Fannie Mae 2006 Annual Report Download - page 253

Statement No. 115 (“EITF 96-11”). These commitments are designated as AFS or trading at inception and
accounted for in a manner consistent with SFAS 115 for that category of securities.
Derivative Instruments
We account for our derivatives pursuant to SFAS 133, as amended and interpreted, and recognize all
derivatives as either assets or liabilities in the consolidated balance sheets at their fair value on a trade date
basis. Derivatives in a gain position are reported in “Derivative assets at fair value” and derivatives in a loss
position are recorded in “Derivative liabilities at fair value” in the consolidated balance sheets. We do not
apply hedge accounting pursuant to SFAS 133; therefore, all fair value gains and losses on derivatives as well
as interest accruals are recorded in “Derivatives fair value gains (losses), net” in the consolidated statements of
income.
We offset the carrying amounts of derivatives other than commitments in gain positions and loss positions
with the same counterparty in accordance with FIN No. 39, Offsetting of Amounts Related to Certain
Contracts (an interpretation of APB Opinion No. 10 and FASB Statement No. 105) (“FIN 39”). We offset these
amounts because the derivative contracts have determinable amounts, we have the legal right to offset amounts
with each counterparty, that right is enforceable by law, and we intend to offset the amounts to settle the
contracts.
Fair value is determined using quoted market prices in active markets, when available. If quoted market prices
are not available for particular derivatives, we use quoted market prices for similar derivatives that we adjust
for directly observable or corroborated (i.e., information purchased from third-party service providers) market
information. In the absence of observable or corroborated market data, we use internally developed estimates,
incorporating market-based assumptions wherever such information is available. For derivatives other than
commitments, we use a mid price when there is spread between a bid and ask price.
We evaluate financial instruments that we purchase or issue and other financial and non-financial contracts for
embedded derivatives. To identify embedded derivatives that we must account for separately, we determine if:
(i) the economic characteristics of the embedded derivative are not clearly and closely related to the economic
characteristics of the financial instrument or other contract; (ii) the financial instrument or other contract (i.e.,
the hybrid contract) itself is not already measured at fair value with changes in fair value included in earnings;
and (iii) whether a separate instrument with the same terms as the embedded derivative would meet the
definition of a derivative. If the embedded derivative meets all three of these conditions, we separate it from
the financial instrument or other contracts and carry it at fair value with changes in fair value included in the
consolidated statements of income.
Collateral
We enter into various transactions where we pledge and accept collateral, the most common of which are our
derivative transactions. Required collateral levels vary depending on the credit risk rating and type of
counterparty. We also pledge and receive collateral under our repurchase and reverse repurchase agreements.
The fair value of the collateral received from our counterparties is monitored, and we may require additional
collateral from those counterparties, as deemed appropriate. Collateral received under early funding
agreements with lenders, whereby we advance funds to lenders prior to the settlement of a security
commitment, must meet our standard underwriting guidelines for the purchase or guarantee of mortgage loans.
Cash Collateral
To the extent that we pledge cash collateral and give up control to a counterparty, we remove it from “Cash
and cash equivalents” and reclassify it as “Other assets” in the consolidated balance sheets. We pledged
$303 million in cash collateral as of December 31, 2006. Cash collateral accepted from a counterparty that we
have the right to use is recorded as “Cash and cash equivalents” in the consolidated balance sheets. Cash
collateral accepted from a counterparty that we do not have the right to use is recorded as “Restricted cash” in
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FANNIE MAE
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS—(Continued)