Freddie Mac 2004 Annual Report Download - page 41

‚ our estimates of market-implied option-adjusted spread data into our discount rates, including the
selection of benchmark interest-only securities and the application of a trailing average option-
adjusted spread assumption of up to 24 months;
‚ our projections of credit losses, inÖuenced by expectations about factors such as defaults and loss
severities; and
‚ our expectations about the estimated risk premium needed to address exposure to unexpected
increases in credit losses.
We continue to improve the controls over the valuation of Ñnancial instruments. Modeling techniques
used to estimate fair values are subject to review by an independent modeling group in our Enterprise Risk
Oversight group led by our Chief Enterprise Risk OÇcer, who reports directly to the Chief Executive OÇcer.
This group is responsible for the independent oversight and technical review of models, including evaluating
the appropriateness of models used in risk management activities and Ñnancial disclosure. We have also
established a senior management Valuation Committee, chaired by the Chief Financial OÇcer. The Valuation
Committee reviews fair value estimation methodologies, assumptions, controls and results to ensure an
eÅective process exists to provide reasonably accurate and reliable estimates for Ñnancial disclosures. To
support the Valuation Committee, we have also created a Financial Valuation Control group reporting to the
Chief Financial OÇcer with broad oversight of valuation processes. This group is responsible for performing
comprehensive price veriÑcation using an array of independently obtained information to evaluate the
reasonableness of fair value estimates and assumptions. This group is also responsible for reviewing and
approving all valuation assumptions and methods, benchmarking valuation processes against industry
practices, deÑning corporate valuation policies and standards and evaluating, on an ongoing basis, the
eÅectiveness of valuation processes and controls.
As described above, the estimation of fair value requires judgment and we may have reasonably chosen
diÅerent methodologies or assumptions in the current period. The use of diÅerent pricing methodologies and
assumptions could have produced materially diÅerent estimates of fair value in the periods currently
presented. However, we believe the fair values we estimated are reasonable based on internal reviews of
signiÑcant pricing models and methodologies as well as veriÑcation of Ñnancial instrument pricing with third-
party broker/dealers or pricing services. Furthermore, our estimates of fair value are likely to change in future
periods to reÖect changes in market factors such as interest rates and related volatility, credit performance,
expectations about prepayment behavior and other factors. Our estimates of fair value for individual
instruments may change by material amounts, depending on market developments. See ""RISK MANAGE-
MENT Ì Interest-Rate Risk and Other Market Risks'' for discussion of market risks and our interest-rate
sensitivity measures, PMVS and duration gap.
Issuances and Transfers of PCs and Structured Securities
As is further discussed in ""BUSINESS,'' we issue PCs and Structured Securities to third parties in
several diÅerent ways. In general, we account for such transfers as either sales, secured borrowings or Ñnancial
guarantee transactions.
We evaluate whether transfers of PCs or Structured Securities qualify as sales based upon the
requirements of SFAS No. 140, ""Accounting for Transfers and Servicing of Financial Assets and Extinguish-
ments of Liabilities'' and, prior to April 1, 2001, SFAS No. 125, ""Accounting for Transfers and Servicing of
Financial Assets and Extinguishments of Liabilities,'' which we collectively refer to as SFAS 125/140. If we
determine that a transfer of PCs or Structured Securities does not qualify as a sale, we account for such
transfer as a secured borrowing or as a Ñnancial guarantee transaction pursuant to the provisions of FASB
Interpretation No. 45, ""Guarantor's Accounting and Disclosure Requirements for Guarantees, Including
Indirect Guarantees of Indebtedness of Others'' (""FIN 45''). In this regard, we will account for a transfer as a
sale to the extent that we conclude that (1) assets that underlie transferred PCs or Structured Securities are
legally beyond the reach of Freddie Mac and its creditors even in the event that Freddie Mac were to become
Ñnancially insolvent, (2) a third-party buyer can freely pledge or exchange the PCs or Structured Securities
that were transferred to it and (3) Freddie Mac did not maintain eÅective control over transferred PCs or
Structured Securities through either (a) an arrangement that both entitles and obligates Freddie Mac to
repurchase or redeem transferred PCs or Structured Securities before their maturity or (b) the ability to
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