12. Derivative Instruments and Hedging Activities.
The Company trades, makes markets and takes proprietary positions globally in listed futures, OTC swaps, forwards, options and other derivatives referencing, among other things, interest rates, currencies, investment grade and non-investment grade corporate credits, loans, bonds, U.S. and other sovereign securities, emerging market bonds and loans, credit indices, asset-backed security indices, property indices, mortgage-related and other asset-backed securities, and real estate loan products. The Company uses these instruments for trading, foreign currency exposure management, and asset and liability management.
The Company manages its trading positions by employing a variety of risk mitigation strategies. These strategies include diversification of risk exposures and hedging. Hedging activities consist of the purchase or sale of positions in related securities and financial instruments, including a variety of derivative products (e.g., futures, forwards, swaps and options). The Company manages the market risk associated with its trading activities on a Company-wide basis, on a worldwide trading division level and on an individual product basis.
In connection with its derivative activities, the Company generally enters into master netting agreements and collateral agreements with its counterparties. These agreements provide the Company with the right, in the event of a default by the counterparty (such as bankruptcy or a failure to pay or perform), to net a counterparty's rights and obligations under the agreement and to liquidate and set off collateral against any net amount owed by the counterparty. However, in certain circumstances: the Company may not have such an agreement in place; the relevant insolvency regime (which is based on the type of counterparty entity and the jurisdiction of organization of the counterparty) may not support the enforceability of the agreement; or the Company may not have sought legal advice to support the enforceability of the agreement. In cases where the Company has not determined an agreement to be enforceable, the related amounts are not offset in the tabular disclosures below. The Company's policy is generally to receive securities and cash posted as collateral (with rights of rehypothecation), irrespective of the enforceability determination regarding the master netting and collateral agreement. In certain cases, the Company may agree for such collateral to be posted to a third-party custodian under a control agreement that enables the Company to take control of such collateral in the event of a counterparty default. The enforceability of the master netting agreement is taken into account in the Company's risk management practices and application of counterparty credit limits. The following tables present information about the offsetting of derivative instruments and related collateral amounts. See information related to offsetting of certain collateralized transactions in Note 6.
| At December 31, 2013 | |||||||||||||
| Gross Amounts(1) | Amounts Offset in the Consolidated Statements of Financial Condition(2) | Net Amounts Presented in the Consolidated Statements of Financial Condition | Amounts Not Offset in the Consolidated Statements of Financial Condition(3) | Net Exposure | |||||||||
| Financial Instruments Collateral | Other Cash Collateral | ||||||||||||
| (dollars in millions) | |||||||||||||
| Derivative assets | |||||||||||||
| Bilateral OTC | $ | 404,352 | $ | (378,459) | $ | 25,893 | $ | (8,785) | $ | (132) | $ | 16,976 | |
| Cleared OTC(4) | 267,057 | (266,419) | 638 | — | — | 638 | |||||||
| Exchange traded | 31,609 | (25,673) | 5,936 | — | — | 5,936 | |||||||
| Total derivative assets | $ | 703,018 | $ | (670,551) | $ | 32,467 | $ | (8,785) | $ | (132) | $ | 23,550 | |
| Derivative liabilities | |||||||||||||
| Bilateral OTC | $ | 386,199 | $ | (361,059) | $ | 25,140 | $ | (5,365) | $ | (136) | $ | 19,639 | |
| Cleared OTC(4) | 266,559 | (265,378) | 1,181 | — | (372) | 809 | |||||||
| Exchange traded | 33,113 | (25,673) | 7,440 | (651) | — | 6,789 | |||||||
| Total derivative liabilities | $ | 685,871 | $ | (652,110) | $ | 33,761 | $ | (6,016) | $ | (508) | $ | 27,237 | |
(1) Amounts include $8.7 billion of derivative assets and $7.3 billion of derivative liabilities, which are either not subject to master netting agreements or collateral agreements or are subject to such agreements but the Company has not determined the agreements to be legally enforceable. See also “Fair Value and Notional of Derivative Instruments” for additional disclosure about gross fair values and notionals for derivative instruments by risk type.
(2) Amounts relate to master netting agreements and collateral agreements, which have been determined by the Company to be legally enforceable in the event of default and where certain other criteria are met in accordance with applicable offsetting accounting guidance.
(3) Amounts relate to master netting agreements and collateral agreements, which have been determined by the Company to be legally enforceable in the event of default but where certain other criteria are not met in accordance with applicable offsetting accounting guidance.
(4) Amounts include OTC derivatives that are centrally cleared in accordance with certain regulatory requirements.
| At December 31, 2012 | |||||||||||||
| Gross Amounts(1) | Amounts Offset in the Consolidated Statements of Financial Condition(2) | Net Amounts Presented in the Consolidated Statements of Financial Condition | Amounts Not Offset in the Consolidated Statements of Financial Condition(3) | Net Exposure | |||||||||
| Financial Instruments Collateral | Other Cash Collateral | ||||||||||||
| (dollars in millions) | |||||||||||||
| Derivative assets | |||||||||||||
| Bilateral OTC | $ | 604,713 | $ | (573,844) | $ | 30,869 | $ | (7,691) | $ | (232) | $ | 22,946 | |
| Cleared OTC(4) | 375,233 | (374,546) | 687 | — | — | 687 | |||||||
| Exchange traded | 24,305 | (19,664) | 4,641 | — | — | 4,641 | |||||||
| Total derivative assets | $ | 1,004,251 | $ | (968,054) | $ | 36,197 | $ | (7,691) | $ | (232) | $ | 28,274 | |
| Derivative Liabilities | |||||||||||||
| Bilateral OTC | $ | 578,018 | $ | (547,285) | $ | 30,733 | $ | (7,871) | $ | (64) | $ | 22,798 | |
| Cleared OTC(4) | 374,960 | (374,866) | 94 | — | (23) | 71 | |||||||
| Exchange traded | 25,795 | (19,664) | 6,131 | (1,028) | — | 5,103 | |||||||
| Total derivative liabilities | $ | 978,773 | $ | (941,815) | $ | 36,958 | $ | (8,899) | $ | (87) | $ | 27,972 | |
(1) Amounts include $7.2 billion of derivative assets and $7.3 billion of derivative liabilities, which are either not subject to master netting agreements or collateral agreements or are subject to such agreements but the Company has not determined the agreements to be legally enforceable. See also “Fair Value and Notional of Derivative Instruments” for additional disclosure about gross fair values and notionals for derivative instruments by risk type.
(2) Amounts relate to master netting agreements and collateral agreements, which have been determined by the Company to be legally enforceable in the event of default and where certain other criteria are met in accordance with applicable offsetting accounting guidance.
(3) Amounts relate to master netting agreements and collateral agreements, which have been determined by the Company to be legally enforceable in the event of default but where certain other criteria are not met in accordance with applicable offsetting accounting guidance.
(4) Amounts include OTC derivatives that are centrally cleared in accordance with certain regulatory requirements.
The Company incurs credit risk as a dealer in OTC derivatives. Credit risk with respect to derivative instruments arises from the failure of a counterparty to perform according to the terms of the contract. The Company's exposure to credit risk at any point in time is represented by the fair value of the derivative contracts reported as assets. The fair value of a derivative represents the amount at which the derivative could be exchanged in an orderly transaction between market participants and is further described in Notes 2 and 4.
The tables below present a summary by counterparty credit rating and remaining contract maturity of the fair value of OTC derivatives in a gain position at December 31, 2013 and December 31, 2012, respectively. Fair value is presented in the final column, net of collateral received (principally cash and U.S. government and agency securities):
| Cross-Maturity and Cash Collateral Netting(3) | Net Exposure Post-Cash Collateral | Net Exposure Post-Collateral | |||||||||||||
| Years to Maturity | |||||||||||||||
| Credit Rating(2) | Less than 1 | 1 - 3 | 3 - 5 | Over 5 | |||||||||||
| (dollars in millions) | |||||||||||||||
| AAA | $ | 300 | $ | 752 | $ | 1,073 | $ | 3,664 | $ | (3,721) | $ | 2,068 | $ | 1,673 | |
| AA | 2,687 | 3,145 | 3,377 | 9,791 | (13,515) | 5,485 | 3,927 | ||||||||
| A | 7,382 | 8,428 | 9,643 | 17,184 | (35,644) | 6,993 | 4,970 | ||||||||
| BBB | 2,617 | 3,916 | 3,228 | 13,693 | (16,191) | 7,263 | 4,870 | ||||||||
| Non-investment grade | 2,053 | 2,980 | 1,372 | 2,922 | (4,737) | 4,590 | 2,174 | ||||||||
| Total | $ | 15,039 | $ | 19,221 | $ | 18,693 | $ | 47,254 | $ | (73,808) | $ | 26,399 | $ | 17,614 | |
(1) Fair values shown represent the Company's net exposure to counterparties related to the Company's OTC derivative products. Amounts include centrally cleared OTC derivatives. The table does not include exchange-traded derivatives and the effect of any related hedges utilized by the Company.
(2) Obligor credit ratings are determined by the Company's Credit Risk Management Department.
(3) Amounts represent the netting of receivable balances with payable balances for the same counterparty across maturity categories. Receivable and payable balances with the same counterparty in the same maturity category are netted within such maturity category, where appropriate. Cash collateral received is netted on a counterparty basis, provided legal right of offset exists.
| Years to Maturity | Cross-Maturity and Cash Collateral Netting(3) | Net Exposure Post-Cash Collateral | Net Exposure Post-Collateral | ||||||||||||
| Credit Rating(2) | Less than 1 | 1 - 3 | 3 - 5 | Over 5 | |||||||||||
| (dollars in millions) | |||||||||||||||
| AAA | $ | 353 | $ | 551 | $ | 1,299 | $ | 6,121 | $ | (4,851) | $ | 3,473 | $ | 3,088 | |
| AA | 2,125 | 3,635 | 2,958 | 10,270 | (12,761) | 6,227 | 4,428 | ||||||||
| A | 6,643 | 9,596 | 14,228 | 29,729 | (50,722) | 9,474 | 7,638 | ||||||||
| BBB | 2,673 | 3,970 | 3,704 | 18,586 | (21,713) | 7,220 | 5,754 | ||||||||
| Non-investment grade | 2,091 | 2,855 | 2,142 | 4,538 | (6,696) | 4,930 | 2,725 | ||||||||
| Total | $ | 13,885 | $ | 20,607 | $ | 24,331 | $ | 69,244 | $ | (96,743) | $ | 31,324 | $ | 23,633 | |
_____________
(1) Fair values shown represent the Company's net exposure to counterparties related to the Company's OTC derivative products. Amounts include centrally cleared OTC derivatives. The table does not include exchange-traded derivatives and the effect of any related hedges utilized by the Company.
(2) Obligor credit ratings are determined by the Company's Credit Risk Management Department.
(3) Amounts represent the netting of receivable balances with payable balances for the same counterparty across maturity categories. Receivable and payable balances with the same counterparty in the same maturity category are netted within such maturity category, where appropriate. Cash collateral received is netted on a counterparty basis, provided legal right of offset exists.
Hedge Accounting.
The Company applies hedge accounting using various derivative financial instruments to hedge interest rate and foreign exchange risk arising from assets and liabilities not held at fair value as part of asset and liability management and foreign currency exposure management.
The Company's hedges are designated and qualify for accounting purposes as one of the following types of hedges: hedges of exposure to changes in fair value of assets and liabilities being hedged (fair value hedges) and hedges of net investments in foreign operations whose functional currency is different from the reporting currency of the parent company (net investment hedges).
For all hedges where hedge accounting is being applied, effectiveness testing and other procedures to ensure the ongoing validity of the hedges are performed at least monthly.
Fair Value Hedges—Interest Rate Risk. The Company's designated fair value hedges consisted primarily of interest rate swaps designated as fair value hedges of changes in the benchmark interest rate of fixed rate senior long-term borrowings. The Company uses regression analysis to perform an ongoing prospective and retrospective assessment of the effectiveness of these hedging relationships (i.e., the Company applies the “long-haul” method of hedge accounting). A hedging relationship is deemed effective if the fair values of the hedging instrument (derivative) and the hedged item (debt liability) change inversely within a range of 80% to 125%. The Company considers the impact of valuation adjustments related to the Company's own credit spreads and counterparty credit spreads to determine whether they would cause the hedging relationship to be ineffective.
For qualifying fair value hedges of benchmark interest rates, the changes in the fair value of the derivative and the changes in the fair value of the hedged liability provide offset of one another and, together with any resulting ineffectiveness, are recorded in Interest expense. When a derivative is de-designated as a hedge, any basis adjustment remaining on the hedged liability is amortized to Interest expense over the remaining life of the liability using the effective interest method.
Net Investment Hedges. The Company may utilize forward foreign exchange contracts to manage the currency exposure relating to its net investments in non-U.S. dollar functional currency operations. No hedge ineffectiveness is recognized in earnings since the notional amounts of the hedging instruments equal the portion of the investments being hedged and the currencies being exchanged are the functional currencies of the parent and investee. The gain or loss from revaluing hedges of net investments in foreign operations at the spot rate is deferred and reported within AOCI. The forward points on the hedging instruments are recorded in Interest income.
During 2012, the Company recognized an out-of-period pre-tax gain of approximately $109 million in the Institutional Securities business segment's Other sales and trading net revenues related to the reversal of amounts recorded in cumulative other comprehensive income due to the incorrect application of hedge accounting on certain derivative contracts previously designated as net investment hedges of certain non-U.S. dollar-denominated subsidiaries. The Company has evaluated the effects of the incorrect application of hedge accounting, both qualitatively and quantitatively, and concluded that it did not have a material impact on any prior annual or quarterly consolidated financial statements. Subsequent to the identification of the incorrect application of net investment hedge accounting, the Company has appropriately redesignated the forward foreign exchange contracts and reapplied hedge accounting (see Note 15 for further information).
Fair Value and Notional of Derivative Instruments. The following tables summarize the fair value of derivative instruments designated as accounting hedges and the fair value of derivative instruments not designated as accounting hedges by type of derivative contract and the platform on which these instruments are traded or cleared on a gross basis. Fair values of derivative contracts in an asset position are included in Trading assets, and fair values of derivative contracts in a liability position are reflected in Trading liabilities in the consolidated statements of financial condition (see Note 4):
| Derivative Assets | |||||||||||||||||||
| At December 31, 2013 | |||||||||||||||||||
| Fair Value | Notional | ||||||||||||||||||
| Bilateral OTC | Cleared OTC(1) | Exchange Traded | Total | Bilateral OTC | Cleared OTC(1) | Exchange Traded | Total | ||||||||||||
| (dollars in millions) | |||||||||||||||||||
| Derivatives designated as accounting | |||||||||||||||||||
| hedges: | |||||||||||||||||||
| Interest rate contracts | $ | 4,729 | $ | 287 | $ | — | $ | 5,016 | $ | 54,696 | $ | 14,685 | $ | — | $ | 69,381 | |||
| Foreign exchange contracts | 236 | — | — | 236 | 6,694 | — | — | 6,694 | |||||||||||
| Total derivatives designated as | |||||||||||||||||||
| accounting hedges | 4,965 | 287 | — | 5,252 | 61,390 | 14,685 | — | 76,075 | |||||||||||
| Derivatives not designated as accounting | |||||||||||||||||||
| hedges(2): | |||||||||||||||||||
| Interest rate contracts | 262,697 | 261,348 | 291 | 524,336 | 6,206,450 | 11,854,610 | 856,137 | 18,917,197 | |||||||||||
| Credit contracts | 39,054 | 5,292 | — | 44,346 | 1,244,004 | 240,781 | — | 1,484,785 | |||||||||||
| Foreign exchange contracts | 61,383 | 130 | 52 | 61,565 | 1,818,429 | 9,634 | 9,783 | 1,837,846 | |||||||||||
| Equity contracts | 26,104 | — | 28,001 | 54,105 | 294,524 | — | 437,842 | 732,366 | |||||||||||
| Commodity contracts | 10,106 | — | 3,265 | 13,371 | 144,981 | — | 139,433 | 284,414 | |||||||||||
| Other | 43 | — | — | 43 | 3,198 | — | — | 3,198 | |||||||||||
| Total derivatives not designated | |||||||||||||||||||
| as accounting hedges | 399,387 | 266,770 | 31,609 | 697,766 | 9,711,586 | 12,105,025 | 1,443,195 | 23,259,806 | |||||||||||
| Total derivatives | $ | 404,352 | $ | 267,057 | $ | 31,609 | $ | 703,018 | $ | 9,772,976 | $ | 12,119,710 | $ | 1,443,195 | $ | 23,335,881 | |||
| Cash collateral netting | (48,540) | (3,462) | — | (52,002) | — | — | — | — | |||||||||||
| Counterparty netting | (329,919) | (262,957) | (25,673) | (618,549) | — | — | — | — | |||||||||||
| Total derivative assets | $ | 25,893 | $ | 638 | $ | 5,936 | $ | 32,467 | $ | 9,772,976 | $ | 12,119,710 | $ | 1,443,195 | $ | 23,335,881 | |||
| Derivative Liabilities | |||||||||||||||||||
| At December 31, 2013 | |||||||||||||||||||
| Fair Value | Notional | ||||||||||||||||||
| Bilateral OTC | Cleared OTC(1) | Exchange Traded | Total | Bilateral OTC | Cleared OTC(1) | Exchange Traded | Total | ||||||||||||
| (dollars in millions) | |||||||||||||||||||
| Derivatives designated as accounting | |||||||||||||||||||
| hedges: | |||||||||||||||||||
| Interest rate contracts | $ | 570 | $ | 614 | $ | — | $ | 1,184 | $ | 2,642 | $ | 12,667 | $ | — | $ | 15,309 | |||
| Foreign exchange contracts | 258 | 5 | — | 263 | 5,970 | 503 | — | 6,473 | |||||||||||
| Total derivatives designated as | . | ||||||||||||||||||
| accounting hedges | 828 | 619 | — | 1,447 | 8,612 | 13,170 | — | 21,782 | |||||||||||
| Derivatives not designated as accounting | |||||||||||||||||||
| hedges(2): | |||||||||||||||||||
| Interest rate contracts | 244,906 | 261,011 | 228 | 506,145 | 6,035,757 | 11,954,325 | 1,067,894 | 19,057,976 | |||||||||||
| Credit contracts | 37,835 | 4,791 | — | 42,626 | 1,099,483 | 213,900 | — | 1,313,383 | |||||||||||
| Foreign exchange contracts | 61,635 | 138 | 23 | 61,796 | 1,897,400 | 10,505 | 3,106 | 1,911,011 | |||||||||||
| Equity contracts | 31,483 | — | 29,412 | 60,895 | 341,232 | — | 464,622 | 805,854 | |||||||||||
| Commodity contracts | 9,436 | — | 3,450 | 12,886 | 138,784 | — | 120,556 | 259,340 | |||||||||||
| Other | 76 | — | — | 76 | 4,659 | — | — | 4,659 | |||||||||||
| Total derivatives not designated | |||||||||||||||||||
| as accounting hedges | 385,371 | 265,940 | 33,113 | 684,424 | 9,517,315 | 12,178,730 | 1,656,178 | 23,352,223 | |||||||||||
| Total derivatives | $ | 386,199 | $ | 266,559 | $ | 33,113 | $ | 685,871 | $ | 9,525,927 | $ | 12,191,900 | $ | 1,656,178 | $ | 23,374,005 | |||
| Cash collateral netting | (31,139) | (2,422) | — | (33,561) | — | — | — | — | |||||||||||
| Counterparty netting | (329,920) | (262,956) | (25,673) | (618,549) | — | — | — | — | |||||||||||
| Total derivative liabilities | $ | 25,140 | $ | 1,181 | $ | 7,440 | $ | 33,761 | $ | 9,525,927 | $ | 12,191,900 | $ | 1,656,178 | $ | 23,374,005 | |||
_____________
(1) Amounts include OTC derivatives that are centrally cleared in accordance with certain regulatory requirements.
(2) Notional amounts include gross notionals related to open long and short futures contracts of $426 billion and $729 billion, respectively. The unsettled fair value on these futures contracts (excluded from the table above) of $879 million and $27 million is included in Customer and other receivables and Customer and other payables, respectively, on the consolidated statements of financial condition.
| Derivative Assets | |||||||||||||||||||
| At December 31, 2012 | |||||||||||||||||||
| Fair Value | Notional | ||||||||||||||||||
| Bilateral OTC | Cleared OTC(1) | Exchange Traded | Total | Bilateral OTC | Cleared OTC(1) | Exchange Traded | Total | ||||||||||||
| (dollars in millions) | |||||||||||||||||||
| Derivatives designated as accounting | |||||||||||||||||||
| hedges: | |||||||||||||||||||
| Interest rate contracts | $ | 8,046 | $ | 301 | $ | — | $ | 8,347 | $ | 66,916 | $ | 8,199 | $ | — | $ | 75,115 | |||
| Foreign exchange contracts | 367 | — | — | 367 | 10,291 | — | — | 10,291 | |||||||||||
| Total derivatives designated as | |||||||||||||||||||
| accounting hedges | 8,413 | 301 | — | 8,714 | 77,207 | 8,199 | — | 85,406 | |||||||||||
| Derivatives not designated as accounting | |||||||||||||||||||
| hedges(2): | |||||||||||||||||||
| Interest rate contracts | 443,523 | 371,789 | 142 | 815,454 | 8,029,510 | 10,096,252 | 776,130 | 18,901,892 | |||||||||||
| Credit contracts | 65,168 | 3,099 | — | 68,267 | 1,734,907 | 197,879 | — | 1,932,786 | |||||||||||
| Foreign exchange contracts | 52,349 | 44 | 34 | 52,427 | 1,831,385 | 3,834 | 5,967 | 1,841,186 | |||||||||||
| Equity contracts | 19,916 | — | 18,684 | 38,600 | 258,484 | — | 329,216 | 587,700 | |||||||||||
| Commodity contracts | 15,201 | — | 5,445 | 20,646 | 164,842 | — | 176,714 | 341,556 | |||||||||||
| Other | 143 | — | — | 143 | 4,908 | — | — | 4,908 | |||||||||||
| Total derivatives not designated | |||||||||||||||||||
| as accounting hedges | 596,300 | 374,932 | 24,305 | 995,537 | 12,024,036 | 10,297,965 | 1,288,027 | 23,610,028 | |||||||||||
| Total derivatives | $ | 604,713 | $ | 375,233 | $ | 24,305 | $ | 1,004,251 | $ | 12,101,243 | $ | 10,306,164 | $ | 1,288,027 | $ | 23,695,434 | |||
| Cash collateral netting | (68,024) | (1,224) | — | (69,248) | — | — | — | — | |||||||||||
| Counterparty netting | (505,820) | (373,322) | (19,664) | (898,806) | — | — | — | — | |||||||||||
| Total derivative assets | $ | 30,869 | $ | 687 | $ | 4,641 | $ | 36,197 | $ | 12,101,243 | $ | 10,306,164 | $ | 1,288,027 | $ | 23,695,434 | |||
| Derivative Liabilities | |||||||||||||||||||
| At December 31, 2012 | |||||||||||||||||||
| Fair Value | Notional | ||||||||||||||||||
| Bilateral OTC | Cleared OTC(1) | Exchange Traded | Total | Bilateral OTC | Cleared OTC(1) | Exchange Traded | Total | ||||||||||||
| (dollars in millions) | |||||||||||||||||||
| Derivatives designated as accounting | |||||||||||||||||||
| hedges: | |||||||||||||||||||
| Interest rate contracts | $ | 167 | $ | 1 | $ | — | $ | 168 | $ | 2,000 | $ | 660 | $ | — | $ | 2,660 | |||
| Foreign exchange contracts | 319 | — | — | 319 | 17,156 | — | — | 17,156 | |||||||||||
| Total derivatives designated as | |||||||||||||||||||
| accounting hedges | 486 | 1 | — | 487 | 19,156 | 660 | — | 19,816 | |||||||||||
| Derivatives not designated as accounting | |||||||||||||||||||
| hedges(2): | |||||||||||||||||||
| Interest rate contracts | 422,864 | 370,856 | 216 | 793,936 | 7,726,241 | 9,945,979 | 1,994,947 | 19,667,167 | |||||||||||
| Credit contracts | 60,420 | 4,074 | — | 64,494 | 1,645,464 | 222,343 | — | 1,867,807 | |||||||||||
| Foreign exchange contracts | 56,062 | 29 | 3 | 56,094 | 1,878,597 | 3,473 | 4,003 | 1,886,073 | |||||||||||
| Equity contracts | 22,239 | — | 19,631 | 41,870 | 257,340 | — | 329,858 | 587,198 | |||||||||||
| Commodity contracts | 15,886 | — | 5,945 | 21,831 | 169,189 | — | 155,912 | 325,101 | |||||||||||
| Other | 61 | — | — | 61 | 5,161 | — | — | 5,161 | |||||||||||
| Total derivatives not designated | |||||||||||||||||||
| as accounting hedges | 577,532 | 374,959 | 25,795 | 978,286 | 11,681,992 | 10,171,795 | 2,484,720 | 24,338,507 | |||||||||||
| Total derivatives | $ | 578,018 | $ | 374,960 | $ | 25,795 | $ | 978,773 | $ | 11,701,148 | $ | 10,172,455 | $ | 2,484,720 | $ | 24,358,323 | |||
| Cash collateral netting | (41,465) | (1,544) | — | (43,009) | — | — | — | — | |||||||||||
| Counterparty netting | (505,820) | (373,322) | (19,664) | (898,806) | — | — | — | — | |||||||||||
| Total derivative liabilities | $ | 30,733 | $ | 94 | $ | 6,131 | $ | 36,958 | $ | 11,701,148 | $ | 10,172,455 | $ | 2,484,720 | $ | 24,358,323 | |||
_____________
(1) Amounts include OTC derivatives that are centrally cleared in accordance with certain regulatory requirements.
(2) Notional amounts include gross notionals related to open long and short futures contracts of $368 billion and $1,476 billion, respectively. The unsettled fair value on these futures contracts (excluded from the table above) of $1,073 million and $24 million is included in Customer and other receivables and Customer and other payables, respectively, on the consolidated statements of financial condition.
The following tables summarize the gains or losses reported on derivative instruments designated and qualifying as accounting hedges for 2013, 2012 and 2011.
Derivatives Designated as Fair Value Hedges.
The following table presents gains (losses) reported on derivative instruments and the related hedge item as well as the hedge ineffectiveness included in Interest expense in the consolidated statements of income from interest rate contracts:
| Gains (Losses) Recognized | |||||||||
| Product Type | 2013 | 2012 | 2011 | ||||||
| (dollars in millions) | |||||||||
| Derivatives | $ | (4,332) | $ | 29 | $ | 3,415 | |||
| Borrowings | 5,604 | 703 | (2,549) | ||||||
| Total | $ | 1,272 | $ | 732 | $ | 866 | |||
Derivatives Designated as Net Investment Hedges.
| Gains (Losses) Recognized in OCI (effective portion) | |||||||
| Product Type | 2013 | 2012(1) | 2011 | ||||
| (dollars in millions) | |||||||
| Foreign exchange contracts(2) | $ | 448 | $ | 102 | $ | 180 | |
| Total | $ | 448 | $ | 102 | $ | 180 | |
____________
(1) A gain of $77 million, net of tax, related to net investment hedges was reclassified from other comprehensive income into income during 2012. The amount primarily related to the reversal of amounts recorded in cumulative other comprehensive income due to the incorrect application of hedge accounting on certain derivative contracts (see above for further information).
(2) Losses of $154 million, $235 million and $220 million were recognized in income related to amounts excluded from hedge effectiveness testing during 2013, 2012 and 2011.
The table below summarizes gains (losses) on derivative instruments not designated as accounting hedges for 2013, 2012 and 2011:
| Gains (Losses) Recognized in Income(1)(2) | |||||||
| Product Type | 2013 | 2012 | 2011 | ||||
| (dollars in millions) | |||||||
| Interest rate contracts | $ | (608) | $ | 2,930 | $ | 5,538 | |
| Credit contracts | 74 | (722) | 38 | ||||
| Foreign exchange contracts | 4,546 | (340) | (2,982) | ||||
| Equity contracts | (9,193) | (1,794) | 3,880 | ||||
| Commodity contracts | 772 | 387 | 500 | ||||
| Other contracts | (90) | 1 | (51) | ||||
| Total derivative instruments | $ | (4,499) | $ | 462 | $ | 6,923 | |
____________
(1) Gains (losses) on derivative contracts not designated as hedges are primarily included in Trading revenues in the consolidated statements of income.
(2) Gains (losses) associated with certain derivative contracts that have physically settled are excluded from the table above. Gains (losses) on these contracts are reflected with the associated cash instruments, which are also included in Trading revenues in the consolidated statements of income.
The Company also has certain embedded derivatives that have been bifurcated from the related structured borrowings. Such derivatives are classified in Long-term borrowings and had a net fair value of $32 million and $53 million at December 31, 2013 and December 31, 2012, respectively, and a notional value of $2,140 million and $2,178 million at December 31, 2013 and December 31, 2012, respectively. The Company recognized losses of $27 million, gains of $12 million and losses of $21 million related to changes in the fair value of its bifurcated embedded derivatives for 2013, 2012 and 2011, respectively.
At December 31, 2013 and December 31, 2012, the amount of payables associated with cash collateral received that was netted against derivative assets was $52.0 billion and $69.2 billion, respectively, and the amount of receivables in respect of cash collateral paid that was netted against derivative liabilities was $33.6 billion and $43.0 billion, respectively. Cash collateral receivables and payables of $10 million and $13 million, respectively, at December 31, 2013 and $158 million and $34 million, respectively, at December 31, 2012, were not offset against certain contracts that did not meet the definition of a derivative.
Credit-Risk-Related Contingencies.
In connection with certain OTC trading agreements, the Company may be required to provide additional collateral or immediately settle any outstanding liability balances with certain counterparties in the event of a credit ratings downgrade. At December 31, 2013, the aggregate fair value of OTC derivative contracts that contain credit-risk-related contingent features that are in a net liability position totaled $21,176 million, for which the Company has posted collateral of $18,714 million, in the normal course of business. The additional collateral or termination payments which may be called in the event of a future credit rating downgrade vary by contract and can be based on ratings by either or both of Moody's Investor Services, Inc. (“Moody's”) and Standard & Poor's Ratings Services (“S&P”). At December 31, 2013, for such OTC trading agreements, the future potential collateral amounts and termination payments that could be called or required by counterparties or exchange and clearing organizations in the event of one-notch or two-notch downgrade scenarios based on the relevant contractual downgrade triggers were $1,244 million and an incremental $2,924 million, respectively. Of these amounts, $2,771 million at December 31, 2013 related to bilateral arrangements between the Company and other parties where upon the downgrade of one party, the downgraded party must deliver collateral to the other party. These bilateral downgrade arrangements are a risk management tool used extensively by the Company as credit exposures are reduced if counterparties are downgraded.
Credit Derivatives and Other Credit Contracts.
The Company enters into credit derivatives, principally through credit default swaps, under which it receives or provides protection against the risk of default on a set of debt obligations issued by a specified reference entity or entities. A majority of the Company's counterparties are banks, broker-dealers, insurance and other financial institutions, and monoline insurers.
The tables below summarize the notional and fair value of protection sold and protection purchased through credit default swaps at December 31, 2013 and December 31, 2012:
| At December 31, 2013 | ||||||||
| Maximum Potential Payout/Notional | ||||||||
| Protection Sold | Protection Purchased | |||||||
| Notional | Fair Value (Asset)/Liability | Notional | Fair Value (Asset)/Liability | |||||
| (dollars in millions) | ||||||||
| Single name credit default swaps | $ | 799,838 | $ | (9,349) | $ | 758,536 | $ | 8,564 |
| Index and basket credit default swaps | 454,355 | (3,756) | 361,961 | 2,827 | ||||
| Tranched index and basket credit default swaps | 146,597 | (3,889) | 276,881 | 3,883 | ||||
| Total | $ | 1,400,790 | $ | (16,994) | $ | 1,397,378 | $ | 15,274 |
| At December 31, 2012 | ||||||||
| Maximum Potential Payout/Notional | ||||||||
| Protection Sold | Protection Purchased | |||||||
| Notional | Fair Value (Asset)/Liability | Notional | Fair Value (Asset)/Liability | |||||
| (dollars in millions) | ||||||||
| Single name credit default swaps | $ | 1,069,474 | $ | 2,889 | $ | 1,029,543 | $ | (2,456) |
| Index and basket credit default swaps | 551,630 | 5,664 | 454,800 | (5,124) | ||||
| Tranched index and basket credit default swaps | 272,088 | 2,330 | 423,058 | (7,076) | ||||
| Total | $ | 1,893,192 | $ | 10,883 | $ | 1,907,401 | $ | (14,656) |
The table below summarizes the credit ratings and maturities of protection sold through credit default swaps and other credit contracts at December 31, 2013:
| Protection Sold | ||||||||||||||
| Maximum Potential Payout/Notional | Fair Value | |||||||||||||
| Years to Maturity | (Asset)/ | |||||||||||||
| Credit Ratings of the Reference Obligation | Less than 1 | 1-3 | 3-5 | Over 5 | Total | Liability(1)(2) | ||||||||
| (dollars in millions) | ||||||||||||||
| Single name credit default swaps: | ||||||||||||||
| AAA | $ | 1,546 | $ | 8,661 | $ | 12,128 | $ | 1,282 | $ | 23,617 | $ | (145) | ||
| AA | 9,443 | 24,158 | 25,310 | 4,317 | 63,228 | (845) | ||||||||
| A | 45,663 | 53,755 | 44,428 | 4,666 | 148,512 | (2,704) | ||||||||
| BBB | 103,143 | 122,382 | 112,950 | 20,491 | 358,966 | (4,294) | ||||||||
| Non-investment grade | 60,254 | 77,393 | 61,088 | 6,780 | 205,515 | (1,361) | ||||||||
| Total | 220,049 | 286,349 | 255,904 | 37,536 | 799,838 | (9,349) | ||||||||
| Index and basket credit default swaps(3): | ||||||||||||||
| AAA | 14,890 | 40,522 | 30,613 | 2,184 | 88,209 | (1,679) | ||||||||
| AA | 3,751 | 4,127 | 4,593 | 6,006 | 18,477 | (275) | ||||||||
| A | 2,064 | 2,263 | 11,633 | 36 | 15,996 | (418) | ||||||||
| BBB | 5,974 | 29,709 | 74,982 | 3,847 | 114,512 | (2,220) | ||||||||
| Non-investment grade | 67,108 | 157,149 | 122,516 | 16,985 | 363,758 | (3,053) | ||||||||
| Total | 93,787 | 233,770 | 244,337 | 29,058 | 600,952 | (7,645) | ||||||||
| Total credit default swaps sold | $ | 313,836 | $ | 520,119 | $ | 500,241 | $ | 66,594 | $ | 1,400,790 | $ | (16,994) | ||
| Other credit contracts(4)(5) | $ | 75 | $ | 441 | $ | 529 | $ | 816 | $ | 1,861 | $ | (457) | ||
| Total credit derivatives and | ||||||||||||||
| other credit contracts | $ | 313,911 | $ | 520,560 | $ | 500,770 | $ | 67,410 | $ | 1,402,651 | $ | (17,451) | ||
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(1) Fair value amounts are shown on a gross basis prior to cash collateral or counterparty netting.
(2) Fair value amounts of certain credit default swaps where the Company sold protection have an asset carrying value because credit spreads of the underlying reference entity or entities tightened during the terms of the contracts.
(3) Credit ratings are calculated internally.
(4) Other credit contracts include CLNs, CDOs and credit default swaps that are considered hybrid instruments.
(5) Fair value amount shown represents the fair value of the hybrid instruments.
The table below summarizes the credit ratings and maturities of protection sold through credit default swaps and other credit contracts at December 31, 2012:
| Protection Sold | ||||||||||||||
| Maximum Potential Payout/Notional | Fair Value | |||||||||||||
| Years to Maturity | (Asset)/ | |||||||||||||
| Credit Ratings of the Reference Obligation | Less than 1 | 1-3 | 3-5 | Over 5 | Total | Liability(1)(2) | ||||||||
| (dollars in millions) | ||||||||||||||
| Single name credit default swaps: | ||||||||||||||
| AAA | $ | 2,368 | $ | 6,592 | $ | 19,848 | $ | 5,767 | $ | 34,575 | $ | (204) | ||
| AA | 10,984 | 16,804 | 34,280 | 7,193 | 69,261 | (325) | ||||||||
| A | 66,635 | 72,796 | 67,285 | 10,760 | 217,476 | (2,740) | ||||||||
| BBB | 124,662 | 145,462 | 142,714 | 34,396 | 447,234 | (492) | ||||||||
| Non-investment grade | 91,743 | 98,515 | 92,143 | 18,527 | 300,928 | 6,650 | ||||||||
| Total | 296,392 | 340,169 | 356,270 | 76,643 | 1,069,474 | 2,889 | ||||||||
| Index and basket credit default swaps(3): | ||||||||||||||
| AAA | 18,652 | 36,005 | 45,789 | 3,240 | 103,686 | (1,377) | ||||||||
| AA | 1,255 | 9,479 | 12,026 | 8,343 | 31,103 | (55) | ||||||||
| A | 2,684 | 5,423 | 5,440 | 125 | 13,672 | (155) | ||||||||
| BBB | 27,720 | 105,870 | 143,562 | 29,101 | 306,253 | (862) | ||||||||
| Non-investment grade | 97,389 | 86,703 | 153,858 | 31,054 | 369,004 | 10,443 | ||||||||
| Total | 147,700 | 243,480 | 360,675 | 71,863 | 823,718 | 7,994 | ||||||||
| Total credit default swaps sold | $ | 444,092 | $ | 583,649 | $ | 716,945 | $ | 148,506 | $ | 1,893,192 | $ | 10,883 | ||
| Other credit contracts(4)(5) | $ | 796 | $ | 125 | $ | 155 | $ | 1,323 | $ | 2,399 | $ | (745) | ||
| Total credit derivatives and other | ||||||||||||||
| credit contracts | $ | 444,888 | $ | 583,774 | $ | 717,100 | $ | 149,829 | $ | 1,895,591 | $ | 10,138 | ||
_____________
(1) Fair value amounts are shown on a gross basis prior to cash collateral or counterparty netting.
(2) Fair value amounts of certain credit default swaps where the Company sold protection have an asset carrying value because credit spreads of the underlying reference entity or entities tightened during the terms of the contracts.
(3) Credit ratings are calculated internally.
(4) Other credit contracts include CLNs, CDOs and credit default swaps that are considered hybrid instruments.
(5) Fair value amount shown represents the fair value of the hybrid instruments.
Single Name Credit Default Swaps. A credit default swap protects the buyer against the loss of principal on a bond or loan in case of a default by the issuer. The protection buyer pays a periodic premium (generally quarterly) over the life of the contract and is protected for the period. The Company in turn will have to perform under a credit default swap if a credit event as defined under the contract occurs. Typical credit events include bankruptcy, dissolution or insolvency of the referenced entity, failure to pay and restructuring of the obligations of the referenced entity. In order to provide an indication of the current payment status or performance risk of the credit default swaps, the external credit ratings of the underlying reference entity of the credit default swaps are disclosed.
Index and Basket Credit Default Swaps. Index and basket credit default swaps are credit default swaps that reference multiple names through underlying baskets or portfolios of single name credit default swaps. Generally, in the event of a default on one of the underlying names, the Company will have to pay a pro rata portion of the total notional amount of the credit default index or basket contract. In order to provide an indication of the current payment status or performance risk of these credit default swaps, the weighted average external credit ratings of the underlying reference entities comprising the basket or index were calculated and disclosed.
The Company also enters into index and basket credit default swaps where the credit protection provided is based upon the application of tranching techniques. In tranched transactions, the credit risk of an index or basket is separated into various portions of the capital structure, with different levels of subordination. The most junior tranches cover initial defaults, and once losses exceed the notional of the tranche, they are passed on to the next most senior tranche in the capital structure.
When external credit ratings are not available, credit ratings were determined based upon an internal methodology.
Credit Protection Sold through CLNs and CDOs. The Company has invested in CLNs and CDOs, which are hybrid instruments containing embedded derivatives, in which credit protection has been sold to the issuer of the note. If there is a credit event of a reference entity underlying the instrument, the principal balance of the note may not be repaid in full to the Company.
Purchased Credit Protection with Identical Underlying Reference Obligations. For single name credit default swaps and non-tranched index and basket credit default swaps, the Company has purchased protection with a notional amount of approximately $1.1 trillion and $1.5 trillion at December 31, 2013 and December 31, 2012, respectively, compared with a notional amount of approximately $1.3 trillion and $1.6 trillion at December 31, 2013 and December 31, 2012, respectively, of credit protection sold with identical underlying reference obligations. In order to identify purchased protection with the same underlying reference obligations, the notional amount for individual reference obligations within non-tranched indices and baskets was determined on a pro rata basis and matched off against single name and non-tranched index and basket credit default swaps where credit protection was sold with identical underlying reference obligations.
The purchase of credit protection does not represent the sole manner in which the Company risk manages its exposure to credit derivatives. The Company manages its exposure to these derivative contracts through a variety of risk mitigation strategies, which include managing the credit and correlation risk across single name, non-tranched indices and baskets, tranched indices and baskets, and cash positions. Aggregate market risk limits have been established for credit derivatives, and market risk measures are routinely monitored against these limits. The Company may also recover amounts on the underlying reference obligation delivered to the Company under credit default swaps where credit protection was sold.