Fannie Mae 2008 Annual Report Download - page 203

includes cash, U.S. Treasury securities, agency debt and agency mortgage-related securities. Collateral posted
to us is held and monitored daily by a third-party custodian. We analyze credit exposure on our derivative
instruments daily and make collateral calls as appropriate based on the results of internal pricing models and
dealer quotes.
Our net credit exposure on derivatives contracts decreased to $207 million as of December 31, 2008, from
$542 million as of December 31, 2007. To reduce our credit risk concentration, we seek to diversify our
derivative contracts among different counterparties. Since the majority of our derivative transactions netted by
counterparty are in a net loss position, our risk exposure is small and more concentrated than in recent years.
Approximately $93 million, or 45%, of our net derivatives exposure as of December 31, 2008 was with one
interest-rate and foreign currency derivative counterparty rated AA+ or better by Standard & Poor’s and Aa1
or better by Moody’s. The remaining interest-rate and foreign currency derivative counterparty accounted for
$13 million, or 6%, of our net derivatives exposure as of December 31, 2008. Of the $101 million of net
exposure in other derivatives as of December 31, 2008, approximately 95% consisted of mortgage insurance
contracts, all of which were with counterparties rated A- or better by Standard & Poor’s, A3 or better by
Moody’s and BBB+ or better by Fitch. Each of the remaining counterparties accounted for less than 2% of our
net derivatives exposure as of December 31, 2008. As of February 19, 2009, all of our interest rate and foreign
currency derivative counterparties were rated A- or better by Standard & Poor’s and A3 or better by Moody’s.
The concentration of our derivatives exposure among our primary derivatives counterparties increased in 2008,
and we expect the concentration to increase further due to planned mergers. The current financial market crisis
also may result in further ratings downgrades of our derivatives counterparties that may cause us to cease
entering into new arrangements with those counterparties or may result in more limited interest from
derivatives counterparties in entering into new transactions with us, either of which would further increase the
concentration of our business with our remaining derivatives counterparties. See “Part I—Item 1A—Risk
Factors” for a discussion of the risks to our business as a result of the increasing concentration of our
derivatives counterparties.
During the third quarter of 2008, one of our primary derivatives counterparties, Lehman Brothers Special
Financing Inc., or LBSF, and its parent-guarantor, Lehman Brothers, entered into bankruptcy proceedings,
which resulted in LBSF’s default under, and the termination of, all of our outstanding derivatives contracts
with LBSF. We experienced a loss of approximately $104 million during the third quarter of 2008 relating to
LBSF’s default on its derivatives contracts with us.
As a result of the termination of our derivatives contracts with LBSF in September 2008 and the assumption
by JPMorgan Chase Bank, N.A. of the derivatives contracts we had with Bear Stearns Capital Markets Inc. in
September 2008, the number of our interest rate and foreign currency derivatives counterparties with which we
had outstanding transactions has been reduced to 19 as of December 31, 2008 from 21 as of December 31,
2007.
As a result of the current financial market crisis, we may experience further losses relating to our derivative
contracts that could adversely affect our results of operations, liquidity, financial condition and net worth. In
addition, if a derivative counterparty were to default on payments due under a derivative contract, we may be
required to acquire a replacement derivative from a different counterparty at a higher cost or we may be
unable to find a suitable replacement, which could adversely affect our ability to manage our interest rate risk.
The financial market crisis may also reduce the number of derivatives counterparties willing to enter into
transactions with us, which also could adversely affect our ability to manage our interest rate risk. See
“Interest Rate Risk Management and Other Market Risks” for a discussion of how we use derivatives to
manage our interest rate risk and “Part I—Item 1A—Risk Factors” for a discussion of the risks to our business
posed by interest rate risk.
Mortgage Originators and Investors
We are routinely exposed to pre-settlement risk through the purchase or sale of mortgage loans and mortgage-
related securities with mortgage originators and mortgage investors. The risk is the possibility that the
counterparty will be unable or unwilling to either deliver mortgage assets or compensate us for the cost to
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