Fannie Mae 2007 Annual Report Download - page 90

investment from our consolidated balance sheets and the recognition of $15.4 billion of securities, which
we designated as trading. Also, during the fourth quarter of 2007, we resecuritized $9.2 billion of
subprime private-label securities, which resulted in a loss that was primarily attributable to the impact of
the significant widening of credit spreads during the year on the guaranty obligation we recorded in
conjunction with this resecuritization.
• An increase of $373 million in losses on trading securities. This increase in net losses was largely due to
the significant widening of credit spreads during 2007, which reduced the fair value of our trading
securities. In addition, we began designating an increasingly large portion of the securities we purchase as
trading securities, particularly in the fourth quarter of 2007. Our portfolio of trading securities increased
to $64.0 billion as of December 31, 2007, from $11.5 billion as of December 31, 2006. This change in
practice was partly driven by our adoption of SFAS No. 155, Accounting for Certain Hybrid Financial
Instruments, an amendment of SFAS 133 and SFAS 140 (“SFAS 155”), which requires us to evaluate
securities for embedded derivatives unless they are designated as trading securities. This change in
practice is also intended to offset some of the volatility in our earnings that results from changes in the
fair value of our derivatives. Because a significant portion of our derivatives consists of pay-fixed swaps,
we expect the aggregate estimated fair value of our derivatives to decline and result in derivatives losses
when interest rates decline.
Generally, we expect changes in the fair value of our trading securities to move inversely to changes in
the fair value of our derivatives, resulting in an offset against a portion of our derivatives gains and losses.
However, because the fair value of our derivatives and trading securities are affected not only by interest
rates, but also by factors such as volatility and changes in credit spreads, changes in the fair value of our
trading securities may not always move inversely to changes in the fair value of our derivatives.
Consequently, the gains and losses on our trading securities may not offset the gains and losses on our
derivatives. For example, the decline in interest rates during the second half of 2007 contributed to an
increase in the fair value of our trading securities. This increase, however, was more than offset by a
decrease in fair value resulting from the significant widening of credit spreads, particularly related to
private-label mortgage-related securities backed by Alt-A and subprime loans.
• An increase of $201 million in other investment losses, which was attributable to the $1.9 billion sale of
securities that triggered the derecognition of $17.3 billion of loans classified as held for investment and
the recognition of $15.4 billion of securities, as described above. In conjunction with the recognition of
the $15.4 billion of securities on our consolidated balance sheets, we also were required to record at fair
value a related guaranty asset and guaranty obligation, which resulted in a loss.
The $651 million decrease in investment losses, net in 2006 from 2005 was attributable to the following:
• A decrease of $393 million in other-than-temporary impairment on AFS securities. We recognized other-
than-temporary impairment of $853 million in 2006, compared with $1.2 billion in 2005. The other-than-
temporary impairment of $853 million in 2006 resulted from continued interest rate increases in the first
half of 2006, which caused the fair value of certain securities to decline below carrying value. Because
we previously recognized significant other-than-temporary amounts on certain securities in 2005 that
reduced the carrying value of these securities, the amount of other-than-temporary impairment recognized
in 2006 declined relative to 2005.
• A shift to a net gain of $8 million in 2006 on trading securities from a net loss of $442 million in 2005.
The net gain in 2006 reflects an increase in the fair value of trading securities due to a decrease in
implied volatility during the year. The vast majority of these gains, however, were offset by losses that
resulted from the general increase in interest rates during the year. The net loss in 2005 resulted from
general increases in interest rates during the year and a widening of option-adjusted spreads.
Derivatives Fair Value Losses, Net
Table 9 presents, by type of derivative instrument, the fair value gains and losses on our derivatives for 2007,
2006 and 2005. Table 9 also includes an analysis of the components of derivatives fair value gains and losses
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