Freddie Mac 2009 Annual Report Download - page 127

amendment, we recognized a cumulative-effect adjustment of $15.0 billion, which increased our opening balance of retained
earnings (accumulated deficit) on April 1, 2009, with a corresponding decline of $(9.9) billion, net of taxes, to AOCI. The
cumulative-effect adjustment reclassified the non-credit component of other-than-temporary impairments on our non-agency
mortgage-related securities from retained earnings (accumulated deficit) (i.e., previously expensed) to AOCI. The difference
between these adjustments of $5.1 billion represents an increase in total equity (deficit) primarily resulting from the release
of the valuation allowance previously recorded against the deferred tax asset that is no longer required related to the
cumulative-effect adjustment.
The balance of AOCI at December 31, 2009 was a net unrealized loss of approximately $23.6 billion, net of taxes,
compared to a net unrealized loss of $32.4 billion, net of taxes, at December 31, 2008. Excluding the $(9.9) billion, net of
taxes, cumulative-effect adjustment discussed above, unrealized losses in AOCI, net of taxes, on our available-for-sale
securities decreased by $17.8 billion during 2009 primarily attributable to a decline in unrealized losses on our available-for-
sale agency and non-agency mortgage-related securities. This decline in unrealized losses on available-for-sale securities
during 2009 was largely due to (i) improvements in the market values of agency and non-agency available-for-sale
mortgage-related securities and (ii) the recognition in earnings of other-than-temporary impairments on our non-agency
mortgage-related securities.
CONSOLIDATED FAIR VALUE BALANCE SHEETS ANALYSIS
Our consolidated fair value balance sheets include the estimated fair values of financial instruments recorded on our
consolidated balance sheets prepared in accordance with GAAP, as well as off-balance sheet financial instruments that
represent our assets or liabilities that are not recorded on our GAAP consolidated balance sheets. The fair value balance
sheets also include certain assets and liabilities that are not financial instruments (such as property and equipment and REO,
which are included in other assets), which are recorded at their carrying value in accordance with GAAP. See “NOTE 18:
FAIR VALUE DISCLOSURES — Table 18.4 — Consolidated Fair Value Balance Sheets” to our consolidated financial
statements for our fair value balance sheets.
These off-balance sheet financial instruments predominantly consist of: (a) the unrecognized guarantee asset and
guarantee obligation associated with our PCs issued through our guarantor swap program prior to the implementation of the
accounting standards for guarantees in 2003; (b) certain commitments to purchase mortgage loans; and (c) certain credit
enhancements on manufactured housing asset-backed securities. During 2009 and 2008, our fair value results were impacted
by several improvements in our approach for estimating the fair value of certain financial instruments. See “OFF-BALANCE
SHEET ARRANGEMENTS” and “CRITICAL ACCOUNTING POLICIES AND ESTIMATES” as well as “NOTE 1:
SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES” and “NOTE 18: FAIR VALUE DISCLOSURES” to our
consolidated financial statements for more information on fair values.
In conjunction with the preparation of our consolidated fair value balance sheets, we use a number of financial models.
See “RISK FACTORS,” “RISK MANAGEMENT — Operational Risks” and “QUANTITATIVE AND QUALITATIVE
DISCLOSURES ABOUT MARKET RISK — Interest-Rate Risk and Other Market Risks” for information concerning the
risks associated with these models.
Key Components of Changes in Fair Value of Net Assets
Our attribution of changes in the fair value of net assets relies on models, assumptions, and other measurement
techniques that evolve over time. The following are the key components of the attribution analysis:
Core Spread Income
Core spread income on our investments in mortgage loans and mortgage-related securities is a fair value estimate of the
net current period accrual of income from the spread between our mortgage-related investments and our debt, calculated on
an option-adjusted basis. OAS is an estimate of the yield spread between a given financial instrument and a benchmark
(LIBOR, agency or Treasury) yield curve, after consideration of potential variability in the instrument’s cash flows resulting
from any options embedded in the instrument, such as prepayment options.
Changes in Mortgage-To-Debt OAS
The fair value of our net assets can be significantly affected from period to period by changes in the net OAS between
the mortgage and agency debt sectors. The fair value impact of changes in OAS for a given period represents an estimate of
the net unrealized increase or decrease in fair value of net assets arising from net fluctuations in OAS during that period. We
do not attempt to hedge or actively manage the basis risk represented by the impact of changes in mortgage-to-debt OAS
because we generally hold a substantial portion of our mortgage assets for the long term and we do not believe that periodic
increases or decreases in the fair value of net assets arising from fluctuations in OAS will significantly affect the long-term
value of our investments in mortgage loans and mortgage-related securities.
124 Freddie Mac