Capital One 2009 Annual Report Download - page 175

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The Company uses interest rate cap agreements and reciprocal basis swap agreements in conjunction with the securitization of certain
payment option mortgage loans. The interest rate cap agreements limit the Company’s exposure to interest rate risk by providing for
payments to be made to the Company by third parties when the one-month LIBOR rate exceeds the applicable strike rate. These
agreements have individual predetermined notional schedules and stated expiration dates, and relate to both currently outstanding and
previously called securitization transactions. The reciprocal basis swap agreements are held with external counterparties and are
structured to mirror the basis swap agreements within securitization programs. The basis swaps in the securitization structures fund the
payment of uncapped floating rate interest to note holders in the trust. While payments on the basis swaps and the reciprocal basis
swaps may be similar in amounts, the Company is not a party to any of the derivative contracts between the derivative providers and
the securitization trusts. Upon consolidation of certain of the payment option mortgage loan securitization trusts due to the adoption of
ASU 2009-17 (ASC 810/SFAS 167) on January 1, 2010, applicable basis swap agreements will be included on the Company’s
consolidated balance sheet at their estimated fair values and will largely be offset by the fair values of the related reciprocal basis
swaps. See “Note 1- Significant Accounting Policies” for additional information.
The Company uses interest rate swaps in conjunction with its auto securitizations. These swaps have zero balance notional amounts
unless the pay down of auto securitizations differs from its scheduled amortization.
The Company enters into commitments to originate loans whereby the interest rate of the loan is determined prior to funding (“interest
rate lock commitment”). Interest rate lock commitments on mortgage loans that the Company intends to sell in the secondary market
as well as corresponding commitments to sell if any are considered freestanding derivatives. These derivatives are carried at fair value
with changes in fair value reported as a component of other non-interest income. Interest rate lock commitments are initially valued at
zero. Changes in fair value subsequent to inception are determined based on current secondary market prices for underlying loans with
similar coupons, maturity and credit quality, subject to the anticipated probability that the loans will fund within the terms of the
commitment. The initial value inherent in the loan commitments at origination is recognized through gain on sale of loans when the
underlying loan is sold. The interest rate lock commitments along with the related commitments to sell, if any are recorded at fair
value with changes in fair value recorded in current earnings as a component of gain on sale of loans. As of December 31, 2009, the
Company has $215.1 million in loan commitments. The Company did not have any loan commitments as of December 31, 2008.
These derivatives do not qualify as accounting hedges and are recorded on the balance sheet at fair value with changes in value
included in current earnings in non-interest income.
Non-Trading Other Contracts
The Company uses interest rate swaps, To Be Announced (“TBA”) forward contracts and futures contracts in conjunction with
hedging the economic risk associated with its mortgage servicing rights portfolio. These derivatives are designed to offset changes in
the fair value of mortgage servicing rights attributable to interest rate fluctuations. Changes in the fair value of mortgage servicing
rights and changes in the fair value of related derivatives are both recognized in mortgage servicing and other income.
The Company uses TBA forward contracts and whole loan commitments in conjunction with its interest rate locks and held-for-sale
fixed rate mortgages (collectively “mortgage commitments”). These derivatives are designed to provide a known future price for these
mortgage commitments.
The following table shows the effect of the Company’s derivative instruments, by category, on the income statement for the year
ended December 31, 2009:
Derivatives in Fair Value Hedging Relationships
Location of
Gain/(Loss) in
Income on Derivative
Gain/(Loss) in
Income on
Derivative
Hedged Items in
Fair Value
Hedge
Relationship
Location of
Gain/(Loss)
Recognized in
Income on Related
Hedged Item
Gain/(Loss)
Recognized in
Income on
Related Hedged
Items
Net Gain/(Loss)
For Year Ended December 31, 2009
Interest rate
contracts .............
Other non-
interest income $ 2,493
Available for
sale securities
Other non-
interest income $ (2,493 ) $ —
Interest rate
contracts .............
Other non-
interest income (268,231) Fixed-rate debt
Other non-
interest income $ 294,118 $ 25,887
$ (265,738) $ 291,625 $ 25,887