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2006
Annual Report

Table of contents

  • Page 1
    2006 Annual Report

  • Page 2
    ... governance and ethics, fairness toward employees, accountability to local community, providing responsible products and service to customers and maintaining a healthy rate of return for investors. n Freddie Mac 2006 workplace awards: Fortune Magazine "Best Companies for Minorities" Latina Style...

  • Page 3
    ... affordable rental housing, we've helped make home possible for more than 4 million renters. Our mission of expanding affordable housing opportunities is the foundation of our business. It forms the framework for our business activities, shapes the products we bring to market and drives the services...

  • Page 4
    ... relatively low on prime mortgages, which are made to lower-risk borrowers and account for the lion's share of home loans. But late payments have risen swiftly over the past year on subprime mortgages, those made to borrowers having spottier credit histories and posing higher risks. Yet despite last...

  • Page 5
    ...We ended the year with a total of $1.5 trillion in mortgage securities issued - up from less than $1 trillion in 2001. Another key to Freddie Mac's success in 2006 was our disciplined management of interest-rate risk. One of the many reasons was our extensive use of callable debt - which we use more...

  • Page 6
    ... 2003. Moreover, we returned $2 billion to our common shareholders in a preferred-for-common restructuring. All told, we returned some $3.3 billion to common shareholders last year - the most in Freddie Mac history. Going forward, Freddie Mac remains strongly capitalized. With a strong balance sheet...

  • Page 7
    ... properties along the Gulf Coast. Freddie Mac acted last year to ease the increasing strains on housing affordability. We supported our lenders by introducing an innovative 40-year product that combines the advantages of a fixed-rate loan with lower monthly costs. And we expanded our special...

  • Page 8
    ... we complete our needed investments in financial reporting and internal controls. Building a stronger future for this company includes building support for the GSE model. Freddie Mac continues to strongly support an appropriate legislative solution that would strengthen our oversight and enable us...

  • Page 9
    ...public mission not with federal expenditures, but using private capital. So thank you for your confidence in this franchise. It is what makes the GSE model work. And our aim every day is to earn it. Sincerely, n Richard F. Syron Chairman and Chief Executive Officer Freddie Mac 2006 Annual Report

  • Page 10
    2006 Annual Report to Stockholders

  • Page 11
    ...Information Statement, OÃ...ering Circulars, all available supplements, Ã'nancial reports and other similar information by visiting our Internet website (www.freddiemac.com) or by writing or calling us at: Freddie Mac Investor Relations Department Mailstop 486 8200 Jones Branch Drive McLean, Virginia...

  • Page 12
    ...BENEFICIAL OWNERS AND MANAGEMENT AND RELATED STOCKHOLDER MATTERS CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS AND DIRECTOR INDEPENDENCE PRINCIPAL ACCOUNTANT FEES AND SERVICES CERTIFICATIONS RATIOS OF EARNINGS TO FIXED CHARGES AND EARNINGS TO COMBINED FIXED CHARGES AND PREFERRED STOCK DIVIDENDS...

  • Page 13
    ... fund our mortgage purchase or Ã'nancing activities or to guarantee our securities and other obligations. Our Charter and Mission The Federal Home Loan Mortgage Corporation Act, which we refer to as our charter, forms the framework for our business activities, shapes the products we bring to market...

  • Page 14
    ... Bureau news release dated February 28, 2007 (sales of new homes). (2) Source: Freddie Mac's Conventional Mortgage Home Price Index release dated March 5, 2007. (3) U.S. residential mortgage debt outstanding as of December 31 for 2006, 2005 and 2004. Source: Federal Reserve Flow of Funds Accounts of...

  • Page 15
    ..., and for the year ended December 31, 2006, we reported net income of $2.2 billion. At February 28, 2007, we had 5,400 full-time and 135 part-time employees. Our principal oÇces are located in McLean, Virginia. Types of Mortgages We Purchase Our charter establishes general parameters for the terms...

  • Page 16
    ...guidelines. See ""MD&A Ì RISK MANAGEMENT Ì Credit Risks Ì Mortgage Credit Risk Ì Underwriting Requirements and Quality Control Standards'' for additional information regarding our underwriting standards. Investment and Funding Activities We purchase mortgage loans and mortgage-related securities...

  • Page 17
    ... mortgage-related assets into two or more classes that meet the investment criteria and portfolio needs of diÃ...erent investors. Our principal multi-class Structured Securities qualify for tax treatment as Real Estate Mortgage Investment Conduits, or REMICs. For purposes of this Information Statement...

  • Page 18
    ... Freddie Mac, including power over new programs, aÃ...ordable housing goals and fair lending. HUD periodically conducts reviews of our activities to ensure conformity with our charter and other regulatory obligations. For example, HUD is currently reviewing certain of our investments and other assets...

  • Page 19
    ... Purchase Subgoals and Reported Results Year Ended December 31, 2006 2005 Subgoal Result Subgoal Result Low- and moderate-income subgoal Underserved areas subgoal Special aÃ...ordable subgoal 46% 33 17 46.9% 33.7 16.9 45% 32 17 46.9% 35.4 17.8 (1) An individual mortgage may qualify for more...

  • Page 20
    .... HUD must approve any new program unless the Secretary determines that the new program is not authorized under our charter or that the program is not in the public interest. OÇce of Federal Housing Enterprise Oversight OFHEO is the safety and soundness regulator for Freddie Mac and Fannie Mae...

  • Page 21
    ... information. Department of the Treasury Under our charter, the Secretary of the Treasury has approval authority over our issuances of notes, debentures and substantially identical types of unsecured debt obligations (including the interest rates and maturities of these securities), as well as new...

  • Page 22
    ...introduce new products or execute new business strategies. Such constraints may adversely impact our business and results of operations. Although we have implemented a comprehensive plan to remediate our internal control deÃ'ciencies and return to quarterly Ã'nancial reporting, there are a number of...

  • Page 23
    ...Ã...ective controls could also cause investors to lose conÃ'dence in our reported Ã'nancial information, which may have an adverse eÃ...ect on the trading price of our securities. We rely on internal models for Ã'nancial accounting and reporting purposes, to make business decisions, and to manage risks...

  • Page 24
    ... and mortgage loan underwriting. Any failures by those vendors could disrupt our business operations. We outsource certain key functions to external parties, including but not limited to (a) processing functions for trade capture, market risk management analytics, and asset valuation, (b) custody...

  • Page 25
    ... guidelines and the expanded use of targeted initiatives to reach underserved populations. For example, we are purchasing loans and mortgage-related securities that oÃ...er lower expected returns on our investment and increase our exposure to credit losses. In addition, in order to meet future...

  • Page 26
    ...ected by changes in general business and economic conditions, including changes in the markets for our portfolio investments or our mortgage-related and debt securities. These conditions include employment rates, Ã-uctuations in both debt and equity capital markets, the value of the U.S. dollar as...

  • Page 27
    ... to meet our mission objectives while providing favorable returns for our business. Furthermore, competitive pricing pressures may make our products less attractive in the market and negatively impact our proÃ'tability. We also compete for low-cost debt funding with Fannie Mae, the Federal Home Loan...

  • Page 28
    ... pressures or other factors, then the overall proÃ'tability of our new business would be lower and could result in losses on guarantees at their inception. Moreover, an increase in expected future credit costs generally increases the fair value of our existing Guarantee obligation. 16 Freddie Mac

  • Page 29
    ... our internal control over Ã'nancial reporting and related problems could continue to have adverse consequences. MARKET FOR THE COMPANY'S COMMON EQUITY, RELATED STOCKHOLDER MATTERS AND ISSUER PURCHASES OF EQUITY SECURITIES Market Information Our common stock, par value $0.21 per share, is listed on...

  • Page 30
    ...consolidated Ã'nancial statements for additional information regarding dividend payments and potential restrictions on such payments and ""NOTE 9: STOCKHOLDERS' EQUITY'' to our consolidated Ã'nancial statements for additional information regarding our preferred stock dividend rates. 18 Freddie Mac

  • Page 31
    ...CAPITAL RESOURCES'' for additional information. Table 6 Ì Common Share Repurchase Activity in 2006 Total Number of Shares Purchased (in millions) Average Price Paid per Share Total Number of Shares Purchased as Part of a Publicly Announced Program(1) (in millions) Approximate Dollar Value of Shares...

  • Page 32
    ...Stock Compensation Plan, or 1995 Employee Plan. Although grants are no longer made under the 1995 Employee Plan, we currently have awards outstanding under this plan. We collectively refer to the 2004 Employee Plan and 1995 Employee Plan as the Employee Plans. During the year ended December 31, 2006...

  • Page 33
    ... of originators in selling into the secondary market; ‚ borrower preferences for Ã'xed-rate mortgages or ARMs; ‚ investor preferences for mortgage loans and mortgage-related and debt securities versus other investments; ‚ the occurrence of a major natural or other disaster in geographic areas...

  • Page 34
    SELECTED FINANCIAL DATA(1) At or for the Year Ended December 31, 2006 2005 2004 2003 2002 (dollars in millions, except share-related amounts) Income Statement Data Net interest income Non-interest income (loss Net income before cumulative eÃ...ect of changes in accounting principles Cumulative eÃ......

  • Page 35
    ... value of our net assets. Also, as a result of the increase in expected future credit costs and competitive pressure on our guarantee fees, some of our new credit guarantee business was acquired below our normal expected return thresholds and we realized increased losses on certain 23 Freddie Mac

  • Page 36
    ... weighted average number of common shares outstanding, arising from our repurchase of approximately 32.7 million common shares during the year, partially oÃ...set by an increase in preferred dividends associated with our issuance of $1.5 billion in new preferred stock. Pre-tax income declined by...

  • Page 37
    ... Internal Revenue Service settlement. Our negative eÃ...ective tax rate in 2006, and the decrease in our eÃ...ective tax rate over the past three years, also resulted from declines in pre-tax income, year-over-year increases in tax credits related to our investments in low-income housing tax credit...

  • Page 38
    ...-rate risk management framework of our investment activities. See ""CONSOLIDATED FAIR VALUE BALANCE SHEETS ANALYSIS Ì Discussion of Fair Value Results Ì How we estimate the impact of changes in mortgageto-debt OAS on fair value results,'' for additional information about this change. Business...

  • Page 39
    ... legislation, individually and in certain combinations, could have a material adverse eÃ...ect on our ability to fulÃ'll our mission, future earnings, stock price and stockholder returns, the rate of growth in our fair value, and our ability to recruit qualiÃ'ed oÇcers and directors. 27 Freddie Mac

  • Page 40
    ... of Income Year Ended December 31, 2006 2005 2004 (in millions) Net interest income Non-interest income (loss): Management and guarantee income Gains (losses) on Guarantee asset Income on Guarantee obligation Derivative gains (losses Hedge accounting gains (losses Gains (losses) on investment...

  • Page 41
    ... Excludes mortgage loans and mortgage-related securities traded, but not yet settled. (2) For securities classiÃ'ed as available-for-sale, we calculated average balances based on their unpaid principal balance plus their associated deferred fees and costs (e.g., premiums and discounts), but excluded...

  • Page 42
    ... 2005 impacted our results. Also, we adjusted our funding mix in 2006 by increasing the proportion of callable debt outstanding, which we use to manage prepayment risk associated with our mortgage-related investments, and which generally has a higher interest cost than non-callable debt. In 2006, we...

  • Page 43
    ... relatively higher guarantee fee rates. The continued decline in guarantee fee rates on new business is the result of competitive pricing pressures. Management and guarantee income includes the amortization of pre-2003 deferred credit fees and buy-down fees on our outstanding PCs. However, similar...

  • Page 44
    ... quality of the underlying mortgages and buydown fees vary based on customer compensation payment preferences. The Guarantee obligation is amortized into income in relation to the decline in the unpaid principal balance on the mortgage loans underlying the PCs and Structured Securities. 32 Freddie...

  • Page 45
    ... Components of the Guarantee obligation, at period end: Unamortized balance of performance and other related costs 4,869 Unamortized balance of deferred guarantee income 2,248 Ending Guarantee obligation(2 7,117 Liquidation rate for outstanding PCs and Structured Securities 17% $ 616 304 $ 920...

  • Page 46
    ... Ã-ow hedge and fair value hedge accounting relationships. At December 31, 2006, the only derivatives in hedge accounting relationships were certain commitments to forward sell mortgage-related securities, which were designated in cash Ã-ow hedge relationships. See ""NOTE 12: DERIVATIVES'' to our...

  • Page 47
    ... of interest rates. Additionally, in 2004, a large portion of our pay-Ã'xed swaps that were not in hedge accounting relationships was scheduled to begin on a future date. The net loss on our pay-Ã'xed swaps in 2004 resulted from the overall decline in forward swap interest rates. 35 Freddie Mac

  • Page 48
    ... quarter of 2005. In 2004, expected default costs declined due to continued home price appreciation and generated gains, partially oÃ...set by declines in mortgage interest rates which reduced the estimated fair value of future contractual guarantee fees related to securities we hold. 36 Freddie Mac

  • Page 49
    ..., HUD determined that these mixed-pool investments were not authorized under our charter and OFHEO subsequently directed us to divest these investments, which we did in 2006. Gains (Losses) on Debt Retirement We repurchase or call our outstanding debt securities from time to time to help support the...

  • Page 50
    ... costs, such as employee stock compensation, special incentive awards and annual employee bonuses. The cessation of our SS&TG business unit and external Money Manager program activities during the fourth quarter of 2004 and related employee terminations partially oÃ...set other increases in Salaries...

  • Page 51
    ... transaction, considering the volume and types of mortgage loans to be delivered to us and our estimates of the net present value of related future guarantee fees, credit costs and other associated cash Ã-ows. However, the accounting for our guarantee-related assets and liabilities is not determined...

  • Page 52
    ... Tax Court decision in 2006 and separate settlements with the Internal Revenue Service in both years. For additional information, see ""NOTE 14: INCOME TAXES'' to our consolidated Ã'nancial statements. CONSOLIDATED BALANCE SHEETS ANALYSIS The following discussion of our consolidated balance sheets...

  • Page 53
    ...of unpaid principal balances and other basis adjustments Net unrealized gains (losses) on mortgage-related securities, pre-tax Participation CertiÃ'cate residuals, at fair value Reserve for losses on mortgage loans held-for-investment Total Retained portfolio per consolidated balance sheets 103...

  • Page 54
    ...273 Commercial paper 11,191 Total available-for-sale non-mortgage-related securities(2 45,586 Federal funds sold and Eurodollars 19,778 Securities purchased under agreements to resell 3,250 Subtotal 23,028 Total investments 68,614 Total Cash and investments per consolidated balance sheets 79...

  • Page 55
    ...purposes in response to movements in short-term rates. The notional balance of our foreign-currency swaps declined due to maturities of such swaps throughout 2006 that were not replaced by new contracts as the balance of our Euro-denominated debt securities declined during the year. 43 Freddie Mac

  • Page 56
    ... in Derivative Fair Values 2006 2005 (in millions) Beginning balance, at January 1 Ì Net asset (liability Net change in: Forward purchase and sale commitments Credit derivatives Swap guarantee derivatives Other derivatives:(1) Changes in fair value Fair value of new contracts entered into...

  • Page 57
    ... hedging-related basis adjustments(3 7,737 7,748 Total debt securities, net 753,938 $748,792 (1) Includes securities sold under agreements to repurchase and Federal funds purchased and swap collateral obligations. (2) Primarily represents unamortized discounts on zero-coupon debt securities. Also...

  • Page 58
    ... Maximum Balance, Net Outstanding at Any Month End Reference Bills» securities and discount notes Medium-term Notes Securities sold under agreements to repurchase and Federal funds purchased Swap collateral obligations Short-term debt securities Current portion of long-term debt Senior debt...

  • Page 59
    ...a result of Net income, partially oÃ...set by preferred and common stock dividends declared during 2006. During 2006, we repurchased $2.0 billion of outstanding shares of common stock and issued $1.5 billion of non-cumulative, perpetual preferred stock in connection with a plan to replace $2.0 billion...

  • Page 60
    ... MANAGEMENT Ì Interest-Rate Risk and Other Market Risks'' for information concerning the risks associated with these models. Table 29 Ì Summary Consolidated Fair Value Balance Sheets(1) December 31, 2006 Carrying Amount(2) Fair Value 2005 Carrying Amount(2) Fair Value (in billions) Total assets...

  • Page 61
    ... rates and other market factors on the unhedged portion of the projected cash Ã-ows from the credit guarantee business. The fair value changes associated with net buy-ups and Ã-oat are considered in asset-liability management return (described above) because they relate to hedged positions. Fee...

  • Page 62
    ... instruments, fund our general operations and pay dividends on our preferred and common stock. We fund our cash requirements primarily by issuing short-term and long-term debt. Other sources of cash include: ‚ receipts of principal and interest payments on securities we hold or mortgage loans we...

  • Page 63
    ... necessary to cover payments on their debt and mortgage-related securities each day, before the Federal Reserve Bank of New York, acting as Ã'scal agent for the GSEs, will initiate such payments. We have taken actions to fully fund our account as necessary, such as opening lines of credit with third...

  • Page 64
    ... paying only principal at maturity. Our Reference Bills» securities program consists of large issues of short-term debt that we auction to dealers on a regular schedule. We issue discount notes with maturities ranging from one day to one year in response to investor demand and our cash needs. Short...

  • Page 65
    ... Ì Non-Interest Income (Loss) Ì Gains (Losses) on Debt Retirement'' for more information. Table 31 provides the par value, based on settlement dates, of debt securities we repurchased, called and exchanged during 2006 and 2005. Table 31 Ì Debt Security Repurchases, Calls and Exchanges Year Ended...

  • Page 66
    ...by type of contractual obligation, including the contractual maturity proÃ'le of our debt securities and other liabilities reported on our consolidated balance sheet and our operating leases at December 31, 2006. The timing of actual future payments may diÃ...er from those presented due to a number of...

  • Page 67
    ... to low-income housing tax credit partnerships that are unconditional and legally binding. (4) Accrued obligations related to our deÃ'ned beneÃ't plans, deÃ'ned contribution plans and executive deferred compensation plan are included in the Total and 2007 columns. However, the timing of payments due...

  • Page 68
    ...areas of system security, change management and information technology application and general controls. See ""Internal Control Over Financial Reporting'' for more information concerning material weaknesses related to our systems. In recent years, we have strengthened our processes to validate model...

  • Page 69
    ... Quality Control Standards'' for information about how we mitigate the risks associated with delegated underwriting. We mitigate the risk from our use of external parties by engaging in active vendor management, such as establishing detailed vendor requirements, reviewing business continuity plans...

  • Page 70
    .... Information technology general controls as they relate to security administration, management and technology. Our controls over information systems security administration and management functions need to improve in the following areas: (a) granting and revoking user access rights; (b) segregation...

  • Page 71
    ... guarantee-related assets and liabilities; ‚ deÃ'ciencies in our controls over the accuracy and completeness of data received from external counterparties or passed between our business processes and used in our transaction processing and Ã'nancial reporting systems; ‚ over-reliance on end-user...

  • Page 72
    ...will pay the outstanding principal balance of mortgage loans and mortgage-related securities held in the Retained portfolio, known as prepayment risk, and the resulting potential mismatch in the timing of our receipt of cash Ã-ows on our assets versus the timing of our obligation to make payments on...

  • Page 73
    ... and investment return characteristics while selling oÃ... the cash Ã-ows that do not meet our investment proÃ'le. Through our asset and liability management process, we mitigate interest-rate risk by issuing a wide variety of debt products. The prepayment option held by mortgage borrowers drives the...

  • Page 74
    ... interest-earning assets and interest-bearing liabilities and derivatives on a pre-tax basis. When we calculate the expected loss in portfolio market value and duration gap, we also take into account the cash Ã-ows related to certain credit guarantee-related items, including net buy-ups and expected...

  • Page 75
    ... to purchase mortgage investments on an opportunistic basis for a future settlement, typically ranging from two weeks to three months after the date of the commitment. To facilitate larger and more predictable debt issuances that contribute to lower funding costs, we use interest-rate derivatives...

  • Page 76
    ... balance sheets), then the counterparty could potentially be obligated to deliver cash, securities or a combination of both having that market value to satisfy its obligation to us under the derivative. We actively manage our exposure to counterparty credit risk using several tools, including...

  • Page 77
    ... to fair value and the date we received the related collateral. Collateral is typically transferred within one business day based on the values of the related derivatives. As indicated in Table 36, approximately 93 percent of our counterparty credit exposure for OTC interest-rate swaps, option-based...

  • Page 78
    ...Ã-uenced by the credit proÃ'le of the borrower on the mortgage, the features of the mortgage itself, the type of property securing the mortgage and the general economy. To manage our mortgage credit risk, we focus on three key areas: underwriting requirements and quality control standards; portfolio...

  • Page 79
    ... we purchase or securitize. Credit Enhancements. Our charter requires that single-family mortgages with loan-to-value ratios above 80 percent at the time of purchase must be covered by one or more of the following: (a) primary mortgage insurance; (b) a seller's agreement to repurchase or replace any...

  • Page 80
    ... Securities backed by non-Freddie Mac mortgage-related securities Mortgage loans in the Retained portfolio: Single-Family Multifamily Total Unpaid Principal Balance Product Distribution Single-family 30-year amortizing Ã'xed-rate(3 15-year amortizing Ã'xed-rate ARMs/Variable-rate Option ARMs...

  • Page 81
    ... Credit Risk Ì Non-Freddie Mac Mortgage-Related Securities'' and ""CONSOLIDATED BALANCE SHEETS ANALYSIS Ì Retained Portfolio.'' Subprime loans. Participants in the mortgage market often characterize loans based upon their overall credit quality at the time of origination, generally considering...

  • Page 82
    ...applicable to purchases made during the year. (4) 2005 and 2004 ratios have been revised to conform to the current year presentation. (5) Credit score data are as of mortgage loan origination. Loan-to-Value Ratios. An important safeguard against credit losses for mortgage loans in our single-family...

  • Page 83
    ... providing our single-family servicers with default management tools designed to help them manage non-performing loans more eÃ...ectively and support fulÃ'llment of our mission by assisting borrowers in retaining home ownership. Foreclosure alternatives are intended to reduce the number of delinquent...

  • Page 84
    ... are classiÃ'ed as non-accrual, since we generally begin establishing reserves for current accruals after 90 days delinquency. (5) For the year ended December 31, 2006, $481 million was included in Net interest income and Management and guarantee income related to these mortgage loans. The amount of...

  • Page 85
    ... mortgage portfolio characteristics because the risk-sharing and credit derivative agreements may result in us making payments to the seller/servicer. Delinquencies. We report single-family delinquency information based on the number of single-family mortgages that are 90 days or more past due or in...

  • Page 86
    ... credit quality of these loans. The Ã'rst year delinquency rate associated with new originations increased in each of the last three years due to a number of factors, including the expansion of credit terms under which loans are underwritten and an increase in our purchases of variable-rate and non...

  • Page 87
    ... 15-year amortizing Ã'xed rate ARMs/Variable rate Interest Only Balloon/Resets FHA/VA Rural Housing Service and other federally guaranteed loans ÏÏÏÏ Total Mortgage Loans, PCs and Structured Securities Structured Transactions(3 Total Mortgage Portfolio Number of single-family loans (in...

  • Page 88
    .... (4) Equal to REO operations income (expense) plus Charge-oÃ...s, net. (5) Calculated as credit losses divided by the average Total mortgage portfolio, excluding non-Freddie Mac mortgage-related securities and that portion of Structured Securities that is backed by Ginnie Mae CertiÃ'cates. Table 44...

  • Page 89
    ...loss. Single-family charge-oÃ...s, gross, increased in 2006 primarily due to a modest increase in the volume of REO properties acquired at foreclosure, as noted in Table 44. We maintain two loan loss reserves ÃŒ Reserve for losses on mortgage loans held-for-investment and Reserve for guarantee losses...

  • Page 90
    ... entities: mortgage loan insurers; mortgage seller/servicers; issuers, guarantors or third party providers of credit enhancements on non-Freddie Mac mortgage-related securities held in our Retained portfolio; mortgage investors and originators; and issuers, guarantors and insurers of investments...

  • Page 91
    .... We manage institutional credit risk on non-Freddie Mac mortgage-related securities by only purchasing securities that meet our investment guidelines and performing ongoing analysis to evaluate the creditworthiness of the issuers and servicers of these securities and the bond insurers that...

  • Page 92
    ... statements of income related to our credit guarantee activities. See ""CONSOLIDATED BALANCE SHEETS ANALYSIS'' for a description of our Guarantee asset and Guarantee obligation. The accounting for our securitization transactions and the signiÃ'cant assumptions used to determine 80 Freddie Mac

  • Page 93
    ... mortgage loans and mortgage-related securities. Some of these commitments are accounted for as derivatives with their fair values reported as either Derivative assets, at fair value or Derivative liabilities, at fair value on our consolidated balance sheets. See ""RISK MANAGEMENT Ì Interest-Rate...

  • Page 94
    ...31, 2006 and 2005, approximately 65 percent and 68 percent, respectively, of the gross fair value of our derivatives portfolio related to interest-rate and foreign-currency swaps that did not have embedded options. These derivatives were valued using a discounted cash Ã-ow model that projects future...

  • Page 95
    ... designated as cash Ã-ow hedges generally have hedged interest-rate risk related to the forecasted issuances of debt. For these hedging relationships to qualify for hedge accounting both at inception and over the life of the derivative, we must estimate the probable future level of certain types...

  • Page 96
    ... Method We recognize interest income on certain mortgage-related and non-mortgage-related investments, using the retrospective eÃ...ective interest method in accordance with SFAS No. 91, ""Accounting for Nonrefundable Fees and Costs Associated with Originating or Acquiring Loans and Initial Direct...

  • Page 97
    .... We review securities not accounted for under EITF 99-20 for potential impairment whenever the security's fair value is less than its amortized cost. This review considers a number of factors, including the severity of the decline in fair value, credit ratings, the length of time the investment has...

  • Page 98
    ... outstanding guaranteed PCs and Structured Securities. Also see ""CONSOLIDATED BALANCE SHEETS ANALYSIS Ì Table 19 Ì Characteristics of Mortgage Loans and Mortgage-Related Securities in the Retained Portfolio'' for more information concerning the non-Freddie Mac mortgage-related securities...

  • Page 99
    ... balance sheets. (3) Includes 40-year and 20-year Ã'xed-rate mortgages. (4) Includes ARMs with 1-, 3-, 5-, 7- and 10-year initial Ã'xed-rate periods. (5) Represents loans where the borrower pays interest only for a period of time before the borrower begins making principal payments. 87 Freddie Mac

  • Page 100
    ... 15-year Ã'xed-rate ARMs/Variable-rate Option ARMs Balloons/Resets FHA/VA(4 Rural Housing Service and other federally guaranteed loans Total single-family Multifamily: Conventional: Fixed-rate Variable-rate Total multifamily Structured Securities backed by non-Freddie Mac mortgage-related...

  • Page 101
    ...agency mortgage-related securities. Also includes multiclass Structured Securities backed by Ginnie Mae CertiÃ'cates. (4) Principal-only strips backed by Freddie Mac mortgage-related Securities held in the Retained portfolio are classiÃ'ed as multi-class for the purpose of this table. (5) See ""NOTE...

  • Page 102
    ...xed-rate(3 15-year amortizing Ã'xed-rate ARMs/Variable-Rate Interest Only Option ARMs Balloon/Resets FHA/VA Rural Housing Service and other federally guaranteed loans Total single-family Multifamily: Conventional Total multifamily Non-Freddie Mac mortgage-related securities purchased for...

  • Page 103
    ...and ""ÃŒ Changes in Accounting Principles'' for more information concerning some of these adjustments. 1Q 2006 2Q 3Q 4Q Full-Year (in millions, except share-related amounts) Net interest income Non-interest income (loss Non-interest expense Income tax beneÃ't (expense Net income (loss Earnings...

  • Page 104
    ...-annual subordinated debt management plans to OFHEO. ‚ We have in place a liquidity contingency plan, upon which we report to OFHEO on a weekly basis. We periodically test this plan in accordance with our agreement with OFHEO. ‚ For the twelve months ended December 31, 2006, our duration gap...

  • Page 105
    ... to certain assumptions about counterparty default rates. (3) Based on single-family Total mortgage portfolio, excluding Structured Securities backed by Ginnie Mae CertiÃ'cates. (4) Calculated as the ratio of net present value of increase in credit losses to the singlefamily Total mortgage portfolio...

  • Page 106
    CONSOLIDATED FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA 94 Freddie Mac

  • Page 107
    ... plans as of December 31, 2006, its method of accounting for interest expense related to callable debt instruments as of January 1, 2005, and its method for determining gains and losses on sales of certain guaranteed securities as of October 1, 2005. McLean, Virginia March 20, 2007 95 Freddie Mac

  • Page 108
    FREDDIE MAC CONSOLIDATED STATEMENTS OF INCOME Year Ended December 31, 2006 2005 2004 (dollars in millions, except sharerelated amounts) Interest income Mortgage loans Mortgage-related securities in the Retained portfolio Cash and investments Total interest income Interest expense Short-term ...

  • Page 109
    ...investments Cash and cash equivalents Investments: Non-mortgage-related securities: Available-for-sale, at fair value Securities purchased under agreements to resell and Federal funds sold Cash and investments Accounts and other receivables, net Derivative assets, at fair value Guarantee asset...

  • Page 110
    FREDDIE MAC CONSOLIDATED STATEMENTS OF STOCKHOLDERS' EQUITY 2006 Shares Amount Year Ended December 31, 2005 2004 Shares Amount Shares Amount (in millions) Preferred stock, at redemption value Balance, beginning of year Preferred stock issuances Preferred stock, end of year Common stock, par ...

  • Page 111
    ... in securities purchased under agreements to resell and Federal funds sold Derivative premiums and terminations, net Investments in housing tax credit partnerships Net cash used for investing activities Cash Ã-ows from Ã'nancing activities Proceeds from issuance of short-term debt Repayments...

  • Page 112
    ... timing and amounts of future issuances of non-callable debt; and ‚ determining other matters that aÃ...ect the reported amounts and disclosure of contingencies in the Ã'nancial statements. Net income for 2006 was increased by approximately $8 million (after-tax), or $0.01 per diluted common share...

  • Page 113
    ... forma net income and related basic and diluted earnings per common share, had the amortization of premiums, discounts, deferred issuance costs and other basis adjustments related to callable debt based on the contractual maturity been in eÃ...ect for the year ended December 31, 2004. 101 Freddie Mac

  • Page 114
    ... consolidated is accounted for under the equity method and reported as part of Other assets on our consolidated balance sheets. Our share of partnership income or loss is reported in our consolidated statements of income as Non-interest expense Ì Housing tax credit partnerships. Our obligations to...

  • Page 115
    ...types of seller-provided credit enhancements related to the underlying mortgage loans. We also issue and transfer Structured Securities to third parties in exchange for PCs and non-Freddie Mac mortgage-related securities. We recognize the fair value of our contractual right to receive guarantee fees...

  • Page 116
    ... for PCs and non- Freddie Mac mortgage-related securities, we generally do not recognize any incremental Guarantee asset or Guarantee obligation. Rather, we defer and amortize into income on a straight-line basis that portion of the transaction fee that we receive that relates to the estimated...

  • Page 117
    ... short-term investments from the time the cash is received until the time we pay the PC investor. Interest income resulting from investment of principal and interest payments from seller/ servicers is reported in interest income. For unscheduled principal prepayments, these timing diÃ...erences result...

  • Page 118
    .... The homogeneous pools of single-family mortgage loans are determined based on common underlying characteristics, including year of origination, loan-to-value ratio and geographic region. In determining the loan loss reserves for impaired single-family loans at the balance sheet date, we evaluate...

  • Page 119
    ..., we reserve for lost interest using a statistically based model. Impaired loans include single-family loans, both performing and non-performing, that are troubled debt restructurings and delinquent loans purchased from PC pools whose fair value was less than acquisition cost at the date of purchase...

  • Page 120
    ... of our recorded investment (such as interest-only strips) or (b) are not of high credit quality at the acquisition date. We recognize as interest income (over the life of these securities) the excess of all estimated cash Ã-ows attributable to these interests over their principal amount using the...

  • Page 121
    ... spot rates at the balance sheet dates and any translation gains or losses are reported in Non-interest income (loss) Ì Other income. Contemporaneous transfers of cash between us and a creditor in connection with the issuance of a new debt obligation and satisfaction of an existing debt obligation...

  • Page 122
    ... the Employee Stock Purchase Plan, or ESPP, is three months. See ""NOTE 11: STOCK-BASED COMPENSATION'' for additional information. The fair value of options to purchase shares of our common stock, including options issued pursuant to the ESPP, is estimated using a Black-Scholes option pricing model...

  • Page 123
    ... from non-owner sources during a period. It includes all changes in equity during a period, except those resulting from investments by stockholders. We deÃ'ne comprehensive income as consisting of net income plus changes in the unrealized gains and losses on available-for-sale securities, the...

  • Page 124
    ... to measure both assets and liabilities at fair value without having to apply complex hedge accounting provisions. SFAS 159 is eÃ...ective as of the beginning of an entity's Ã'rst Ã'scal year beginning after November 15, 2007, with earlier adoption permitted. We do not plan to elect early adoption and...

  • Page 125
    ... mortgage loans and mortgage-related securities traded, but not yet settled. Due to timing diÃ...erences in our receipt of principal and interest payments from mortgage servicers and subsequent pass-through of payments to PC investors, the unpaid principal balances of the underlying mortgage loans do...

  • Page 126
    ...ows related to security program cycles. This estimate is included in the Guarantee obligation valuation. For 2004, the Guarantee obligation fair value was calculated using internal models to estimate future cash Ã-ows using a Monte Carlo simulation. The components of estimated cash Ã-ows associated...

  • Page 127
    ... 31, 2006 and 2005, the fair value of the recognized Guarantee asset was based upon a valuation approach that incorporates market-based information. In order to report the hypothetical sensitivity of the carrying value of the Guarantee asset to changes in key assumptions, we used internal models to...

  • Page 128
    ... of Cash Flows Year Ended December 31, 2006 2005 2004 (in millions) Cash Ã-ows from: Transfers of Freddie Mac securities that were accounted for as sales Cash Ã-ows received on the Guarantee asset(1 Other Retained Interests principal and interest(2 Purchases of delinquent or foreclosed loans...

  • Page 129
    ... of any asset-backed investment trusts. Structured Transactions We issue securities in Structured Transactions, which are backed by mortgage loans or mortgage-related securities using collateral pools transferred to a trust speciÃ'cally created for the purpose of issuing securities. These trusts...

  • Page 130
    ...expect the maximum potential interest payments we would be required to make associated with these guarantees to signiÃ'cantly exceed 120 days of interest at the certiÃ'cate rate. At December 31, 2006 and 2005, in connection with PCs or Structured Securities backed by single-family mortgage loans, we...

  • Page 131
    ... where the original seller is unable to perform under its separate servicing agreement. Our servicing-related premium guarantees are payable according to a vesting schedule for up to Ã've years from the date of purchase of servicing rights. The maximum potential amount of future payments under these...

  • Page 132
    ... major security type for available-for-sale securities. Table 5.1 Ì Available-For-Sale Securities Amortized Cost December 31, 2006 Gross Gross Unrealized Unrealized Gains Losses (in millions) Fair Value Retained portfolio: Mortgage-related securities issued by: Freddie Mac 347,700 Fannie Mae 44...

  • Page 133
    ... duration of the decline in fair value relative to the amortized cost have met our criteria that are used to indicate that the impairment of these securities is temporary. ‚ Federal National Mortgage Association, or Fannie Mae, securities and Obligations of states and political subdivisions. The...

  • Page 134
    ... held at the balance sheet date. The numerator for the individual lot yield consists of the sum of (a) the year-end interest coupon rate multiplied by the year-end unpaid principal balance and (b) the annualized amortization income or expense calculated for December 2006 (excluding any adjustments...

  • Page 135
    ... with secured Ã'nancings, interest-rate swap agreements, futures and daily trade activities with some counterparties. In 2006, we opened three uncommitted intraday lines of credit with third-parties, two of which are secured, in connection with the Federal Reserve Board's revised payments system...

  • Page 136
    ... loans plus other amortized basis adjustments, which are modiÃ'cations to their carrying value. (3) Impaired loans with no related valuation allowance primarily represent performing single-family troubled debt restructuring loans and impaired loans purchased out of PC pools. 124 Freddie Mac

  • Page 137
    ... years ended December 31, 2006, 2005 and 2004, respectively. For single-family performing and non-performing loans, we recognize interest income on an accrual basis and establish reserves for estimated accrued but uncollectible interest for these loans at the consolidated balance sheet dates. Gross...

  • Page 138
    .... Federal funds purchased are unsecuritized borrowings from commercial banks that are members of the Federal Reserve System. Table 8.2 provides additional information related to our debt securities due within one year. Table 8.2 Ì Senior Debt, Due Within One Year December 31, 2006 Balance...

  • Page 139
    ... 31, 2006 Contractual Balance, Maturity(1) Par Value Net(2) 2005 Interest Balance, Rates Par Value Net(2) (dollars in millions) Interest Rates Senior debt, due after one year:(3) Fixed-rate: Medium-term Notes Ì Callable(4 Medium-term Notes Ì Non-callable U.S. dollar Reference Notes» securities...

  • Page 140
    ... shares, on speciÃ'ed dates, at their redemption price plus dividends accrued through the redemption date. In addition, all 20 classes of preferred stock are perpetual and non-cumulative, and carry no signiÃ'cant voting rights or rights to purchase additional Freddie Mac stock or securities. Costs...

  • Page 141
    ... of aggregate on-balance sheet assets and approximately 0.25 percent of the sum of outstanding mortgage-related securities we guaranteed and other aggregate oÃ...-balance sheet obligations. Risk-Based Capital The risk-based capital standard requires the application of a stress test to determine the...

  • Page 142
    ... PCs and Structured Securities and 4 percent of on-balance sheet assets at the end of each quarter. Qualifying subordinated debt is deÃ'ned as subordinated debt that contains a deferral of interest payments for up to Ã've years if our Core capital falls below 125 percent of our 130 Freddie Mac

  • Page 143
    ... Plan, we currently have awards outstanding under this plan. We collectively refer to the 2004 Employee Plan and 1995 Employee Plan as the Employee Plans. Common stock delivered under these plans may consist of authorized but previously unissued shares, treasury stock or shares acquired in market...

  • Page 144
    ... Internal Revenue Code Section 423. Under the ESPP, substantially all full-time and part-time employees that choose to participate in the ESPP have the option to purchase shares of common stock at speciÃ'ed dates, with an annual maximum market value of $20,000 per employee as determined on the grant...

  • Page 145
    ...(1) Weighted average exercise price noted for options to purchase stock granted under the ESPP is calculated based on the average price on the grant date. Table 11.3 provides a summary of option activity under the Employee Plans and Directors' Plan for the year ended December 31, 2006, and options...

  • Page 146
    ... master netting agreement exists), as either Derivative assets, at fair value, or Derivative liabilities, at fair value, on our consolidated balance sheets. See ""NOTE 17: CONCENTRATION OF CREDIT AND OTHER RISKS'' for further information related to our derivative counterparties. 134 Freddie Mac

  • Page 147
    ...in cash Ã-ows associated with the forecasted issuances of debt, forecasted purchase or sale of mortgage-related assets, and foreign-currency Ã-uctuations. At December 31, 2006, the only derivatives accounted for as cash Ã-ow hedges were certain commitments to forward sell mortgage-related securities...

  • Page 148
    ...and full-year consolidated Ã'nancial statements for 2002 (collectively referred to as the ""restatement''). In the Ã'rst quarter of 2005, we recorded a $339 million expense related to our litigation reserves for legal settlements, including our settlement of the securities class action lawsuits, the...

  • Page 149
    ... an agreement to appoint an independent Ã'duciary to oversee the Freddie Mac Stock Fund, one of the investment options under our Thrift/401(k) Savings Plan. The settlement does not include any admission of wrongdoing by the company. Department of Labor Investigation. In July 2003, the Department of...

  • Page 150
    ...31, 2006 2005 (in millions) Deferred tax assets: Deferred fees related to securitizations 1,870 Credit related items and reserve for loan losses 108 Employee compensation and beneÃ't plans 148 Cash Ã-ow hedge deferrals and unrealized (gains) losses related to available-for-sale securities 4,237...

  • Page 151
    ... Plan, covering substantially all of our employees. Pension Plan beneÃ'ts are based on an employee's years of service and highest average compensation, up to legal plan limits, over any consecutive 36 months of employment. Pension Plan assets are held in trust and the investments consist 139 Freddie...

  • Page 152
    ... 1 (prior year Actual return on plan assets Employer contributions BeneÃ'ts paid Fair value of plan assets at September 30 Funded status at September 30 Amounts recognized on our consolidated balance sheets at December 31: Other assets Other liabilities AOCI, net of taxes related to deÃ'ned...

  • Page 153
    ...Pension BeneÃ'ts Health BeneÃ'ts Year Ended December 31, Year Ended December 31, 2006 2005 2004 2006 2005 2004 (in millions) Net periodic beneÃ't cost detail: Service cost Interest cost on beneÃ't obligation Expected return on plan assets Recognized net (gain) loss Recognized prior service cost...

  • Page 154
    ... value of the cash Ã-ows as of the measurement date. For 2004, we used the Moody's Aa Corporate Bond Rate Index as a basis for selecting the discount rate shown above. The expected long-term rate of return on plan assets was estimated using a portfolio return calculator model. The model considered...

  • Page 155
    ... investment portfolio reviews, annual liability measurements and periodic asset and liability studies. Our Pension Plan assets did not include any direct ownership of our securities at September 30, 2006 and 2005. Cash Flows Related to DeÃ'ned BeneÃ't Plans Our general practice is to contribute...

  • Page 156
    ...value results. Other non-Ã'nancial assets and liabilities on our GAAP consolidated balance sheets represent deferrals of costs and revenues that are amortized in accordance with GAAP, such as deferred debt issuance costs and deferred credit fees. Cash receipts and payments related to 144 Freddie Mac

  • Page 157
    ...pools, we obtained dealer indications on aggregated groups of similar loans that reÃ-ect their current performance status. These market price indications reÃ-ect the estimated present value of all cash Ã-ows related to the whole loans, including expected credit losses and recoveries. 145 Freddie Mac

  • Page 158
    ... principally consists of short-term contractual agreements such as reverse repurchase agreements involving Treasury and agency securities, Federal funds sold and Eurodollar time deposits. Given that these assets are short-term in nature, the carrying amount on our GAAP consolidated balance sheets...

  • Page 159
    ...zero-coupon discount notes. The fair value of the short-term zero-coupon discount notes is based on a discounted cash Ã-ow model with market inputs. The valuation of other debt securities is generally based on market prices obtained from broker/dealers, reliable third-party pricing service providers...

  • Page 160
    ...fair value balance sheets. Other liabilities Other liabilities principally consists of amounts due to PC investors (i.e., principal and interest), funding liabilities associated with investments in LIHTC partnerships, accrued interest payable on debt securities and other miscellaneous obligations of...

  • Page 161
    ... as Total mortgage portfolio less Structured Securities backed by Ginnie Mae CertiÃ'cates and agency and non-agency mortgage-related securities held in the Retained portfolio. (2) 2005 data has been revised to conform to the current year presentation. (3) Region Designation: West (AK, AZ, CA, GU, HI...

  • Page 162
    ... tied to a counterparty's credit rating. Derivative exposures and collateral amounts are monitored on a daily basis using both internal pricing models and dealer price quotes. Collateral is typically transferred within one business day based on the values of the related derivatives. This time lag in...

  • Page 163
    ... in the preferred stock oÃ...ering documents as a ""tax event redemption.'' NOTE 19: EARNINGS PER COMMON SHARE Because we have participating securities, we use the ""two-class'' method of computing earnings per share. Basic earnings per common share are computed by dividing Net income available to...

  • Page 164
    ..., see ""NOTE 13: LEGAL CONTINGENCIES'' and ""NOTE 14: INCOME TAXES'' to our consolidated Ã'nancial statements. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS The following matters were presented for stockholder vote at our annual meeting of stockholders held on September 8, 2006: (a) election...

  • Page 165
    ... and Risk Oversight Mission, Sourcing and Technology William M. Lewis, Jr.C, E Managing Director and Co-Chairman of Investment Banking Lazard Ltd. An investment banking company New York, New York Eugene M. McQuade President and Chief Operating OÇcer Freddie Mac McLean, Virginia Shaun F. O'Malley...

  • Page 166
    ... and related transactions is set forth in our proxy statement and is incorporated here by reference. PRINCIPAL ACCOUNTANT FEES AND SERVICES Information regarding principal accountant fees and services is set forth in our proxy statement and is incorporated here by reference. 154 Freddie Mac

  • Page 167
    ..., results of operations and cash Ã-ows of Freddie Mac as of, and for, the periods presented in this Information Statement. Date: March 23, 2007 Anthony S. Piszel Executive Vice President and Chief Financial OÇcer * For a discussion of our progress with respect to our internal control over...

  • Page 168
    ... stock dividends. ADDITIONAL FINANCIAL INFORMATION ANNUAL MEETING The annual meeting of Freddie Mac's stockholders will be held: June 8, 2007 8000 Jones Branch Drive McLean, Virginia 22102 Proxy materials will be mailed to stockholders of record in accordance with Freddie Mac's bylaws and New York...

  • Page 169
    ... Task Force Employee Retirement Income Security Act Employee Stock Purchase Plan Euro Interbank OÃ...ered Rate Federal National Mortgage Association Financial Accounting Standards Board Federal Election Commission Federal Housing Administration Federal Housing Finance Board Credit scores initially...

  • Page 170
    8200 Jones Branch Drive, McLean, Virginia 22102 n FreddieMac.com