were not reduced concomitantly.
The FHLBNY manages the interest rate and prepayment risks associated with mortgages through debt issuance. The FHLBNY issues both callable and non-callable debt to achieve cash flow patterns and liability durations similar to those expected on the mortgage loans. The FHLBNY analyzes the duration, convexity and earnings risk of the mortgage portfolio on a regular basis under various rate scenarios.
The Bank has not elected the FVO for any mortgage loans. No mortgage loan has been hedged with a derivative. The Bank considers a “delivery commitment” to purchase mortgage loans to be a derivative. See description below for the accounting of delivery commitments.
Firm Commitment Strategies - Mortgage delivery commitments are considered derivatives under the accounting standards for derivatives and hedging, and the FHLBNY accounts for them as freestanding derivatives, recording the fair values of mortgage loan delivery commitments on the balance sheet with an offset to current period earnings. Fair values were de minimis for all periods reported.
The FHLBNY may also hedge a firm commitment for a forward starting advance through the use of an interest-rate swap. In this case, the swap will function as the hedging instrument for both the firm commitment and the subsequent advance. The basis movement associated with the firm commitment will be added to the basis of the advance at the time the commitment is terminated and the advance is issued. The basis adjustment will then be amortized into interest income over the life of the advance. If a hedged firm commitment no longer qualified as a fair value hedge, the hedge would be terminated and net gains and losses would be recognized in current period earnings. There were no material amounts of gains and losses recognized due to disqualification of firm commitment hedges in 2010, 2009 and 2008.
Forward Settlements - There were no forward settled securities at December 31, 2010 and 2009 that would settle outside the shortest period of time for the settlement of such securities.
Anticipated Debt Issuance - The FHLBNY enters into interest-rate swaps on the anticipated issuance of debt to “lock in” a spread between the earning asset and the cost of funding. The swap is terminated upon issuance of the debt instrument, and amounts reported in AOCI are reclassified to earnings in the periods in which earnings are affected by the variability of the cash flows of the debt that was issued.
Intermediation - To meet the hedging needs of its members, the FHLBNY acts as an intermediary between the members and the other counterparties. This intermediation allows smaller members access to the derivatives market. The derivatives used in intermediary activities do not qualify for hedge accounting under the accounting standards for derivatives and hedging, and are separately marked-to-market through earnings. The net impact of the accounting for these derivatives does not significantly affect the operating results of the FHLBNY.
Derivative agreements in which the FHLBNY is an intermediary may arise when the FHLBNY: (1) enters into offsetting derivatives with members and other counterparties to meet the needs of its members, and (2) enters into derivatives to offset the economic effect of other derivative agreements that are no longer designated to either advances, investments, or consolidated obligations. The notional principal of interest rate swaps in which the FHLBNY was an intermediary was $550.0 million and $320.0 million as of December 31, 2010 and 2009. Fair values of the swaps sold to members net of the fair values of swaps purchased from derivative counterparties were not material at December 31, 2010 and 2009. Collateral with respect to derivatives with member institutions includes collateral assigned to the FHLBNY as evidenced by a written security agreement and held by the member institution for the benefit of the FHLBNY.
Economic hedges - At December 31, 2010 and 2009, economic hedges comprised primarily of: (1) Short- and medium-term interest rate swaps that hedged the basis risk (Prime rate, Fed fund rate, and the 1-month LIBOR index) of variable-rate bonds issued by the FHLBNY. These swaps were considered freestanding and changes in the fair values of the swaps were recorded through income. The FHLBNY believes the operational cost of designating the basis hedges in a qualifying hedge would outweigh the benefits of applying hedge accounting. (2) Interest rate caps acquired in the second quarter of 2008 to hedge balance sheet risk, primarily certain capped floating-rate investment securities, were considered freestanding derivatives with fair value changes recorded through Other income (loss) as a Net realized and unrealized gain or loss on derivatives and hedging activities. (3) Interest rate swaps hedging balance sheet risk. (4) Interest rate swaps that had previously qualified as hedges under the accounting standards for derivatives and hedging, but had been subsequently de-designated from hedge accounting as they were assessed as being not highly effective hedges. (5) Interest rate swaps executed to offset the fair value changes of bonds designated under the FVO.
The FHLBNY is not a derivatives dealer and does not trade derivatives for short-term profit.
Credit Risk - The FHLBNY is subject to credit risk due to the risk of nonperformance by counterparties to the derivative agreements. The FHLBNY transacts most of its derivatives with major financial institutions. Some of these institutions or their affiliates buy, sell, and distribute consolidated obligations. The FHLBNY is also subject to operational risks in the execution and servicing of derivative transactions. The degree of counterparty risk on derivative agreements depends on the extent to which master netting arrangements are included in such contracts to mitigate the risk. The FHLBNY manages counterparty credit risk through credit analysis and collateral requirements and by following the requirements set forth in Finance Agency’s regulations. In determining credit risk, the FHLBNY considers accrued interest receivables and payables, and the legal right to offset assets and liabilities by counterparty.
The contractual or notional amount of derivatives reflects the involvement of the FHLBNY in the various classes of financial instruments, but it does not measure the credit risk exposure of the FHLBNY, and the maximum credit exposure of the FHLBNY is substantially less than the notional amount. The maximum credit risk is the estimated cost of replacing favorable interest-rate swaps, forward agreements, mandatory delivery contracts for mortgage loans, and purchased caps and floors (“derivatives”) if the counterparty defaults and the related collateral, if any, is of insufficient value to the FHLBNY.
The FHLBNY uses collateral agreements to mitigate counterparty credit risk in derivatives. When the FHLBNY has more than one derivative transaction outstanding with a counterparty, and a legally enforceable master netting agreement exists with the counterparty, the exposure (less collateral held) represents the appropriate measure of credit risk. Substantially all derivative contracts are subject to master netting agreements or other right of offset arrangements. At December 31, 2010 and 2009, the Bank’s credit exposure, representing derivatives in a fair value net gain position was approximately $22.0 million and $8.3 million after the recognition of any cash collateral held by the FHLBNY. The credit exposure at December 31, 2010 and 2009 included $6.1 million and $0.8 million in net interest receivable.
Derivative counterparties are also exposed to credit losses resulting from potential nonperformance risk of FHLBNY with respect to derivative contracts. Derivative counterparties’ exposure to the FHLBNY is measured by derivatives in a fair value loss position from the FHLBNY’s perspective, which from the counterparties’ perspective is a gain. At December 31, 2010 and 2009, derivatives in a net unrealized loss position, which represented the counterparties’ exposure to the potential non-performance risk of the FHLBNY, were $954.9 million and $746.2 million after deducting $2.7 billion and $2.2 billion of cash collateral pledged by the FHLBNY at those dates to the exposed counterparties. The FHLBNY is exposed to the risk of derivative counterparties defaulting on the terms of the derivative contracts and failing to return cash deposited with counterparties. If such an event were to occur, the FHLBNY would be forced to replace derivatives by executing similar derivative contracts with other counterparties. To the extent that the FHLBNY receives cash from the replacement trades that is less than the amount of cash deposited with the defaulting counterparty, the FHLBNY’s cash pledged is exposed to credit risk. Derivative counterparties holding the FHLBNY’s cash as pledged collateral were rated Single-A or better at December 31, 2010, and based on credit analyses and collateral requirements, the management of the FHLBNY does not anticipate any credit losses on its derivative agreements.
The following table summarizes outstanding notional balances and estimated fair values of the derivatives outstanding at December 31, 2010 and 2009 (in thousands):
*
Other: Comprised of swaps intermediated for members.
The categories - “Fair value”, “Mortgage delivery commitment”, and “Cash Flow” hedges - represent derivative transactions in hedging relationships. If any such hedges do not qualify for hedge accounting under the accounting standards for derivatives and hedging, they are classified as “Economic” hedges. Changes in fair values of economic hedges are recorded through the income statement without the offset of corresponding changes in the fair value of the hedged item. Changes in fair values of qualifying derivative transactions designated in fair value hedges are recorded through the income statement with the offset of corresponding changes in the fair values of the hedged items. The effective portion of changes in the fair values of derivatives designated in a qualifying cash flow hedge is recorded in Accumulated other comprehensive income (loss).
Earnings impact of derivatives and hedging activities
Net realized and unrealized gain (loss) on derivatives and hedging activities
The FHLBNY carries all derivative instruments on the Statements of Condition at fair value as Derivative Assets and Derivative Liabilities. If derivatives meet the hedging criteria under hedge accounting rules, including effectiveness measures, changes in fair value of the associated hedged financial instrument attributable to the risk being hedged (benchmark interest-rate risk, which is LIBOR for the FHLBNY) may also be recorded so that some or all of the unrealized fair value gains or losses recognized on the derivatives are offset by corresponding unrealized gains or losses on the associated hedged financial assets and liabilities. The net differential between fair value changes of the derivatives and the hedged items represent hedge ineffectiveness. Hedge ineffectiveness represents the amounts by which the changes in the fair value of the derivatives differ from the changes in the fair values of the hedged items or the variability in the cash flows of forecasted transactions. The net ineffectiveness from hedges that qualify under hedge accounting rules are recorded as a Net realized and unrealized gain (loss) on derivatives and hedging activities in Other income (loss) in the Statements of Income. If derivatives do not qualify for the hedging criteria under hedge accounting rules, but are executed as economic hedges of financial assets or liabilities under a FHLBNY-approved hedge strategy, only the fair value changes of the derivatives are recorded as a Net realized and unrealized gain (loss) on derivatives and hedging activities in Other income (loss) in the Statements of Income.
When the FHLBNY elects to measure certain debt under the accounting designation for FVO, the Bank will typically execute a derivative as an economic hedge of the debt. Fair value changes of the derivatives are recorded as a Net realized and unrealized gain (loss) on derivatives and hedging activities in Other income. Fair value changes of the debt designated under the FVO are also recorded in Other income as an unrealized (loss) or gain from Instruments held at fair value.
Components of hedging gains and losses from derivatives and hedging activities are summarized below (in thousands):
Cash Flow hedges
There were no material amounts in 2010, 2009 and 2008 that were reclassified into earnings as a result of the discontinuance of cash flow hedges because it became probable that the original forecasted transactions would not occur by the end of the originally specified time period or within a two-month period thereafter. The maximum length of time over which the Bank typically hedges its exposure to the variability in future cash flows for forecasted transactions is between three and six months. No cash flow hedges were outstanding at December 31, 2010 or 2009.
The effective portion of the gain or loss on swaps designated and qualifying as a cash flow hedging instrument is reported as a component of AOCI and reclassified into earnings in the same period during which the hedged forecasted bond expenses affect earnings. The balances in AOCI from terminated cash flow hedges represented net realized losses of $15.2 million and $22.7 million at December 31, 2010 and 2009. At December 31, 2010, it is expected that over the next 12 months about $4.9 million of net losses recorded in AOCI will be recognized as a yield adjustment to consolidated bond interest expense and a charge to earnings.
The effect of cash flow hedge related derivative instruments for the years ended December 31, 2010, 2009 and 2008 were as follows (in thousands):
Effective portion
Represents effective portion of basis adjustments to AOCI from cash flow hedging transactions.
Note 19. Fair Values of Financial Instruments.
Items Measured at Fair Value on a Recurring Basis
The following table presents for each hierarchy level (see note below), the FHLBNY’s assets and liabilities that were measured at fair value on its Statements of Condition at December 31, 2010 and 2009 (in thousands):
Level 1 - Quoted prices in active markets for identical assets.
Level 2 - Significant other observable inputs.
Level 3 - Significant unobservable inputs.
(a)
Derivative assets and liabilities were interest-rate contracts, except for de minimis amount of mortgage delivery contracts. Based on an analysis of the nature of the risk, the presentation of derivatives as a single class is appropriate.
(b)
Based on its analysis of the nature of risks of the FHLBNY’s debt measured at fair value, the FHLBNY has determined that presenting the debt as a single class is appropriate.
Items Measured at Fair Value on a Nonrecurring Basis
Certain assets and liabilities would be measured at fair value on a nonrecurring basis. For the FHLBNY, such items may include mortgage loans in foreclosure, or mortgage loans and held-to-maturity securities written down to fair value, and real estate owned. At December 31, 2010, the Bank measured and recorded the fair values of HTM securities deemed to be OTTI on a nonrecurring basis; that is, they were not measured at fair value on an ongoing basis but are subject to fair value adjustments in certain circumstances (for example, when there is evidence of other-than-temporary impairment - OTTI) in accordance with the guidance on recognition and presentation of other-than-temporary impairment. The held-to-maturity OTTI securities were recorded at their fair values of $15.8 million and $42.9 million at December 31, 2010 and December 31, 2009. The nonrecurring measurement basis related to certain private-label held-to-maturity mortgage-backed securities that were determined to be OTTI. For more information, see Note 5 - Held-to-Maturity Securities.
The following tables summarize the fair values of MBS for which a non-recurring change in fair value was recorded (in thousands):
Note:
Certain OTTI securities were written down to their fair values ($15.8 million) when it was determined that their carrying values prior to write-down ($16.3 million) were in excess of their fair values. For Held-to-maturity securities that were previously credit impaired but no additional credit impairment were deemed necessary at December 31, 2010, the securities were recorded at their carrying values and not re-adjusted to their fair values.
Estimated fair values - Summary Tables
The carrying value and estimated fair values of the FHLBNY’s financial instruments were as follows (in thousands):
Fair Value Option Disclosures
The following table summarizes the activity related to consolidated obligation bonds and discount notes for which the Bank elected the Fair Value Option (in thousands):
The following table presents the change in fair value included in the Statements of Income for the consolidated obligation bonds and discount notes designated in accordance with the accounting standards on the Fair Value Option for financial assets and liabilities (in thousands):
The following table compares the aggregate fair value, the aggregate remaining contractual fair value and aggregate remaining contractual principal balance outstanding of consolidated obligation bonds and discount notes for which the Fair Value Option has been elected (in thousands):
Notes to Estimated Fair Values of Financial Instruments
The fair value of a financial instrument that is an asset is defined as the price FHLBNY would receive to sell an asset in an orderly transaction between market participants at the measurement date. A financial liability’s fair value is defined as the amount that would be paid to transfer the liability to a new obligor, not the amount that would be paid to settle the liability with the creditor. Where available, fair values are based on observable market prices or parameters, or derived from such prices or parameters. Where observable prices are not available, valuation models and inputs are utilized. These valuation techniques involve some level of management estimation and judgment, the degree of which is dependent on the price transparency for the instruments or markets and the instruments’ complexity.
The fair values of financial assets and liabilities reported in the tables above are discussed below. For additional information also see Significant Accounting Policies and Estimates in Note 1. The Fair Value Summary Tables above do not represent an estimate of the overall market value of the FHLBNY as a going concern, which would take into account future business opportunities and the net profitability of assets versus liabilities.
The estimated fair value amounts have been determined by the FHLBNY using procedures described below. Because an active secondary market does not exist for a portion of the FHLBNY’s financial instruments, in certain cases, fair values are not subject to precise quantification or verification and may change as economic and market factors and evaluation of those factors change.
Cash and due from banks
The estimated fair value approximates the recorded book balance.
Interest-bearing deposits and Federal funds sold
The FHLBNY determines estimated fair values of certain short-term investments by calculating the present value of expected future cash flows from the investments. The discount rates used in these calculations are the current coupons of investments with similar terms.
Investment securities
In an effort to achieve consistency among all of the FHLBanks on the pricing of investments in mortgage-backed securities, in the third quarter of 2009 the FHLBanks formed the MBS Pricing Governance Committee, which was responsible for developing a fair value methodology for mortgage-backed securities that all FHLBanks could adopt. Consistent with the guidance from the Governance Committee, the FHLBNY changed the methodology used to estimate the fair value of mortgage-backed securities as of September 30, 2009. Under the approved methodology, the Bank requests prices for all mortgage-backed securities from four specified third-party vendors, and depending on the number of prices received for each security, selected a median or average price as defined by the methodology. If four prices are received by the FHLBNY from the pricing vendors, the average of the middle two prices is used; if three prices are received, the middle price is used; if two prices are received, the average of the two prices is used; and if one price is received, it is subject to additional validation.
The FHLBNY routinely performs a comparison analysis of pricing to understand pricing trends and to establish a means of validating changes in pricing from period-to-period. The computed prices are tested for reasonableness using tolerance thresholds. Prices within the established thresholds are generally accepted unless strong evidence suggests that using the median pricing methodology as described above would not be appropriate. Preliminary estimated fair values that are outside the tolerance thresholds, or that management believes may not be appropriate based on all available information (including those limited instances in which only one price is received), are subject to further analysis of all relevant facts and circumstances that a market participant would consider. The Bank also runs pricing through prepayment models to test the reasonability of pricing relative to changes in the implied prepayment options of the bonds. Separately, the Bank performs comprehensive credit analysis, including the analysis of underlying cash flows and collateral.
The FHLBNY believes such methodologies - valuation comparison, review of changes in valuation parameters, and credit analysis have been designed to identify the effects of the credit crisis, which has tended to reduce the availability of certain observable market pricing or has caused the widening of the bid/offer spread of certain securities.
Prior to the adoption of the new pricing methodology in the 2009 third quarter, the Bank used a similar process that utilized three third-party vendors and similar variance thresholds. This change in pricing methodology did not have a significant impact on the Bank’s estimated fair values of its mortgage-backed securities.
As of December 31, 2010, four vendor prices were received for substantially all of the FHLBNY’s MBS holdings and substantially all of those prices fell within the specified thresholds. The relative proximity of the prices received supported the FHLBNY’s conclusion that the final computed prices were reasonable estimates of fair value. While the FHLBNY adopted this common methodology, the fair values of mortgage-backed investment securities are still estimated by FHLBNY’s management which remains responsible for the selection and application of its fair value methodology and determining the reasonableness of assumptions and inputs used.
The four specialized pricing services use pricing models or quoted prices of securities with similar characteristics. The valuation techniques used by pricing services employ cash flow generators and option-adjusted spread models. Pricing spreads used as inputs in the models are based on new issue and secondary market transactions if the securities are traded in sufficient volumes in the secondary market. These pricing vendors typically employ valuation techniques that incorporate benchmark yields, recent trades, dealer estimates, valuation models, benchmarking of like securities, sector groupings, and/or matrix pricing, as appropriate for the security. Such inputs into the pricing models employed by pricing services for most of the Bank’s investments are market based and observable and are considered Level 2 of the fair value hierarchy.
The valuation of the FHLBNY’s private-label securities, all designated as held-to-maturity, may require pricing services to use significant inputs that are subjective and may be considered to be Level 3 of the fair value hierarchy because of the current lack of significant market activity so that the inputs may not be market based and observable. At December 31, 2010 and 2009, all private-label mortgage-backed securities were classified as held-to-maturity and were recorded in the balance sheet at their carrying values. Carrying value of a security is the same as its amortized cost, unless the security is determined to be OTTI. In the period the security is determined to be OTTI, its carrying value is generally adjusted down to its fair value.
In accordance with the amended guidance under the accounting standards for investments in debt and equity securities, certain held-to-maturity private-label mortgage-backed securities were written down to their fair value at December 31, 2010 and 2009 as a result of a recognition of OTTI. For such HTM securities, their carrying values are recorded in the balance sheet at their fair values. The fair values and securities are classified on a nonrecurring basis as Level 3 financial instruments under the valuation hierarchy. This determination was made based on management’s view that the private-label instruments may not have an active market because of the specific vintage of the securities as well as inherent conditions surrounding the trading of private-label mortgage-backed securities.
The fair value of housing finance agency bonds is estimated by management using information primarily from pricing services.
Advances
The fair values of advances are computed using standard option valuation models. The most significant inputs to the valuation model are (1) consolidated obligation debt curve (the “CO Curve”), published by the Office of Finance and available to the public, and (2) LIBOR swap curves and volatilities. The Bank considers both these inputs to be market-based and observable as they can be directly corroborated by market participants.
Mortgage loans
The fair value of MPF loans and loans in the inactive CMA programs are priced using a valuation technique referred to as the “market approach.” Loans are aggregated into synthetic pass-through securities based on product type, loan origination year, gross coupon and loan term. Thereafter, these are compared against closing “TBA” prices extracted from independent sources. All significant inputs to the loan valuations are market based and observable.
Accrued interest receivable and payable
The estimated fair values approximate the recorded book value because of the relatively short period of time between their origination and expected realization.
Derivative assets and liabilities
The FHLBNY’s derivatives are traded in the over-the-counter market. Discounted cash flow analysis is the primary methodology employed by the FHLBNY’s valuation models to measure and record the fair values of its interest rate swaps. The valuation technique is considered as an “Income approach.” Interest rate caps and floors are valued under the “Market approach.” Interest rate swaps and interest rate caps and floors are valued in industry-standard option-adjusted valuation models that utilize market inputs, which can be corroborated by widely accepted third-party sources. The Bank’s valuation model utilizes a modified Black-Karasinski model that assumes that rates are distributed log normally. The log-normal model precludes interest rates turning negative in the model computations. Significant market-based and observable inputs into the valuation model include volatilities and interest rates. These derivative positions are classified within Level 2 of the valuation hierarchy, and include interest rate swaps, swaptions, interest rate caps and floors, and mortgage delivery commitments.
The FHLBNY employs control processes to validate the fair value of its financial instruments, including those derived from valuation models. These control processes are designed to ensure that the values used for financial reporting are based on observable inputs wherever possible. In the event that observable inputs are not available, the control processes are designed to ensure that the valuation approach utilized is appropriate and consistently applied and that the assumptions are reasonable. These control processes include reviews of the pricing model’s theoretical soundness and appropriateness by specialists with relevant expertise who are independent from the trading desks or personnel who were involved in the design and selection of model inputs. Additionally, groups that are independent from the trading desk or personnel involved in the design and selection of model inputs participate in the review and validation of the fair values generated from the valuation model. The FHLBNY maintains an ongoing review of its valuation models and has a formal model validation policy in addition to procedures for the approval and control of data inputs.
The valuation of derivative assets and liabilities reflects the value of the instrument including the values associated with counterparty risk and would also take into account the FHLBNY’s own credit standing and non-performance risk. The Bank has collateral agreements with all its derivative counterparties and enforces collateral exchanges at least weekly. The computed fair values of the FHLBNY’s derivatives took into consideration the effects of legally enforceable master netting agreements that allow the FHLBNY to settle positive and negative positions and offset cash collateral with the same counterparty on a net basis. The Bank and each derivative counterparty have bilateral collateral thresholds that take into account both the Bank’s and the counterparty’s credit ratings. As a result of these practices and agreements and the FHLBNY’s assessment of any change in its own credit spread, the Bank has concluded that the impact of the credit differential between the Bank and its derivative counterparties was sufficiently mitigated to an immaterial level such that no credit adjustments were deemed necessary to the recorded fair value of derivative assets and derivative liabilities in the Statements of Condition at December 31, 2010 and 2009.
Deposits
The FHLBNY determines estimated fair values of deposits by calculating the present value of expected future cash flows from the deposits. The discount rates used in these calculations are the current cost of deposits with similar terms.
Consolidated obligations
The FHLBNY estimates fair values based on the cost of raising comparable term debt and prices its bonds and discount notes off of the current consolidated obligations market curve, which has a daily active market. The fair values of consolidated obligation debt (bonds and discount notes) are computed using a standard option valuation model using market based and observable inputs: (1) consolidated obligation debt curve (the “CO Curve”) that is available to the public and published by the Office of Finance, and (2) LIBOR curve and volatilities. Model adjustments that are not observable are not considered significant.
Mandatorily redeemable capital stock
The FHLBNY considers the fair value of capital subject to mandatory redemption, as the redemption value of the stock, which is generally par plus accrued estimated dividend. The FHLBNY has a cooperative structure. Stock can only be acquired by members at par value and redeemed at par value. Stock is not traded publicly and no market mechanism exists for the exchange of stock outside the cooperative structure.
Note 20. Commitments and Contingencies.
The FHLBanks have joint and several liability for all the consolidated obligations issued on their behalf. Accordingly, should one or more of the FHLBanks be unable to repay their participation in the consolidated obligations, each of the other FHLBanks could be called upon to repay all or part of such obligations, as determined or approved by the Finance Agency. Neither the FHLBNY nor any other FHLBank has ever had to assume or pay the consolidated obligations of another FHLBank. The FHLBNY does not believe that it will be called upon to pay the consolidated obligations of another FHLBank in the future. Under the provisions of accounting standard for guarantees, the Bank would have been required to recognize the fair value of the FHLBNY’s joint and several liability for all the consolidated obligations, as discussed above. However, the FHLBNY considers the joint and several liabilities as similar to a related party guarantee, which meets the scope exception under the accounting standard for guarantees. Accordingly, the FHLBNY has not recognized the fair value of a liability for its joint and several obligations related to other FHLBanks’ consolidated obligations at December 31, 2010 and 2009. The par amount of the twelve FHLBanks’ outstanding consolidated obligations, including the FHLBNY’s, was approximately $0.8 trillion and $0.9 trillion at December 31, 2010 and 2009.
Standby letters of credit are executed for a fee on behalf of members to facilitate residential housing, community lending, and members’ asset/liability management or to provide liquidity. A standby letter of credit is a financing arrangement between the FHLBNY and its member. Members assume an unconditional obligation to reimburse the FHLBNY for value given by the FHLBNY to the beneficiary under the terms of the standby letter of credit. The FHLBNY may, in its discretion, permit the member to finance repayment of their obligation by receiving a collateralized advance. Outstanding standby letters of credit were approximately $2,284.5 million and $697.9 million as of December 31, 2010 and 2009, and had original terms of up to 15 years, with a final expiration in 2019. Standby letters of credit are fully collateralized. Unearned fees on standby letters of credit were recorded in Other liabilities and were not significant as of December 31, 2010 and 2009. Based on management’s credit analyses and collateral requirements, the FHLBNY does not deem it necessary to have any provision for credit losses on these commitments and letters of credit.
Under the MPF program, the Bank was unconditionally obligated to purchase $30.0 million and $4.2 million of mortgage loans at December 31, 2010 and 2009. Commitments are generally for periods not to exceed 45 business days. Such commitments were recorded as derivatives at their fair value under the accounting standards for derivatives and hedging. In addition, the FHLBNY had entered into conditional agreements under “Master Commitments” with its members in the MPF program to purchase mortgage loans in aggregate of $630.6 million and $484.6 million as of December 31, 2010 and 2009.
The FHLBNY executes derivatives with major financial institutions and enters into bilateral collateral agreements. When counterparties are exposed, the Bank would typically pledge cash collateral to mitigate the counterparty’s credit exposure. To mitigate the counterparties’ exposures, the FHLBNY deposited $2.7 billion and $2.2 billion in cash with derivative counterparties as pledged collateral at December 31, 2010 and 2009, and these amounts were reported as a deduction to Derivative liabilities.
The FHLBNY was also exposed to credit risk associated with outstanding derivative transactions measured by the replacement cost of derivatives in net fair value gain positions of $22.0 million and $8.3 million at December 31, 2010 and 2009. At December 31, 2010, counterparties had deposited $9.3 million in cash as collateral to mitigate such an exposure. At December 31, 2009, the fair values of derivatives in a gain position were below the threshold and derivative counterparties pledged no cash to the FHLBNY.
The FHLBNY charged to operating expenses net rental costs of approximately $3.3 million, $3.4 million and $3.2 million for the years ended December 31, 2010, 2009 and 2008. Lease agreements for FHLBNY premises generally provide for increases in the basic rentals resulting from increases in property taxes and maintenance expenses. Such increases are not expected to have a material effect on the FHLBNY’s results of operations or financial condition.
Future benefit payments for the BEP and the postretirement health benefit plan are not considered significant. The Bank’s Defined Benefit Plan, a non-contributory pension plan was underfunded by $24.0 million. The Bank paid in the amount in March 2011 to eliminate the shortfall. For more information about future benefits and the Defined Benefit plan shortfall, see Note 17. Employee Retirement Plans.
The following table summarizes contractual obligations and contingencies as of December 31, 2010 (in thousands):
Callable bonds contain exercise date or a series of exercise dates that may result in a shorter redemption period. Mandatorily redeemable capital stock is categorized by the dates at which the corresponding advances outstanding mature. Excess capital stock is redeemed at that time, and hence, these dates better represent the related commitments than the put dates associated with capital stock, under which stock may not be redeemed until the later of five years from the date the member becomes a nonmember or the related advance matures.
Immaterial amount of commitments for equipment leases are not included.
The FHLBNY does not anticipate any credit losses from its off-balance sheet commitments and accordingly no provision for losses is required.
Impact of the bankruptcy of Lehman Brothers
On September 15, 2008, Lehman Brothers Holdings, Inc. (“LBHI”), the parent company of Lehman Brothers Special Financing Inc. (“LBSF”) and a guarantor of LBSF’s obligations, filed for protection under Chapter 11 of the United States Bankruptcy Code in the United States Bankruptcy Court in the Southern District of New York. LBSF filed for protection under Chapter 11 in the same court on October 3, 2008. LBSF was a counterparty to FHLBNY on multiple derivative transactions under an International Swap Dealers Association, Inc. master agreement with a total notional amount of $16.5 billion at the time of termination of the Bank’s derivative transactions with LBSF. The net amount that was due to the Bank after giving effect to obligations that were due LBSF was approximately $65 million. The FHLBNY timely filed proofs of claim in the amount of approximately $65 million as creditors of LBSF and LBHI in connection with the bankruptcy proceedings. The Bank fully reserved the LBSF receivables as the bankruptcies of LBHI and LBSF make the timing and the amount of any recovery uncertain.
As previously reported, the Bank received a Derivatives ADR Notice from LBSF dated July 23, 2010 making a Demand as of the date of the Notice of approximately $268 million owed to LBSF by the Bank. Subsequently, in accordance with the Alternative Dispute Resolution Procedure Order entered by the Bankruptcy Court dated September 17, 2009 (“Order”), the Bank responded to LBSF on August 23, 2010, denying LBSF’s Demand. LBSF served a reply on September 7, 2010, effectively reiterating its position. The mediation being conducted pursuant to the Order commenced on December 8, 2010 and, concluded without settlement on March 17, 2011. Pursuant to the Order, positions taken by the parties in the ADR process are confidential.
While the Bank believes that LBSF’s position is without merit, the amount the Bank actually recovers or pays will ultimately be decided in the course of the bankruptcy proceedings.
The FHLBNY does not anticipate any credit losses from its off-balance sheet commitments and accordingly no provision for losses is required.
Note 21. Related Party Transactions.
The FHLBNY is a cooperative and the members own almost all of the stock of the Bank. Any stock not owned by members is held by former members. The majority of the members of the Board of Directors of the FHLBNY are elected by and from the membership. The FHLBNY conducts its advances business almost exclusively with members. The Bank considers its transactions with its members and non-member stockholders as related party transactions in addition to transactions with other FHLBanks, the Office of Finance, and the Finance Agency. All transactions with all members, including those whose officers may serve as directors of the FHLBNY, are at terms that are no more favorable than comparable transactions with other members. The FHLBNY may from time to time borrow or sell overnight and term Federal funds at market rates to members.
Debt Transfers
During 2010, the bank assumed debt from another FHLBank totaling $193.9 million (par amounts). During 2009 and 2008, there was no transfer of consolidated obligation bonds from other FHLBanks. Amounts transferred were in exchange for a cash price that represented the fair market values of the bonds, No bonds were transferred by the FHLBNY to another FHLBank in 2010 and 2009.
At trade date, the transferring bank notifies the Office of Finance of a change in primary obligor for the transferred debt.
Advances sold or transferred
No advances were transferred/sold to the FHLBNY or from the FHLBNY to another FHLBank in 2010, 2009 and 2008.
MPF Program
In the MPF program, the FHLBNY may participate out certain portions of its purchases of mortgage loans from its members. Transactions are at market rates. The FHLBank of Chicago, the MPF provider’s cumulative share of interest in the FHLBNY’s MPF loans at December 31, 2010 was $81.2 million (December 31, 2009 was $101.2 million) from inception of the program through mid-2004. Since 2004, the FHLBNY has not shared its purchases with the FHLBank of Chicago. Fees paid to the FHLBank of Chicago were $0.5 million, $0.6 million and $0.6 million in each of the years ended December 31, 2010, 2009 and 2008.
Mortgage-backed Securities
No mortgage-backed securities were acquired from other FHLBanks during the periods in this report.
Intermediation
Notional amounts of $550.0 million and $320.0 million were outstanding at December 31, 2010 and 2009 in which the FHLBNY acted as an intermediary to sell derivatives to members. These were offset by identical transactions with unrelated derivatives counterparties. Net fair value exposures of these transactions at December 31, 2010 and 2009 were not material. The intermediated derivative transactions were fully collateralized.
Loans to other Federal Home Loan Banks
In 2010, the FHLBNY extended one overnight loan for a total of $27.0 million to another FHLBank. In 2009, the FHLBNY extended two overnight loans for a total of $472.0 million to other FHLBanks. In 2008, the Bank made four overnight loans for a total of $661.0 million. Generally, loans made to other FHLBanks are uncollateralized. Interest income from such loans was $0.2 thousand, $1.9 thousand and $31.0 thousand for the years ended December 31, 2010, 2009 and 2008.
Borrowings from other Federal Home Loan Banks
The FHLBNY borrows from other FHLBanks, generally for a period of one day. In 2010, there was no borrowing from other FHLBanks. For the years ended December 31, 2009 and 2008, such borrowings averaged $0.4 million and $5.5 million. There were no borrowings outstanding as of December 31, 2009. Interest expense for the years ended December 31, 2009 and 2008 was $0.4 thousand and $159.4 thousand.
The following tables summarize outstanding balances with related parties at December 31, 2010 and 2009, and transactions for each of the years ended December 31, 2010, 2009 and 2008 (in thousands):
Related Party: Outstanding Assets, Liabilities and Capital
Includes insignificant amounts of mortgage loans purchased from members of another FHLBank.
Derivative assets and liabilities include insignificant fair values due to intermediation activities on behalf of members.
Includes insignificant amounts of miscellaneous assets that are considered related party.
Represents funds not yet disbursed to eligible programs.
Related column includes member pass-through reserves at the Federal Reserve Bank.
Related Party: Income and Expense transactions
Includes de minimis amounts of interest income from MPF service provider.
Includes de minimis amounts of mortgage interest income from loans purchased from members of another FHLBank.
Note 22. Segment Information and Concentration.
The FHLBNY manages its operations as a single business segment. Management and the FHLBNY’s Board of Directors review enterprise-wide financial information in order to make operating decisions and assess performance. Advances to large members constitute a significant percentage of FHLBNY’s advance portfolio and its source of revenues.
The FHLBNY has a unique cooperative structure and is owned by member institutions located within a defined geographic district. The Bank’s market is the same as its membership district which includes New Jersey, New York, Puerto Rico, and the U.S. Virgin Islands. Institutions that are members of the FHLBNY must have their principal places of business within this market, but may also operate elsewhere.
The FHLBNY’s primary business is making low-cost, collateralized loans, known as “advances,” to its members. Members use advances as a source of funding to supplement their deposit-gathering activities. As a cooperative, the FHLBNY prices advances at minimal net spreads above the cost of its funding to deliver maximum value to members. Advances to large members constitute a significant percentage of FHLBNY’s advance portfolio and its source of revenues.
The FHLBNY’s total assets and capital could significantly decrease if one or more large members were to withdraw from membership or decrease business with the Bank. Members might withdraw or reduce their business as a result of consolidating with an institution that was a member of another FHLBank, or for other reasons. The FHLBNY has considered the impact of losing one or more large members. In general, a withdrawing member would be required to repay all indebtedness prior to the redemption of its capital stock. Under current conditions, the FHLBNY does not expect the loss of a large member to impair its operations, since the FHLBank Act of 1999 does not allow the FHLBNY to redeem the capital of an existing member if the redemption would cause the FHLBNY to fall below its capital requirements. Consequently, the loss of a large member should not result in an inadequate capital position for the FHLBNY. However, such an event could reduce the amount of capital that the FHLBNY has available for continued growth. This could have various ramifications for the FHLBNY, including a possible reduction in net income and dividends, and a lower return on capital stock for remaining members.
The top ten advance holders at December 31, 2010, 2009 and 2008, and associated interest income for the years then ended are summarized as follows (dollars in thousands):
*
Officer of member bank also served on the Board of Directors of the FHLBNY.
The following table summarizes capital stock held by members who were beneficial owners of more than 5 percent of the FHLBNY’s outstanding capital stock as of February 28, 2011 and December 31, 2010 (shares in thousands):
*
Officer of member bank also served on the Board of Directors of the FHLBNY.
Note 23. Subsequent Events.
Under the final guidance issued by the FASB in February 2010, subsequent events for the FHLBNY are events or transactions that occur after the balance sheet date but before financial statements are issued. There are two types of subsequent events:
a. The first type consists of events or transactions that provide additional evidence about conditions that existed at the date of the balance sheet, including the estimates inherent in the process of preparing financial statements (that is, recognized subsequent events).
b. The second type consists of events that provide evidence about conditions that did not exist at the date of the balance sheet but arose after that date (that is, non-recognized subsequent events).
The FHLBNY has evaluated subsequent events through the date of this report and no significant subsequent events were identified other than the following.
Although the FHLBNY is exempt from ordinary federal, state, and local taxation except for local real estate taxes, it is required to make payments to REFCORP, which was established by Congress in 1989 to help facilitate the U.S. government’s bailout of failed financial institutions. For more information about REFCORP, see Assessments under the background section in notes to the financial statements. Based on anticipated payments to be made by the 12 FHLBanks through the third quarter of 2011, it is likely that the FHLBanks will satisfy their obligation to REFCORP by the end of that period and, assuming that such is the case, further payments will not be necessary after that quarter. In anticipation of the termination of their REFCORP obligation, the FHLBanks have reached an agreement to set aside, once the obligation has ended, amounts that would have otherwise been paid to REFCORP as restricted retained earnings, with the objective of increasing the earnings reserves of the FHLBanks and enhancing the safety and soundness of the FHLBank System.
ITEM 9.
ITEM 9.
CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND FINANCIAL DISCLOSURE.
None.
ITEM 9A.
ITEM 9A.
CONTROLS AND PROCEDURES.
(a)
Evaluation of Disclosure Controls and Procedures: An evaluation of the Bank’s disclosure controls and procedures (as defined in Rules 13a-15(e) and 15d-15(e) under the Securities Exchange Act of 1934, as amended (the “Act”)) was carried out under the supervision and with the participation of the Bank’s President and Chief Executive Officer, Alfred A. DelliBovi, and Senior Vice President and Chief Financial Officer, Patrick A. Morgan, at December 31, 2010. Based on this evaluation, they concluded that as of December 31, 2010, the Bank’s disclosure controls and procedures were effective at a reasonable level of assurance in ensuring that the information required to be disclosed by the Bank in the reports it files or submits under the Act is (i) accumulated and communicated to the Bank’s management (including the President and Chief Executive Officer and Senior Vice President and Chief Financial Officer) in a timely manner, and (ii) recorded, processed, summarized and reported within the time periods specified in the Securities and Exchange Commission’s rules and forms.
(b)
Changes in Internal Control Over Financial Reporting: There were no changes in the Bank’s internal control over financial reporting (as defined in Rules 13a-15(f) and 15d-15(f) under the Act) during the Bank’s fourth quarter that have materially affected, or are reasonably likely to materially affect, the Bank’s internal control over financial reporting.
Management’s Report on Internal Control over Financial Reporting and the Report of Independent Registered Public Accounting Firm thereon are set forth in Part II, Item 8 of the Annual Report on Form 10-K and incorporated herein by reference.
None
PART III
ITEM 10.
ITEM 10.
DIRECTORS, EXECUTIVE OFFICERS AND CORPORATE GOVERNANCE.
2010 and 2011 Board of Directors
The FHLBank Act, as amended by the Housing and Economic Recovery Act of 2008 (“HERA”), provides that an FHLBank’s board of directors is to comprise thirteen directors, or such other number as the Director of the Federal Housing Finance Agency determines appropriate. For each of 2010 and 2011, the FHFA Director designated seventeen directorships for the Bank, ten of which are Member Directorships and seven of which are Independent Directorships.
All individuals serving as Bank directors must be United States citizens. A majority of the directors serving on the Board must be Member Directors and at least two-fifths must be Independent Directors.
A Member Directorship may be held only by an officer or director of a member institution that is located within the Bank’s district and that meets all minimum regulatory capital requirements. There are no other qualification requirements for Member Directors apart from the foregoing.
Member Directors are, generally speaking, elected by Bank stockholders in, respectively, New York, New Jersey, and Puerto Rico and the U.S. Virgin Islands. The Bank’s Board of Directors is ordinarily not permitted to nominate or elect Member Directors; however, the Board may appoint a director to fill a vacant Member Directorship in the event that no nominations are received from members in the course of the Member Director election process. Each member institution that is required to hold stock as of the record date, which is December 31 of the year prior to the year in which the election is held, may nominate and/or vote for representatives from member institutions in its respective state to fill open Member Directorships. The Finance Agency’s election regulation provides that no director, officer, employee, attorney or agent of the Bank, other than in a personal capacity, may support the nomination or election of a particular individual for a Member Directorship.
An Independent Directorship may be held, generally speaking, only by an individual who is a bona fide resident of the Bank’s district, who is not a director, officer, or employee of a member institution or of any person that receives advances from the Bank, and who is not an officer of any FHLBank. At least two Independent Directors must be “public interest” directors. Public interest directors, as defined by Finance Agency regulations, are Independent Directors who have at least four years of experience representing consumer or community interests in banking services, credit needs, housing or consumer financial protection. Pursuant to Finance Agency regulations, each Independent Director must either satisfy the aforementioned requirements to be a public interest director, or have knowledge or experience in one or more of the following areas: auditing and accounting, derivatives, financial management, organizational management, project development, risk management practices, and the law.
Bank members are permitted to identify candidates to be considered by the Bank to be included on the Independent Director nominee slate. The Bank’s Board of Directors is then required by Finance Agency regulations to consult with the Bank’s Affordable Housing Advisory Council (“Advisory Council”) in establishing the nominee slate. (The Advisory Council is an advisory body consisting of fifteen persons residing in the Bank’s district appointed by the Bank’s Board, the members of which are drawn from community and not-for-profit organizations that are actively involved in providing or promoting low and moderate income housing or community lending. The Advisory Council provides advice on ways in which the Bank can better carry out its housing finance and community lending mission.) After the nominee slate is approved by the Board, the slate is then presented to the Bank’s membership for a district-wide vote. The election regulation permits the Bank’s directors, officers, attorneys, employees, agents, and Advisory Council to support the candidacy of the board of director’s nominees for Independent Directorships.
The Board does not solicit proxies, nor are member institutions permitted to solicit or use proxies in order to cast their votes in an election.
The following table sets forth information regarding each of the directors of the FHLBNY who served on the Board during the period from January 1, 2010 through the date of this annual report on Form 10-K. Unless otherwise specifically indicated by a footnote, all persons in the below table served continuously on the Board from January 1, 2010 through the date of this annual report on Form 10-K. Footnotes are also used to specifically identify those directors who served on the Board in 2010 and who were also elected to serve by Bank members or the Bank for a new term on the Board commencing on January 1, 2011. After the table is biographical information for each director.
No director has any family relationship with any other director or executive officer of the Bank. In addition, no director or executive officer has an involvement in any legal proceeding required to be disclosed pursuant to Item 401(f) of Regulation S-K.
Mr. Horn (Chair) has been a partner in the law firm of McCarter & English, LLP since 1990. He has served as the Commissioner of Banking for the State of New Jersey and as the New Jersey State Treasurer. He was also a member of the New Jersey State Assembly and served as a member of the Assembly Banking Committee. In addition, Mr. Horn served on New Jersey’s Executive Commission on Ethical Standards as both its Vice Chair and Chairman, was appointed as a State Advisory Member of the Federal Financial Institutions Examination Council, and was a member of the Municipal Securities Rulemaking Board. Mr. Horn is counsel to the New Jersey Bankers Association, chairman of the Bank Regulatory Committee of the Banking Law Section of the New Jersey State Bar Association, and a Fellow of the American Bar Foundation. He served as a director of Ryan Beck & Co. through February 27, 2007. Mr. Horn’s legal and regulatory experience, as indicated by his background, support his qualifications to serve on the Bank’s Board of Directors as an Independent Director.
Mr. González (Vice Chair) has been Senior Executive Vice President, Banking and Corporate Development, of Oriental Financial Group, Inc. and Bank member Oriental Bank & Trust since August, 2010. He was President and Chief Executive Officer of Santander BanCorp and Banco Santander Puerto Rico from October 2002 until August 2008, and served as a Director of both entities until August 2010. Mr. González joined the Santander Group in August 1996 as President and Chief Executive Officer of Santander Securities Corporation. He later served as Executive Vice President and Chief Financial Officer of Santander BanCorp and Banco Santander Puerto Rico and in April 2002 was named President and Chief Operating Officer of both entities. Mr. González is a past President of the Puerto Rico Bankers Association and a past president of the Securities Industry Association of Puerto Rico. Mr. González was at Credit Suisse First Boston from 1983 to 1986 as Vice President of Investment Banking, and from 1989 to 1995 as President and Chief Executive Officer of the firm’s Puerto Rico subsidiary. From 1986 to 1989, Mr. González was President and Chief Executive Officer of the Government Development Bank for Puerto Rico. From 1980 to 1983, he was in the private practice of law in San Juan, Puerto Rico with the law firm of O’Neill & Borges.
Mr. Buran is currently Director, President and Chief Executive Officer of Bank members Flushing Savings Bank and Flushing Commercial Bank, and also of Flushing Financial Corporation, the holding company for those two institutions. He joined Flushing Savings Bank and Flushing Financial Corporation in 2001 as Chief Operating Officer and he became a Director of these entities in 2003. In 2005, he was named President and Chief Executive Officer of Flushing Savings Bank and Flushing Commercial Bank. He became a Director, as well as President & CEO, of Flushing Commercial Bank in 2007. Mr. Buran’s career spans over 30 years in the banking industry, beginning with Citibank in 1977. There he held a variety of management positions including Business Manager of their retail distribution in Westchester, Long Island and Manhattan and Vice President in charge of their Investment Sales Division. Mr. Buran left Citibank to become Senior Vice President, Division Head for Retail Services of NatWest Bank and later Executive Vice President of Fleet Bank’s (now Bank of America) retail branch system in New York City, Long Island, Westchester and Southern Connecticut. He also spent time as a consultant and Assistant to the President of Carver Bank. Mr. Buran has devoted his time to a variety of charitable and not-for profit organizations. He has been a board member of the Long Island Association, both the Nassau and Suffolk County Boy Scouts, Family and Children’s Association, EAS, Long Island University, the Long Island Philharmonic and Channel 21. He was the fundraising chairman for the Suffolk County Vietnam Veteran’s War Memorial in Farmingville, New York and has been recipient of the Boy Scouts’ Chief Scout Citizen Award. His work in the community has been recognized by Family and Children’s Association, and the Gurwin Jewish Geriatric Center. He was also a recipient of the Long Island Association’s SBA Small Business Advocate Award. Mr. Buran was honored with St. Joseph’s College’s Distinguished Service Award in 1998 and 2004. Today, he serves on the Board of Trustees of the College. Mr. Buran also serves as Audit Committee Chairman and is former Board President of Neighborhood Housing Services of New York City. He is a Board member of The Korean American Youth Foundation. He is also currently Chairman of the New York Bankers Association as well as a Director of New York Bankers Service Corporation. Mr. Buran also serves on the board of the Long Island Conservatory. He holds a B.S. in Management and an M.B.A., both from New York University.
Ms. Estabrook has been chief executive of Elberon Development Co. in Cranford, New Jersey since 1984. It, together with its affiliated companies, owns approximately two million square feet of rental property. Most of the property is industrial with the remainder serving commercial and retail tenants. She is the past chairman of the New Jersey Chamber of Commerce and, until June 2007, served on its executive committee, and chaired its nominating committee. She previously served as a director on the board of New Brunswick Savings Bank. Ms. Estabrook also served as a member of the Lay Board of the Delbarton School in Morristown for 15 years, including five years as chair. Since 2005, Ms. Estabrook has served as a Director of New Jersey American Water Company, Inc. Until December 2010, Ms. Estabrook was a member and Secretary of the Board of Trustees of Catholic Charities, served on its Executive Committee and its Audit Committee, and chaired its Finance Committee and Building and Facilities Committees. She is presently on the Board of Overseers of the Weill Cornell Medical School, is a Trustee of St. Barnabas Corporation, and is also on the Board of Trustees of Monmouth Medical Center, where she serves on its Executive and Community Action Committees, and Chairs the Children’s Hospital Committee. Ms. Estabrook serves as a Member of the Liberty Hall Museum Board at Kean University in Union, NJ and serves on the Board of Trustees of the New Jersey Performing Arts Center (NJPAC). Ms. Estabrook’s experience in, among other areas, representing community interests in housing, and in project development, as indicated by her background described above, support her qualifications to serve on the Bank’s Board of Directors as a public interest director and Independent Director.
Mr. Ficalora has been President and Chief Executive Officer and a Director of New York Community Bancorp, Inc. since its inception on July 20, 1993 and President and Chief Executive Officer and a Director of its primary subsidiaries, Bank member New York Community Bank (“New York Community”) and Bank member New York Commercial Bank (“New York Commercial”), since January 1, 1994 and December 30, 2005, respectively. On January 1, 2007, he was appointed Chairman of New York Community Bancorp, Inc., New York Community and New York Commercial (a position he previously held at New York Community Bancorp, Inc. from July 20, 1993 through July 31, 2001 and at New York Community from May 20, 1997 through July 31, 2001); he served as Chairman of these three entities until December 2010. Since 1965, when he joined New York Community (formerly Queens County Savings Bank), Mr. Ficalora has held increasingly responsible positions, crossing all lines of operations. Prior to his appointment as President and Chief Executive Officer of New York Community in 1994, Mr. Ficalora served as President and Chief Operating Officer (beginning in October 1989); before that, he served as Executive Vice President, Comptroller and Secretary. A graduate of Pace University with a degree in business and finance, Mr. Ficalora provides leadership to several professional banking organizations. In addition to previously serving as a member of the Executive Committee and as Chairman of the former Community Bankers Association of New York State, Mr. Ficalora is a Director of the New York State Bankers Association and Chairman of its Metropolitan Area Division; in addition, he is a member of the Board of Directors of the American Bankers Association. He also serves on the Board of Directors of RSI Retirement Trust and of Peter B. Cannell and Co., Inc., an investment advisory firm that became a subsidiary of New York Community in 2004. Mr. Ficalora served as a member of the Board of Directors of the Thrift Institutions Advisory Council of the Federal Reserve Board in Washington, D.C., and also served as a member of the Thrift Institutions Advisory Panel of the Federal Reserve Bank of New York. Mr. Ficalora has also previously served as a director of Computhrift Corporation, Chairman and board member of the New York Savings Bank Life Insurance Fund, President and Director of the MSB Fund and President and Director of the Asset Management Fund Large Cap Equity Institutional Fund, Inc. With respect to community activities, Mr. Ficalora has been a member of the Board of Directors of the Queens Chamber of Commerce since 1990 and a member of its Executive Committee since April 1992. In addition, Mr. Ficalora is President of the Queens Borough Public Library and the Queens Library Foundation Board, and serves on the Boards of Directors of the New York Hall of Science, New York Hospital-Queens, Flushing Cemetery, and on the Advisory Council of the Queens Museum of Art.
Mr. Ford has been President and Chief Executive Officer of Bank member Crest Savings Bank, headquartered in Wildwood, New Jersey since 1993. He has worked in the financial services industry in southern New Jersey for over forty years. Mr. Ford served as the 2003-04 chairman of the New Jersey League of Community Bankers (“New Jersey League”), and has also served as a member of the New Jersey League’s Executive and Conference Committees, Committee on Examination and Supervision, and Association Political Election Committee. Mr. Ford served as Chairman of the Community Bank Council of the Federal Reserve Bank of Philadelphia in 1998-1999. He also served on the board of directors of America’s Community Bankers (“ACB”) and on ACB’s Audit, Finance & Investment, and Professional Development & Education Committees. Mr. Ford serves on the boards of the Cape Regional Medical Center Foundation, Main Street Wildwood and the Doo Wop Preservation League and has previously served as a director and treasurer of Habitat for Humanity, Cape May County from 1996 to 2001, and as Divisional Chairman of the March of Dimes for Atlantic and Cape May Counties from 1997 to 1999. In December 2000, he was appointed by Governor Christine Todd Whitman to the New Jersey Department of Banking & Insurance Study Commission. Mr. Ford is a graduate of Marquette University with a degree in accounting and is a member of the American Institute of Certified Public Accountants and the New Jersey Society of CPAs.
Mr. Fulmer has been a director of Bank member The Bank of Castile since 1988, the Chairman since 1992, Chief Executive Officer since 1996, and President since 2002. Mr. Fulmer has also been Vice Chairman of Tompkins Financial Corporation, the parent company of The Bank of Castile, since 2007, and has served as President and a Director of Tompkins Financial Corporation since 2000. Since 2001, he has served as Chairman of the Board of Tompkins Insurance Agencies, Inc. and, since 2006, he has served as Chairman of AM&M Financial Services, Inc., both subsidiaries of Tompkins Financial Corporation. In addition, since 1999, Mr. Fulmer has served as a member of the board of directors of Bank member Mahopac National Bank, which is also a subsidiary of Tompkins Financial Corporation. He served as the President and Chief Executive Officer of Letchworth Independent Bancshares Corporation from 1991 until its merger with Tompkins Financial Corporation in 1999. Before joining The Bank of Castile, Mr. Fulmer held various executive positions with Fleet Bank of New York (formerly known as Security New York State Corporation and Norstar Bank) for approximately 12 years. He is an active community leader, serving as a member of the Board of Directors of the Erie & Niagara Insurance Association, Cherry Valley Insurance Company, United Memorial Medical Center in Batavia, New York, WXXI Public Broadcasting Council, and the Genesee County Economic Development Center. Mr. Fulmer is a former director of the Monroe Title Corporation and the Catholic Heath System of Western New York. He is also a former president of the Independent Bankers Association of New York State and a former member of the Board of Directors of the New York Bankers Association.
Mr. Hermance, Chairman and Chief Executive Officer of Bank member Hudson City Savings Bank, Paramus, New Jersey, has over 20 years of service with that institution. He joined Hudson City as Senior Executive Vice President and Chief Operating Officer and was also named to the Board of Directors. In 1997, he was promoted to President, and he served in that position through December 14, 2010. On January 1, 2002, he also became Chief Executive Officer. On January 1, 2005, Mr. Hermance assumed the title of Chairman in addition to his other titles. Mr. Hermance is also currently Chairman and Chief Executive Officer of Hudson City Bancorp, the parent company, which trades on NASDAQ. He serves as a member of the Thrift Institutions Advisory Panel of the Federal Reserve Bank of New York, and as a trustee of St. John Fisher College.
Ms. Liseno has been President and Chief Executive Officer of Bank member Metuchen Savings Bank since 1979, having begun her career with the bank in 1962. She currently serves on the New Jersey Bankers Association’s Government Relations Committee, and she also currently serves on the Board of the Thrift Institutions Community Investment Corp. (TICIC), a subsidiary of the New Jersey Bankers Association. Ms. Liseno is also a trustee of the Jersey Bankers Political Action Committee (JEBPAC), formerly known as the Savings Association Political Election Committee of the New Jersey Bankers Association (SAPEC-NJ). Ms. Liseno was a member of the Legislative and Regulatory Affairs Committee of the New Jersey League of Community Bankers (“New Jersey League”), the predecessor of the New Jersey Bankers Association; she also served on the New Jersey League’s Executive Committee and was the Chairman of the Board of Governors of the New Jersey League. Ms. Liseno also served on the Board of Bankers Cooperative Group, Inc. She is also past president of the Central Jersey Savings League.
Mr. Lynch has been President and Chief Executive Officer of Bank member Oritani Bank, headquartered in the Township of Washington, New Jersey, since July 1, 1993. He has also been President and Chief Executive Officer of Oritani Financial Corporation, the holding company of Oritani Bank, since 1998. Mr. Lynch has also served as Chair of the two aforementioned entities since August of 2006; prior to that time, he served as a Director. Mr. Lynch is a former Chairman of the New Jersey League of Community Bankers and served as a member of its Board of Governors for several years and also served on the Board of its subsidiary, the Thrift Institutions Community Investment Corp. (TICIC). Mr. Lynch is a member of the Professional Development and Education Committees of the American Bankers Association. He was a member of the Board of Directors of the Pentegra Defined Benefit Plan For Financial Institutions from 1997 through 2007, and was Chair of that Board in 2004 and 2005 and Vice Chair in 2002 and 2003, and has been a member of the Board of Pentegra Services, Inc. since 2007. He is a member of the American Bar Association and a former member of the Board of Directors of Bergen County Habitat for Humanity. Mr. Lynch is also a member of the Board of Directors of the Hackensack Main Street Business Alliance. Prior to appointment to his current position at Oritani Bank in 1993, Mr. Lynch was Vice President and General Counsel of a leasing company and served as a director of Oritani Bank. Mr. Lynch earned a Juris Doctor degree from Fordham University, an LLM degree from New York University, an MBA degree from Rutgers University and a BA in Economics from St. Anselm’s College.
Mr. Melone has been chairman emeritus of The Equitable Companies, Incorporated since April 1998. Prior to that, he was President and Chief Executive Officer of The Equitable Companies from 1996 until his retirement in April 1998 and, from 1990 until his retirement in April 1998, he was Chairman and Chief Executive Officer of its principal insurance subsidiary, The Equitable Life Assurance Society of the United States (“Equitable Life”). Prior to joining Equitable Life in 1990, Mr. Melone was president of The Prudential Insurance Company of America. He is a former Huebner Foundation fellow, and previously served as an associate professor of insurance at The Wharton School of the University of Pennsylvania and research director at The American College. Mr. Melone is a Chartered Life Underwriter, Chartered Financial Consultant and Chartered Property and Casualty Underwriter. He currently serves on the boards of Newark Museum, Newark, New Jersey, the Greater New York City Council of Boy Scouts, Auburn Theological Seminary, New York City, New York, and St. Barnabas Medical Center, Livingston, New Jersey. Until August of 2007, Mr. Melone served on the board of directors of BISYS; until December of 2007, he served on the board of directors of Foster Wheeler; and, until May of 2010, he served as chairman of the board of Horace-Mann Educators, Inc. Mr. Melone has held other leadership positions in a number of insurance industry associations, as well as numerous civic organizations. He received his bachelor’s, master’s and doctoral degrees from the University of Pennsylvania. Mr. Melone’s financial and other management experience, as indicated by his background described above, support his qualifications to serve on the Bank’s Board of Directors as an Independent Director.
Mr. Mroz, of Haddonfield, New Jersey, is a government and public affairs consultant and lawyer. Mr. Mroz has been the sole proprietor of a government and public affairs consulting business since January 1, 2010. From January 1, 2007 until December 2009, he served as President of Salmon Ventures, Ltd, a firm with which he maintains an affiliation. Salmon Ventures is a non-legal government, regulatory and public affairs consulting firm. Mr. Mroz represents clients in New Jersey and nationally in connection with legislative, regulatory and business development affairs. Mr. Mroz, as a governmental affairs agent, is an advocate for clients in the utility, real estate, insurance and banking industries for federal, state, and local regulatory, administrative, and legislative matters. In his law practice he concentrates on real estate, corporate and regulatory issues. In this regard, Mr. Mroz became, as of March 1, 2011, Of Counsel to the law firm of Archer & Greiner. From April 1, 2007 through the end of February, 2011, he was Of Counsel to the law firm of Gruccio, Pepper, DeSanto & Ruth. Prior to that, he was Of Counsel to the law firm of Stradley Ronon Stevens & Young, LLP for six years, until December 31, 2006. Mr. Mroz has a distinguished record of community and public service. He is the former Chief Counsel to New Jersey Governor Christine Todd Whitman, serving in that position in 1999 and 2000. Prior to that, he served in various capacities in the Whitman Administration, including Special Counsel, Director of the Authorities, and member of the Governor’s Transition Team. He served as County Counsel for Camden County, New Jersey, from 1991 to 1994. Mr. Mroz is also active in community affairs, serving on the board of directors for the New Jersey Alliance for Action and also as the Chairman of the Board of the Volunteers for America, Delaware Valley. Mr. Mroz currently serves as counsel to the New Jersey Conference of Mayors, and was former counsel to the Delaware River Bay Authority and to the Atlantic City Hotel and Lodging Association. He was also, through December 31, 2010, the solicitor for the Waterford Township, N.J., Planning Board. He has been a frequent commentator on Philadelphia radio and TV stations regarding election and political issues. Mr. Mroz’s legal and regulatory experience, as indicated by his background, support his qualifications to serve on the Bank’s Board of Directors as an Independent Director.
Mr. O’Brien joined Bank member State Bank of Long Island as President, CEO and director in November of 2006, following six years serving as the President, CEO and director of Atlantic Bank of New York. Since November of 2006, he has also served as a director of State Bancorp, Inc., the holding company of State Bank of Long Island. Mr. O’Brien previously served as Vice Chairman of North Fork Bancorporation as well as Chairman of the Board, President and CEO of North Side Savings Bank. Mr. O’Brien is a past Chairman of the New York Bankers Association. He serves as an independent trustee of Prudential Insurance Company’s Mutual Fund Complex, a trustee of the Catholic Healthcare System of New York and Catholic Healthcare Foundation, and a trustee of Niagara University. He has been a trustee of Molloy College, a member of the National Advisory Board of Fannie Mae and an advisory board member for Neighborhood Housing Services of New York City.
Ms. Raffaeli has been the President and Managing Director of the Hamilton White Group, LLC since 2002. The Hamilton White Group is an investment and advisory firm dedicated to assisting companies grow their businesses, pursue new markets and acquire capital. From 2004 to 2006, she was also the President and Chief Executive Officer of the Cardean Learning Group. Additionally, she served as the President and Chief Executive Officer of Proact Technologies, Inc. from 2000 to 2002 and Consumer Financial Network from 1998 to 2000. Ms. Raffaeli also served as the Executive Director of the Commercial Card Division of Citicorp and worked in executive positions in Citicorp’s Global Transaction Services and Mortgage Banking Divisions from 1994 to 1998. She has also held senior positions at Chemical Bank and Merrill Lynch. Ms. Raffaeli serves on the Board of Directors of E*Trade and formerly served on the Board of American Home Mortgage Holdings, Inc. Ms. Raffaeli’s financial and other management experience, as indicated by her background described above, support her qualifications to serve on the Bank’s Board of Directors as an Independent Director.
Rev. Reed is the founder and CEO of GGT Development LLC, a company which started in May of 2009. The strategic plan of the corporation focuses on the successful implementation of housing and community development projects, including affordable housing projects, schools, and multi-purpose facilities. He has been involved in development projects totaling more than $125 million. He formerly served as Chief Executive Officer of the Greater Allen Development Corporation from July 2007 through March 2009. The Greater Allen Development Corporation and its related development entities rehabilitated communities through its involvement in affordable housing projects, mixed use commercial/residential projects, and other development opportunities. Rev. Reed previously was the Chief Financial Officer of Greater Allen AME Cathedral, located in Jamaica, Queens, New York, from 1996 to July 2007. From 1986 to 1995, Rev. Reed served as the campaign manager and Chief of Staff for Congressman Floyd H. Flake. Prior to becoming involved in public policy, Rev. Reed managed the $6 billion liquid asset portfolio for General Motors and was a financial analyst for Chevrolet, Oldsmobile, Pontiac, Cadillac, Buick and GM of Canada. Rev. Reed gained his initial financial experience as a banker at First Tennessee Bank in Memphis, Tennessee. Rev. Reed earned a Masters of Business Administration from Harvard Business School, a Bachelor of Business Administration from Memphis State University and a Masters of Divinity at Virginia Union University. He currently serves on the following organizations in the following positions: Vice Chairman of Audit Committee, Board of Trustees, Hofstra University; Chairman, Jamaica Business Resource Center; Secretary/Treasurer, Outreach Project; Board Member, JP Morgan Chase Bank National Community Advisory Board; and Board Member, Wheelchair Charities. Rev. Reed’s experience in representing community interests in housing, as indicated by his background described above, support his qualifications to serve on the Bank’s Board of Directors as a public interest director and Independent Director.
Mr. Scarchilli was, until his passing on June 5, 2010, President and Chief Executive Officer of Bank member Pioneer Savings Bank, headquartered in Troy, New York (where he had that title since 1997), and a member of the Board of Trustees. Mr. Scarchilli was a graduate of Hudson Valley Community College in Troy and had a Bachelor’s Degree in Accounting from Siena College. Mr. Scarchilli also served as President, CEO and Director of Pioneer Commercial Bank and served as Chairman of the Board of PSB Financial Services, Inc., both wholly-owned subsidiaries of Pioneer Savings Bank. He was also a Director of the New York Bankers Association and was Chairman of that Association through February 9, 2009. He was a Director of the American Bankers Association, a national banking trade organization, in 2008. Mr. Scarchilli served as a member of the Thrift Institutions Advisory Panel of the Federal Reserve Bank of New York, served as a Director on the Banking Board of the New York State Banking Department, and also served as a Director of the Independent Bankers Association of New York State. Through January 8, 2007, Mr. Scarchilli served as a Director of Asset Management Fund Large Cap Equity Fund Institutional Fund, Inc. In 2005, Mr. Scarchilli served as a trustee on the RSI Retirement Trust Board. Mr. Scarchilli also served on numerous not-for-profit boards in the local community. He was a Director of the Center for Economic Growth and Co-Chair of Troy 20/20. Additionally, he served as a member of the Audit and Compliance Committee of Ordway Research Institute.
Dr. Soaries has been the Senior Pastor of the First Baptist Church of Lincoln Gardens in Somerset, New Jersey since November 1990. A pioneer of faith-based community development, Dr. Soaries has led First Baptist in the construction of a new $20 million church complex and the formation of many not-for-profit entities to serve the community surrounding the church. Highlights of Dr. Soaries’ ministry include recruiting 379 families to become foster parents to 770 children; helping 236 children find adoptive parents; constructing 145 new homes for low and moderate income residents to own; redeveloping 150,000 square feet of commercial real estate; operating a “green jobs” training program; serving hundreds of youth in an after school center and homework club; forming a youth entrepreneurship program; organizing a community development credit union; implementing a strategy to help 1,000 families become debt-free; and creating a program designed to help homeowners recover homes lost through foreclosure. He is the author of dfree™ Breaking Free from Financial Slavery. Founded in 2005, his dfree™ campaign is the linchpin of a successful strategy to lead people, families, and organizations out of debt to attain financial independence. Dr. Soaries and his dfree™ strategy were the focus of the third installment of CNN’s Black in America documentary “Almighty Debt.” From January 12, 1999 to January 15, 2002, Dr. Soaries served as New Jersey’s 30th Secretary of State. In 2004 he also served as the first chairman of the United States Election Assistance Commission, having been appointed by the President and confirmed by the United States Senate. Dr. Soaries’ project development experience, as indicated by his background described above, support his qualifications to serve on the Bank’s Board of Directors as an Independent Director.
Mr. Strayton has been President, Chief Executive Officer and a Director of Bank member Provident Bank, an independent full service community bank with $3.0 billion in assets headquartered in Montebello, New York, since 1986. He is also President, Chief Executive Officer and a Director of Provident New York Bancorp, the holding company of Provident Bank, and of Provident Municipal Bank. Mr. Strayton is currently a director of the New York Bankers Association and a member of the Government Affairs Committee of the American Bankers Association. He also currently serves on the Community Depository Institutions Advisory Council of the Federal Reserve Bank of New York. Further, he serves as a director of Orange & Rockland Utilities and the New York Business Development Corporation. Mr. Strayton’s career includes chairmanships of the Community Bankers Association of New York State, St. Thomas Aquinas College, Rockland Business Association, Rockland County Boy Scouts of America, and Rockland United Way, among other local organizations.
Executive Officers
The following sets forth the executive officers of the FHLBNY at December 31, 2010 and as of the date of this annual report on Form 10-K. The Bank has determined that its executive officers are those officers who are members of the Bank’s internal Management Committee. All Bank officers are “at will” employees and do not serve for a fixed term.
Alfred A. DelliBovi was elected President of the Federal Home Loan Bank of New York in November 1992. As President, he serves as the Chief Executive Officer and directs the Bank’s overall operations to facilitate the extension of credit products and services to the Bank’s member-lenders. Since 2005, Mr. DelliBovi has been a member of the Board of Directors of the Pentegra Defined Contribution Plan for Financial Institutions; he previously served on this board from 1994 through 2000. Since October, 2009, he has served on the Board of Directors of the Pentegra Defined Benefit Plan for Financial Institutions; he previously served on this board from 2001 through 2003. In addition, Mr. DelliBovi was appointed by the U.S. Department of the Treasury in September 2006 to serve as a member of the Directorate of the Resolution Funding Corporation, and he was appointed Chairman in September 2007; he served on this board until October 2009. In November 2009, Mr. DelliBovi was appointed to serve as Chair of the Board of the Financing Corporation (“FICO”). Mr. DelliBovi previously served on the FICO Board as Chair from November 2002 through November 2003, and also served as Vice Chair of the FICO Board from November 1996 to November 1997. Since July, 2010, Mr. DelliBovi, along with the eleven other FHLBank Presidents and five independent directors, has served as a Director of the Office of Finance of the Federal Home Loan Banks. Prior to joining the Bank, Mr. DelliBovi served as Deputy Secretary of the U.S. Department of Housing and Urban Development from 1989 until 1992. In May 1992, President Bush appointed Mr. DelliBovi Co-Chairman of the Presidential Task Force on Recovery in Los Angeles. Mr. DelliBovi served as a senior official at the U.S. Department of Transportation in the Reagan Administration, was elected to four terms in the New York State Assembly, and earned a Master of Public Administration degree from Bernard M. Baruch College, City University of New York.
Eric P. Amig has served as Director of Bank Relations since joining the Bank in February 1993. From 1985 through January 1993, he worked in the U.S. Department of Housing and Urban Development; during this time he served as Special Assistant to the Deputy Secretary from 1990-1993. Mr. Amig has also served as a legislative aide in the Pennsylvania State Senate and House of Representatives.
Adam Goldstein was named Head of Marketing and Sales in March 2008; in this role, he leads the Sales, Marketing Communications and Business Research and Development efforts at the Bank. He joined the Bank in June 1997 and has held a number of key positions in the Bank’s sales and marketing areas. In addition to an undergraduate degree from the SUNY College at Oneonta and an M.B.A. in Financial Marketing from SUNY Binghamton University, Mr. Goldstein has received post-graduate program certifications in Business Excellence from Columbia University, in Management Development from Cornell University, and in Management Practices from New York University.
John F. Edelen was named Chief Risk Officer in January 2011. In this role, Mr. Edelen directs the Bank’s enterprise-wide risk management and oversees the Credit Policy, Compliance, Operations Risk, Risk Analytics, Validation and Risk Strategy Departments. He previously was the Director of ALM Risk Strategy and Development. Mr. Edelen joined the Bank in 1997 from Oppenheimer and Co. as a derivative products trader/analyst and held various positions of increasing responsibility within the Bank’s capital markets and risk management functions. A veteran of Persian Gulf War II, Mr. Edelen served for 9 years in the U.S. Army as a Ranger and Paratrooper and commanded a unit in the 82nd Airborne Division. He holds an MBA from the Columbia Business School and Bachelor of Science degree from the United States Military Academy.
G. Robert Fusco was named Chief Information Officer and Head of Technology and Support Services in May 2009. In June 2009, he reorganized the Technology and Support Services area as Enterprise Services and is currently CIO and Head of Enterprise Services. Mr. Fusco is responsible for all of the Bank’s technology, telecommunications, records management, business continuity and facilities services. He also serves as the Bank’s Director of Minority and Women Inclusion. Mr. Fusco has been with the Bank since April, 1987. During his 23 years at the Bank, he has held various management positions in Information Technology, including IT Director starting in 2000, Chief Technology Officer starting in 2006, and CIO in 2008. Mr. Fusco received an undergraduate degree from the State University of New York at Stony Brook. He has earned numerous post-graduate technical and management certifications throughout his career, and is a graduate of the American Bankers Association National Graduate School of Banking. Prior to joining the Bank, Mr. Fusco held positions at Citicorp and the Federal Reserve Bank of New York.
Paul B. Héroux was named Head of Member Services in March 2004; in this role, he oversees several functions at the Bank, including Credit and Correspondent Services, Collateral Services, Acquired Member Assets and Community Investment/Affordable Housing Operations. Mr. Héroux joined the Bank in 1984 as a Human Resources Generalist and served as the Director of Human Resources from 1988 to 1990. In his tenure with the Bank, he has held other key positions including Director of Financial Operations and Chief Credit Officer. He received an undergraduate degree from St. Bonaventure University and is a graduate of the Columbia Senior Executive Program as well as the ABA Stonier National Graduate School of Banking. Prior to joining the Bank, Mr. Héroux held positions at Merrill Lynch & Co. and E.F. Hutton & Co.
Peter S. Leung joined the Bank as Chief Risk Officer in January 2004, and served in that position until December, 2010. He was named Head of Asset Liability Management in January 2011. Mr. Leung has more than twenty-four years experience in the Federal Home Loan Bank System. Prior to joining the Bank, Mr. Leung was the Chief Risk Officer of the Federal Home Loan Bank of Dallas for three years, and the Associate Director and then Deputy Director of the Office of Supervision of the Federal Housing Finance Board for a total of 11 years. He also served as an examiner with the Federal Home Loan Bank of Seattle and with the Office of Thrift Supervision for a total of four years in the 1980’s. Mr. Leung is a CPA and has an undergraduate degree from SUNY at Buffalo and an M.B.A. from City University, Seattle, Washington.
Patrick A. Morgan was named the Chief Financial Officer in March 2004. Mr. Morgan joined the FHLBNY in 1999 after more than fifteen years in the financial services industry including working for one of the largest international banks in the U.S. Prior to that, Mr. Morgan was a senior audit manager with one of the Big Four public accounting firms. He is a CPA and a member of the New York State Society of CPAs and the American Institute of CPAs.
Kevin M. Neylan was named Head of Strategy and Business Development in January 2009. He was previously Head of Strategy and Organizational Performance from January 2005 to December 2008, and was Director, Strategy and Organizational Performance from January 2004 to December 2004. Mr. Neylan is responsible for developing and monitoring the execution of the Bank’s business strategy. He is also responsible for overseeing the Bank’s Sales and Marketing, Human Resources and Legal functions. Mr. Neylan had approximately twenty years of experience in the financial services industry prior to joining the Bank in April 2001. He was a partner in the financial service consulting group of one of the Big Four accounting firms. He holds an M.S. in corporate strategy from the MIT Sloan School of Management and a B.S. in management from St. John’s University.
Craig E. Reynolds was named Head of Asset Liability Management in March 2004, and served in that capacity through December 2010. Mr. Reynolds then served as Senior Vice President, Asset Liability Management until his retirement from the Bank on March 4, 2011. Prior to March 2004, he served as Treasurer of the Bank. Mr. Reynolds joined the FHLBNY in 1994 after more than 22 years in banking, with almost half this time spent working abroad in international banking. He was the treasurer of a U.S. bank’s branch in Tokyo and later resided in Riyadh, Saudi Arabia as the treasurer of a Saudi Arabian bank for over five years. He received an undergraduate degree from Manhattan College in the Bronx, New York.
Section 16 (a) Beneficial Ownership Reporting Compliance
In accordance with correspondence from the Office of Chief Counsel of the Division of Corporation Finance of the U.S. Securities and Exchange Commission dated August 26, 2005, Directors, officers and 10% stockholders of the Bank are exempted from Section 16 of the Securities Exchange Act of 1934 with respect to transactions in or ownership of Bank capital stock.
Audit Committee
The Audit Committee of the FHLBNY’s Board of Directors is primarily responsible for overseeing the services performed by the FHLBNY’s independent registered public accounting firm and internal audit department, evaluating the FHLBNY’s accounting policies and its system of internal controls and reviewing significant financial transactions. For the period from January 1, 2010 through the date of the filing of this annual report on Form 10-K, the members of the Audit Committee included: Anne E. Estabrook (Chair), Katherine J. Liseno (Vice Chair), Joseph R. Ficalora, Jay M. Ford, José R. González, Michael M. Horn, Joseph J. Melone and John M. Scarchilli. As of the date of the filing of this annual report on Form 10-K, the members of the Audit Committee are: Anne Evans Estabrook (Chair), Katherine J. Liseno (Vice Chair), John R. Buran, Joseph R. Ficalora, Jay M. Ford, José R. González, Michael M. Horn, Joseph J. Melone.
Audit Committee Financial Expert
The FHLBNY’s Board of Directors has determined that for the period from January 1, 2010 through the date of the filing of this annual report on Form 10-K, José R González of the FHLBNY’s Audit Committee qualified as an “audit committee financial expert” under Item 407 (d) of Regulation S-K but was not considered “independent” as the term is defined by the rules of the New York Stock Exchange.
Code of Ethics
It is the duty of the Board of Directors to oversee the Chief Executive Officer and other senior management in the competent and ethical operation of the FHLBNY on a day-to-day basis and to assure that the long-term interests of the shareholders are being served. To satisfy this duty, the directors take a proactive, focused approach to their position, and set standards to ensure that the FHLBNY is committed to business success through maintenance of the highest standards of responsibility and ethics. In this regard, the Board has adopted a Code of Business Conduct and Ethics that applies to all employees as well as the Board. The Code of Business Conduct and Ethics is posted on the Corporate Governance Section of the FHLBNY’s website at http://www.fhlbny.com. The FHLBNY intends to disclose any changes in or waivers from its Code of Business Conduct and Ethics by filing a Form 8-K or by posting such information on its website.
Compensation Discussion and Analysis
Introduction
About the Bank’s Mission
The mission of the Federal Home Loan Bank of New York (“Bank”) is to advance housing opportunity and local community development by maximizing the capacity of its community-based member-lenders to serve their markets.
The Bank meets our mission by providing our members with access to economical wholesale credit and technical assistance through our credit products, mortgage finance programs, housing and community lending programs and correspondent services to increase the availability of home finance to families of all incomes.
Achieving the Bank’s Mission
The Bank operates in a very competitive market for financial talent. Without the capability to attract, motivate and retain talented employees, the ability of the Bank to fulfill its mission would be in jeopardy. All employees, and particularly senior and middle management, are frequently required to perform multiple tasks requiring a variety of skills. The Bank’s employees not only have the appropriate talent and experience to execute the Bank’s mission, but they also possess skill sets that are difficult to find in the marketplace. In this regard, as of December 31, 2010, the Bank employed 268 employees, a relatively small workforce for a New York City-based financial institution that had, as of that date, $100 billion in assets.
Compensation and Human Resources Committee Oversight of Compensation
Compensation is a key element in attracting, motivating and retaining talent. In this regard, it is the role of the Compensation and Human Resources Committee (“C&HR Committee”) of the Bank’s Board of Directors (“Board”) to:
1.
review and recommend to the Board changes regarding the Bank’s compensation and benefits programs for employees and retirees;
2.
review and approve individual performance ratings and related merit increases for the Bank’s Chief Executive Officer and for the other Management Committee members;
3.
review salary adjustments for Bank officers;
4.
review and approve annually the Bank’s Incentive Compensation Plan (“Incentive Plan”), year-end Incentive Plan results and Incentive Plan award payouts;
5.
advise the Board on compensation, benefits and human resources matters affecting Bank employees;
6.
review and discuss with Bank management the Compensation Discussion and Analysis (“CD&A”) to be included in the Bank’s Form 10-K and determine whether to recommend to the Board that the CD&A be included in the Form 10-K; and
7.
review and monitor compensation arrangements for the Bank’s executives so that the Bank continues to retain, attract, motivate and align quality management consistent with the investment rationale and performance objectives contained in the Bank’s annual business plan and budget, subject to the direction of the Board.
The Board has delegated to the C&HR Committee the authority to retain and replace, and approve fees and other retention terms for: i) any compensation and benefits consultant to be used to assist in the evaluation of Chief Executive Officer’s compensation, and ii) any other advisors that it shall deem necessary to assist it in fulfilling its duties. The Charter of the C&HR Committee is available in the Corporate Governance section of the Bank’s web site located at www.fhlbny.com.
The role of Bank management (including executive officers) with respect to compensation is limited to administering Board-approved programs and providing proposals for the consideration of the C&HR Committee. No member of Bank management serves on the Board or any Board committee.
Finance Agency Oversight of Executive Compensation
Notwithstanding the role of the C&HR Committee discussed in this CD&A, Section 1113 of the Housing and Economic Recovery Act of 2008 (“HERA”) requires that the Director of the Federal Housing Finance Agency (“Finance Agency”) prohibit a FHLBank from paying compensation to its executive officers that is not reasonable and comparable to that paid for employment in similar businesses involving similar duties and responsibilities. In connection with the fulfillment of these responsibilities, the Finance Agency on October 1, 2008 directed the FHLBanks to submit all compensation actions involving a Named Executive Officer (“NEO”) to the Finance Agency for review at least four weeks in advance of any planned board of directors’ decision with respect to those actions.
Compensation decisions for all of the Bank’s NEOs require action of the C&HR Committee of the Board of Directors. However, for purposes of complying with the four-week review period required by the Finance Agency’s October 1, 2008 letter prior to the taking of final action by the C&HR Committee, the Bank submitted to the regulator on November 18, 2010 proposed 2010 merit-related base pay increases for 2011; further, the Bank submitted to the regulator on December 13, 2010, proposed 2010 incentive award payments to be paid in 2011. The aforementioned merit-related base pay increases were implemented and incentive award payments made after the expiration of the four-week period and following final approval by the C&HR Committee.
In addition, on October 28, 2009, the Finance Agency issued Advisory Bulletin 2009-AB-02, “Principles for Executive Compensation at the Federal Home Loan Banks and the Office of Finance.” The Advisory Bulletin contains a set of principles so that the Federal Home Loan Banks can understand the basis for whatever feedback the Federal Housing Finance Agency offers on compensation generally and incentive compensation in particular. The principles outlined in the Advisory Bulletin include the following:
1.
Executive compensation must be reasonable and comparable to that offered to executives in similar positions at other comparable financial institutions.
2.
Executive incentive compensation should be consistent with sound risk management and preservation of the par value of the Bank’s capital stock.
3.
A significant percentage of an executive’s incentive-based compensation should be tied to longer-term performance and outcome-indicators.
4.
A significant percentage of an executive’s incentive-based compensation should be deferred and made contingent upon performance over several years.
5.
The board of directors of each FHLBank and the Office of Finance should promote accountability and transparency in the process of setting compensation.
While the Bank believes that its compensation programs align well against each of these principles, the Bank also reviews compensation annually to ensure that it continues to meet the Bank’s needs.
How the Bank Stays Competitive in the Labor Market
The C&HR Committee-recommended and Board-approved Compensation Policy acknowledges and takes into account the Bank’s business environment and factors the Bank takes into account to remain competitive in its labor market. The major components of the Compensation Policy, which is currently in effect, include the following:
•
Maintenance of an overall greater emphasis on base salary and benefits (versus annual and long-term incentives) than would be typical of regional/commercial banks.
•
The use of regional/commercial banks (see the peer group list in Section I below) as the primary peer group for benchmarking at the 50th percentile of the peer group total compensation (a) cash compensation (i.e., base salary, and, for exempt employees, “variable” or “at risk” short-term incentive compensation); and (b) health and welfare programs and other benefits), discounted for purposes of establishing competitive pay levels by 15% to account for the incremental value provided by the Bank’s benefit programs.
•
A philosophical determination to match Bank officer positions one position level down versus commercial/regional banks. The rationale is that officer positions at commercial/regional banks may manage multiple business lines in multiple locations. In addition, the Bank generally recruits senior level positions from a ‘divisional’ level at large commercial/regional banks and not the higher ‘corporate’ level.
•
The targeting of cash compensation pay at the 75th percentile of the FHLBanks where regional/commercial bank data is not available. The 15% discount to account for the incremental value provided by the Bank’s benefit programs will not be applied to benchmark results from the other FHLBanks, as the other FHLBanks offer similar benefits.
•
A commitment to conduct detailed cash compensation benchmarking for approximately one-third of the Bank’s Officer positions each year. (In this regard, the Bank uses benchmarking information from Aon as well as a variety of other reputable sources.)
•
A commitment to evaluate the value of total compensation delivered to employees including base pay, incentive compensation, retirement and health and welfare benefits in determining market competitiveness every third year.
Additional factors that the Bank takes into account to remain competitive in its labor market include, but are not limited to:
•
Geographical area - The New York metropolitan area is a highly competitive market for talent in the financial disciplines;
•
Cost of living - The New York metropolitan area has a high cost of living that may require compensation premiums for some positions, particularly at more junior levels; and
•
Availability of/demand for talent - Recruiting critical positions with high market demand typically requires a recruiting premium to entice an individual to change firms.
The Bank’s Total Compensation Program
In response to the challenging environment that the Bank operates in, compensation and benefits at the Bank consist of the following components: (a) cash compensation (i.e., base salary, and, for exempt employees, “variable” or “at risk” short-term incentive compensation); (b) retirement-related benefits (i.e., the Qualified Defined Benefit Plan; the Qualified Defined Contribution Plan; and the Nonqualified Defined Benefit Portion of the Benefit Equalization Plan (“DB BEP”)) and (c) health and welfare programs and other benefits which are listed in Section IV C below. These components, along with certain benefits described in the next paragraph, comprised the Bank’s total compensation program for 2010, and are discussed in detail in Section IV below.
This CD&A provides information related to the Bank’s total compensation program provided to its NEOs for 2010 - that is, the Bank’s Principal Executive Officer (“PEO”), Principal Financial Officer (“PFO”) and the three most highly-compensated executive officers other than the PEO and PFO. The information includes, among other things, the objectives of the Bank’s total compensation program and the elements of compensation the Bank provides to its NEOs. These compensation programs are not exclusive to the NEOs; they also apply to all Bank employees as explained throughout the CD&A.
Prior to November 10, 2009, the Bank provided certain additional nonqualified retirement plans to employees who met specific criteria. After the plans were terminated in November, 2009, replacement plans were established for the former members of these plans. For a further explanation of the replacement plans, please refer to Section IV B for additional information.
I. Objectives of the Bank’s total compensation program
The objectives of the Bank’s total compensation program (described above) are to help motivate employees to achieve consistent and superior results over a long period of time for the Bank, and to provide a program that allows the Bank to compete for and retain talent that otherwise might be lured away from the Bank. The Bank low turnover rate and retention of its key employees is evidence that the Bank’s total compensation program is working.
2006 - 2007 Aon Compensation and Benefit Study
In June, 2006, the Committee engaged compensation specialists Aon Consulting, Inc., and its subsidiary, McLagan Partners, Inc.(“McLagan”), which focuses on executive compensation (collectively, “Aon”), to perform a broad and comprehensive review of all the Bank’s compensation and benefits programs for all employees, including NEOs. To assist the C&HR Committee’s review of the process, the Committee engaged another compensation and benefits consultant, Pearl Meyers and Partners (“Pearl Meyers”), to serve as a ‘check and balance’ with regard to the process. (Aon Consulting, Inc. had, prior to this engagement, been retained by the Bank with regard to matters pertaining to retiree medical benefits reporting, and had also been involved with a review of actuarial assumptions and valuations used by the administrator of the Bank’s Defined Benefit and Benefit Equalizations Plans. McLagan had also been previously engaged by the Bank for compensation consulting purposes. Aon continued providing the services listed above to the Bank in 2010.)
Aon was specifically instructed by the C&HR Committee to: (i) determine how the Bank’s compensation and benefit programs and level of rewards were compared to and aligned with the market; (ii) ascertain the current and projected costs of each Bank benefit and identify ways to control these costs; (iii) determine the optimal mix of compensation and benefits for the Bank; and (iv) determine if there were alternative benefit structures that should be considered. Aon was informed of the Bank’s continued desire to attract, motivate and retain talented employees.
A major undertaking for Aon during the review process was to identify the Bank’s peer group for “benchmarking” purposes (that is, for purposes of comparing levels of benefits and compensation). Aon weighed a number of factors in order to arrive at the selection of a peer group. Among the factors considered were firms that were either business competitors or labor market competitors (focusing attention on firms either headquartered or having major offices in the same or similar geographic markets), and firms similar in size (assets, revenues and employee population) to the Bank. Through Aon’s experience working with other Home Loan Banks and through direct interviews with the Bank’s senior management, Aon identified the current and future skill sets needed to meet the Bank’s business objectives and also noted that the Bank tended to hire employees from and lose employees to certain institutions.
While “Wall Street” firms were considered for use as benchmark peers, Aon recommended they not be used because of an inconsistency between business operating models and compensation models. The rationale was that these firms tend to base their compensation levels to a significant extent on activities that carry a high degree of risk and commensurate level of return. In contrast, the Bank, as a Federally-regulated provider of liquidity to financial institutions, operates using a low risk/return business model. Based on these considerations, Aon recommended that the Bank’s peer group should be regional and commercial banks.
In addition, Aon proposed that Bank officer positions be matched one position level down versus commercial/regional banks. Aon’s rationale was that officer positions at commercial/regional banks are one level more significant than at the Bank because they manage multiple business lines in multiple locations. In contrast, the Bank only has two locations and one main business segment. Therefore, the Bank generally recruits senior level positions from a “divisional” level at commercial/regional banks as opposed to the higher “corporate” level of such organizations. The C&HR Committee and the Board agreed with these recommendations.
A representative list of the peer group that was used in the Aon study in 2007 is set forth in the table below. For the firms listed below that had multiple lines of business, the Bank benchmarked total compensation against the wholesale banking functions at those companies.
Australia & New Zealand Banking Group
Cargill
KeyCorp
ABN AMRO
CIBC World Markets
Lloyds TSB
The Bank of Nova Scotia
Citigroup
M&T Bank Corporation
Banco Santander
Commerzbank
Mizuho Corporate Bank, Ltd.
Bank of Tokyo - Mitsubishi UFJ
DVB Bank
National Australia Bank
Bank of America Merrill Lynch
DZ Bank
Rabobank Nederland
BMO Financial Group
Fannie Mae
Royal Bank of Canada
BNP Paribas
Federal Home Loan Bank System
Royal Bank of Scotland
Brown Brothers Harriman
Fifth Third Bank
Societe Generale
The CIT Group
Freddie Mac
Standard Chartered Bank
Capital One
GE Commercial Finance
Sumitomo Mitsui Banking Corporation
HSBC Bank
SunTrust Banks
HSBC Global Banking & Markets
TD Securities
ING Bank
Wells Fargo Bank
JP Morgan Chase
WestLB
Westpac Banking Corporation
Note: Benchmarking data from international banks only contained results from their New York operations.
Compensation and Benefits Study Results
Aon’s review was presented to the Board on August 3, 2007. The results of the study completed by Aon indicated that the Bank’s:
•
cash compensation was generally below the Bank’s peer groups and heavily weighted towards base pay (Note: the Bank is prohibited by law from offering equity-based compensation and the Bank does not offer long-term incentives);
•
added together, cash compensation and retirement-related benefits were slightly above the Bank’s peers (and heavily weighted towards benefits);
•
added together, cash compensation, retirement-related benefits and health and welfare benefits were generally above the Bank’s peers and heavily weighted towards benefits; and
•
the mix of compensation and benefits was consistent with the risk-averse culture of the Bank.
Aon’s recommendations to the Board took into account the C&HR Committee’s direction to Aon that, to the extent possible:
•
the dominant features of the Bank’s current compensation and benefits program which stressed fixed compensation over variable to support the Bank’s risk-averse culture should be retained;
•
greater weight on benefits vs. competitor peer group should be retained; and
•
heavier reliance on base pay vs. incentive pay should be retained.
To help better align the Bank’s total compensation program with its peer group, Aon recommended, and the Board approved, changes to the Bank’s retirement plan for certain active employees effective as of July 1, 2008, and changes to the Bank’s health and welfare plans effective as of January 1, 2008 for all active employees and certain employees who retired on or after January 1, 2008. Aon also recommended the establishment of a Nonqualified Profit Sharing Plan that became effective July 1, 2008 for certain Bank employees. (This plan was later terminated as discussed in section IV B.) The changes to the Bank plans made at that time as a result of the Aon study are discussed in more detail in section IV B.
Pearl Meyers stated during the aforementioned August 3, 2007 meeting that the Bank’s peer group had been correctly identified; that the level of compensation and all alternatives had been explored; and that the outcome was reasonable. Pearl Meyers was also of the view that the Committee appropriately exercised its fiduciary duties throughout the process.
While Aon interviewed members of management and conducted focus sessions with various employees at all levels to gather information during the course of the study, the C&HR Committee and the Board acted on Aon’s recommendations independently of the Bank’s management and employees.
II. The Bank’s total compensation program is designed to reward for performance and employee longevity, to balance risk and returns, and to compete with compensation programs offered by the Bank’s competitors
The Bank’s total compensation program is designed to attract, retain and motivate employees and to reward employees based on Bank overall performance achievement as compared to the Bank’s goals and individual employee performance. The Bank also strives to ensure that its employees are compensated fairly and consistent with employees in the Bank’s peer group.
All of the elements of the Bank’s total compensation program are available to all employees, including NEOs, except with respect to: 1) the Bank’s Incentive Plan; and 2) the Bank’s nonqualified plans. Participation in the Incentive Plan is offered to all exempt (non-hourly) employees. Exempt employees constituted 86.94% of all Bank employees as of year-end 2010.
Participation in the Benefit Equalization Plan, the Bank’s nonqualified plan, is offered to employees at the rank of Vice President and above who exceed income limitations established by the Internal Revenue Code (“IRC”) for three out of five consecutive years and who are also approved for inclusion by the Bank’s Nonqualified Plan Committee.
All exempt employees are eligible to receive annual incentive awards through participation in the Incentive Plan. These awards are based on a combination of Bank performance results and individual performance results. The better the Bank and/or the employee perform, the higher the employee’s potential award is likely to be, up to a predetermined limit. In addition, the better the employee’s performance, the greater the employee’s annual salary increase is likely to be, up to a predetermined limit.
The Bank is prohibited by law from offering equity-based compensation, and the Bank does not currently offer long-term incentives. However, many of the firms in the Bank’s peer group do offer these types of compensation. The Bank’s total compensation program takes into account the existence of these other types of compensation by offering a defined benefit and defined contribution plan to help the Bank effectively compete for talent. The Bank’s defined benefit and defined contribution plans are designed to reward employees for continued strong performance over their careers - that is, the longer an employee works at the Bank, the greater the benefit the employee is likely to accumulate. Senior and mid-level employees are generally long-tenured and would not want to endanger their pension benefits by inappropriately stretching rules to achieve a short-term financial gain.
The Bank does not structure any of its compensation plans in a way that inappropriately encourages risk taking to achieve payment. As described in Section IV A 2 below, the rationale for having the equally-weighted Bankwide goals of Return and Risk within the Bank’s Incentive Plan is to motivate management to take a balanced approach to managing risks and returns in the course of managing the Bank’s business, while at the same time ensuring that the Bank fulfills its mission.
In addition, the Bank’s defined benefit and defined contribution plans are designed to reward employees for continued strong performance over their careers - that is, the longer an employee works at the Bank, the greater the benefit the employee is likely to accumulate. This combined with the Bank’s compensation philosophy and the structure of the Bank’s compensation programs helps to ensure that the compensation paid to employees at termination of employment from the Bank is aligned with the interest of the shareholders of the Bank.
III. The elements of total compensation
The Bank’s total compensation program consists of the following components: (a) cash compensation (i.e., base salary, and, for exempt employees, “variable” or “at risk” short-term incentive compensation); (b) retirement-related benefits (i.e., the Qualified Defined Benefit Plan; the Qualified Defined Contribution Plan; and the Nonqualified Defined Benefit Portion of the Benefit Equalization Plan (“DB BEP”)) and (c) health and welfare programs and other benefits which are listed in Section IV C below. Together, these components comprised the Bank’s total compensation program for 2010, and they are discussed in detail in Section IV below.
IV. Explanation of why the Bank chooses to provide each element of total compensation
The Bank’s Compensation Policy
As a result of the Aon study and recommendations described above, the Board approved a revised Compensation Policy in November 2007 designed to help ensure that the Bank provides competitive compensation necessary to retain and motivate current employees while attracting the talent needed to successfully execute the Bank’s current and future business plans. The major components of the revised Compensation Policy, which is currently in effect, include the following:
•
Maintenance of an overall greater emphasis on base salary and benefits (versus annual and long-term incentives) than would be typical of regional/commercial banks.
•
The use of regional/commercial banks (see the peer group list in Section I above) as the primary peer group for benchmarking at the 50th percentile of the peer group total compensation (a) cash compensation (i.e., base salary, and, for exempt employees, “variable” or “at risk” short-term incentive compensation) (b) retirement-related benefits; and (c) health and welfare programs and other benefits), discounted for purposes of establishing competitive pay levels by 15% to account for the incremental value provided by the Bank’s benefit programs.
•
A philosophical determination to match Bank officer positions one position level down versus commercial/regional banks. The rationale is that officer positions at commercial/regional banks are one level more significant than at the Bank because they may manage multiple business lines in multiple locations. In addition, the Bank generally recruits senior level positions from a ‘divisional’ level at commercial/regional banks and not the higher ‘corporate’ level.
•
The targeting of cash compensation pay at the 75th percentile of the FHLBanks where regional/commercial bank data is not available. The 15% discount to account for the incremental value provided by the Bank’s benefit programs will not be applied to benchmark results from the other FHLBanks, as the other FHLBanks offer similar benefits.
•
A commitment to conduct detailed cash compensation benchmarking for approximately one-third of the Bank’s Officer positions each year
•
A commitment to evaluate the value of total compensation delivered to employees including base pay, incentive compensation, retirement and health and welfare benefits in determining market competitiveness every third year.
Additional factors that the Bank will take into account during the benchmarking process to ensure the Bank remains competitive in its labor market include:
•
Geographical area - New York City is a highly competitive market.
•
Cost of living - The New York metropolitan area has a high cost of living that may require compensation premiums for some positions, particularly at more junior levels.
•
Availability of/demand for talent - Recruiting critical positions with high market demand typically requires a recruiting premium to entice an individual to change firms.
The next total compensation and benefits evaluation is scheduled to begin in 2011, three years after the date the Bank completed the final implementation of Board-approved total compensation program design changes - July 1, 2008. It should be noted that, due to the fact that the Bank conducts detailed benchmarking for only one-third of the Bank’s Officer positions on an annual basis with respect to cash compensation, the effectiveness of the benchmarking program of the Bank can be demonstrated only once every three years. However, NEOs are benchmarked every year.
2009 Compensation Benchmarking Analysis
The Bank performed its annual benchmarking analysis in October 2009 of 24 Bank officer positions using compensation data (base pay and incentive compensation) from Aon. Aon reported that benchmarking compensation in 2009 in general was complicated as a result of an aberration in the poor financial performance of regional/commercial banks, the decreases in compensation in the financial market in general and the Bank’s strong financial results. Aon reviewed the results with the view that the Bank’s conservative compensation philosophy limits the upside in incentive compensation by capping incentive pay as a percentage of base salary while bonuses provided by competitors of the Bank can be very high when times are good. Therefore, Aon believed it would seem inherently inconsistent to adjust employee compensation downward in an unprecedented “low watermark year” in the market while the Bank limits the amount of compensation increases when there are good years in the market.
As a result, management decided to propose to the Committee that there be no market adjustments for 2010 to the salaries of the officer positions that were benchmarked in 2009. The Committee agreed, and decided that if the information related to benchmarked compensation in 2010 was similar to the results of 2009, then the Bank’s compensation structure and benchmarking process should be reviewed and may need to change to reflect the market.
2010 Compensation Benchmarking Analysis
In its continuing effort to annually benchmark approximately one-third of the Bank’s officers with respect to cash compensation, in 2010, Bank management engaged McLagan to perform a benchmarking analysis of 29 officer positions which included all of the NEOs. Out of the 29 positions benchmarked, 25 positions were matched by McLagan. Two of the NEO positions for which a position match were not identified were for the Head of Member Services and the Head of Strategy and Business Development. The difficulty in matching these positions illustrates the unique nature of the business and structure of the Home Loan Bank. McLagan will seek to benchmark these two positions again in 2011.
McLagan submitted and discussed a report on the results of its officer benchmarking analysis (“Analysis”) to the Board’s C&HR Committee at its December 2010 meeting. The C&HR Committee had a more active role in working with McLagan in the benchmarking process and beginning in 2011, compensation consultants will report directly to the C&HR Committee. The C&HR Committee did not completely agree with the Analysis with regards to the peer groups, and comparable position matches within the Bank’s peer group, that were used in the Analysis by McLagan. Therefore, it was agreed that the entire benchmarking process would be reviewed in 2011 as there were many positions that do not fit position descriptions at the Bank’s peer groups and that the Bank has very complex transactions performed by professionals who would not have equivalents at a divisional level at one of the Bank’s peer groups.
McLagan recommended increases to the salaries of four officer positions, none of which were NEO’s. McLagan also proposed certain amendments to the Bank’s Board approved Compensation Policy (‘Policy”). The C&HR Committee approved the proposed salary increases but deferred acting on the proposed changes to the Policy because the C&HR Committee plans to review the Bank’s total rewards philosophy in 2011 and will review the Policy for changes at the same time.
The following is an explanation of why the Bank chooses to provide each element of compensation.
A. Cash Compensation
1. Base Pay
The goal of offering competitive base pay is to make the Bank successful in attracting, motivating and retaining the talent needed to execute the Bank’s business strategies.
In addition to the benchmarking process provided for in the Bank’s Compensation Policy as described above, a performance-based merit increase program exists for all employees that have a direct impact on base pay. Generally, employees receive merit increases on an annual basis. Such merit increases are based upon the attainment of a performance rating of “Outstanding,” “Exceeds Requirements,” or “Meets Requirements” achieved on individual performance evaluations. Merit guidelines are determined each year and distributed to managers. These guidelines establish the maximum merit increase percentage permissible for employee performance during that year. In October of 2009, the C&HR Committee determined that merit-related officer base pay increases for 2010 would be 3.0% for officers rated ‘Meets Requirements’; 4.0% for officers rated ‘Exceeds Requirements’; and 4.5% for officers rated ‘Outstanding’ for their performance in 2009.
In October of 2010, the C&HR Committee determined that merit-related officer base pay increases for 2011 would be 3.0% for officers rated ‘Meets Requirements’; 3.5% for officers rated ‘Exceeds Requirements’; and 4.5% for officers rated ‘Outstanding’ for their performance in 2010.
2. Incentive Plan
The objective of the Bank’s Incentive Plan is to motivate exempt employees to perform at a high level and take actions that: i) support the Bank’s strategies, ii) lead to the attainment of the Bank’s business plan, and iii) fulfill the Bank’s mission. Funding for the Bank’s Incentive Plan is approved by the Board as part of the annual business plan process. By including goals that seek to balance risk and return, the Bank’s Incentive Plan is designed to incent appropriate behavior and work in a variety of economic conditions.
Aon reported in the course of its 2007 study of the Bank’s compensation and benefit programs (described earlier in Section I above) that most firms in the Bank’s peer group provide their employees with annual short-term incentives. As such, for the Bank not to offer this element of compensation would put it at a distinct disadvantage with respect to its competitors for new talent, and also pose a challenge with respect to the retention of key employees.
There are two types of performance measures that impact upon Incentive Plan awards received by participants: i) Bankwide performance goals, and ii) individual performance goals (which can include work performed as part of a group) established and measured through the annual performance evaluation process.
The Bankwide goals are designed to help management focus on what it needs to accomplish for the success of the cooperative. The 2010 Bankwide goals are organized into three broad categories:
The goal measures in the Business Effectiveness and Growth Effectiveness goal categories were approved by the Board’s Compensation and Human Resources Committee in March 2010, and the goal measures in the Mission Effectiveness goal category was approved by the Board’s Housing Committee in March 2010; all of the goal measures were reported to the Board. A description of these goal categories is set forth below:
Business Effectiveness Goal Category
The Return and Risk Goals that make up the Business Effectiveness Goal are linked and create a beneficial tension through the tradeoffs in managing one versus the other. These goals are weighted exactly the same; this motivates management to act in ways that are aligned with the Board’s wishes as the Bank understands them, i.e., to have management achieve forecasted returns while managing risks to stay within the prescribed risk parameters. In addition, and again consistent with management’s understanding of the Board’s wishes, this set of goals will not motivate management to increase Dividend Capacity if doing such would require imprudently increasing the risk in the balance sheet.
Return Goal
Provide value to shareholders through the dividend. The Return Goal is based on Dividend Capacity.
Risk Goal
The Risk Goal is intended to encourage management to balance those actions taken to enhance earnings (i.e., Dividend Capacity) with actions that are needed to maintain appropriate risk levels in the business.
Mission Effectiveness Goal Category
The Mission Effectiveness Goal Category is intended to help ensure the Bank’s achievement of mission-related community development activities.
Growth Effectiveness Goal-Category
The Growth Effectiveness Goal Category is intended to set the stage for future growth. The Bank believes that recruiting new members now will, over time, create additional advances usage.
Bankwide Goals - Weighting Based on Employee Rank
The Bank believes that employees at higher ranks have a greater impact on the achievement of Bankwide goals than employees at lower ranks. Therefore, employees at higher ranks have a greater weighting placed on the Bankwide performance component of their Incentive Plan award opportunities as opposed to the individual performance component. For the Bank’s Chief Executive Officer and the other Management Committee members (a group that includes all of the NEOs), the overall incentive compensation opportunity is weighted 90% on Bankwide performance goals and 10% on individual performance goals. There are differences among the NEOs with regard to their individual performance goals; however, these differences do not have a material impact on the amount of incentive compensation payout.
When employees are individually evaluated, they receive one of five performance ratings: “Outstanding”; “Exceeds Requirements”; “Meets Requirements”; “Needs Improvement” or “Unsatisfactory”. Incentive Plan participants that are rated as “Exceeds Requirements” or “Outstanding” on their individual performance evaluations receive an additional 3% or 6%, respectively, of their base salary added to their Incentive Plan award.
Incentive Plan awards are only paid to participants who have attained at least a specified threshold rating within the “Meets Requirements” category on their individual performance evaluations and do not have any unresolved disciplinary matters in their record.
Participants will receive an individual Incentive Plan award payment even if Bankwide goal results are such that no payments are awarded for the Bankwide portion of the Incentive Plan.
The Incentive Plan is administered by the Chief Executive Officer, subject to any requirements for review and approval by the C&HR Committee that the Committee may establish. In all areas not specifically reserved by the Committee for its review and approval, the decisions of the Chief Executive Officer or his designee concerning the Incentive Plan are binding on the Bank and on all Incentive Plan participants.
B. Retirement Benefits
Introduction
The Qualified Defined Benefit Plan, Qualified Defined Contribution Plan, and the Nonqualified Defined Benefit Portion of the Benefit Equalization Plan, were elements of the Bank’s total compensation program in 2010 intended to help encourage the accumulation of wealth by and consistent and superior results from, qualified employees, including NEOs, over a long period of time.
These benefits (in addition to the Health and Welfare Programs and Other Benefits noted in Section IV C below) were part of the Bank’s strategy to compete for and retain talent that might otherwise be lured away from the Bank by competing financial enterprises who offer their employees long-term incentives and equity-sharing opportunities - forms of compensation that the Bank does not offer.
The Qualified Defined Benefit Plan was amended for eligible Bank employees as of July 1, 2008 and, as a consequence, the terms of the Nonqualified Defined Benefit Portion of the Benefit Equalization Plan for certain Bank employees also changed as of that date, since the Nonqualified Defined Benefit Portion of the Benefit Equalization Plan mirrors the structure of the Qualified Defined Benefit Plan.
On November 10, 2009, the Bank’s Board decided, upon recommendations by Aon Consulting, Inc., to terminate the Nonqualified Defined Contribution Portion of the Benefits Equalization Plan, the Nonqualified Deferred Compensation Plan and the Nonqualified Profit Sharing Plan. The termination of these plans was the result of several factors, i.e.: information from Aon that suggests a trend toward companies terminating these plans; a belief that the benefits these plans were to provide to employees would be less valuable if taxes were higher in the future; and uncertainty as to whether these plans would be repudiated in the unlikely event of a conservatorship or receivership of the Bank. As can be seen in the financial reports included in this Annual Report on Form 10-K, the Bank remained financially healthy and performed very well during 2009 and 2010. However, the potential for joint and several liabilities that exists among the FHLBanks also creates the potential, however remote, that if one or more of the Home Loan Banks were taken into conservatorship or receivership, then all of the remaining FHLBanks might be placed into conservatorship or receivership as well.
Regulations adopted pursuant to Section 409A of the IRC provide in general that the distribution of accrued vested balances can be made to participants starting twelve months after the termination of nonqualified plans such as those maintained by the Bank. As such, distributions were paid on November 12, 2010 to the individuals who participated in the Nonqualified Defined Contribution Portion of the BEP, Nonqualified Profit Sharing Plan, and Nonqualified Deferred Compensation Plan.
Due to the termination of the Nonqualified Defined Contribution Portion of the BEP and the Nonqualified Profit Sharing Plan, the Bank implemented replacement plans for these individuals, as described below.
Former Participants of the Nonqualified Defined Contribution Portion of the BEP
For 2010 and thereafter, for the former participants who would have been otherwise eligible for a match in the amount of 6% of base pay in excess of IRS limitations ($245,000 for 2010), the provision of an additional annual cash payment in an amount equal to 6% of base pay in excess of IRS limitations.
Former Participants of the Nonqualified Profit Sharing Plan
In 2010 and thereafter, the provision of an amount equal to 8% of the prior year’s base pay and short-term incentive payment to the extent the requirements under the Bank’s Short Term Incentive Plan have been achieved. The 8% payment will not be included as income for calculating the benefits for the Qualified Defined Benefit Plan.
The Board approved the establishment of the Replacement Plans on January 21, 2010.
Reimbursement for Financial Counseling Costs Incurred in 2010 for Participants in Terminated Plans
As a result of the termination as of November 10, 2009 of each of the Nonqualified Defined Contribution Portion of the Bank’s Benefit Equalization Plan, the Bank’s Nonqualified Deferred Compensation Plan, and the Bank’s Nonqualified Profit Sharing Plan, the Board voted on January 21, 2010 to authorize the Bank to reimburse participants receiving payments from these plans in 2010 in an amount up to $12,500 for financial counseling costs incurred by such participants in 2010. This offer of reimbursement, which was based on a recommendation from Aon, was believed to be appropriate due to the potentially significant sums that the plan participants might receive when monies from the terminated plans were distributed on November 12, 2010. The reimbursement of fees is not grossed up for tax purposes to the employees. The financial counseling reimbursement is available until March 11, 2011.
The Bank’s Nonqualified Plan Committee administers various operational and ministerial matters pertaining to the Benefit Equalization Plan. These matters include, but are not limited to, approving employees as participants of the BEP and approving the payment method of benefits. The Nonqualified Plan Committee is chaired by the Chair of the C&HR Committee; other members include another Board Director who is a member of the C&HR Committee, the Bank’s Chief Financial Officer, and the Bank’s Director of Human Resources. The Nonqualified Plan Committee reports its actions to the C&HR Committee by submitting its meeting minutes to the C&HR Committee on a regular basis for its information.
i) Qualified Defined Benefit Plan
The Pentegra Qualified Defined Benefit Plan for Financial Institutions (“DB Plan”), as adopted by the Bank, is an IRS-qualified defined benefit plan which covers all Bank employees who have achieved four months of service. The DB Plan is part of a multiple-employer defined benefit program administered by Pentegra Retirement Services.
Bank participants, who as of July 1, 2008 had five years of DB Plan service and were age 50 years or older, are provided with a benefit of 2.50% of a participant’s highest consecutive 3-year average earnings, multiplied by the participant’s years of benefit service, not to exceed 30 years. Earnings are defined as base salary plus short-term incentives, and overtime, subject to the annual Internal Revenue Code limit. These participants are identified herein as “Grandfathered”.
For all other participants (identified herein as “Non-Grandfathered”), the DB Plan provides a benefit of 2.0% (as opposed to 2.5% provided to Grandfathered participants) of a participant’s highest consecutive 5-year average earnings (as opposed to consecutive 3-year average earnings as previously provided to Grandfathered participants), multiplied by the participant’s years of benefit service, not to exceed 30 years. The Normal Form of Payment is a life annuity (i.e., an annuity paid until the death of the participant), as opposed to a guaranteed twelve-year payout as previously provided to Grandfathered participants. Also, cost of living adjustments (“COLAs”) are no longer provided on future accruals (as opposed to a 1% simple interest COLA beginning at age 66 as previously provided).
The table below summarizes the DB Plan changes affecting the Non-Grandfathered employees that went into effect on July 1, 2008. For purposes of the following table, please note the following definitions:
“Defined Benefit Plan” - An Internal Revenue Code qualified deferred compensation arrangement that pays an employee and his/her designated beneficiary upon retirement a lifetime annuity or the lump sum actuarial equivalent of that annuity.
Benefit Multiplier - The annuity paid from the Bank’s DB Plan is calculated on an employee’s years of service, up to a maximum of 30 years, multiplied by 2.5% per year. Beginning July 1, 2008, the Benefit Multiplier changed to 2.0% for Non-Grandfathered Employees.
Final Average Pay Period - Is that period of time that an employee’s salary is used in the calculation of that employee’s benefit. For Grandfathered Employees, the Benefit Multiplier, 2.5%, is multiplied by the average of the employee’s three highest consecutive years of salary multiplied by that employee’s years of service, not to exceed thirty years at the date of termination. For Non-Grandfathered Employees, any accrued benefits prior to July 1, 2008, the accrued Benefit Multiplier mirrors the Grandfathered Employees at 2.5%. For benefits accrued after July 1, 2008 a Benefits Multiplier of 2% is multiplied by the employee’s years of service (total service not to exceed thirty years) multiplied by the average of the employee’s five highest consecutive years of salary.
Normal Form of Payment - The DB Plan must state the form of the annuity to be paid to the retiring employee. For unmarried Grandfathered retirees, the Normal Form of Payment is a life annuity with a 12 year guaranteed payment (“Guaranteed-12 Year Payout”) which means that if the unmarried Grandfathered retiree dies prior to receiving 12 years of annuity payments, the retiree’s beneficiary will receive a lump sum equal to the remaining unpaid payments in the 12-year period. For married Grandfathered retirees, the Normal Form of Payment is a 50% joint and survivor annuity which provides a continuation of half of the monthly annuity to the surviving beneficiary. The initial 50% Joint and Survivor Annuity monthly payment is actuarially equivalent to the 12-year guaranteed payment provided to single retirees under the formula. Effective July 1, 2008, the DB Plan provides single Non-Grandfathered retirees with a straight “Life Annuity” as the Normal Form of Payment, which means that, once a retiree dies, the annuity terminates. For married Non-Grandfathered retirees, the Normal Form of Payment will be a 50% Joint and Survivor Annuity that is actuarially equivalent to the straight Life Annuity.
Cost of Living Adjustments (or “COLAs”) - Once a Grandfathered Employee retiree reaches age 65, in each succeeding year he/she will receive an extra payment annually equal to one percent of the original benefit amount multiplied by the number of years in pay status after age 65. As of July 1, 2008, this adjustment is no longer offered to Non-Grandfathered Employees on benefits accruing after that date.
Early Retirement Subsidy:
Early retirement under the plan is available after age 45.
Grandfathered Employees
Grandfathered Employee retirees who retire prior to normal retirement age (65) are eligible for subsidized early retirement reduction factors. Any participant who retires early and elects to draw pension benefits prior to age 65, and who has a combined age and length of service of at least 70 years, will realize a reduction of 1.5% to his/her early retirement benefit for each year benefits commence earlier than age 65. If that employee had not accumulated a total of 70 years, the reduction would be 3% for each year benefits commence earlier than age 65.
Grandfathered employees who were enrolled in the plan prior to July 1, 1983 and retired on or after age 55 are entitled to a Retirement Adjustment Payment. This is a one-time payment equivalent to three months of the regular retirement allowance, payable at the time of benefit commencement.
Non-Grandfathered Employees
Effective as of July 1, 2008, if an employee on the date of his/her retirement, before 65, had accumulated a total of 70 or more years of age plus service, the reduction will be 3% for every year between his/her age at commencement and age 65. However, if a Non-Grandfathered Employee on the date of his/her retirement, before 65, had not accumulated 70 or more years of age plus service, the reduction will be the actuarial equivalent between his/her age at commencement and age 65. At early retirement, the new early retirement factors will apply to the Non-Grandfathered Employee’s total service benefit. The retiree will be entitled to receive the greater of this early retirement benefit or the early retirement benefit accrued as of July 1, 2008 under the old plan formula.
Vesting - Grandfathered Employees are entitled, starting with the second year of employment service, to 20% of his/her accumulated benefit per year. As a result, after the sixth year of employment service, an employee will be entitled to 100% of his/her accumulated benefit. Non-Grandfathered Employees who entered the DB Plan on or after July 1, 2008 will not receive such benefit until such employee has completed five years of employment service. At that point, the employee will be entitled to 100% of his/her accumulated benefit. The term “5 Year Cliff” is a reference to the foregoing provision. Grandfathered and Non-Grandfathered Employees already participating in the DB Plan prior to July 1, 2008 will vest at 20% per year starting with the second year through the fourth year of employment service and will be accelerated to 100% vesting after the fifth year.
Earnings under the Bank’s DB Plan continue to be defined as base salary plus short-term incentives, and overtime, subject to the annual IRC limit. The IRC limit on earnings for calculation of the DB Plan benefit for 2010 was $245,000.
The DB Plan pays monthly annuities, or a lump sum amount available at or after age 59-1/2, calculated on an actuarial basis, to vested participants or the beneficiaries of deceased vested participants. Annual benefits provided under the DB Plan also are subject to IRC limits, which vary by age and benefit payment option selected.
ii) Nonqualified Defined Benefit Portion of the Benefit Equalization Plan
Employees at the rank of Vice President and above who exceed income limitations established by the IRC for three out of five consecutive years and who are also approved for inclusion by the Bank’s Nonqualified Plan Committee are eligible to participate in the BEP, commonly referred to as a “Supplemental Executive Retirement Plan,” a non-qualified retirement plan that in many respects mirrors the DB Plan.
The primary objective of the Nonqualified Defined Benefit Portion of the BEP is to ensure that participants receive the full benefit to which they would have been entitled under the DB Plan in the absence of limits on maximum benefit levels imposed by the IRC.
The Nonqualified Defined Benefit Portion of the BEP utilizes the identical benefit formulas applicable to the Bank’s DB Plan. In the event that the benefits payable from the Bank’s DB Plan have been reduced or otherwise limited by government regulations, the employee’s “lost” benefits are payable under the terms of the defined benefit portion of the BEP.
The Nonqualified Defined Benefit Portion of the BEP is an unfunded arrangement. However, the Bank established grantor trusts to assist in financing the payment of benefits under these plans. The trust were approved by the Nonqualified Plan Committee in March of 2006 and established in June of 2007.
Although other nonqualified plans were terminated on November 10, 2009, the Nonqualified Defined Benefit Portion of the BEP was not terminated on that day, and remains in effect as of the date of this Annual Report on Form 10-K.
iii) Qualified Defined Contribution Plan
Bank employees who have met the eligibility requirements contained in the Pentegra Qualified Defined Contribution Plan for Financial Institutions (“DC Plan”) can choose to contribute to the DC Plan, a retirement savings plan qualified under the IRC. Employees are eligible for membership in the DC Plan on the first day of the month coinciding with or next following the date the employee completes three full calendar months of employment.
An employee may contribute 1% to 100% of base salary into the DC Plan, up to IRC limitations. The IRC limit for 2010 was $16,500 for employees under the age of 50. An additional “catch up” contribution of $5,500 is permitted under IRC rules for employees who attain age 50 before the end of the calendar year. The Bank matches up to 100% of the first 3% of the employee’s contribution through the third year of employment; 150% of the first 3% of contribution during the fourth and fifth years of employment; and 200% of the first 3% of contribution starting with the sixth year of employment.
C. Health and Welfare Programs and Other Benefits
In addition to the foregoing, the Bank offers a comprehensive benefits package for all regular employees (including NEOs) which include the following significant benefits:
Medical and Dental
Employees can choose preferred provider, open access or managed care medical. All types of medical coverage include a prescription benefit. Dental plan choices include preferred provider or managed care. Employees contribute to cover a portion of the costs for these benefits.
Retiree Medical
The Bank offers eligible employees medical coverage when they retire. Employees are eligible to participate in the Retiree Medical Benefits Plan if they are at least 55 years old with 10 years of Bank service when they retire from active service.
Under the Plan as in effect since May 1, 1995, retirees who retire before age 62 pay the full Bank premium for the coverage they had as employees until they attain age 62. Thereafter, they contribute a percentage of the Bank’s premium based on their total completed years of service (no adjustment is made for partial years of service) on a “Defined Benefit” basis, as defined below, as follows:
The premium paid by retirees upon becoming Medicare-eligible (either at age 65 or prior thereto as a result of disability) is a premium reduced to take into account the status of Medicare as the primary payer of the medical benefits of Medicare-eligible retirees.
As a result of the Aon study described previously and the recommendations that resulted from such study, the Board directed that certain changes in the Plan be made, effective January 1, 2008. Employees who, on December 31, 2007, had 5 years of service and were age 60 or older were not affected by this change. These employees are identified herein as “Grandfathered.” However, for all other employees, identified herein as “Non-Grandfathered,” the Plan premium-payment requirements beginning at age 62 were changed. From age 62 until the retiree or a covered dependent of the retiree becomes Medicare-eligible (usually at age 65 or earlier, if disabled), the Bank will contribute $45 per month toward the premium of a Non-Grandfathered retiree multiplied by the number of years of service earned by the retiree after age 45 and by the number of individuals (including the retiree, the retiree’s spouse, and each other dependent of the retiree) covered under the Plan.
After the retiree or a covered dependent of the retiree becomes Medicare-eligible, the Bank’s contribution toward the premium for the coverage of the Medicare-eligible individual will be reduced to $25 per month. The $45 and $25 amounts were fixed for the 2008 calendar year. Each year thereafter, these amounts will increase by a cost-of-living adjustment (“COLA”) factor not to exceed 3% and were $46.35 and $25.75 for 2009.
The table below summarizes the Retiree Medical Benefits Plan changes that affect Non-Grandfathered employees who retire on or after January 1, 2008. For purposes of the following table and the preceding discussion on the Retiree Medical Benefits Plan, the following definitions have been used:
Defined Benefit - A medical plan in which the Bank provides medical coverage to a retired employee and collects from the retiree a monthly fixed dollar portion of the premium for the coverage elected by the employee.
Defined Dollar Plan - A medical plan in which the Bank provides medical coverage to a retired employee up to a fixed Bank cost for the coverage elected by the employee and the retiree assumes all costs above the Bank’s stated contribution.
Vision Care
Employees can choose from two types of coverage offered. Basic vision care is offered at no charge to employees. Employees contribute to the cost for the enhanced coverage.
Life Insurance
Group Term Life insurance providing a death benefit of twice an employee’s annual salary (including incentive compensation) is provided at no cost to the employee other than taxation of the imputed income of coverage in excess of $50,000.
Additional Life Insurance
Additional Life Insurance is provided to two NEOs (the Bank President and the Head of Member Services) who, in 2003, were participants in the Bank’s Split Dollar life insurance program, as consideration for their assigning to the Bank their portion of their Split Dollar life insurance policy with the Bank. The Bank’s Split Dollar life insurance program was terminated in 2003.
This Additional Life Insurance policy is paid by the Bank; however, each individual owns the policy. The Bank purchased these policies in 2003 for 15 years and locked in the premiums for the duration of the policies. When the policies expire in 2018, there is an option to renew, though the rate will be subject to change.
Retiree Life Insurance
Retiree Life Insurance provides a death benefit in relation to the amount of coverage one chooses at the time of retirement. The continued benefit is calculated by the insurance broker and is paid for by the retiree. Coverage can be chosen in $1000 increments up to a maximum of $20,000.
Business Travel Accident Insurance
Business Travel Accident insurance provides a death benefit at no cost to the employee.
Short-and Long-Term Disability Insurance
Short-and long-term disability insurance is provided at no cost to the employee.
Supplemental Short-Term Disability Coverage
The Bank provides for supplemental short-term disability coverage at no cost to the employee. This coverage provides 66.67% (up to a maximum of $1000 per week) of a person’s salary while they are on disability leave. Once state disability coverage is confirmed, the Bank reduces any supplemental calculations by the amount payable from the Short-Term Disability provider.
Flexible Spending Accounts
Flexible spending accounts in accordance with IRC rules are provided to employees to allow tax benefits for certain medical expenses, dependent medical expenses, mass transit expenses associated with commuting and parking expenses associated with commuting. The administrative costs for these accounts are paid by the Bank.
Employee Assistance Program
Employee assistance counseling is available at no cost to employees. This is a Bank provided benefit for employees to anonymously speak to an outside provider regarding different types of issues such as stress, financial, smoking cessation, weight management and personal therapy.
Educational Development Assistance
Educational Development Assistance provides tuition reimbursement, subject to the satisfaction of certain conditions.
Voluntary Life Insurance
Employees are afforded the opportunity to purchase additional life insurance for themselves and their eligible dependents.
Long-Term Care
Employees are afforded the opportunity to purchase Long-Term Care insurance for themselves and their eligible dependents.
Fitness Club Reimbursement
Fitness club reimbursement, up to $350 per year, is available subject to the satisfaction of certain criteria.
Severance Plan
The Bank has a formal Board-approved Severance Plan available to all Bank employees who work twenty or more hours a week, and have at least one year of employment, and whose employment was terminated for specific reasons outlined in the Severance Plan.
Perquisites
Perquisites are as a benefit an insubstantial and insignificant amount of compensation totaling less than $10,000 for the year 2010 per NEO for all such expenditures.
V. Explanation of how the Bank determines the amount and, where applicable, the formula for each element of compensation
Please see Section IV directly above for an explanation of the mechanisms used by the Bank to determine employee compensation.
VI. Explanation of how each element of compensation and the Bank’s decisions regarding that element fit into the Bank’s overall compensation objectives and affect decisions regarding other elements of compensation
The Committee believes it has developed a unified, coherent system of compensation. The Bank’s compensation and benefits program consists of the following components: (a) cash compensation (i.e., base salary, and, for exempt employees, “variable” or “at risk” short-term incentive compensation); (b) retirement-related benefits (i.e., Qualified Defined Benefit Plan; Qualified Defined Contribution Plan; and Nonqualified Defined Benefit Portion of the Benefit Equalization Plan; and (c) health and welfare programs and other benefits which are listed in Section IV C above.
Together, these components comprised the Bank’s total compensation program for 2010, and they are discussed in detail in Section IV above.
The Bank’s overall objectives with regard to its compensation and benefits program are to motivate employees to achieve consistent and superior results over a long period of time for the Bank, and to provide a program that allows the Bank to compete for and retain talent that otherwise might be lured away from the Bank. Section IV of the CD&A above describes how each element of the Bank’s compensation objectives and the Bank’s decisions regarding each such element fit within such objectives.
As the Bank makes changes to one element of the compensation and benefits program mix, the C&HR Committee considers the impact on the other elements of the mix. In this regard, the C&HR Committee strives to maintain programs that keep the Bank within the parameters of its Compensation Policy.
The Bank notes that differences in compensation levels that may exist among the NEOs are primarily attributable to the benchmarking process. The Board does have the power to adjust compensation from the results of the benchmarking process; however, this power is not normally exercised.
COMPENSATION COMMITTEE REPORT
The Compensation and Human Resources Committee (“Committee”) of the Board of Directors of the Bank has reviewed and discussed the Compensation Discussion and Analysis required by Item 402(b) of Regulation S-K with management and, based on such review and discussions, the Committee recommended to the Board that the Compensation Discussion and Analysis be included in the Bank’s annual report on Form 10-K for the year 2010.
THE COMPENSATION AND HUMAN RESOURCES COMMITTEE
C. Cathleen Raffaeli, Chair
James W. Fulmer
José R. González
Katherine J. Liseno
Kevin J. Lynch
Richard S. Mroz
Thomas M. O’Brien
RISKS ARISING FROM COMPENSATION PRACTICES
The Bank does not believe that risks arising from the Bank’s compensation policies with respect to its employees are reasonably likely to have a material adverse effect on the Bank. The Bank does not structure any of its compensation plans in a way that inappropriately encourages risk taking to achieve payment.
The main characteristic of the Bank’s culture is risk aversion. The Bank has established procedures with respect to risk which are reviewed frequently. The Bank’s Internal Audit Department conducts review of these procedures and advises on compliance of the associated application.
In addition, the Bank has a Board and associated Committees that provide governance to the Bank. The Bank’s compensation programs are reviewed annually by the CHRC to ensure they follow the goals of the Bank.
The Bank’s compensation programs provide evidence of the Bank’s risk adverse culture. Employees are assessed both individually and in connection with Bank performance. All exempt employees are eligible to receive annual incentive awards through participation in the Bank’s incentive compensation plan. Incentive plans are often the type of compensation awards which promote risk. At the Bank, these awards are based on a combination of Bank performance results and individual performance results. The better the Bank and/or the employee perform, the higher the employee’s potential award is likely to be, up to a predetermined limit. Therefore, individual risk taking will not reward the employee if the Bank, as a whole, does not perform at a high level. This encourages cooperative, risk-averse activity. Further, as described in Section IV A 2 of the above Compensation Discussion and Analysis, the rationale for having the equally-weighted Bankwide goals of Return and Risk within the Bank’s incentive plan is to motivate management to take a balanced approach to managing risks and returns in the course of managing the Bank’s business, while at the same time ensuring that the Bank fulfills its mission.
In addition, the Bank is prohibited by law from offering equity-based compensation, and the Bank does not currently offer long-term incentives. However, many of the firms in the Bank’s peer group do offer these types of compensation. The Bank’s total compensation program takes into account the existence of these other types of compensation by offering defined benefit and defined contribution plans to help the Bank effectively compete for talent. The Bank’s defined benefit and defined contribution plans are designed to reward employees for continued strong performance over the course of their careers - that is, the longer an employee works at the Bank, the greater the benefit the employee is likely to accumulate. Senior and mid-level employees are generally long-tenured and the Bank believes that these employees would not want to endanger their pension benefits by inappropriately stretching rules to achieve a short-term financial gain. By definition, these programs reflective of the risk adverse culture.
Thus, the general risk-averse culture of the Bank, which is reflected in the Bank’s compensation policies, leads the Bank to believe that any risks arising from the Bank’s compensation policies with respect to its employees are not reasonably likely to have a material adverse effect on the Bank.
Compensation Committee Interlocks and Insider Participation
The following persons served on the Board’s Compensation and Human Resources Committee during all or some of the period from January 1, 2010 through the date of this annual report on Form 10-K: James W. Fulmer, José R. González, Katherine J. Liseno, Kevin J. Lynch, Richard Mroz, Thomas O’Brien and C. Cathleen Raffaeli. During this period, no interlocking relationships existed between any member of the FHLBNY’s Board of Directors or the Compensation and Human Resources Committee and any member of the board of directors or compensation committee of any other company, nor did any such interlocking relationship existed in the past. Further, no member of the Compensation and Human Resources Committee listed above is or was formerly an officer or an employee of the Bank.
Executive Compensation
The table below summarizes the total compensation earned by each of the Named Executive Officers for the years ended December 31, 2010, December 31, 2009 and December 31, 2008 (in whole dollars):
Summary Compensation Table for Fiscal Years 2010, 2009 and 2008
Footnotes for Summary Compensation Table for the Year Ending December 31, 2010
a
Bonuses are not provided by the Bank. However, the non-equity incentive plan compensation in the above table may be considered by some to be deemed a “bonus”.
b
Change in Pension Value for the Pentegra Defined Benefit Plan for Financial Institutions
A. DelliBovi - $228,000
P. Leung - $143,000
P. Morgan - $109,000
P. Héroux - $181,000
K. Neylan - $ 98,000
c
Change in Pension Value for the Nonqualified Defined Benefit Portion of the Benefit Equalization Plan:
A. DelliBovi - $1,106,000
P. Leung - $292,000
P. Morgan - $158,000
P. Héroux - $229,000
K. Neylan - $ 129,000
d
Change in Nonqualified Defined Compensation Earnings of the BEP:
A. DelliBovi - $100,998
P. Leung - $18,602
P. Morgan -$7,232
P. Héroux - $15,712
K. Neylan - $23,146
e
Change in Nonqualified Deferred Compensation Plan Earnings:
P. Leung - $5,119
f
Change in Nonqualified Profit Sharing Plan Earnings:
P. Heroux -$2,849
g
For all Named Executive Officers, includes these items paid by the Bank for all employees: amount of funds matched by the Bank in connection with the Pentegra Defined Contribution Plan for Financial Institutions, payment of group term life insurance premium, payment of long term disability insurance premium, payment of health insurance premium, payment of dental insurance premium, payment of vision insurance premium and payment of employee assistance program premium.
h
For A. DelliBovi, includes value of leased automobile ($9,620).
i
For A. DelliBovi, and P. Leung includes payment of this item paid by the Bank for all eligible officers: officer physical examination.
j
For A. DelliBovi and P. Héroux, includes payment of this item paid by the Bank: payment of term life insurance premium.
k
For P. Heroux and for K. Neylan, includes payment of this item paid by the Bank for all employees: fitness center reimbursement
l
All participants received a payment for the replacement plan for the Nonqualified Defined Contribution Portion of the BEP
m
For P.Heroux ($37,719), includes payment for the replacement plan for the Nonqualified Profit Sharing Plan
n
For A. DelliBovi($9,013), P. Heroux ($11,952), and K. Neylan ($3,825), includes a payment for Reimbursement for Financial Counseling Costs Incurred in 2010 for Participants in Terminated Plans
(For further information regarding footnotes l, m, & n directly above, please review the information included in the section entitled “Nonqualified Deferred Compensation” below)
Footnotes for Summary Compensation Table for the Year Ending December 31, 2009
Bonuses are not provided by the Bank. However, the non-equity incentive plan compensation in the above table may be considered by some to be deemed a “bonus”.
Change in Pension Value for the Pentegra Defined Benefit Plan for Financial Institutions:
A. DelliBovi - $224,000
P. Leung - $143,000
P. Morgan - $104,000
P. Héroux - $192,000
K. Neylan - $91,000
Change in Pension Value for the Nonqualified Defined Benefit Portion of the Benefit Equalization Plan:
A. DelliBovi - $575,000
P. Leung - $145,000
P. Morgan - $60,000
P. Héroux - $60,000
K. Neylan - $57,000
Change in Nonqualified Defined Contribution Earnings of the BEP:
A. DelliBovi - $211,379
P. Leung - $35,067
P. Morgan - $8,000
P. Héroux - $30,434
K. Neylan - $37,411
For all Named Executive Officers, includes these items paid by the Bank for all employees: amount of funds matched by the Bank in connection with the Pentegra Defined Contribution Plan for Financial Institutions, payment of group term life insurance premium, payment of long term disability insurance premium, payment of health insurance premium, payment of dental insurance premium, payment of vision insurance premium and payment of employee assistance program premium.
Includes these items paid by the Bank for all eligible officers: amount of funds matched by the Bank in connection with the Nonqualified Defined Contribution Portion of the Benefit Equalization Plan (amount of funds matched for A. DelliBovi was $21,999, for P. Leung $15,526, for P. Morgan $9,724, for Paul Heroux $1,722 and for K. Neylan $6,715).
For A. DelliBovi, includes value of leased automobile ($8,100).
For Paul Heroux, includes payment of this item paid by the Bank for all eligible employees: Years of Service Award.
For P. Leung, P. Heroux, and K. Neylan, includes payment of this item paid by the Bank for all eligible officers: officer physical examination.
For A. DelliBovi and P. Héroux, includes this item paid by the Bank: payment of term life insurance premium.
For P. Heroux and for K. Neylan, includes payment of this item paid by the Bank for all employees: fitness center reimbursement.
K. Neylan is a new NEO in 2009.
Figures represent salaries approved by the Bank’s Board of Directors for the year 2009.
Footnotes for Summary Compensation Table for the Year Ending December 31, 2008
A
Bonuses are not provided by the Bank. However, the non-equity incentive plan compensation in the above table may be considered by some to be deemed a “bonus”.
B
Change in Pension Value for the Pentegra Defined Benefit Plan for Financial Institutions:
A. DelliBovi - $151,000
P. Morgan - $74,000
P. Leung - $105,000
P. Héroux - $156,000
C
Change in Pension Value for the Nonqualified Defined Benefit Portion of the Bank’s Benefit Equalization Plan:
A. DelliBovi - $941,000
P. Morgan - $194,000
P. Leung - $223,000
P. Héroux - $244,000
D
For all Named Executive Officers, includes these items paid by the Bank for all employees: amount of funds matched by the Bank in connection with the Pentegra Defined Contribution Plan for Financial Institutions, payment of group term life insurance premium, payment of long term disability insurance premium, payment of health insurance premium, payment of aggregate and individual “stop loss” coverage (i.e., insurance to protect the Bank against significant insurance claims paid under its self-insured health insurance plan), payment of health and dental administrative charges (i.e., network medical utilization charges, network medical administrative charges, and dental indemnity administrative charges), payment of dental insurance premium, payment of vision insurance premium and payment of employee assistance program premium.
E
For A. DelliBovi, P. Morgan, and P. Leung, includes these items paid by the Bank for all eligible officers: amount of funds matched by the Bank in connection with the Nonqualified Defined Contribution Portion of the Benefit Equalization Plan (amount of funds matched for A. DelliBovi was $23,407, for P. Morgan $9,908 and for P. Leung $17,016).
F
For A. DelliBovi, includes value of leased automobile ($8,100).
G
For A. DelliBovi, includes payment of this item paid by the Bank for all eligible employees: Years of Service Award.
H
For A. DelliBovi, includes payment of this item paid by the Bank for all eligible officers: officer physical examination.
I
For A. DelliBovi and P. Héroux, includes this item paid by the Bank: payment of term life insurance premium.
J
For P. Heroux, includes payment of this item paid by the Bank for all eligible employees: Nonqualified Profit Sharing Plan.
Figures represent salaries approved by the Bank’s Board of Directors for the year 2008. Figures previously reported in the Bank’s 10-K for 2008 used information reflecting actual salaries received in the year 2008.
The following table sets forth information regarding all incentive plan award opportunities made available to Named Executive Officers for the fiscal year 2010 (in whole dollars):
On this date, the Board of Directors’ Compensation and Human Resources Committee approved the 2010 Incentive Compensation Plan (“ICP”). Approval of the ICP does not mean a payout is guaranteed.
Figures represent an assumed rating attained by the NEO of at least a specified threshold rating within the “Meets Requirements” category for the Named Executive Officers with respect to their individual performance.
Amounts represent potential awards under the 2010 Incentive Compensation Plan.
Employment Arrangements
The Bank is an “at will” employer and does not provide written employment agreements to any of its employees. However, employees, including Named Executive Officers (or “NEOs”), receive: (a) cash compensation (i.e., base salary, and, for exempt employees, “variable” or “at risk” short-term incentive compensation); (b) retirement-related benefits (i.e., the Qualified Defined Benefit Plan; the Qualified Defined Contribution Plan; and the Nonqualified Defined Benefit Portion of the Benefit Equalization Plan (“DB BEP”)) and (c) health and welfare programs and other benefits. Other benefits, which are available to all regular employees, include medical, dental, vision care, life, business travel accident, and short and long term disability insurance, flexible spending accounts, an employee assistance program, educational development assistance, voluntary life insurance, long term care insurance, fitness club reimbursement and severance pay.
An additional benefit offered to all officers, age 40 or greater, or who are at Vice President rank or above, is a physical examination every 18 months.
The annual base salaries for the Named Executive Officers are as follows (in whole dollars):
The 2011 increases in the base salaries of the NEOs from 2010 were based on their 2010 performance.
A performance-based merit increase program exists for all employees that have an impact on base pay. Generally, employees receive merit increases on an annual basis. Such merit increases are based upon the attainment of a performance rating of “Outstanding,” “Exceeds Requirements,” or “Meets Requirements” achieved on individual performance evaluations. Merit guidelines are determined each year and distributed to managers. These guidelines establish the maximum merit increase percentage permissible for employee performance during that year. In October of 2009, the C&HR Committee determined that merit-related officer base pay increases for 2010 would be 3.0% for officers rated ‘Meets Requirements’; 3.5% for officers rated ‘Exceeds Requirements’; and 4.5% for officers rated ‘Outstanding’ for their performance in 2009.
In October of 2010, the C&HR Committee determined that merit-related officer base pay increases for 2011 would be 3.0% for officers rated ‘Meets Requirements’; 3.5% for officers rated ‘Exceeds Requirements’; and 4.5% for officers rated ‘Outstanding’ for their performance in 2010.
Short-Term Incentive Compensation Plan (“Incentive Plan”)
The objective of the Bank’s Incentive Plan is to motivate exempt employees to perform at a high level and take actions that: i) support the Bank’s strategies, ii) lead to the attainment of the Bank’s business plan, and iii) fulfill the Bank’s mission. Funding for the Bank’s Incentive Plan is approved by the Board as part of the annual business plan process. By including goals that seek to balance risk and return, the Bank’s Incentive Plan is designed to incent appropriate behavior and work in a variety of economic conditions.
Aon reported in the course of its 2007 study of the Bank’s compensation and benefit programs that most firms in the Bank’s peer group provide their employees with annual short-term incentives. As such, for the Bank not to offer this element of compensation would put it at a distinct disadvantage with respect to its competitors for new talent, and also pose a challenge with respect to the retention of key employees.
There are two types of performance measures that impact upon Incentive Plan awards received by participants: i) Bankwide performance goals, and ii) individual performance goals (which can include work performed as part of a group) established and measured through the annual performance evaluation process.
The Bankwide goals are designed to help management focus on what it needs to accomplish for the success of the cooperative. The 2010 Bankwide goals are organized into three broad categories:
The goal measures in the Business Effectiveness and Growth Effectiveness goal categories were approved by the Board’s Compensation and Human Resources Committee in March 2010, and the goal measures in the Mission Effectiveness goal category was approved by the Board’s Housing Committee in March 2010; all of the goal measures were reported to the Board. A description of these goal categories is set forth below:
Business Effectiveness Goal Category
The Return and Risk Goals that make up the Business Effectiveness Goal are linked and create a beneficial tension through the tradeoffs in managing one versus the other. These goals are weighted exactly the same; this motivates management to act in ways that are aligned with the Board’s wishes as the Bank understands them, i.e., to have management achieve forecasted returns while managing risks to stay within the prescribed risk parameters. In addition, and again consistent with management’s understanding of the Board’s wishes, this set of goals will not motivate management to increase Dividend Capacity if doing such would require imprudently increasing the risk in the balance sheet.
Return Goal
Provide value to shareholders through the dividend. The Return Goal is based on Dividend Capacity.
Risk Goal
The Risk Goal is intended to encourage management to balance those actions taken to enhance earnings (i.e., Dividend Capacity) with actions that are needed to maintain appropriate risk levels in the business.
Mission Effectiveness Goal Category
The Mission Effectiveness Goal Category is intended to help ensure the Bank’s achievement of mission-related community development activities.
Growth Effectiveness Goal-Category
The Growth Effectiveness Goal Category is intended to set the stage for future growth. The Bank believes that recruiting new members now will, over time, create additional advances usage.
Bankwide Goals - Weighting Based on Employee Rank
The Bank believes that employees at higher ranks have a greater impact on the achievement of Bankwide goals than employees at lower ranks. Therefore, employees at higher ranks have a greater weighting placed on the Bankwide performance component of their Incentive Plan award opportunities as opposed to the individual performance component. For the Bank’s Chief Executive Officer and the other Management Committee members (a group that includes all of the NEOs), the overall incentive compensation opportunity is weighted 90% on Bankwide performance goals and 10% on individual performance goals. There are differences among the NEOs with regard to their individual performance goals; however, these differences do not have a material impact on the amount of incentive compensation payout.
When employees are individually evaluated, they receive one of five performance ratings: “Outstanding”; “Exceeds Requirements”; “Meets Requirements”; “Needs Improvement” or “Unsatisfactory”. Incentive Plan participants that are rated as “Exceeds Requirements” or “Outstanding” on their individual performance evaluations receive an additional 3% or 6%, respectively, of their base salary added to their Incentive Plan award.
Incentive Plan awards are only paid to participants who have attained at least a specified threshold rating within the “Meets Requirements” category on their individual performance evaluations and do not have any unresolved disciplinary matters in their record.
Participants will receive an individual Incentive Plan award payment even if Bankwide goal results are such that no payments are awarded for the Bankwide portion of the Incentive Plan.
The Incentive Plan is administered by the Chief Executive Officer, subject to any requirements for review and approval by the C&HR Committee that the Committee may establish. In all areas not specifically reserved by the Committee for its review and approval, the decisions of the Chief Executive Officer or his designee concerning the Incentive Plan are binding on the Bank and on all Incentive Plan participants.
Qualified Defined Contribution Plan
Bank employees who have met the eligibility requirements contained in the Pentegra Qualified Defined Contribution Plan for Financial Institutions (“DC Plan”) can choose to contribute to the DC Plan, a retirement savings plan qualified under the IRC. Employees are eligible for membership in the DC Plan on the first day of the month coinciding with or next following the date the employee completes three full calendar months of employment.
An employee may contribute 1% to 100% of base salary into the DC Plan, up to IRC limitations. The IRC limit for 2010 was $16,500 for employees under the age of 50. An additional “catch up” contribution of $5,500 is permitted under IRC rules for employees who attain age 50 before the end of the calendar year. The Bank matches up to 100% of the first 3% of the employee’s contribution through the third year of employment; 150% of the first 3% of contribution during the fourth and fifth years of employment; and 200% of the first 3% of contribution starting with the sixth year of employment.
Additional Information
Additional information about compensation and benefits are provided in the discussions immediately following the below pension and compensation tables.
OUTSTANDING EQUITY AWARDS AT FISCAL YEAR-END
AND OPTION EXERCISES AND STOCK VESTED
The tables disclosing (i) outstanding option and stock awards and (ii) exercises of stock options and vesting of restricted stock for Named Executive Officers are omitted because all employees of Federal Home Loan Banks are prohibited by law from holding capital stock issued by a Federal Home Loan Bank. As such, these tables are not applicable.
PENSION BENEFITS
The table below shows the present value of accumulated benefits payable to each of the Named Executive Officers, the number of years of service credited to each such person, and payments during the last fiscal year (if any) to each such person, under the Pentegra Defined Benefit Plan for Financial Institutions and the Nonqualified Defined Benefit Portion of the Benefit Equalization Plan (amounts in whole dollars):
Number of years of credited service pertains to eligibility/participation in the qualified plan. Years of credited service for the Nonqualified Defined Benefit Portion of the Benefit Equalization Plan are the same as for the Pentegra Defined Benefit Plan for Financial Institutions Qualified Plan.
As of 12/31/2010.
Mr. Leung’s 13.5 years of credited service includes 3.6 years of credited service working for the Office of Thrift Supervision; 3.0 years of credited service working for the Federal Home Loan Bank of Dallas (including two months of severance) and 6.9 years of credited service working for the Federal Home Loan Bank of New York.
The following discussions provide more information with respect to the compensation and pension benefits tables in the preceding pages.
Qualified Defined Benefit Plan
The Pentegra Qualified Defined Benefit Plan for Financial Institutions (“DB Plan”), as adopted by the Bank, is an IRS-qualified defined benefit plan which covers all Bank employees who have achieved four months of service. The DB Plan is part of a multiple-employer defined benefit program administered by Pentegra Retirement Services.
Bank participants, who as of July 1, 2008 had five years of DB Plan service and were age 50 years or older, are provided with a benefit of 2.50% of a participant’s highest consecutive 3-year average earnings, multiplied by the participant’s years of benefit service, not to exceed 30 years. Earnings are defined as base salary plus short-term incentives, and overtime, subject to the annual Internal Revenue Code limit. These participants are identified herein as “Grandfathered”.
For all other participants (identified herein as “Non-Grandfathered”), the DB Plan provides a benefit of 2.0% (as opposed to 2.5% provided to Grandfathered participants) of a participant’s highest consecutive 5-year average earnings (as opposed to consecutive 3-year average earnings as previously provided to Grandfathered participants), multiplied by the participant’s years of benefit service, not to exceed 30 years. The Normal Form of Payment is a life annuity (i.e., an annuity paid until the death of the participant), as opposed to a guaranteed twelve-year payout as previously provided to Grandfathered participants. Also, cost of living adjustments (“COLAs”) are no longer provided on future accruals (as opposed to a 1% simple interest COLA beginning at age 66 as previously provided).
The table below summarizes the DB Plan changes affecting the Non-Grandfathered employees that went into effect on July 1, 2008. For purposes of the following table, please note the following definitions:
“Defined Benefit Plan”- An Internal Revenue Code qualified deferred compensation arrangement that pays an employee and his/her designated beneficiary upon retirement a lifetime annuity or the lump sum actuarial equivalent of that annuity.
Benefit Multiplier- The annuity paid from the Bank’s DB Plan is calculated on an employee’s years of service, up to a maximum of 30 years, multiplied by 2.5% per year. Beginning July 1, 2008, the Benefit Multiplier changed to 2.0% for Non-Grandfathered Employees.
Final Average Pay Period- Is that period of time that an employee’s salary is used in the calculation of that employee’s benefit. For Grandfathered Employees, the Benefit Multiplier, 2.5%, is multiplied by the average of the employee’s three highest consecutive years of salary multiplied by that employee’s years of service, not to exceed thirty years at the date of termination. For Non-Grandfathered Employees, any accrued benefits prior to July 1, 2008, the accrued Benefit Multiplier mirrors the Grandfathered Employees at 2.5%. For benefits accrued after July 1, 2008 a Benefits Multiplier of 2% is multiplied by the employee’s years of service (total service not to exceed thirty years) multiplied by the average of the employee’s five highest consecutive years of salary.
Normal Form of Payment- The DB Plan must state the form of the annuity to be paid to the retiring employee. For unmarried Grandfathered retirees, the Normal Form of Payment is a life annuity with a 12 year guaranteed payment (“Guaranteed-12 Year Payout”) which means that if the unmarried Grandfathered retiree dies prior to receiving 12 years of annuity payments, the retiree’s beneficiary will receive a lump sum equal to the remaining unpaid payments in the 12-year period. For married Grandfathered retirees, the Normal Form of Payment is a 50% joint and survivor annuity which provides a continuation of half of the monthly annuity to the surviving beneficiary. The initial 50% Joint and Survivor Annuity monthly payment is actuarially equivalent to the 12-year guaranteed payment provided to single retirees under the formula. Effective July 1, 2008, the DB Plan provides single Non-Grandfathered retirees with a straight “Life Annuity” as the Normal Form of Payment, which means that, once a retiree dies, the annuity terminates. For married Non-Grandfathered retirees, the Normal Form of Payment will be a 50% Joint and Survivor Annuity that is actuarially equivalent to the straight Life Annuity.
Cost of Living Adjustments (or “COLAs”)- Once a Grandfathered Employee retiree reaches age 65, in each succeeding year he/she will receive an extra payment annually equal to one percent of the original benefit amount multiplied by the number of years in pay status after age 65. As of July 1, 2008, this adjustment is no longer offered to Non-Grandfathered Employees on benefits accruing after that date.
Early Retirement Subsidy:
Early retirement under the plan is available after age 45.
Grandfathered Employees
Grandfathered Employee retirees who retire prior to normal retirement age (65) are eligible for subsidized early retirement reduction factors. Any participant who retires early and elects to draw pension benefits prior to age 65, and who has a combined age and length of service of at least 70 years, will realize a reduction of 1.5% to his/her early retirement benefit for each year benefits commence earlier than age 65. If that employee had not accumulated a total of 70 years, the reduction would be 3% for each year benefits commence earlier than age 65.
Grandfathered employees who were enrolled in the plan prior to July 1, 1983 and retired on or after age 55 are entitled to a Retirement Adjustment Payment. This is a one-time payment equivalent to three months of the regular retirement allowance, payable at the time of benefit commencement.
Non-Grandfathered Employees
Effective as of July 1, 2008, if an employee on the date of his/her retirement, before 65, had accumulated a total of 70 or more years of age plus service, the reduction will be 3% for every year between his/her age at commencement and age 65. However, if a Non-Grandfathered Employee on the date of his/her retirement, before 65, had not accumulated 70 or more years of age plus service, the reduction will be the actuarial equivalent between his/her age at commencement and age 65. At early retirement, the new early retirement factors will apply to the Non-Grandfathered Employee’s total service benefit. The retiree will be entitled to receive the greater of this early retirement benefit or the early retirement benefit accrued as of July 1, 2008 under the old plan formula.
Vesting- Grandfathered Employees are entitled, starting with the second year of employment service, to 20% of his/her accumulated benefit per year. As a result, after the sixth year of employment service, an employee will be entitled to 100% of his/her accumulated benefit. Non-Grandfathered Employees who entered the DB Plan on or after July 1, 2008 will not receive such benefit until such employee has completed five years of employment service. At that point, the employee will be entitled to 100% of his/her accumulated benefit. The term “5 Year Cliff” is a reference to the foregoing provision. Grandfathered and Non-Grandfathered Employees already participating in the DB Plan prior to July 1, 2008 will vest at 20% per year starting with the second year through the fourth year of employment service and will be accelerated to 100% vesting after the fifth year.
Earnings under the Bank’s DB Plan continue to be defined as base salary plus short-term incentives, and overtime, subject to the annual IRC limit. The IRC limit on earnings for calculation of the DB Plan benefit for 2010 was $245,000.
The DB Plan pays monthly annuities, or a lump sum amount available at or after age 59-1/2, calculated on an actuarial basis, to vested participants or the beneficiaries of deceased vested participants. Annual benefits provided under the DB Plan also are subject to IRC limits, which vary by age and benefit payment option selected.
Nonqualified Defined Benefit Portion of the Benefit Equalization Plan
Employees at the rank of Vice President and above who exceed income limitations established by the IRC for three out of five consecutive years and who are also approved for inclusion by the Bank’s Nonqualified Plan Committee are eligible to participate in the BEP, commonly referred to as a “Supplemental Executive Retirement Plan,” a non-qualified retirement plan that in many respects mirrors the DB Plan.
The primary objective of the Nonqualified Defined Benefit Portion of the BEP is to ensure that participants receive the full benefit to which they would have been entitled under the DB Plan in the absence of limits on maximum benefit levels imposed by the IRC.
The Nonqualified Defined Benefit Portion of the BEP utilizes the identical benefit formulas applicable to the Bank’s DB Plan. In the event that the benefits payable from the Bank’s DB Plan have been reduced or otherwise limited by government regulations, the employee’s “lost” benefits are payable under the terms of the defined benefit portion of the BEP.
The Nonqualified Defined Benefit Portion of the BEP is an unfunded arrangement. However, the Bank established grantor trusts to assist in financing the payment of benefits under these plans. The trust were approved by the Nonqualified Plan Committee in March of 2006 and established in June of 2007.
Although other nonqualified plans were terminated on November 10, 2009, the Nonqualified Defined Benefit Portion of the BEP was not terminated on that day, and remains in effect as of the date of this Annual Report on Form 10-K.
NONQUALIFIED DEFERRED COMPENSATION
The following table discloses contributions to the Bank’s nonqualified deferred compensation plans, each Named Executive Officer’s withdrawals (if any), aggregate earnings, aggregate withdrawals/distributions, and year-end balances in such plans (whole dollars):
The earnings are included in the Summary Compensation Table above under “Change in Pension Value and Nonqualified Deferred Compensation”
On November 10, 2009, the Bank’s Board decided, upon recommendations by Aon Consulting, Inc., to terminate the Nonqualified Defined Contribution Portion of the Benefits Equalization Plan, the Nonqualified Deferred Compensation Plan and the Nonqualified Profit Sharing Plan. The termination of these plans was the result of several factors, i.e.: information from Aon that suggests a trend toward companies terminating these plans; a belief that the benefits these plans were to provide to employees would be less valuable if taxes were higher in the future; and uncertainty as to whether these plans would be repudiated in the unlikely event of a conservatorship or receivership of the Bank. As can be seen in the financial reports included in this Annual Report on Form 10-K, the Bank remained financially healthy and performed very well during 2009 and 2010. However, the potential for joint and several liabilities that exists among the FHLBanks also creates the potential, however remote, that if one or more of the Home Loan Banks were taken into conservatorship or receivership, then all of the remaining FHLBanks might be placed into conservatorship or receivership as well.
Regulations adopted pursuant to Section 409A of the IRC provide in general that the distribution of accrued vested balances can be made to participants starting twelve months after the termination of nonqualified plans such as those maintained by the Bank. As such, distributions were paid on November 12, 2010 to the individuals who participated in the Nonqualified Defined Contribution Portion of the BEP, Nonqualified Profit Sharing Plan, and Nonqualified Deferred Compensation Plan.
Due to the termination of the Nonqualified Defined Contribution Portion of the BEP and the Nonqualified Profit Sharing Plan, the Bank implemented replacement plans for these individuals, as described below.
Former Participants of the Nonqualified Defined Contribution Portion of the BEP
For 2010 and thereafter, for the former participants who would have been otherwise eligible for a match in the amount of 6% of base pay in excess of IRS limitations ($245,000 for 2010), the provision of an additional annual cash payment in an amount equal to 6% of base pay in excess of IRS limitations.
Former Participants of the Nonqualified Profit Sharing Plan
In 2010 and thereafter, the provision of an amount equal to 8% of the prior year’s base pay and short-term incentive payment to the extent the requirements under the Bank’s Short Term Incentive Plan have been achieved. The 8% payment will not be included as income for calculating the benefits for the Qualified Defined Benefit Plan.
The Board approved the establishment of the Replacement Plans on January 21, 2010.
Reimbursement for Financial Counseling Costs Incurred in 2010 for Participants in Terminated Plans
As a result of the termination as of November 10, 2009 of each of the Nonqualified Defined Contribution Portion of the Bank’s Benefit Equalization Plan, the Bank’s Nonqualified Deferred Compensation Plan, and the Bank’s Nonqualified Profit Sharing Plan, the Board voted on January 21, 2010 to authorize the Bank to reimburse participants receiving payments from these plans in 2010 in an amount up to $12,500 for financial counseling costs incurred by such participants in 2010. This offer of reimbursement, which was based on a recommendation from Aon, was believed to be appropriate due to the potentially significant sums that the plan participants might receive when monies from the terminated plans were distributed on November 12, 2010. The reimbursement of fees is not grossed up for tax purposes to the employees. The financial counseling reimbursement is available until March 11, 2011.
The Bank’s Nonqualified Plan Committee administers various operational and ministerial matters pertaining to the Benefit Equalization Plan. These matters include, but are not limited to, approving employees as participants of the BEP and approving the payment method of benefits. The Nonqualified Plan Committee is chaired by the Chair of the C&HR Committee; other members include another Board Director who is a member of the C&HR Committee, the Bank’s Chief Financial Officer, and the Bank’s Director of Human Resources. The Nonqualified Plan Committee reports its actions to the C&HR Committee by submitting its meeting minutes to the C&HR Committee on a regular basis for its information.
DISCLOSURE REGARDING TERMINATION AND CHANGE IN CONTROL PROVISIONS
Severance Plan
The Bank has a formal Board-approved Severance Plan (“Severance Plan”) available to all Bank employees who work twenty or more hours a week and have at least one year of employment.
Severance benefits are paid to employees who:
(i) are part of a reduction in force;
(ii) have resigned from the Bank following a reduction in salary grade, level, or rank;
(iii) refuse a transfer of fifty miles or more;
(iv) have their position eliminated; or
(v) are unable to perform his/her duties in a satisfactory manner and is warranted that the employee would not be discharged for cause.
An Officer of the Bank shall be eligible for two (2) weeks of severance benefits for each six month period of service with the Bank, but not less than six (6) weeks of severance benefits. Non-officers are eligible for severance benefits in accordance with different formulas.
An Officer is eligible to receive severance benefits, in the aggregate for all six month periods of service, whether or not continuous, totaling more than the lesser of (i) thirty-six (36) weeks or (ii) two (2) times the lesser of (a) the sum of the employee’s annualized compensation based upon his or her annual rate of pay for services as an employee for the year preceding the year in which the employment of the employee by the Bank terminated (adjusted for any increase during that year that was expected to continue indefinitely if the employment of the employee had not terminated) or (b) the maximum amount that may be taken into account under a qualified plan pursuant to Section 401(a)(17) of the IRC for the year in which the employment of the employee terminated.
Payment of severance benefits under the Severance Plan is contingent on an employee executing a severance agreement which includes a release of any claim the employee may have against the Bank and any present and former director, officer and employee of the Bank.
The following table describes estimated severance payout information for each NEO assuming that severance would have occurred on December 31, 2010: (amounts in whole dollars)
The severance benefits payable under the Severance Plan shall be paid as salary, coinciding with the normal payroll cycle, for a period of time equal to the number of weeks of severance benefits for which the employee is eligible, commencing with the first payroll period following the termination of employment of the employee and the receipt by the Bank of an agreement signed by the employee, and shall be subject to withholding of Federal and State income taxes and other employment taxes based upon the number of withholding allowances.
Notwithstanding the foregoing, benefits under the severance plan may be paid from time to time through methods other then the payment method described above.
In addition, former employees receiving severance benefits also receive, if applicable, life insurance for the severance period and, if the former employee elects to purchase health insurance continuation coverage through the Bank, reimbursement during the severance period covering the difference between (i) the cost to the former employee of such health insurance continuation coverage and (ii) what the cost of such health insurance coverage would have been had the former employee remained employed with the Bank. Reimbursements are made monthly coinciding with the monthly invoice processing and upon receipt of payment by the employee receiving severance.
Life insurance premiums paid on behalf of employees on severance are paid monthly by the Bank, coinciding with the monthly invoice processing.
Other Potential Post-Employment Payments
The Bank maintains no arrangements which contain “change in control” provisions.
DIRECTOR COMPENSATION
The following table summarizes the compensation paid by the Bank to each of its Directors for the year ended December 31, 2010 (whole dollars):
Director Compensation Policy: Director Fees
The Board establishes on an annual basis a Director Compensation Policy governing compensation for Board meeting attendance. This policy is established in accordance with the provisions of the Federal Home Loan Bank Act (“Bank Act”) and related Federal Housing Finance Agency regulations that were amended as a result of the Housing and Economic Recovery Act of 2008 (“HERA”) to remove a statutory cap on director compensation. In sum, the applicable statutes and regulations now allow each FHLBank to pay its directors reasonable compensation and expenses, subject to the authority of the Director of the Finance Agency to object to, and to prohibit prospectively, compensation and/or expenses that the Director of the Finance Agency determines are not reasonable. The Director Compensation Policy provides that directors shall be paid a meeting fee for their attendance at meetings of the Board of Directors up to a maximum annual compensation amount as set forth in the Director Compensation Policy.
In initially determining reasonable compensation for its directors in the aftermath of HERA for the year 2009, the FHLBank participated in, and utilized the results of, an FHLB System review of director compensation, which included a study prepared by McLagan Partners. FHLBank director compensation that was established by the Board under the 2010 Director Compensation Policy also reflected this analysis. In 2010, McLagan performed another director compensation study for the FHLBanks, which formed the basis for the Board’s determination of 2011 director compensation.
Below are tables summarizing the Director fees established by the Board and the annual compensation limits that were set by the Board for 2010. Following these tables are additional tables summarizing the Director fees established by the Board and the annual compensation limits set by the Board for 2011.
Director Fees - 2010 (in whole dollars)
Director Annual Compensation Limits - 2010 (in whole dollars)
Director Fees - 2011 (in whole dollars)
Director Annual Compensation Limits - 2011 (in whole dollars)
*
A Committee Chair does not receive any additional payment if he or she serves as the Chair of more than one Board Committee. In addition, the Board Chair and Board Vice Chair do not receive any additional compensation if they serve as a Chair of one or more Board Committees.
**
The numbers in the below column represent payments for each of eight meetings attended. If a ninth meeting is attended in 2011, payments for the ninth meeting shall be as follows: Chairman, $11,112; Vice Chairman, $9,448; Committee Chair, $9,448; and all other Directors, $8,336.
Director Compensation Policy: Director Expenses
The Director Compensation Policy also authorizes the FHLBNY to reimburse Directors for necessary and reasonable travel, subsistence, and other related expenses incurred in connection with the performance of their official duties. For expense reimbursement purposes, Directors’ official duties can include:
•
Meetings of the Board and Board Committees
•
Meetings requested by the Federal Housing Finance Agency
•
Meetings of Federal Home Loan Bank System committees
•
Federal Home Loan Bank System director orientation meetings
•
Meetings of the Council of Federal Home Loan Banks and Council committees
•
Attendance at other events on behalf of the Bank with prior approval of the Board of Directors
The following table, which is included here pursuant to FHFA regulations, includes information about reimbursed expenses for 2010 (whole dollars):
Total expenses incurred by the FHLBNY for Board expenses, including amounts reimbursed in cash to Directors, totaled $127,000, $134,000 and $124,000 in 2010, 2009 and 2008, respectively.
ITEM 12.
ITEM 12.
SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT AND RELATED STOCKHOLDER MATTERS.
FHLBNY stock can only be held by member financial institutions. No person, including directors and executive officers of the FHLBNY, may own the Bank’s capital stock. As such, the FHLBNY does not offer any compensation plan to any individuals under which equity securities of the Bank are authorized for issuance. The following tables provide information about those members who were beneficial owners of more than 5% of the FHLBNY’s outstanding capital stock (shares in thousands) as of:
*
Officer of member bank also served on the Board of Directors of the FHLBNY.
The following table sets forth information with respect to capital stock outstanding to members whose officers or directors served as Directors of the FHLBNY as of December 31, 2010, the most practicable date for the information provided (shares in thousands):
All capital stock held by each member of the FHLBNY is by law automatically pledged to the FHLBNY as additional collateral for all indebtedness of each such member to the FHLBNY.
ITEM 13.
ITEM 13.
CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS, AND DIRECTOR INDEPENDENCE.
The FHLBNY is a cooperative and its customers own the entity’s capital stock. Capital stock ownership is a prerequisite to the transaction by members of any business with the FHLBNY. The majority of the members of the Board of Directors of the FHLBNY are Member Directors (i.e., directors elected by the Bank’s members who are officers or directors of Bank members). The remaining members of the Board are Independent Directors (i.e., directors elected by the Bank’s members who are not officers or directors of Bank members). The FHLBNY conducts its advances business almost exclusively with members. Therefore, in the normal course of business, the FHLBNY extends credit to members, whose officers or directors may serve as directors of the FHLBNY. All loans extended by the FHLBNY to such members are at market terms that are no more favorable to them than the terms of comparable transactions with other members. In addition, the FHLBNY also extends credit to members who own more than 5% of the FHLBNY’s stock. Under the provisions of Section 7(j) of the FHLBank Act (12 U.S.C. § 1427(j)), the Bank’s Board is required to administer the business of the Bank with its members without discrimination in favor of or against any member. For more information about transactions with stockholders, see ‘Note 21 - Related Party Transactions’, in the notes to the audited financial statements included in this Form 10-K.
The review and approval of transactions with related persons is governed by the Bank’s written Code of Ethics and Business Conduct (“Code”), which is posted on the Corporate Governance Section of the FHLBNY’s website at http://www.fhlbny.com. Under the Code, each director is required to disclose to the Board of Directors all actual or apparent conflicts of interest, including any personal financial interest that he or she has, as well as such interests of any immediate family member or business associate of the director known to the director, in any matter to be considered by the Board of Directors or in which another person does, or proposes to do, business with the Bank. Following such disclosure, the Board of Directors is empowered to determine whether an actual conflict exists. In the event the Board of Directors determines the existence of a conflict with respect to any matter, the affected director must recuse himself or herself from all further considerations relating to that matter. Issues under the Code regarding conflicts of interests involving directors are administered by the Board or, in the Board’s discretion, the Board’s Corporate Governance Committee.
The Code also provides that, subject to certain limited exceptions for, among other items, interests arising through ownership of mutual funds and certain financial interests acquired prior to employment by the Bank, no Bank employee may have a financial interest in any Bank member. Extensions of credit from members to employees are acceptable that are entered into or established in the ordinary, normal course of business, so long as the terms are no more favorable than would be available in like circumstances to persons who are not employees of the Bank. Employees provide disclosures regarding financial interests and financial relationships on a periodic basis. These disclosures are provided to and reviewed by the Director of Human Resources, who is one of the Bank’s two Ethics Officers; the Ethics Officers have responsibility for enforcing the Code of Ethics with respect to employees on a day-to-day basis.
Director Independence
In General
During the period from January 1, 2010 through and including the date of this annual report on Form 10-K, the Bank had a total of 18 directors serving on its Board, 11 of whom were Member Directors (i.e., directors elected by the Bank’s members who are officers or directors of Bank members) and 7 of whom were Independent Directors (i.e., directors who were, until the enactment of the Housing and Economic Recovery Act of 2008, appointed by the Bank’s former safety and soundness regulator, the Federal Housing Finance Board, and who are now subject to election by the Bank’s members and not officers or directors of Bank members). All of the Bank’s directors were independent of management from the standpoint that they were not, and could not serve as, Bank employees or officers. Also, all individuals, including the Bank’s directors, are prohibited by law from personally owning stock or stock options in the Bank. In addition, the Bank is required to determine whether its directors are independent under two distinct director independence standards. First, Federal Housing Finance Agency (“Finance Agency”) regulations establish independence criteria for directors who serve as members of the Audit Committee of the Board of Directors. Second, the Securities and Exchange Commission’s (“SEC”) regulations require that the Bank’s Board of Directors apply the independence criteria of a national securities exchange or automated quotation system in assessing the independence of its directors.
Finance Agency Regulations Regarding Independence
The Finance Agency director independence standards prohibit individuals from serving as members of the Bank’s Audit Committee if they have one or more disqualifying relationships with the Bank or its management that would interfere with the exercise of that individual’s independent judgment. Under Finance Agency regulations, disqualifying relationships can include, but are not limited to: employment with the Bank at any time during the last five years; acceptance of compensation from the Bank other than for service as a director; being a consultant, advisor, promoter, underwriter or legal counsel for the Bank at any time within the last five years; and being an immediate family member of an individual who is or who has been within the past five years, a Bank executive officer. The Board of Directors has assessed the independence of all directors under the Finance Agency’s independence standards, regardless of whether they serve on the Audit Committee. From January 1, 2010 through and including the date of this Annual Report on Form 10-K, all of the persons who served as a director of the Bank, including all directors who served as members of the Audit Committee, were independent under these criteria.
NYSE Rules Regarding Independence
In addition, pursuant to SEC regulations, the Board has adopted the independence standards of the New York Stock Exchange (“NYSE”) to determine which of its directors are independent and which members of its Audit Committee are not independent.
After applying the NYSE independence standards, the Board has determined that all of the Bank’s Independent Directors who served at any time during the period from January 1, 2010 through and including the date of this annual report on Form 10-K (i.e., Anne Evans Estabrook, Michael M. Horn, Joseph J. Melone, Richard S. Mroz, C. Cathleen Raffaeli, Edwin C. Reed and DeForest B. Soaries, Jr.) were independent.
Separately, the Board was unable to affirmatively determine that there were no material relationships (as defined in the NYSE rules) between the Bank and its Member Directors, and has therefore concluded that none of the Bank’s Member Directors who served at any time during the aforementioned period (i.e., John R. Buran, Joseph R. Ficalora, Jay M. Ford, James W. Fulmer, Ronald E. Hermance, Katherine J. Liseno, Kevin J. Lynch, José R. González, Thomas M. O’Brien, John M. Scarchilli and George Strayton) were independent under the NYSE independence standards.
In making this determination, the Board considered the cooperative relationship between the Bank and its members. Specifically, the Board considered the fact that each of the Bank’s Member Directors are officers of a Bank member institution, and that each member institution has access to, and is encouraged to use, the Bank’s products and services.
Furthermore, the Board acknowledges that under NYSE rules, there are certain objective tests that, if not passed, would preclude a finding of independence. One such test pertains to the amount of business conducted with the Bank by the Member Director’s institution. It is possible that a Member Director could satisfy this test on a particular day. However, because the amount of business conducted by a Member Director’s institution may change frequently, and because the Bank generally desires to increase the amount of business it conducts with each member, the directors deemed it inappropriate to draw distinctions among the Member Directors based solely upon the amount of business conducted with the Bank by any director’s institution at a specific time.
Notwithstanding the foregoing, the Board believes that it functions as a governing body that can and does act with good judgment with respect to the corporate governance and business affairs of the Bank. The Board is aware of its statutory responsibilities under Section 7(j) of the Federal Home Loan Bank Act, which specifically provides that the Board of Directors of a Federal Home Loan Bank must administer the affairs of the Home Loan Bank fairly and impartially and without discrimination in favor of or against any member borrower.
The Board has a standing Audit Committee. For the reasons noted above, the Board has determined that none of the Member Directors who served at any time as members of the Bank’s Audit Committee during the period from January 1, 2010 through and including the date of this annual report on Form 10-K (John R. Buran, Joseph R. Ficalora, Jay M. Ford, José R. González, Katherine J. Liseno, and John M. Scarchilli) were independent under the NYSE standards for audit committee members. The Board also determined that the Independent Directors who served at any time as members of the Bank’s Audit Committee during the period from January 1, 2010 through and including the date of this annual report on Form 10-K (Anne Evans Estabrook, Michael M. Horn and Joseph J. Melone) were independent under the NYSE independence standards for audit committee members.
Section 10A(m) of the 1934 Act
In addition to the independence rules and standards above, on July 30, 2008, the Housing and Economic Recovery Act of 2008 amended the Securities Exchange Act of 1934 to require the Federal Home Loan Banks to comply with the rules issued by the SEC under Section 10A(m) of the 1934 Act, which includes a substantive independence rule prohibiting a director from being a member of the Audit Committee if he or she is an “affiliated person” of the Bank as defined by the SEC rules (i.e., the person controls, is controlled by, or is under common control with, the Bank). All Audit Committee members serving in 2010 met and all current Audit Committee members meet the substantive independence rules under Section 10A(m) of the 1934 Act.
ITEM 14.
ITEM 14.
PRINCIPAL ACCOUNTING FEES AND SERVICES.
The following table sets forth the fees paid to the FHLBNY’s independent registered public accounting firm, PricewaterhouseCoopers, LLP (“PwC”), during years ended December 31, 2010, 2009 and 2008 (in thousands):
Audit Fees
Audit fees relate to professional services rendered in connection with the audit of the FHLBNY’s annual financial statements, and review of interim financial statements included in quarterly reports on Form 10-Q.
Audit-Related Fees
Audit-related fees primarily relate to consultation services provided in connection with respect to certain accounting and reporting standards.
Tax Fees
Tax fees relate to consultation services provided primarily with respect to tax withholding matters.
All Other Fees
These other fees relate to PwC’s attendance at FHLBank Accounting Conferences, and access to PwC’s accounting research and reference tools.
Policy on Audit Committee Pre-approval of Audit and Non-Audit Services Performed by the Independent Registered Public Accounting Firm.
The FHLBNY has adopted an independence policy that prohibits its independent registered public accounting firm from performing non-financial consulting services, such as information technology consulting and internal audit services. This policy also mandates that the audit and non-audit services and related budget be approved by the Audit Committee in advance, and that the Audit Committee be provided with quarterly reporting on actual spending. In accordance with this policy, all services to be performed by PwC were pre-approved by the Audit Committee.
Subsequent to the enactment of the Sarbanes-Oxley Act of 2002 (the “Act”), the Audit Committee has met with PwC to further understand the provisions of that Act as it relates to independence. PwC will rotate the lead audit partner and other partners as appropriate in compliance with the Act. The Audit Committee will continue to monitor the activities undertaken by PwC to comply with the Act.
PART IV
ITEM 15.
ITEM 15.
EXHIBITS AND FINANCIAL STATEMENT SCHEDULES.
The financial statements included as part of this Form 10-K are identified in the index to the Financial Statements appearing in ITEM 8 of this Form 10-K, which index is incorporated in this ITEM 15 by reference.
2.
Financial Statement Schedules
Financial statement schedules have been omitted because they are not applicable or the required information is shown in the financial statements or notes, under ITEM 8, “Financial Statements and Supplementary Data.”
3.
Exhibits
Notes:
*
Confidential treatment has been granted with respect to certain portions of this exhibit. Omitted portions have been filed separately with the Securities and Exchange Commission.
a
This exhibit includes a management contract, compensatory plan or arrangement required to be noted herein.
SIGNATURES
Pursuant to the requirements of Section 13 or 15(d) of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned, thereunto duly authorized.
Date: March 25, 2011
Pursuant to the requirements of the Securities Exchange Act of 1934, this report has been signed below by the following persons on behalf of the Registrant and in the capacities and on the dates indicated below: