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UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-Q

x QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

For the quarterly period ended September 30, 2017
OR
o TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
For the transition period from              to             
Commission File No. 000-51401
logo13.jpg
Federal Home Loan Bank of Chicago
(Exact name of registrant as specified in its charter)

 
Federally chartered corporation
 
36-6001019
 
 
(State or other jurisdiction of
incorporation or organization)
 
(I.R.S. Employer
Identification No.)
 
 
200 East Randolph Drive
Chicago, IL
 
60601
 
 
(Address of principal executive offices)
 
(Zip Code)
 

Registrant's telephone number, including area code: (312) 565-5700
Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes x No o

Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T (§232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files). Yes x No o

Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, a smaller reporting company, or an emerging growth company. See the definitions of “large accelerated filer,” “accelerated filer,” “smaller reporting company,” and "emerging growth company" in Rule 12b-2 of the Exchange Act.
 
Large accelerated filer   o
 
Accelerated filer  o
 
Non-accelerated filer   x  (Do not check if a smaller reporting company)
 
Smaller reporting company   o
 
 
 
 
 
Emerging growth company   o
If an emerging growth company, indicate by check mark if the registrant has elected not to use the extended transition period for complying with any new or revised financial accounting standards provided pursuant to Section 13(a) of the Exchange Act. o
Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act).  Yes o No x


As of September 30, 2017, including mandatorily redeemable capital stock, registrant had 18,648,304 total outstanding shares of Class B Capital Stock.

1

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TABLE OF CONTENTS



2

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3

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PART I - FINANCIAL INFORMATION
Item 1.    Financial Statements.
Statements of Condition (unaudited)
(Dollars in millions, except capital stock par value)
 
September 30, 2017
 
December 31, 2016
Assets
 
 
 
Cash and due from banks
$
32

 
$
351

Interest bearing deposits
750

 
650

Federal Funds sold
9,849

 
4,075

Securities purchased under agreements to resell
3,750

 
2,300

Investment securities -
 
 
 
Trading,
71
and
97
pledged
236

 
1,045

Available-for-sale
13,532

 
14,918

Held-to-maturity,
4,184
and
5,516
fair value
3,768

 
5,072

Investment securities
17,536

 
21,035

Advances,
785
 
and
672
 
carried at fair value
50,153

 
45,067

MPF Loans held in portfolio, net of,
(2)
and
(3)
allowance for credit losses
5,024

 
4,967

Derivative assets
3

 
6

Other assets,
171
and
44
carried at fair value
391

 
241

Assets
$
87,488

 
$
78,692

 
 
 
 
Liabilities
 
 
 
Deposits -
 
 
 
Noninterest bearing
$
52

 
$
53

Interest bearing,
15
and
16
from other FHLBs
548

 
443

Deposits
600

 
496

Consolidated obligations, net -
 
 
 
Discount notes,
872
and
6,368
carried at fair value
45,460

 
35,949

Bonds,
5,206
and
5,443
carried at fair value
35,890

 
36,903

Consolidated obligations, net
81,350

 
72,852

Derivative liabilities
28

 
43

Affordable Housing Program assessment payable
87

 
86

Mandatorily redeemable capital stock
308

 
301

Other liabilities
243

 
219

Liabilities
82,616

 
73,997

Commitments and contingencies - see notes to the financial statements


 


Capital
 
 
 
Class B1 activity stock,
14
and
12
million shares issued and outstanding
1,351

 
1,160

Class B2 membership stock,
2
and
6
million shares issued and outstanding
206

 
551

Capital stock - putable,
$100
and
$100
par value
1,557

 
1,711

Retained earnings - unrestricted
2,784

 
2,631

Retained earnings - restricted
435

 
389

Retained earnings
3,219

 
3,020

Accumulated other comprehensive income (loss) (AOCI)
96

 
(36
)
Capital
4,872

 
4,695

Liabilities and capital
$
87,488

 
$
78,692




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

4

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Statements of Income (unaudited)
(Dollars in millions)

 
 
Three months ended September 30,
 
Nine months ended September 30,
 
 
2017
 
2016
 
2017
 
2016
Interest income
 
$
411

 
$
309

 
$
1,121

 
$
944

Interest expense
 
288

 
196

 
768

 
600

Net interest income
 
123

 
113

 
353

 
344

Provision for (reversal of) credit losses
 
(1
)
 

 

 

Net interest income after provision for (reversal of) credit losses
 
124

 
113

 
353

 
344

 
 
 
 
 
 
 
 
 
Noninterest income -
 
 
 
 
 
 
 
 
Derivatives and hedging activities
 

 
7

 
6

 
(7
)
Instruments held under fair value option
 
(5
)
 

 
(3
)
 
6

Litigation settlement awards
 

 

 
1

 
38

MPF fees from other FHLBs
 
5

 
4

 
15

 
12

Other, net
 
5

 
3

 
12

 
12

Noninterest income
 
5

 
14

 
31

 
61

 
 
 
 
 
 
 
 
 
Noninterest expense -
 
 
 
 
 
 
 
 
Compensation and benefits
 
26

 
26

 
77

 
71

Operating expenses
 
15

 
15

 
45

 
44

Other
 
2

 
1

 
7

 
13

Noninterest expense
 
43

 
42

 
129

 
128

 
 
 
 
 
 
 
 
 
Income before assessments
 
86

 
85

 
255

 
277

 
 
 
 
 
 
 
 
 
Affordable Housing Program
 
9

 
9

 
26

 
28

 
 
 
 
 
 
 
 
 
Net income
 
$
77

 
$
76

 
$
229

 
$
249



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



5

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Statements of Comprehensive Income (unaudited)
(Dollars in millions)

 
 
Three months ended September 30,
 
Nine months ended September 30,
 
 
2017
 
2016
 
2017
 
2016
Net income
 
$
77

 
$
76

 
$
229

 
$
249

 
 

 
 
 
 
 
 
Other comprehensive income (loss) -
 

 
 
 
 
 
 
Net unrealized gain (loss) available-for-sale securities
 
(24
)
 
(13
)
 
(5
)
 
(113
)
Noncredit OTTI held-to-maturity securities
 
8

 
9

 
25

 
30

Net unrealized gain (loss) cash flow hedges
 
42

 
83

 
111

 
38

Postretirement plans
 
3

 

 
1

 
1

Other comprehensive income (loss)
 
29

 
79

 
132

 
(44
)
 
 

 
 
 

 
 
Comprehensive income
 
$
106

 
$
155

 
$
361

 
$
205



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



6

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Statements of Capital (unaudited)
(Dollars and shares in millions)

 
Capital Stock - Putable - B1 Activity
 
Capital Stock - Putable - B2 Membership
 
Capital Stock
 
Retained Earnings
 
 
 
Total
 
Shares
 
Value
 
Shares
 
Value
 
Shares
 
Value
 
Unrestricted
 
Restricted
 
Total
 
AOCI
 
December 31, 2016
12

 
$
1,160

 
6

 
$
551

 
18

 
$
1,711

 
$
2,631

 
$
389

 
$
3,020

 
$
(36
)
 
$
4,695

Comprehensive income
 
 
 
 
 
 
 
 
 
 
 
 
183

 
46

 
229

 
132

 
361

Proceeds from issuance of capital stock
21

 
2,162

 

 
10

 
21

 
2,172

 
 
 
 
 
 
 
 
 
2,172

Repurchases of capital stock

 
(35
)
 
(23
)
 
(2,285
)
 
(23
)
 
(2,320
)
 
 
 
 
 
 
 
 
 
(2,320
)
Capital stock reclassified to mandatorily redeemable capital stock (liabilities)

 
(3
)
 

 
(3
)
 

 
(6
)
 
 
 
 
 
 
 
 
 
(6
)
Transfers between classes of capital stock
(19
)
 
(1,933
)
 
19

 
1,933

 
 
 
 
 
 
 
 
 
 
 
 
 
 
Cash dividends - class B1
 
 
 
 
 
 
 
 
 
 
 
 
(28
)
 


 
(28
)
 
 
 
(28
)
Class B1 annualized rate
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
3.15
%
Cash dividends - class B2
 
 
 
 
 
 
 
 
 
 
 
 
(2
)
 
 
 
(2
)
 
 
 
(2
)
Class B2 annualized rate
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
1.05
%
Total change in period
2

 
191

 
(4
)
 
(345
)
 
(2
)
 
(154
)
 
153

 
46

 
199

 
132

 
177

September 30, 2017
14

 
$
1,351

 
2

 
$
206

 
16

 
$
1,557

 
$
2,784

 
$
435

 
$
3,219

 
$
96

 
$
4,872

 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
December 31, 2015
13

 
$
1,313

 
6

 
$
637

 
19

 
$
1,950

 
$
2,407

 
$
323

 
$
2,730

 
$
(28
)
 
$
4,652

Comprehensive income
 
 
 
 
 
 
 
 
 
 
 
 
198

 
51

 
249

 
(44
)
 
205

Proceeds from issuance of capital stock
10

 
952

 

 
12

 
10

 
964

 
 
 
 
 
 
 
 
 
964

Repurchases of capital stock
(6
)
 
(586
)
 
(3
)
 
(392
)
 
(9
)
 
(978
)
 
 
 
 
 
 
 
 
 
(978
)
Capital stock reclassified to mandatorily redeemable capital stock (liabilities)
(3
)
 
(295
)
 

 
(5
)
 
(3
)
 
(300
)
 
 
 
 
 
 
 
 
 
(300
)
Transfers between classes of capital stock
(3
)
 
(321
)
 
3

 
321

 
 
 
 
 
 
 
 
 
 
 
 
 


Cash dividends - class B1
 
 
 
 
 
 
 
 
 
 
 
 
(25
)
 
 
 
(25
)
 
 
 
(25
)
Class B1 annualized rate
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
2.73
%
Cash dividends - class B2
 
 
 
 
 
 
 
 
 
 
 
 
(3
)
 
 
 
(3
)
 
 
 
(3
)
Class B2 annualized rate
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
0.60
%
Total change in period
(2
)
 
(250
)
 

 
(64
)
 
(2
)
 
(314
)
 
170

 
51

 
221

 
(44
)
 
(137
)
September 30, 2016
11


$
1,063


6


$
573


17


$
1,636


$
2,577


$
374


$
2,951


$
(72
)

$
4,515



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

7

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Condensed Statements of Cash Flows (unaudited)
(Dollars in millions)

 
Nine months ended September 30,
 
2017
 
2016
 
Operating
Net cash provided by (used in) operating activities
 
$
337

 
$
184

 
Investing
Net change interest bearing deposits
 
(100
)
 

 
 
Net change Federal Funds sold
 
(5,774
)
 
(2,105
)
 
 
Net change securities purchased under agreements to resell
 
(1,450
)
 
375

 
 
Trading securities -
 
 
 
 
 
 
Sales
 
801

 
2,158

 
 
Proceeds from maturities and paydowns
 
205

 
108

 
 
Purchases
 
(200
)
 
(2,156
)
 
 
Available-for-sale securities -
 
 
 
 
 
 
Proceeds from maturities and paydowns
 
1,307

 
1,777

 
 
Purchases
 
(5
)
 
(2
)
 
 
Held-to-maturity securities -
 
 
 
 
 
 
Short-term held-to-maturity securities, net
 
570

a 
543

a 
 
Proceeds from maturities and paydowns
 
816

 
740

 
 
Purchases
 
(27
)
 
(30
)
 
 
Advances -
 
 
 
 
 
 
Principal collected
 
543,511

 
548,381

 
 
Issued
 
(548,590
)
 
(554,570
)
 
 
MPF Loans held in portfolio -
 
 
 
 
 
 
Principal collected
 
761

 
867

 
 
Purchases
 
(821
)
 
(759
)
 
 
Other investing activities
 
20

 
27

 
 
Net cash provided by (used in) investing activities
 
(8,976
)
 
(4,646
)
 
Financing
Net change deposits
 
104

 
(26
)
 
 
Discount notes -
 
 
 
 
 
 
Net proceeds from issuance
 
1,080,879

 
438,057

 
 
Payments for maturing and retiring
 
(1,071,386
)
 
(440,500
)
 
 
Consolidated obligation bonds -
 
 
 
 
 
 
Net proceeds from issuance
 
13,947

 
24,439

 
 
Payments for maturing and retiring
 
(15,024
)
 
(16,943
)
 
 
Payments for retirement of subordinated notes
 

 
(944
)
 
 
Capital stock -
 
 
 
 
 
 
Proceeds from issuance
 
2,172

 
964

 
 
Repurchases
 
(2,320
)
 
(978
)
 
 
Cash dividends paid
 
(30
)
 
(28
)
 
 
Other financing activities
 
(22
)
 
(47
)
 
 
Net cash provided by (used in) financing activities
 
8,320

 
3,994

 
 
Net increase (decrease) in cash and due from banks
 
(319
)
 
(468
)
 
 
Cash and due from banks at beginning of period
 
351

 
499

 
 
Cash and due from banks at end of period
 
$
32

 
$
31

 
a 
Short-term assets and liabilities may be presented on a net basis provided that the original maturity of the asset or liability is three months or less from the date of origination or the date of purchase.

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

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Notes to Financial Statements - (Unaudited)
(Dollars in tables in millions except per share amounts unless otherwise indicated)


Note 1 – Background and Basis of Presentation

The Federal Home Loan Bank of Chicago is a federally chartered corporation and one of 11 Federal Home Loan Banks (the FHLBs) that, with the Office of Finance, comprise the Federal Home Loan Bank System (the System).  The FHLBs are government-sponsored enterprises (GSE) of the United States of America and were organized under the Federal Home Loan Bank Act of 1932, as amended (FHLB Act), in order to improve the availability of funds to support home ownership.  We are supervised and regulated by the Federal Housing Finance Agency (FHFA), an independent federal agency in the executive branch of the United States (U.S.) government.

Each FHLB is a member-owned cooperative with members from a specifically defined geographic district. Our defined geographic district is Illinois and Wisconsin. All federally-insured depository institutions, insurance companies engaged in residential housing finance, credit unions and community development financial institutions located in our district are eligible to apply for membership with us. All our members are required to purchase our capital stock as a condition of membership. Our capital stock is not publicly traded, and is issued, repurchased or redeemed at par value, $100 per share, subject to certain statutory and regulatory limits. As a cooperative, we do business with our members, and former members (under limited circumstances). Specifically, we provide credit principally in the form of secured loans called advances. We also provide liquidity for home mortgage loans to members approved as Participating Financial Institutions (PFIs) through the Mortgage Partnership Finance® (MPF®) Program.

Our accounting and financial reporting policies conform to generally accepted accounting principles in the United States of America (GAAP). Amounts in prior periods may be reclassified to conform to the current presentation and if material are disclosed in the following notes.

In the opinion of management, all normal recurring adjustments have been included for a fair statement of this interim financial information. These unaudited financial statements and the following footnotes should be read in conjunction with the audited financial statements and footnotes for the year ended December 31, 2016, included in our Annual Report on Form 10-K (2016 Form 10-K) starting on page F-1, as filed with the Securities and Exchange Commission (SEC).

Unless otherwise specified, references to we, us, our, and the Bank are to the Federal Home Loan Bank of Chicago.

“Mortgage Partnership Finance”, “MPF”, “MPF Xtra”, and "Community First" are registered trademarks of the Federal Home Loan Bank of Chicago.

See the Glossary of Terms starting on page 63 for the definitions of certain terms used herein.

Use of Estimates and Assumptions

We are required to make estimates and assumptions when preparing our financial statements in accordance with GAAP. The most significant of these estimates and assumptions applies to fair value measurements and allowance for credit losses. Our actual results may differ from the results reported in our financial statements due to such estimates and assumptions. This includes the reported amounts of assets and liabilities, the reported amounts of income and expense, and the disclosure of contingent assets and liabilities.

Basis of Presentation

The basis of presentation pertaining to the consolidation of our variable interest entities has not significantly changed since we filed our 2016 Form 10-K.  The basis of presentation pertaining to our gross versus net presentation of financial instruments also has not significantly changed since we filed our 2016 Form 10-K with one exception. Specifically, there was a change in our basis of presentation for our cleared derivative transactions with clearinghouses classified as a Derivatives Clearing Organization (DCO) through a Futures Commission Merchant (FCM), a clearing member of the DCO. Prior to 2017, our accounting presented derivative assets and liabilities of our cleared derivative transactions on a net basis, inclusive of initial and variation margin, and accrued interest receivable/payable and cash collateral. Due to rule changes adopted by our DCOs that characterize the treatment of variation margin payments as settlement of a derivative’s mark-to-market exposure and not as collateral against the derivative’s mark-to-market exposure, we now account for our variation margin payments as settlements to our derivative assets and derivative liabilities. The amendments to the DCOs’ rules have no effect on how we present initial margin, which we include in the carrying amount of our derivative assets or derivative liabilities.

Refer to Note 1- Background and Basis of Presentation to the financial statements in our 2016 Form 10-K with respect to our basis of presentation for consolidation of variable interest entities and our gross versus net presentation of financial instruments for further details.

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Notes to Financial Statements - (Unaudited)
(Dollars in tables in millions except per share amounts unless otherwise indicated)


Note 2 – Summary of Significant Accounting Policies


Our Summary of Significant Accounting Policies through December 31, 2016, can be found in Note 2 – Summary of Significant Accounting Policies to the financial statements in our 2016 Form 10-K. We adopted the following policies year to date in 2017:

Accounting for Variation Margin Payments

Effective in January of 2017 we began accounting for variation margin payments made to or received by the DCOs through our FCMs as settlements to our cleared derivative assets and derivative liabilities. See Note 1 - Background and Basis for Presentation for further details. This change in accounting did not have any effect on the accounting of our existing hedge relationships. Specifically, the change in accounting would not require us to discontinue existing hedge relationships or preclude us from using the short-cut method of hedge accounting provided no additional changes are made by the DCOs that would preclude the use of the short-cut method of hedge accounting. The International Swaps and Derivatives Association (ISDA) issued a confirmation letter confirming the SEC staff’s non-objection to the conclusions reached by ISDA related to the accounting implications of the DCO rule changes regarding the characterization of the variation margin payments as daily settlements and the continued application of existing hedge accounting relationships, including the use of the short-cut method of hedge accounting.

Contingent Put and Call Options in Debt Instruments

In March of 2016, the FASB issued new guidance clarifying the requirements for assessing whether a contingent call (put) option embedded in a debt instrument is clearly and closely related to that debt instrument, which is referred to the "host contract" for purposes of this assessment. Specifically, we are no longer required to consider the event triggering the acceleration of an embedded contingent call (put) option when assessing whether it is clearly and closely related to the debt instrument or host contract. We adopted the new guidance effective January 1, 2017. The new guidance did not have any effect on our financial condition, results of operations, or cash flows at the time of adoption.



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Notes to Financial Statements - (Unaudited)
(Dollars in tables in millions except per share amounts unless otherwise indicated)

Note 3 – Recently Issued but Not Yet Adopted Accounting Standards

Targeted Improvements to Accounting for Hedging Activities

In August of 2017, the FASB amended existing derivatives and hedging guidance. The amended guidance may be adopted immediately in any interim period or January 1, 2019 as required. We are in the process of assessing the anticipated effect of the new guidance on the Bank. Outlined below are the significant changes to existing guidance that are relevant to the Bank.

Enables the Bank to enter into cash flow hedges of a variable-rate instrument indexed to a non-benchmark rate.

Enables the Bank to measure the change in fair value of the hedged item in a fair value hedge on the basis of the benchmark rate component of the contractual coupon cash flows determined at hedge inception, rather than on the full contractual coupon cash flows as required under existing GAAP.

Requires both the effective and ineffective portion of a hedging relationship to be presented in either interest income or interest expense, whichever is appropriate. This means that the ineffective portion of a hedging relationships will no longer be presented in derivatives and hedging activities.

Requires the entire rather than the effective portion of the change in fair value of the hedging instrument in a cash flow hedge to be recorded in Accumulated Other Comprehensive Income (AOCI). Upon recognition, the amounts in AOCI are reclassified to earnings in the same income statement line item that is used to present the earnings effect of the hedged item.

Enables hedge effectiveness to be qualitatively assessed subsequent to hedge inception in cases where initial quantitative testing is required.

Permits the application of the long-haul method of assessing hedge effectiveness in cases where the shortcut method was initially applied but was not or no longer is appropriate, provided that the Bank documented at hedge inception which long-haul methodology it will use.

Requires recognizing a cumulative-effect adjustment at the date of adoption for cash flow hedges related to eliminating the separate measurement of ineffectiveness. Specifically, a cumulative-effect adjustment would be made with a corresponding adjustment to the opening balance of retained earnings as of the beginning of the fiscal year that an entity adopts these amendments. The amended presentation and disclosure guidance is required only prospectively.

Improving the Presentation of Net Periodic Pension Cost and Net Periodic Postretirement Benefit Cost

In March of 2017, the FASB amended existing GAAP to require the service cost component of our net periodic pension and postretirement benefit costs to be classified as compensation costs. The other components of our net periodic pension and postretirement benefit costs are required to be classified as Noninterest expense - Other operating expenses on a retrospective basis effective January 1, 2018. Currently, our total net periodic pension and postretirement costs are classified as compensation costs. We do not expect the classification guidance of this GAAP amendment will have a significant effect on our financial condition, results of operations, and cash flows.

Classification of Certain Cash Receipts and Cash Payments in the Statement of Cash Flows

In August of 2016, the FASB issued statement of cash flows classification guidance governing certain cash receipts and cash payments. The new guidance becomes effective January 1, 2018 and will be applied retrospectively for each period our statements of cash flows are presented at the time of adoption. The new guidance is not expected to have any effect on our financial condition, results of operations, and cash flows since our existing practice is consistent with the provisions that are applicable to us. The provisions applicable to us are outlined below.

We classify cash payments related to prepaying or extinguishing our consolidated obligations as financing activities in our statements of cash flows.

We classify the cash payments attributable to interest expense paid at the maturity of our discount notes, which have a zero coupon rate, as operating activities in our statements of cash flows and in our supplemental disclosure of interest expense paid.


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Notes to Financial Statements - (Unaudited)
(Dollars in tables in millions except per share amounts unless otherwise indicated)

Measurement of Credit Losses on Financial Instruments

In June of 2016, the FASB amended existing GAAP guidance applicable to measuring credit losses on financial instruments. The amendments are expected to result in recognizing credit losses in the financial statements on a timelier basis by utilizing forward looking information. Key provisions of the amendments relevant to us are outlined below.

Replaces the “incurred loss” impairment methodology applied under current GAAP with an “expected credit losses” methodology.

The expected credit losses methodology requires us to estimate all credit losses on financial instruments carried on an amortized cost basis and off-balance-sheet credit exposures over their contractual term. On balance sheet financial instruments include, but are not limited to, advances, MPF Loans held in portfolio, and Held-to-maturity (HTM) securities. Off-balance-sheet credit exposure refers to unfunded credit exposures, such as standby letters of credit.

The measurement of expected credit losses is based on relevant information about past events, including historical experience, current conditions, and reasonable and supportable forecasts that affect the collectability of the financial instrument’s reported amount.

Aligns the income statement recognition of credit losses for securities with the reporting period in which changes in collectability occur by recording credit losses (and subsequent reversals) through an allowance rather than a write-down as currently required under GAAP.

Requires recognition of a credit loss on available-for-sale (AFS) securities into the income statement if the present value of cash flows expected to be collected on the security is less than its amortized cost basis. Additionally, the allowance on AFS debt securities will be limited to the amount by which fair value is less than the amortized cost basis.

Expands upon the current credit quality disclosures by requiring further disaggregation of financial instruments by their year of origination. This disclosure is expected to help financial statement users better understand credit quality trends of asset portfolios.

The amendments become effective January 1, 2020, with early adoption permitted effective January 1, 2019. We plan to implement the expected credit loss methodology through a cumulative-effect adjustment to our beginning retained earnings as of the first reporting period in which the new guidance becomes effective for us. The cumulative effect adjustment will equal the amount required to adjust our existing allowance for credit losses for our on balance-sheet financial instruments and other liabilities for our off-balance sheet financial instruments to the amounts determined under the expected credit losses methodology. A prospective transition approach is required for debt securities in which an other-than-temporary-impairment (OTTI) impairment had been recognized before our effective date. The accounting implications of such an approach are outlined below:

Write-downs recognized prior to our effective date on securities may not be reversed at the time of our adoption.

Improvements in expected cash flows subsequent to adoption for such securities will continue to be accounted for as yield adjustments over their remaining life.

Recoveries of amounts previously written off prior to the date of adoption will be recorded in earnings when received.

We are in the process of reviewing the expected effect of this guidance on our financial condition, results of operations, and cash flows.

Leases

In February of 2016, the FASB issued new guidance pertaining to lease accounting. The new guidance requires us to recognize operating leases and right-to-use assets, if any, in our statements of condition if their term exceeds 12 months. Currently, we recognize our operating leases off-balance sheet. The new guidance becomes effective January 1, 2019. A modified retrospective transition approach is required to be applied to leases existing at, or entered into after, January 1, 2018. We do not expect the new guidance to have a significant effect on our financial condition, results of operations, and cash flows since our existing off-balance sheet operating leases are not material.


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Notes to Financial Statements - (Unaudited)
(Dollars in tables in millions except per share amounts unless otherwise indicated)

Recognition and Measurement of Financial Assets and Financial Liabilities

In January of 2016, the FASB issued new guidance governing recognition and measurement of financial assets and financial liabilities. The new guidance becomes effective January 1, 2018. We do not expect the new guidance to have a significant effect on our financial condition, results of operations, and cash flows. The key provisions applicable to us are as follows:

The ability to elect the fair value option will continue to be permitted.

The portion of instrument-specific credit risk attributable to the total change in fair value of our consolidated obligations that are carried at fair value under the fair value option should be recognized in other comprehensive income. We will measure such instrument-specific credit risk based on our nonperformance risk. Specifically, our nonperformance risk includes our own credit risk and the credit risk associated with the joint and several liability of other FHLBs. We do not expect this requirement will have a material effect on our financial condition, results of operations, and cash flows.

The requirement to separately present financial assets and financial liabilities by measurement category, such as amortized cost, and form, such as securities or loans, on our statements of condition or the accompanying notes to the financial statements.

Revenue from Contracts with Customers

In May of 2014, the FASB issued new guidance governing revenue recognition from contracts with customers. Subsequently the FASB issued several other related pronouncements that provide additional revenue recognition guidance and clarifications to the original guidance issued in 2014. The new guidance becomes effective January 1, 2018. We do not expect the new revenue recognition guidance will have any effect on our financial condition, results of operations, or cash flows at the time of adoption. This is because the majority of our financial instruments and other contractual rights that generate revenue are covered by other GAAP, and therefore, are scoped out of this new guidance. Further, we believe that our current method of recognition of our service fee revenue, which is insignificant, is already consistent with this new guidance. In the event of an adjustment, if any, we would apply the modified retrospective method.

13

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Notes to Financial Statements - (Unaudited)
(Dollars in tables in millions except per share amounts unless otherwise indicated)

Note 4 – Interest Income and Interest Expense
The following table presents interest income and interest expense for the periods indicated:
 
Three months ended September 30,
 
Nine months ended September 30,
 
2017
 
2016
 
2017
 
2016
Interest income -
 
 
 
 
 
 
 
 


 
 
 
 
 
 
Trading
$
1

 
$
2

 
$
3

 
$
7

Available-for-sale interest income
106

 
109

 
321

 
334

Available-for-sale prepayment fees
9

 
7

 
20

 
33

Available-for-sale
115

 
116

 
341

 
367

Held-to-maturity
47

 
56

 
148

 
171

Investment securities
163

 
174

 
492

 
545

 

 
 
 
 
 
 
Advances
157

 
74

 
386

 
211

MPF Loans held in portfolio
53

 
53

 
160

 
165

Federal funds sold and securities purchased under agreements to resell
34

 
7

 
74

 
16

Other
4

 
1

 
9

 
7

 
 
 
 
 
 
 
 
Interest income
411

 
309

 
1,121

 
944

 

 
 
 
 
 
 
Interest expense -

 
 
 
 
 
 
 
 
 
 
 
 
 
 
Consolidated obligations -

 
 
 
 
 
 
Discount notes
148

 
95

 
363

 
272

Bonds
136

 
99

 
394

 
299

 

 
 
 
 
 
 
Subordinated notes

 

 

 
24

Other
4

 
2

 
11

 
5

 
 
 
 
 
 
 
 
Interest expense
288

 
196

 
768

 
600

 

 
 
 
 
 
 
Net interest income
123

 
113

 
353

 
344

Provision for (reversal of) credit losses
(1
)
 

 

 

Net interest income after provision for (reversal of) credit losses
$
124

 
$
113

 
$
353

 
$
344




14

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Notes to Financial Statements - (Unaudited)
(Dollars in tables in millions except per share amounts unless otherwise indicated)

Note 5 – Investment Securities


We classify securities as either trading, held-to-maturity (HTM), or available-for-sale (AFS). Our security disclosures within these classifications are disaggregated by major security types as shown below. Our major security types are based on the nature and risks of the security.

U.S. Government & other government related may consist of the sovereign debt of the United States; debt issued by government sponsored enterprises (GSE); and non-mortgage-backed securities of the Small Business Administration and Tennessee Valley Authority.
Federal Family Education Loan Program - asset backed securities (FFELP ABS).
GSE residential mortgage-backed securities (MBS) issued by Fannie Mae and Freddie Mac.
Government guaranteed MBS.
Private label residential MBS.
State or local housing agency obligations.


Pledged Collateral

We disclose the amount of investment securities pledged as collateral pertaining to our derivatives activity on our statements of condition. Also see Note 9 - Derivatives and Hedging Activities for further details.


Trading Securities

The following table presents the fair value of our trading securities. Our unrealized gains or losses on trading securities still held on our statement of condition as of the end of the reporting period were not material.

As of
 
September 30, 2017
 
December 31, 2016
U.S. Government & other government related
 
$
201

 
$
1,005

Residential MBS:
 
 
 
 
GSE
 
34

 
39

Government guaranteed
 
1

 
1

Trading securities
 
$
236

 
$
1,045




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Notes to Financial Statements - (Unaudited)
(Dollars in tables in millions except per share amounts unless otherwise indicated)

Amortized Cost Basis and Fair Value – Available-for-Sale Securities (AFS)

 
Amortized Cost Basis
 
Gross Unrealized Gains in AOCI
 
Gross Unrealized (Losses) in AOCI
 
Carrying Amount and Fair Value
As of September 30, 2017
 
 
 
 
 
 
 
U.S. Government & other government related
$
266

 
$
13

 
$

 
$
279

State or local housing agency
20

 

 

 
20

FFELP ABS
4,087

 
235

 
(7
)
 
4,315

Residential MBS:
 
 
 
 
 
 
 
GSE
7,615

 
178

 
(3
)
 
7,790

Government guaranteed
1,048

 
28