Fannie Mae 2008 Annual Report Download - page 109

the fair value of our derivatives. However, recording fair value adjustments on these loans introduced an
additional element of volatility in our net worth. By discontinuing hedge accounting for these loans, we began
accounting for the loans at amortized cost. We believe this change eliminated one factor that caused volatility
in our net worth. During the fourth quarter of 2008, we discontinued all remaining hedge accounting.
Historically, we generally have expected that gains and losses on our trading securities, to the extent they are
attributable to changes in interest rates, would offset a portion of the losses and gains on our derivatives
because changes in the fair value of our trading securities typically moved inversely to changes in the fair
value of our derivatives.
We seek to eliminate our exposure to fluctuations in foreign exchange rates by entering into foreign currency
swaps that effectively convert debt denominated in a foreign currency to debt denominated in U.S. dollars.
The foreign currency exchange gains and losses on our foreign-denominated debt are offset in part by
corresponding losses and gains on foreign currency swaps.
Table 8 summarizes the components of fair value gains (losses), net for 2008, 2007 and 2006. We experienced
significantly higher fair value losses in 2008, reflecting the widespread disruption in the mortgage and global
financial markets. The increase in losses in 2008 over 2007 was driven by: (1) a decline in interest rates,
which resulted in losses on our derivatives and gains on our hedged mortgage assets; (2) the significant
widening of spreads, which resulted in losses on our trading securities; and (3) the distressed condition of
several financial institutions, which resulted in significant write-downs of some of our non-mortgage
investments. The increase in losses in 2007 over 2006 also reflected the impact of a decline in interest rates in
2007, which contributed to higher losses on our derivatives.
Table 8: Fair Value Gains (Losses), Net
2008 2007 2006
For the Year Ended December 31,
(Dollars in millions)
Derivatives fair value losses, net
(1)
. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . $(15,416) $(4,113) $(1,522)
Trading securities gains (losses) net
(2)
. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . (7,040) (365) 8
Hedged mortgage assets gains, net
(3)
...................................... 2,154 — —
Fair value losses on derivatives, trading securities and hedged mortgage assets, net. . . . (20,302) (4,478) (1,514)
Debt foreign exchange gains (losses), net . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 230 (190) (230)
Debt fair value losses, net . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . (57) — —
Fair value losses, net . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . $(20,129) $(4,668) $(1,744)
(1)
Includes losses of approximately $104 million in 2008 that resulted from the termination of our derivative contracts
with a subsidiary of Lehman Brothers.
(2)
Includes trading losses of $608 million in 2008 that resulted from the write-down to fair value of our investment in
corporate debt securities issued by Lehman Brothers.
(3)
Represents adjustments to the carrying value of mortgage assets designated for hedge accounting that are attributable
to changes in interest rates.
Derivatives Fair Value Losses, Net
Derivative instruments are an integral part of our management of interest rate risk. We supplement our
issuance of debt with derivative instruments to further reduce duration and prepayment risks. We generally are
an end user of derivatives and our principal purpose in using derivatives is to manage our aggregate interest
rate risk profile within prescribed risk parameters. We generally only use derivatives that are relatively liquid
and straightforward to value. We consider the cost of derivatives used in our management of interest rate risk
to be an inherent part of the cost of funding and hedging our mortgage investments and to be economically
similar to the interest expense that we recognize on the debt we issue to fund our mortgage investments. We
provide a more detailed discussion of our use of derivatives in “Risk Management—Interest Rate Risk
Management and Other Market Risks—Interest Rate Risk Management Strategies—Derivative Instruments.”
Table 9 presents, by type of derivative instrument, the fair value gains and losses on our derivatives for 2008,
2007 and 2006. Table 9 also includes an analysis of the components of derivatives fair value gains and losses
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