PNC Bank 2013 Annual Report Download - page 192

Commercial MSRs are periodically evaluated for impairment.
For purposes of impairment, the commercial MSRs are
stratified based on asset type, which characterizes the
predominant risk of the underlying financial asset. If the
carrying amount of any individual stratum exceeds its fair
value, a valuation reserve is established with a corresponding
charge to Corporate services on our Consolidated Income
Statement.
The fair value of commercial MSRs is estimated by using a
discounted cash flow model incorporating inputs for
assumptions as to constant prepayment rates, discount rates
and other factors determined based on current market
conditions and expectations.
Changes in the residential MSRs follow:
Table 100: Residential Mortgage Servicing Rights
In millions 2013 2012 2011
January 1 $ 650 $ 647 $ 1,033
Additions:
From loans sold with
servicing retained 158 117 118
RBC Bank (USA)
acquisition 16
Purchases 110 175 65
Sales (4)
Changes in fair value due to:
Time and payoffs (a) (193) (167) (163)
Other (b) 366 (138) (406)
December 31 $ 1,087 $ 650 $ 647
Unpaid principal balance of
loans serviced for others at
December 31 $113,994 $119,262 $118,058
(a) Represents decrease in MSR value due to passage of time, including the impact from
both regularly scheduled loan principal payments and loans that were paid down or
paid off during the period.
(b) Represents MSR value changes resulting primarily from market-driven changes in
interest rates.
We recognize mortgage servicing right assets on residential
real estate loans when we retain the obligation to service these
loans upon sale and the servicing fee is more than adequate
compensation. MSRs are subject to declines in value
principally from actual or expected prepayment of the
underlying loans and also defaults. We manage this risk by
economically hedging the fair value of MSRs with securities
and derivative instruments which are expected to increase (or
decrease) in value when the value of MSRs declines (or
increases).
The fair value of residential MSRs is estimated by using a
cash flow valuation model which calculates the present value
of estimated future net servicing cash flows, taking into
consideration actual and expected mortgage loan prepayment
rates, discount rates, servicing costs, and other economic
factors which are determined based on current market
conditions.
The fair value of commercial and residential MSRs and
significant inputs to the valuation models as of December 31,
2013 are shown in the tables below. The expected and actual
rates of mortgage loan prepayments are significant factors
driving the fair value. Management uses both internal
proprietary models and a third-party model to estimate future
commercial mortgage loan prepayments and a third-party
model to estimate future residential mortgage loan
prepayments. These models have been refined based on
current market conditions and management judgment. Future
interest rates are another important factor in the valuation of
MSRs. Management utilizes market implied forward interest
rates to estimate the future direction of mortgage and discount
rates. The forward rates utilized are derived from the current
yield curve for U.S. dollar interest rate swaps and are
consistent with pricing of capital markets instruments.
Changes in the shape and slope of the forward curve in future
periods may result in volatility in the fair value estimate.
A sensitivity analysis of the hypothetical effect on the fair
value of MSRs to adverse changes in key assumptions is
presented below. These sensitivities do not include the impact
of the related hedging activities. Changes in fair value
generally cannot be extrapolated because the relationship of
the change in the assumption to the change in fair value may
not be linear. Also, the effect of a variation in a particular
assumption on the fair value of the MSRs is calculated
independently without changing any other assumption. In
reality, changes in one factor may result in changes in another
(for example, changes in mortgage interest rates, which drive
changes in prepayment rate estimates, could result in changes
in the interest rate spread), which could either magnify or
counteract the sensitivities.
174 The PNC Financial Services Group, Inc. – Form 10-K