Fannie Mae 2010 Annual Report Download - page 133

The decline in the fair value of net assets due to the new accounting standards was primarily associated with
recording delinquent loans underlying consolidated MBS trusts and eliminating our net guaranty obligations
related to MBS trusts that were consolidated on January 1, 2010. The fair value of our guaranty obligations is
a measure of the credit risk related to mortgage loans underlying Fannie Mae MBS that we assume through
our guaranty. With consolidation of MBS trusts and the elimination of our guaranty obligation, we ceased
valuing our credit risk associated with delinquent loans in consolidated MBS trusts using our guaranty
obligation models and began valuing those delinquent loans based on nonperforming loan prices.
Since market participants’ assumptions inherent in the pricing for nonperforming loans differ from
assumptions we use in estimating the fair value of our guaranty obligations, most significantly expected
returns and liquidity discounts, consolidation of MBS trusts directly impacted the fair value of our net assets.
Market prices for nonperforming loans are reflective of highly negotiated transactions in a
principal-to-principal market that often involve loan-level due diligence prior to completion of a transaction.
Many of these transactions involve sellers who previously acquired the loans in distressed transactions and
buyers who demand significant return opportunities.
We intend to maximize the value of nonperforming loans over time, utilizing loan modifications, foreclosures,
repurchases and other preferable loss mitigation actions (for example, preforeclosure sales) that to date have
resulted in per loan net recoveries materially higher than those that would have been available had they been
sold in the nonperforming loan market. By following our loss mitigation strategies, rather than selling our
nonperforming loans at the current estimated market price, we estimate, based on our proprietary credit
valuation models, that we could realize approximately $45 billion more than the fair value of our
nonperforming loans reported in our non-GAAP consolidated fair value balance sheet as of December 31,
2010. Nonperforming loans in this fair value balance sheet disclosure include loans that are delinquent by one
or more payments. Key inputs and assumptions used in our credit valuation models included the amount of
estimated default costs, including estimated unrecoverable principal and interest that we expected to incur over
the life of the underlying mortgage loans backing our Fannie Mae MBS, estimated foreclosure-related costs
and estimated administrative and other costs related to our guaranty.
Cautionary Language Relating to Supplemental Non-GAAP Financial Measures
In reviewing our non-GAAP consolidated fair value balance sheets, there are a number of important factors
and limitations to consider. The estimated fair value of our net assets is calculated as of a particular point in
time based on our existing assets and liabilities. It does not incorporate other factors that may have a
significant impact on our long-term fair value, including revenues generated from future business activities in
which we expect to engage, the value from our foreclosure and loss mitigation efforts or the impact that
legislation or potential regulatory actions may have on us. As a result, the estimated fair value of our net
assets presented in our non-GAAP consolidated fair value balance sheets does not represent an estimate of our
net realizable value, liquidation value or our market value as a whole. Amounts we ultimately realize from the
disposition of assets or settlement of liabilities may vary materially from the estimated fair values presented in
our non-GAAP consolidated fair value balance sheets.
In addition, the fair value of our net assets attributable to common stockholders presented in our fair value
balance sheet does not represent an estimate of the value we expect to realize from operating the company or
what we expect to draw from Treasury under the terms of our senior preferred stock purchase agreement,
primarily because:
• The estimated fair value of our credit exposures significantly exceeds our projected credit losses as fair
value takes into account certain assumptions about liquidity and required rates of return that a market
participant may demand in assuming a credit obligation. Because we do not intend to have another party
assume the credit risk inherent in our book of business, and therefore would not be obligated to pay a
market premium for its assumption, we do not expect the current market premium portion of our current
estimate of fair value to impact future Treasury draws;
• The fair value balance sheet does not reflect amounts we expect to draw in the future to pay dividends on
the senior preferred stock; and
128