Freddie Mac 2008 Annual Report Download - page 98

Non-Agency Mortgage-Related Securities Backed by Subprime Loans
Participants in the mortgage market often characterize single-family loans based upon their overall credit quality at the
time of origination, generally considering them to be prime or subprime. There is no universally accepted definition of
subprime. The subprime segment of the mortgage market primarily serves borrowers with poorer credit payment histories
and such loans typically have a mix of credit characteristics that indicate a higher likelihood of default and higher loss
severities than prime loans. Such characteristics might include a combination of high LTV ratios, low credit scores or
originations using lower underwriting standards such as limited or no documentation of a borrower’s income.
At December 31, 2008 and 2007, we held investments of $74.9 billion and $101.3 billion, respectively, of non-agency
mortgage-related securities backed by subprime loans in our mortgage-related investments portfolio. During 2008, we did not
buy or sell any of these securities. In addition to the contractual interest payments, we received monthly remittances of
principal repayments on these securities, which totaled $26.5 billion during 2008, representing a partial return of our
investment in these securities. We have seen a decrease in the annualized rate of principal repayments during 2008, from
33% in the first quarter of 2008 to 25% in the fourth quarter of 2008. These securities include significant credit
enhancement, particularly through subordination. Of these securities, 58% and 100% were investment grade at December 31,
2008 and 2007, respectively. We recognized impairment losses on these securities of $3.6 billion during 2008. The unrealized
losses, net of tax, on these securities are included in AOCI and totaled $12.4 billion and $5.6 billion at December 31, 2008
and 2007, respectively. We believe that the declines in fair values for these securities are mainly attributable to poor
underlying collateral performance, decreased liquidity and larger risk premiums in the mortgage market.
Non-Agency Mortgage-Related Securities Backed by Alt-A and Other Loans
As noted above, we have classified securities as Alt-A if the securities were labeled as Alt-A when sold to us or if we
believe the underlying collateral includes a significant amount of Alt-A loans. We classified $25.1 billion and $30.1 billion
of our single-family non-agency mortgage-related securities as Alt-A and other loans at December 31, 2008 and 2007,
respectively. During 2008, we did not buy or sell any of these securities. In addition to the contractual interest payments, we
received monthly remittances of principal repayments on these Alt-A and other securities, which totaled $5.0 billion during
2008, representing a partial return of our investment in these securities. We have seen a decrease in the annualized rate of
principal repayments during 2008, from 19% in the first quarter of 2008 to 14% in the fourth quarter of 2008. These
securities include significant credit enhancements, particularly through subordination. Of these securities, 79% and 100%
were investment grade at December 31, 2008 and 2007, respectively. We recognized impairment losses on these securities of
$5.3 billion during 2008. The unrealized losses, net of tax, on these securities are included in AOCI and totaled $4.4 billion
and $0.8 billion at December 31, 2008 and 2007, respectively. We believe the declines in fair values for these securities are
mainly attributable to poor underlying collateral performance, decreased liquidity and larger risk premiums in the mortgage
market.
Non-Agency Mortgage-Related Securities Backed by MTA Loans
MTA adjustable-rate mortgages (which are a type of option ARM) are indexed to the Moving Treasury Average, have
adjustable interest rates and optional payment terms, including options that allow for deferral of principal payments and
result in negative amortization for an initial period of years. MTA loans generally have a specified date when the mortgage is
recast to require principal payments under new terms, which can result in substantial increases in monthly payments by the
borrower.
We classified these securities as MTA if the securities were labeled as MTA when sold to us or if we believe the
underlying collateral includes a significant amount of MTA loans. We had $19.6 billion and $21.2 billion of non-agency
mortgage-related securities classified as MTA at December 31, 2008 and 2007, respectively. With the exception of
$618 million of unpaid principal balance purchased in January 2008, we did not buy or sell any of these securities during
2008. In addition to the contractual interest payments, we received monthly remittances of principal repayments on these
securities, which totaled $2.2 billion during 2008, representing a partial return of our investment in these securities. We have
seen a decrease in the annualized rate of principal repayments during 2008, from 14% in the first quarter of 2008 to 8% in
the fourth quarter of 2008. These securities include significant credit enhancements, particularly through subordination. Of
these securities, 72% and 100% were investment grade at December 31, 2008 and 2007, respectively. We recognized
impairment losses on these securities of $7.6 billion during 2008. The unrealized losses, net of tax, on these securities are
included in AOCI and totaled $3.1 billion and $0.9 billion at December 31, 2008 and 2007, respectively. We believe the
declines in fair values for these securities are mainly attributable to poor underlying collateral performance, decreased
liquidity and larger risk premiums in the mortgage market.
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