JP Morgan Chase 2010 Annual Report Download - page 278

Notes to consolidated financial statements
JPMorgan Chase & Co./2010 Annual Report
278
December 31, 2010 and 2009, respectively. The Firm reduces expo-
sures to these contracts by entering into offsetting transactions, or by
entering into contracts that hedge the market risk related to the
derivative guarantees.
In addition to derivative contracts that meet the characteristics of
a guarantee, the Firm is both a purchaser and seller of credit
protection in the credit derivatives market. For a further discus-
sion of credit derivatives, see Note 6 on pages 191–199 of this
Annual Report.
Unsettled reverse repurchase and securities borrowing
agreements
In the normal course of business, the Firm enters into reverse
repurchase agreements and securities borrowing agreements that
settle at a future date. At settlement, these commitments require
that the Firm advance cash to and accept securities from the
counterparty. These agreements generally do not meet the defini-
tion of a derivative, and therefore, are not recorded on the Con-
solidated Balance Sheets until settlement date. At December 31,
2010 and 2009, the amount of commitments related to forward
starting reverse repurchase agreements and securities borrowing
agreements were $14.4 billion and $23.4 billion, respectively.
Commitments related to unsettled reverse repurchase agreements
and securities borrowing agreements with regular way settlement
periods were $25.5 billion and $24.8 billion at December 31,
2010 and 2009, respectively.
Building purchase commitments
In connection with the Bear Stearns merger, the Firm succeeded to an
operating lease arrangement for the building located at 383 Madison
Avenue in New York City (the “Synthetic Lease”). Under the terms of
the Synthetic Lease, the Firm was obligated to a maximum residual
value guarantee of approximately $670 million if the building were
sold and the proceeds of the sale were insufficient to satisfy the
lessor’s debt obligation. Effective November 1, 2010, the lease ex-
pired and the Firm purchased the property recognizing the $670
million purchase price in premises and equipment.
On December 15, 2010, the Firm entered into an agreement to
purchase the leasehold property at 60 Victoria Embankment in
London, a building the Firm has leased since 1991, for approxi-
mately $253 million. The purchase of this building is expected to
close in the second quarter of 2011.
Loan sale and securitization-related indemnifications
Indemnifications for breaches of representations and warranties
In connection with the Firm’s loan sale and securitization activities
with the GSEs and other loan sale and private-label securitization
transactions, as described in Notes 14 and 16 on pages 220–238
and 244–259, respectively, of this Annual Report, the Firm has
made representations and warranties that the loans sold meet
certain requirements. For transactions with the GSEs, these repre-
sentations include type of collateral, underwriting standards, valid-
ity of certain borrower representations in connection with the loan,
that primary mortgage insurance is in force for any mortgage loan
with an LTV ratio greater than 80%, and the use of the GSEs’
standard legal documentation. The Firm may be, and has been,
required to repurchase loans and/or indemnify the GSEs and other
investors for losses due to material breaches of these representa-
tions and warranties; however, predominantly all of the repurchase
demands received by the Firm and the Firm’s losses realized to date
are related to loans sold to the GSEs. Generally, the maximum
amount of future payments the Firm would be required to make for
breaches of these representations and warranties would be equal
to the unpaid principal balance of such loans that are deemed to
have defects sold to purchasers (including securitization-related
SPEs) plus, in certain circumstances, accrued and unpaid interest on
such loans and certain expense.
Subsequent to the Firm’s acquisition of certain assets and liabilities of
Washington Mutual from the FDIC in September 2008, the Firm
resolved and/or limited certain current and future repurchase de-
mands for loans sold to the GSEs by Washington Mutual, although it
remains the Firm’s position that such obligations remain with the
FDIC receivership. Nevertheless, certain payments have been made
with respect to certain of the then current and future repurchase
demands, and the Firm will continue to evaluate and may pay
certain future repurchase demands related to individual loans. In
addition to the payments already made, the Firm has a remaining
repurchase liability of approximately $190 million as of December 31,
2010, relating to unresolved and future demands on the Washington
Mutual portfolio.
The primary reasons for repurchase demands from the GSEs relate to
alleged misrepresentations primarily driven by: (i) credit quality and/or
undisclosed debt of the borrower; (ii) income level and/or employ-
ment status of the borrower; and (iii) appraised value of collateral.
Ineligibility of the borrower for the particular product, mortgage
insurance rescissions and missing documentation are other reasons
for repurchase demands.
Beginning in 2009, mortgage insurers more frequently rescinded
mortgage insurance coverage. The successful rescission of mortgage
insurance typically results in a violation of representations and war-
ranties made to the GSEs and, therefore, has been a significant cause
of repurchase demands from the GSEs. The Firm actively reviews all
rescission notices from mortgage insurers and contests them when
appropriate. In addition, the Firm is engaged in discussions with
various mortgage insurers on their rights and practices related to
rescinding mortgage insurance coverage. The Firm has entered into
agreements with two mortgage insurers to make processes more
efficient and reduce exposure on claims on certain portfolios for
which the Firm is a servicer. The impact of these agreements is re-
flected in the repurchase liability as of December 31, 2010.
When the Firm accepts a repurchase demand from one of the GSEs,
the Firm may either (a) repurchase the loan or the underlying col-
lateral from the GSE at the unpaid principal balance of the loan
plus accrued interest, or (b) reimburse the GSE for its realized loss
on a liquidated property (a “make-whole” payment).
To estimate the Firm’s repurchase liability arising from breaches of
representations and warranties, the Firm considers: