Freddie Mac 2014 Annual Report Download - page 46

41 Freddie Mac
profitability of the Multifamily business to the extent that our holding period for the loans increases and we are exposed to
credit and market risks for a longer period of time. We employ a variety of strategies in an effort to support the liquidity of our
K Certificates, and may consider additional strategies if deemed appropriate. From time to time, we purchase and sell both
guaranteed K Certificates and related unguaranteed CMBS through our mortgage-related investments portfolio.
Changes in interest rates could negatively affect the fair value of financial assets and liabilities, our results of operations
and net worth.
Our investment activities and credit guarantee activities expose us to interest rate and other market risks, including
prepayment risk. Changes in interest rates could adversely affect our net interest yield, the value of our mortgage assets and
derivatives, and the prepayment rate on mortgage loans we own or guarantee. We incur costs in connection with our efforts to
manage these risks.
Our financial results can be significantly affected by changes in interest rates and changes in yield curves, especially
results driven by financial instruments that are measured at fair value for accounting purposes either through earnings or in
AOCI. These instruments include derivatives, trading securities, available-for-sale securities, loans held-for-sale, and loans and
debt with the fair value option elected. In particular, while fair value changes in derivatives from fluctuations in interest rates,
yield curves, and implied volatility affect comprehensive income, fair value changes in several of the types of assets and
liabilities being economically hedged do not affect comprehensive income. Therefore, there can be timing mismatches affecting
current period earnings, which may not be reflective of the economics of our business. When interest rates decrease, pay-fixed
swaps decrease in value and receive-fixed swaps increase in value (with the opposite being true when interest rates increase).
Changes in interest rates may affect mortgage and debt spreads and also affect prepayment projections, thus potentially
affecting the fair value of our assets, including our investments in mortgage-related assets. When interest rates fall, borrowers
are more likely to prepay their mortgage loans by refinancing them at a lower rate. An increased likelihood of prepayment on
the mortgages underlying our mortgage-related securities may adversely affect the value of these securities.
Increases in interest rates could increase other-than-temporary impairments on our investments in non-agency mortgage-
related securities. Higher interest rates can result in a reduction in the benefit from expected structural credit enhancements on
these securities.
When interest rates increase, our credit losses from loans with adjustable payment terms (e.g., ARM loans) may increase
as borrower payments increase at their reset dates, which increases the borrower’s risk of default. Rising interest rates may also
reduce the opportunity for these borrowers to refinance into a fixed-rate loan. Many borrowers may have additional debt
obligations (such as home equity lines of credit and second liens) that also have adjustable payment terms. Increases in a
borrower's payment on these other debt obligations (due to rising interest rates or a change in amortization) may increase the
risk that the borrower may default on a loan we own or guarantee.
Interest rates can fluctuate for a number of reasons, including changes in the fiscal and monetary policies of the federal
government and its agencies. Federal Reserve policies directly and indirectly influence the yield on our interest-earning assets
and the cost of our interest-bearing liabilities. Interest rates can also fluctuate as a result of geopolitical events or changes in
general economic conditions, including events or conditions that alter investor demand for Treasury or other fixed-income
securities.
Changes in OAS could materially affect our results of operations and net worth.
Changes in market conditions, including changes in interest rates, liquidity, prepayment and/or default expectations, and
the level of uncertainty in the market for a particular asset class may cause fluctuations in OAS. Our financial results and net
worth can be significantly affected by changes in OAS, especially results driven by financial instruments that are measured at
fair value for accounting purposes either through earnings or in AOCI. These instruments include trading securities, available-
for-sale securities, loans held-for-sale, and loans with the fair value option elected. A widening of the OAS on a given asset,
which is typically associated with a decline in the current fair value of that asset, may cause significant fair value losses, and
may adversely affect our near-term financial results and net worth. Conversely, a narrowing or tightening of the OAS is
typically associated with an increase in the current fair value of that asset, but may reduce the number of attractive investment
opportunities in mortgage loans and mortgage-related securities, and could increase the cost of our activities to support our
market presence and the price performance of our PCs. Consequently, a tightening of the OAS may adversely affect our future
financial results and net worth.
While wider spreads might create favorable investment opportunities, we are limited in our ability to take advantage of
any such opportunities due to various restrictions on our mortgage-related investments portfolio activities. See “BUSINESS —
Conservatorship and Related Matters — Limits on Investment Activity and Our Mortgage-Related Investments Portfolio.”
Negative publicity causing damage to our reputation could adversely affect our business, financial results or net worth.
Negative public opinion could adversely affect our ability to keep and attract customers or otherwise impair our customer
relationships, adversely affect our ability to obtain financing, impede our ability to hire and retain qualified personnel, hinder
our business prospects, or adversely affect the trading price of our securities. Perceptions regarding the practices of our
competitors, counterparties, and vendors, or the financial services and mortgage industries as a whole, may also adversely
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