Freddie Mac 2004 Annual Report Download - page 51

eÅect on Net interest income of reÑning these assumptions, which was treated as a change in estimate under
GAAP, was the recognition of $31 million of additional amortization income during the Ñrst quarter of 2003.
These reÑned assumptions also aÅected Management and guarantee fee income as discussed in ""Management
and Guarantee Income'' below. Interest income related to Cash and investments declined by $351 million, or
8 percent, during 2003 as the negative impact of declining interest rates during the Ñrst half of the year was
only partially oÅset by the 19 percent increase in the average balances of Cash and investments.
The decline in short-term interest rates during the Ñrst half of 2003 was the primary factor in the
$1,518 million, or 35 percent decline in interest expense related to short-term debt for 2003. This decline was
only partially oÅset by an 8 percent increase in the average balance of short-term debt during the year. Interest
expense related to long-term debt increased by $746 million, or 3 percent, during 2003 as the average balances
of long-term debt increased by 17 percent, oÅsetting the beneÑt of issuing new debt at lower rates. We
repurchased approximately $27.3 billion of long-term debt during 2003 and issued new debt at lower average
rates in most cases. The most signiÑcant debt repurchases in 2003 occurred in the second quarter when we
repurchased an aggregate of approximately $17.1 billion of U.S. dollar and Euro-denominated debt securities,
most of which followed the announcement of changes in our senior management. We executed these
particular repurchases to support the liquidity and price performance of these securities. Gains (losses) on
debt retirement are reported as a component of Non-interest income (loss).
Interest expense related to amounts Due to investors in PCs and Structured Securities increased by
$405 million to ($1,641) million in 2003 from ($1,236) million in 2002 as prepayments on the collateral
underlying PCs and Structured Securities accelerated during the Ñrst part of 2003 in response to declining
interest rates. The liquidation rate on outstanding PCs and Structured Securities increased to 63 percent in
2003 from 47 percent in 2002. For a further discussion of how the prepayments of the collateral underlying
PCs aÅect Net interest income, see ""Analysis of Quarterly Results Ì Interest expense related to amounts Due
to Participation CertiÑcate investors.''
Income (expense) related to derivatives, which includes the accrual of periodic cash settlements on
interest-rate swap transactions accounted for as hedges and amortization of net deferred losses on closed cash
Öow hedges, improved by $984 million with expenses decreasing to ($1,091) million in 2003 from ($2,075)
million in 2002. During 2002 and into 2003, we terminated pay-Ñxed swaps to help manage the funding
mismatch caused by the decrease in the expected lives of mortgage investments and increase in the balance of
long-term debt. In 2002, the portfolio of swaps designated in hedge accounting relationships was in a net pay-
Ñxed position, which resulted in increasing interest expense as market interest rates declined.
Net interest yield on a fully taxable-equivalent basis decreased by 20 basis points to 130 basis points in
2003 from 150 basis points in 2002. For 2003, net interest yield was lower as declines in yields on interest-
earning assets outpaced the beneÑt of lower funding costs. The yield on interest-earning assets declined as a
result of high liquidations in the Ñrst three quarters of 2003 and the acquisition of new assets in a lower rate
environment. The yield on debt securities issued declined as the result of our long-term debt retirements,
primarily in the second quarter of 2003, and subsequent reÑnance activity, primarily decreasing our short-term
funding costs.
Freddie Mac
39