Fannie Mae 2013 Annual Report Download - page 159

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principal over the remaining life of our securities. These assumptions are derived based on the characteristics of the
underlying structure of the securities and historical prepayment rates experienced at specified interest rate levels, taking into
account current market conditions, the current mortgage rates of our existing outstanding loans, loan age and other factors.
On a continuous basis, management makes judgments about the appropriateness of the risk assessments and will make
adjustments as necessary to properly assess our interest rate exposure and manage our interest rate risk. The methodologies
used to calculate risk estimates are periodically changed on a prospective basis to reflect improvements in the underlying
estimation process.
Interest Rate Sensitivity to Changes in Interest Rate Level and Slope of Yield Curve
As part of our disclosure commitments with FHFA, we disclose on a monthly basis the estimated adverse impact on the fair
value of our net portfolio that would result from the following hypothetical situations:
• A 50 basis point shift in interest rates.
• A 25 basis point change in the slope of the yield curve.
In measuring the estimated impact of changes in the level of interest rates, we assume a parallel shift in all maturities of the
U.S. LIBOR interest rate swap curve.
In measuring the estimated impact of changes in the slope of the yield curve, we assume a constant 7-year rate and a shift of
16.7 basis points for the 1-year rate and 8.3 basis points for the 30-year rate. We believe the aforementioned interest rate
shocks for our monthly disclosures represent moderate movements in interest rates over a one-month period.
Duration Gap
Duration gap measures the price sensitivity of our assets and liabilities in our net portfolio to changes in interest rates by
quantifying the difference between the estimated durations of our assets and liabilities. Our duration gap analysis reflects the
extent to which the estimated maturity and repricing cash flows for our assets are matched, on average, over time and across
interest rate scenarios to those of our liabilities. A positive duration gap indicates that the duration of our assets exceeds the
duration of our liabilities. We disclose duration gap on a monthly basis under the caption “Interest Rate Risk Disclosures” in
our Monthly Summary, which is available on our website and announced in a press release.
While our goal is to reduce the price sensitivity of our net portfolio to movements in interest rates, various factors can
contribute to a duration gap that is either positive or negative. For example, changes in the market environment can increase
or decrease the price sensitivity of our mortgage assets relative to the price sensitivity of our liabilities because of prepayment
uncertainty associated with our assets. In a declining interest rate environment, prepayment rates tend to accelerate, thereby
shortening the duration and average life of the fixed rate mortgage assets we hold in our net portfolio. Conversely, when
interest rates increase, prepayment rates generally slow, which extends the duration and average life of our mortgage assets.
Our debt and derivative instrument positions are used to manage the interest rate sensitivity of our retained mortgage
portfolio and our investments in non-mortgage securities. As a result, the degree to which the interest rate sensitivity of our
retained mortgage portfolio and our investments in non-mortgage securities is offset will be dependent upon, among other
factors, the mix of funding and other risk management derivative instruments we use at any given point in time.
The market value sensitivities of our net portfolio are a function of both the duration and the convexity of our net portfolio.
Duration provides a measure of the price sensitivity of a financial instrument to changes in interest rates while convexity
reflects the degree to which the duration of the assets and liabilities in our net portfolio changes in response to a given change
in interest rates. We use convexity measures to provide us with information about how quickly and by how much our net
portfolio’s duration may change in different interest rate environments. The market value sensitivity of our net portfolio will
depend on a number of factors, including the interest rate environment, modeling assumptions and the composition of assets
and liabilities in our net portfolio, which vary over time.
The sensitivity measures presented in Table 61, which we disclose on a quarterly basis as part of our disclosure commitments
with FHFA, are an extension of our monthly sensitivity measures. There are three primary differences between our monthly
sensitivity disclosure and the quarterly sensitivity disclosure presented below: (1) the quarterly disclosure is expanded to
include the sensitivity results for larger rate level shocks of plus or minus 100 basis points; (2) the monthly disclosure reflects
the estimated pre-tax impact on the market value of our net portfolio calculated based on a daily average, while the quarterly
disclosure reflects the estimated pre-tax impact calculated based on the estimated financial position of our net portfolio and
the market environment as of the last business day of the quarter; and (3) the monthly disclosure shows the most adverse pre-
tax impact on the market value of our net portfolio from the hypothetical interest rate shocks, while the quarterly disclosure
includes the estimated pre-tax impact of both up and down interest rate shocks.