Freddie Mac 2008 Annual Report Download - page 102

volatility in mortgage rates and LIBOR, and weakening consumer confidence not only contributed to poor performance
during the year but significantly impacted our expectations regarding future performance, both of which are critical in
assessing other-than-temporary impairments. Furthermore, the subprime loans, Alt-A and other loans and MTA loans backing
our securities have significantly greater concentrations in the states that are undergoing the greatest economic stress, such as
California, Florida, Arizona and Nevada.
Our securities backed by 2006 and 2007 first lien subprime loans accounted for $3.6 billion of the impaired unpaid
principal balance and $1.4 billion of other-than-temporary impairment expense during the fourth quarter of 2008. As with the
other asset classes, a key determinant in our conclusion that impairments were other-than-temporary was the considerable
deterioration of economic conditions and the housing market during the fourth quarter of 2008 which adversely impacted our
view of future performance. Delinquencies on the 2006 and 2007 subprime loans backing these securities increased by 8%
and 17%, respectively.
Our securities backed by Alt-A loans and other loans accounted for $5.3 billion of the impaired unpaid principal
balance and $2.7 billion of other-than-temporary impairment expense during the fourth quarter of 2008, with approximately
44% of such amounts coming from loans originated in 2006 and 2007. The loans backing these securities experienced
increases in delinquencies, material price declines, ratings actions, and deteriorating expectations concerning future
performance.
Our securities backed by MTA loans accounted for $4.6 billion of the impaired unpaid principal balance and
$2.7 billion of other-than-temporary impairment expense during the fourth quarter 2008. Delinquencies on 2006 and 2007
vintage MTA loans increased 27% and 25%, respectively, during the fourth quarter of 2008. Securities backed by MTA loans
experienced sustained price declines, with prices for this category, on average, falling by approximately 36% in the fourth
quarter of 2008. The MTA sector also experienced continued downgrades during the quarter, with only 45% of our securities
rated AAA as of December 31, 2008, versus 59% at the end of the third quarter.
During 2008 and 2007, we recorded other-than-temporary impairments related to investments in mortgage-related
securities of $16.6 billion and $365 million, respectively. The other-than-temporary impairments recognized during 2008
related primarily to non-agency securities backed by subprime loans, Alt-A and other loans and MTA loans, due to the
combination of a more pessimistic view of future performance due to the economic environment and poor performance of
the collateral underlying these securities. The impairments also relate to credit enhancements provided by primary monoline
bond insurance from three monoline insurers on individual securities in an unrealized loss position, as we have determined
that it is both probable a principal and interest shortfall will occur on the insured securities and that in such a case, there is
substantial uncertainty surrounding the insurer’s ability to pay all future claims. In the case of monoline insurers, we
considered our own analysis as well as additional qualitative factors, such as the ability of each monoline to access capital
and to generate new business, pending regulatory actions, ratings, security prices and credit default swap levels traded on the
insurers.
While it is possible that under certain conditions, defaults and severity of losses on our remaining available-for-sale
securities for which we have not recorded an impairment charge could exceed our subordination and credit enhancement
levels and a principal or interest loss could occur, we do not believe that those conditions were probable at December 31,
2008. Based on our ability and intent to hold our remaining available-for-sale securities for a sufficient time to recover all
unrealized losses and our consideration of available information, we have concluded that the reduction in fair value of these
securities was temporary at December 31, 2008.
See “NOTE 5: INVESTMENTS IN SECURITIES” to our consolidated financial statements for a discussion on how we
evaluate our available-for-sale portfolio for other-than-temporary impairment.
For the securities where we determined that the impairment was other-than-temporary, we estimate that the future
expected principal and interest shortfall will be significantly less than the probable impairment loss required to be recorded
under GAAP, as we expect these shortfalls to be less than the recent fair value declines. We recognized impairment losses
during 2008 on securities primarily backed by subprime, Alt-A and other loans and MTA loans of $16.6 billion. The portion
of these impairment charges associated with expected recoveries that we estimate may be recognized as net interest income
in future periods was $11.8 billion on securities backed primarily by subprime, Alt-A and other and MTA loans as of
December 31, 2008. This reflects a reduction in the estimate of future recoveries of prior quarter impairment charges of
$1.3 billion as of December 31, 2008.
Our assessments concerning other-than-temporary impairment and accretion of impairment charges require significant
judgment and are subject to change as the performance of the individual securities changes, mortgage conditions evolve and
our assessments of future performance are updated. Bankruptcy reform, loan modification programs and other government
intervention can significantly change the performance of the underlying loans and thus our securities. Current market
conditions are unprecedented, in our experience, and actual results could differ materially from our expectations.
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