Freddie Mac 2006 Annual Report Download - page 95

See ""RISK MANAGEMENT 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
We issue PCs and Structured Securities to third parties in several diÅerent ways. In general, we account for such
transfers as sales of Ñnancial assets or as 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 Extinguishments of Liabilities, a replacement of FASB Statement No. 125,'' or SFAS 140.
If a transfer of PCs or Structured Securities qualiÑes as a sale, we recognize a gain or loss on the sale immediately in
earnings. The gain or loss is calculated as cash received less the recognized carrying value of interests sold and the fair value
of liabilities incurred upon sale.
If we determine that a transfer of PCs or Structured Securities does not qualify as a sale, we account for the transfer as a
secured borrowing pursuant to SFAS 140 or as a Ñnancial guarantee transaction pursuant to the provisions of FIN 45. Many
of the transfers of PCs and Structured Securities that we make are accounted for as Ñnancial guarantee transactions
pursuant to FIN 45. For such transactions, we recognize a Guarantee obligation at the inception of an executed guarantee.
We also recognize the fair value of any consideration received in such transactions.
For transfers of PCs and Structured Securities to third parties, the fair value measurements involve our best estimate
with respect to key assumptions. These key assumptions include expected credit losses, exposure to credit losses that could
be greater than expected, prepayment rates, forward yield curves and discount rates. We believe that these assumptions are
comparable to those used by other market participants. The use of diÅerent pricing models or assumptions could produce
materially diÅerent results. See ""NOTE 2: TRANSFERS OF SECURITIZED INTERESTS IN MORTGAGE-
RELATED ASSETS'' to our consolidated Ñnancial statements for further discussion of the approach we use to determine
fair values.
Derivative Instruments and Hedging Activities
The determination of whether a derivative qualiÑes for hedge accounting requires signiÑcant judgment and has a
signiÑcant impact on how such instruments are accounted for in our consolidated Ñnancial statements. As described more
fully in ""NOTE 12: DERIVATIVES'' to our consolidated Ñnancial statements, by December 31, 2006 we had discontinued
substantially all of our hedge accounting relationships.
We report the change in fair value of derivatives that are not designated in hedge accounting relationships on our
consolidated statements of income in the period in which the change in value occurs. We record the change in fair value of
derivatives that are in cash Öow hedge accounting relationships, to the extent these relationships are eÅective, as a separate
component of AOCI and reclassify this amount into earnings when the hedged item or forecasted transaction aÅects
earnings. We record the change in fair value of derivatives in fair value hedge relationships each period in earnings along
with the change in fair value of the hedged item attributable to the hedged risk.
The determination of whether a derivative qualiÑes for hedge accounting requires judgment about the application of
SFAS 133, as amended by SFAS No. 138, ""Accounting for Certain Derivative Instruments and Certain Hedging Activities,
an amendment of FASB Statement No. 133,'' and SFAS No. 149, ""Amendment of Statement 133 on Derivative
Instruments and Hedging Activities,'' collectively referred to as SFAS 133. SFAS 133 requires contemporaneous
documentation of our hedge relationships, including identiÑcation of the hedged item, the hedging instrument, the nature of
the hedged risk and the method used to assess the eÅectiveness of the hedge relationship.
Derivatives previously designated as cash Öow hedges generally have hedged interest-rate risk related to the forecasted
issuances of debt. For these hedging relationships to qualify for hedge accounting both at inception and over the life of the
derivative, we must estimate the probable future level of certain types of debt issuances. These estimates are based on our
expectation of future funding needs and the future mix of debt issuances. Our expectations about future funding are based
upon projected growth and historical activity. If these estimates had been lower, a smaller notional amount of the derivatives
would have been eligible for designation as cash Öow hedges and potentially material amounts that were deferred and
reported in AOCI would have been reported as Derivative gains (losses) on our consolidated statements of income in the
period in which they occurred. If estimated future fundings do not occur, or are probable of not occurring, potentially
material amounts that were deferred and reported in AOCI would be immediately recognized in Derivative gains (losses) on
our consolidated statements of income.
We believe that the forecasted issuances of debt previously hedged in cash Öow hedging relationships are probable of
occurring, therefore we may continue to include previously deferred amounts in AOCI. For a more detailed description of
our use of derivatives and summaries of derivative positions, see ""CONSOLIDATED RESULTS OF OPERATIONS Ì
Derivative Overview'' and ""NOTE 12: DERIVATIVES'' to our consolidated Ñnancial statements.
83 Freddie Mac