Freddie Mac 2010 Annual Report Download - page 274

gains (losses) in our consolidated statements of operations. We elected the fair value option on these debt instruments to
better reflect the economic offset that naturally results from the debt due to changes in interest rates. We also elected the fair
value option for certain other debt securities containing potential embedded derivatives that required bifurcation.
The changes in fair value of debt securities with the fair value option elected were $580 million and $(404) million for
the years ended December 31, 2010 and 2009, respectively, which were recorded in gains (losses) on debt recorded at fair
value in our consolidated statements of operations. The changes in fair value related to fluctuations in exchange rates and
interest rates were $583 million and $(204) million for the years ended December 31, 2010 and 2009, respectively. The
remaining changes in the fair value of $(3) million and $(200) million were attributable to changes in the instrument-specific
credit risk for the years ended December 31, 2010 and 2009, respectively.
The change in fair value attributable to changes in instrument-specific credit risk was primarily determined by
comparing the total change in fair value of the debt to the total change in fair value of the interest-rate and foreign-currency
derivatives used to hedge the debt. Any difference in the fair value change of the debt compared to the fair value change in
the derivatives is attributed to instrument-specific credit risk.
The difference between the aggregate fair value and aggregate UPB for long-term debt securities with fair value option
elected was $108 million and $249 million at December 31, 2010 and 2009, respectively. Related interest expense continues
to be reported as interest expense in our consolidated statements of operations. See “NOTE 1: SUMMARY OF
SIGNIFICANT ACCOUNTING POLICIES — Debt Securities Issued” for additional information about the measurement and
recognition of interest expense on debt securities issued.
Multifamily Held-For-Sale Mortgage Loans with Fair Value Option Elected
We elected the fair value option for multifamily mortgage loans that were purchased through our CME initiative.
Through this channel, we acquire loans that we intend to securitize and sell to CMBS investors. While this is consistent with
our overall strategy to expand our multifamily business, it differs from our traditional buy-and-hold strategy with respect to
multifamily loans held-for-investment. Therefore, these multifamily mortgage loans were classified as held-for-sale mortgage
loans in our consolidated balance sheets to reflect our intent to sell in the future.
We recorded $(1) million and $(81) million from the change in fair value in gains (losses) in other income in our
consolidated statements of operations for the years ended December 31, 2010 and 2009, respectively. The fair value changes
that were attributable to changes in the instrument-specific credit risk were $18 million and $24 million for the years ended
December 31, 2010 and 2009, respectively. The gains and losses attributable to changes in instrument specific credit risk
were determined primarily from the changes in OAS level.
The difference between the aggregate fair value and the aggregate UPB for multifamily held-for-sale loans with the fair
value option elected was $(311) million and $(97) million at December 31, 2010 and 2009, respectively. Related interest
income continues to be reported as interest income in our consolidated statements of operations. See “NOTE 1: SUMMARY
OF SIGNIFICANT ACCOUNTING POLICIES — Mortgage Loans” for additional information about the measurement and
recognition of interest income on our mortgage loans.
Valuation Methods and Assumptions Subject to Fair Value Hierarchy
We categorize assets and liabilities that we measure and report at fair value in our consolidated balance sheets within
the fair value hierarchy based on the valuation process used to derive the fair value and our judgment regarding the
observability of the related inputs.
Investments in Securities
Agency Securities
Fixed-rate agency securities are valued based on dealer-published quotes for a base TBA security, adjusted to reflect the
measurement date as opposed to a forward settlement date (“carry”) and pay-ups for specified collateral. The base TBA price
varies based on agency, term, coupon, and settlement month. The carry adjustment converts forward settlement date prices to
spot or same-day settlement date prices such that the fair value is estimated as of the measurement date, and not as of the
forward settlement date. The carry adjustment uses our internal prepayment and interest rate models. A pay-up is added to
the base TBA price for characteristics that are observed to be trading at a premium versus TBAs; this currently includes
seasoning and low-loan balance attributes. Haircuts are applied to a small subset of positions that are less liquid and are
observed to trade at a discount relative to TBAs; this includes securities that are not eligible for delivery into TBA trades.
Adjustable-rate agency securities are valued based on the median of prices from multiple pricing services. The key
valuation drivers used by the pricing services include the interest rate cap structure, term, agency, remaining term, and
months-to-next coupon reset, coupled with prevailing market conditions, namely interest rates.
Because fixed-rate and adjustable-rate agency securities are generally liquid and contain observable pricing in the
market, they generally are classified as Level 2.
271 Freddie Mac