Freddie Mac 2009 Annual Report Download - page 41

It may be difficult to increase our returns on new single-family guarantee business.
Current profitability levels in our new single-family guarantee business are designed to cover expected default costs on
the new business and contribute to covering the company’s operating expenses. Any contribution to capital is likely to be
well below the level we expect would be necessary to attract private equity capital. Despite this, our current market share
relative to Fannie Mae is at the low end of historical averages.
Efforts we may make to increase the profitability of new single-family guarantee business, such as by tightening credit
standards, could cause our market share to further decrease and the volume of our single-family guarantee business to
decline. Currently, our ability to increase the income generated by our single-family guarantee business by increasing
contractual guarantee and management fee rates is limited due to competitive pressures and other factors. The appointment
of FHFA as Conservator and the Conservator’s subsequent directive that we provide increased support to the mortgage
market has affected our guarantee pricing decisions by limiting our ability to adjust our fees for current expectations of credit
risk, and will likely continue to do so.
Our competitiveness in purchasing single-family mortgages from our lender customers, and thus the relative profitability
of new single-family business, can be directly affected by the relative price performance of our PCs and comparable Fannie
Mae securities. Increasing demand for our PCs helps support the price performance of our PCs, which in turn helps us
compete with Fannie Mae and others in purchasing mortgages. Various factors, including market conditions, affect the
relative price performance of our PCs. While we employ a variety of strategies to support the price performance of our PCs,
any such strategies may fail. In recent periods, the price performance of our PCs has declined relative to comparable Fannie
Mae securities, which has negatively impacted the management and guarantee fees we have been able to charge for new
single-family mortgages, many of which we purchase by swapping PCs for the mortgages.
Increased competition from Fannie Mae, FHA and other institutions may alter our product mix, lower volumes and
reduce revenues on new single-family guarantee business.
We are subject to mortgage credit risks, including mortgage credit risk relating to off-balance sheet arrangements;
increased credit costs related to these risks could adversely affect our financial condition and/or results of operations.
Mortgage credit risk is the risk that a borrower will fail to make timely payments on a mortgage or an issuer will fail to
make timely payments on a security we own or guarantee, exposing us to the risk of credit losses and credit-related
expenses. We are exposed to mortgage credit risk with respect to: (i) single-family and multifamily loans and guaranteed
single-family and multifamily PCs and Structured Securities that we hold on our consolidated balance sheets; and (ii) single-
family and multifamily loans through PCs, Structured Securities and other mortgage-related guarantees that are not reflected
as assets on our consolidated balance sheets in this Form 10-K. Our off-balance sheet exposure includes long-term standby
commitments for mortgage assets held by third parties that require that we purchase loans from lenders when the loans
subject to these commitments meet certain delinquency criteria. At December 31, 2009, the unpaid principal balance of PCs
and Structured Securities held by third parties was $1.5 trillion.
Factors that affect the level of our mortgage credit risk include the credit profile of the borrower, home prices, the
features of the mortgage loan, the type of property securing the mortgage, and local and regional economic conditions,
including regional changes in unemployment rates. While mortgage interest rates remained low in 2009, many borrowers
may not have been able to refinance into lower interest mortgages due to substantial declines in home values, market
uncertainty and increases in unemployment. Therefore, there can be no assurance that continued low mortgage interest rates
or efforts to modify and refinance mortgages pursuant to the MHA Program will result in a decrease in our overall mortgage
credit risk.
Effective January 1, 2010, the concept of a QSPE was removed from GAAP and entities previously considered QSPEs
must be evaluated for consolidation. As a result, commencing in the first quarter of 2010, we have consolidated our single-
family PC trusts and certain of our Structured Transactions on our consolidated balance sheets on a prospective basis, which
will significantly reduce the amount of our off-balance sheet arrangements but will not alter our exposure to mortgage credit
risk on the loans underlying these securities. See “MD&A⫺OUR PORTFOLIOS,” “MD&A — OFF-BALANCE SHEET
ARRANGEMENTS” and “NOTE 3: FINANCIAL GUARANTEES AND MORTGAGE SECURITIZATIONS” to our
consolidated financial statements for additional information regarding our guarantees and off-balance sheet exposures.
Loans with Alt-A and interest-only characteristics individually made up 8% and 7% of our single-family mortgage
portfolio as of December 31, 2009, respectively (a single loan may have both Alt-A and interest-only characteristics, and
thus would be reflected in both the Alt-A and interest-only figures). These loans collectively accounted for 44% of our credit
losses in 2009. Our purchases of these mortgages and issuances of guarantees of them expose us to greater credit risks than
do other types of mortgages. Our holdings of these loan groups are concentrated in the West region where home prices have
experienced steep declines. The West region accounted for approximately 52% of our credit losses in 2009. We have also
experienced increases in delinquency rates for prime mortgages, due to continued low housing prices and increasing
38 Freddie Mac