Huntington National Bank 2011 Annual Report Download - page 81

equity NCOs decreased $16.8 compared with 2010. Although the performance of this portfolio continued to be
impacted by the overall weak economic conditions and the continued decline of residential real estate property
values, the performance was consistent with our expectations for the portfolio and we anticipate continued
improvement.
Residential mortgage NCOs declined $96.2 million, or 63%. 2010 included $71.3 million of Franklin-
related net charge-offs, and 2011 included Franklin-related net recoveries of $2.5 million. Excluding the Franklin
impacts, residential mortgage NCOs decreased $22.4 million compared with 2010. Additionally, 2011 included
$6.8 million of NCOs related to a change in charge-off recognition policy (see Consumer Credit section).
Excluding these impacts, performance was consistent with our expectations for a continued downward trend in
this portfolio.
Market Risk
Market risk represents the risk of loss due to changes in market values of assets and liabilities. We incur
market risk in the normal course of business through exposures to market interest rates, foreign exchange rates,
equity prices, credit spreads, and expected lease residual values. We have identified two primary sources of
market risk: interest rate risk and price risk.
Interest Rate Risk
OVERVIEW
Interest rate risk is the risk to earnings and value arising from changes in market interest rates. Interest rate
risk arises from timing differences in the repricing and maturities of interest-earning assets and interest-bearing
liabilities (reprice risk), changes in the expected maturities of assets and liabilities arising from embedded
options, such as borrowers’ ability to prepay residential mortgage loans at any time and depositors’ ability to
redeem certificates of deposit before maturity (option risk), changes in the shape of the yield curve where interest
rates increase or decrease in a non-parallel fashion (yield curve risk), and changes in spread relationships
between different yield curves, such as U.S. Treasuries and LIBOR (basis risk).
INCOME SIMULATION AND ECONOMIC VALUE ANALYSIS
Interest rate risk measurement is performed monthly. Two broad approaches to modeling interest rate risk
are employed: income simulation and economic value analysis. An income simulation analysis is used to
measure the sensitivity of forecasted ISE to changes in market rates over a one-year time period. Although bank
owned life insurance, automobile operating lease assets, and excess cash balances held at the Federal Reserve
Bank are classified as noninterest-earning assets, and the net revenue from these assets is recorded in noninterest
income and noninterest expense, these portfolios are included in the interest sensitivity analysis because they
have attributes similar to interest-earning assets. EVE analysis is used to measure the sensitivity of the values of
period-end assets and liabilities to changes in market interest rates. EVE analysis serves as a complement to ISE
analysis as it provides risk exposure estimates for time periods beyond the one-year simulation period.
The models used for these measurements take into account prepayment speeds on mortgage loans,
mortgage-backed securities, and consumer installment loans, as well as cash flows of other assets and liabilities.
Balance sheet growth assumptions are also considered in the ISE analysis. The models include the effects of
derivatives, such as interest rate swaps, caps, floors, and other types of interest rate options.
The FOMC’s announcement of “Operation Twist” had the initial impact of lowering long-term rates (e.g.,
rates with maturities greater than five years) while slightly increasing intermediate-term rates (e.g., rates with
maturities of two to three years). However, over time, both intermediate-term and long-term rates declined.
Short-term rates (e.g., rates with maturities of overnight through one year) were not materially impacted by
“Operation Twist.” The impact to ISE at Risk was not material because short-term rates were not materially
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