Introduction to Mortgage Servicing Examinations Training - March 2023

Mortgage, LLC Notes to Consolidated Financial Statements (continued) (Dollars in Thousands)

12. Derivative Financial Instruments

The Company uses forward commitments in hedging the interest rate risk exposure on its fixed and adjustable rate commitments. Utilization of forward commitments involves some degree of basis risk. Basis risk is defined as the risk that the hedged instrument’s price does not move in parallel with the increase or decrease in the market price of the hedged financial instrument. The Company calculates an expected hedge ratio to mitigate a portion of this risk. The Company’s derivative instruments are not designated as accounting hedging instruments, and therefore, changes in fair value are recorded in current period earnings. Hedging gains and losses are included in Gain on sale of loans, net in the Consolidated Statements of Income.

Net hedging gains and losses were as follows:

Year Ended December 31, 2021 2020

Hedging gains (losses) (1) .................................................................... $

1,217,010 $

(2,832,741)

(1) Includes the change in fair value related to derivatives economically hedging MSRs identified for sale.

Refer to Note 2, Fair Value Measurements, for additional information on the fair value of derivative financial instruments. Notional and Fair Value The notional and fair values of derivative financial instruments not designated as hedging instruments were as follows:

Derivative Liability

Notional Value Derivative Asset

Balance at December 31, 2021: IRLCs, net of loan funding probability (1) ................. $ Forward commitments (2) .......................................... $ Balance at December 31, 2020: ....................................... IRLCs, net of loan funding probability (1) ................. $ Forward commitments (2) .......................................... $

21,194,326 $ 36,476,871 $

538,861 $ 17,337 $

—

19,911

40,560,544 $ 59,041,900 $

1,897,194 $

—

20,584 $

506,071

(1) IRLCs are also discussed in Note 13, Commitments, Contingencies, and Guarantees.

(2) Includes the fair value and net notional value related to derivatives economically hedging MSRs identified for sale. Counterparty agreements for forward commitments contain master netting agreements. The table below presents the gross amounts of recognized assets and liabilities subject to master netting agreements. The Company had $137 and $247,604 of cash pledged to counterparties related to these forward commitments at December 31, 2021 and 2020, respectively, classified in Other assets in the Consolidated Balance Sheets. As of December 31, 2021 and 2020, there was $22,826 and zero, respectively, cash on our Consolidated Balance Sheets from the respective counterparties. Margins received by the Company are classified in Other liabilities in the Consolidated Balance Sheets.

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