Wells Fargo 2015 Annual Report Download - page 220

Note 17: Fair Values of Assets and Liabilities (continued)
nonmarketable equity investments include low income housing
tax credit investments, Federal Reserve Bank and Federal Home
Loan Bank (FHLB) stock, and private equity investments that
are recorded under the cost or equity method of accounting. We
estimate fair value to record OTTI write-downs on a
nonrecurring basis. Additionally, we provide fair value estimates
in this disclosure for cost method investments that are not
measured at fair value on a recurring or nonrecurring basis.
Federal Bank stock carrying values approximate fair value.
For the remaining cost or equity method investments for which
we determine fair value, we estimate the fair value using all
available information and consider the range of potential inputs
including discounted cash flow models, transaction prices,
trading multiples of comparable public companies, and entry
level multiples. Where appropriate these metrics are adjusted to
account for comparative differences with public companies and
for company-specific issues like liquidity or marketability. For
investments in private equity funds, we generally use the NAV
provided by the fund sponsor as a practical expedient to measure
fair value. In some cases, NAVs may require adjustments based
on certain unobservable inputs.
Liabilities
DEPOSIT LIABILITIES Deposit liabilities are carried at
historical cost. The fair value of deposits with no stated maturity,
such as noninterest-bearing demand deposits, interest-bearing
checking, and market rate and other savings, is equal to the
amount payable on demand at the measurement date. The fair
value of other time deposits is calculated based on the
discounted value of contractual cash flows. The discount rate is
estimated using the rates currently offered for like wholesale
deposits with similar remaining maturities.
SHORT-TERM FINANCIAL LIABILITIES Short-term financial
liabilities are carried at historical cost and include federal funds
purchased and securities sold under repurchase agreements,
commercial paper and other short-term borrowings. The
carrying amount is a reasonable estimate of fair value because of
the relatively short time between the origination of the
instrument and its expected realization.
OTHER LIABILITIES Other liabilities recorded at fair value on
a recurring basis, excluding derivative liabilities (see the
“Derivatives” section for derivative liabilities), primarily include
short sale liabilities. Short sale liabilities are predominantly
classified as either Level 1 or Level 2, generally depending upon
whether the underlying securities have readily obtainable quoted
prices in active exchange markets.
LONG-TERM DEBT Long-term debt is generally carried at
amortized cost. For disclosure, we are required to estimate the
fair value of long-term debt and generally do so using the
discounted cash flow method. Contractual cash flows are
discounted using rates currently offered for new notes with
similar remaining maturities and, as such, these discount rates
include our current spread levels.
Level 3 Asset and Liability Valuation Processes
We generally determine fair value of our Level 3 assets and
liabilities by using internally-developed models and, to a lesser
extent, prices obtained from vendors, which predominantly
consist of third-party pricing services. Our valuation processes
vary depending on which approach is utilized.
INTERNAL MODEL VALUATIONS Our internally-developed
models primarily use discounted cash flow techniques. Use of
such techniques requires determining relevant inputs, some of
which are unobservable. Unobservable inputs are generally
derived from historic performance of similar assets or
determined from previous market trades in similar instruments.
These unobservable inputs usually consist of discount rates,
default rates, loss severity upon default, volatilities, correlations
and prepayment rates, which are inherent within our Level 3
instruments. Such inputs can be correlated to similar portfolios
with known historic experience or recent trades where particular
unobservable inputs may be implied, but due to the nature of
various inputs being reflected within a particular trade, the value
of each input is considered unobservable. We attempt to
correlate each unobservable input to historic experience and
other third-party data where available.
Internal valuation models are subject to review prescribed
within our model risk management policies and procedures,
which include model validation. The purpose of model validation
includes ensuring the model is appropriate for its intended use
and the appropriate controls exist to help mitigate risk of invalid
valuations. Model validation assesses the adequacy and
appropriateness of the model, including reviewing its key
components, such as inputs, processing components, logic or
theory, output results and supporting model documentation.
Validation also includes ensuring significant unobservable
model inputs are appropriate given observable market
transactions or other market data within the same or similar
asset classes. This process ensures modeled approaches are
appropriate given similar product valuation techniques and are
in line with their intended purpose.
We have ongoing monitoring procedures in place for our
Level 3 assets and liabilities that use such internal valuation
models. These procedures, which are designed to provide
reasonable assurance that models continue to perform as
expected after approved, include:
• ongoing analysis and benchmarking to market transactions
and other independent market data (including pricing
vendors, if available);
• back-testing of modeled fair values to actual realized
transactions; and
• review of modeled valuation results against expectations,
including review of significant or unusual value fluctuations.
We update model inputs and methodologies periodically to
reflect these monitoring procedures. Additionally, procedures
and controls are in place to ensure existing models are subject to
periodic reviews, and we perform full model revalidations as
necessary.
All internal valuation models are subject to ongoing review
by business-unit-level management, and all models are subject
to additional oversight by a corporate-level risk management
department. Corporate oversight responsibilities include
evaluating the adequacy of business unit risk management
programs, maintaining company-wide model validation policies
and standards and reporting the results of these activities to
management and our Corporate Model Risk Committee (CMoR).
The CMoR consists of senior executive management and reports
on top model risk issues to the Company’s Risk Committee of the
Board.
VENDOR-DEVELOPED VALUATIONS In certain limited
circumstances we obtain pricing from third-party vendors for the
value of our Level 3 assets or liabilities. We have processes in
place to approve such vendors to ensure information obtained
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