Freddie Mac 2012 Annual Report Download - page 177

Cash and Other Investments Counterparties
We are exposed to institutional credit risk arising from the potential insolvency or non-performance of counterparties of
non-mortgage-related investment agreements and cash equivalent transactions, including those entered into on behalf of our
securitization trusts. These financial instruments are investment grade at the time of purchase and primarily short-term in
nature, which mitigates institutional credit risk for these instruments.
Our cash and other investment counterparties are primarily major financial institutions and the Federal Reserve Bank.
As of December 31, 2012 and 2011, including amounts related to our consolidated VIEs, there were $60.7 billion and
$68.5 billion, respectively, of: (a) cash and securities purchased under agreements to resell invested with institutional
counterparties; or (b) cash deposited with the Federal Reserve Bank. See “NOTE 15: CONCENTRATION OF CREDIT
AND OTHER RISKS” for further information on counterparty credit ratings and concentrations within our cash and other
investments.
Document Custodians
We use third-party document custodians to provide loan document certification and custody services for the loans that
we purchase and securitize. In many cases, our seller/servicer customers or their affiliates also serve as document custodians
for us. Our ownership rights to the mortgage loans that we own or that back our PCs and REMICs and Other Structured
Securities could be challenged if a seller/servicer intentionally or negligently pledges or sells the loans that we purchased or
fails to obtain a release of prior liens on the loans that we purchased, which could result in financial losses to us. When a
seller/servicer or one of its affiliates acts as a document custodian for us, the risk that our ownership interest in the loans may
be adversely affected is increased, particularly in the event the seller/servicer were to become insolvent. We seek to mitigate
these risks through legal and contractual arrangements with these custodians that identify our ownership interest, as well as
by establishing qualifying standards for document custodians and requiring transfer of the documents to our possession or to
an independent third-party document custodian if we have concerns about the solvency or competency of the document
custodian.
Derivative Counterparties
We use exchange-traded derivatives and OTC derivatives, and are exposed to institutional credit risk with respect to
both types of derivatives. We are an active user of exchange-traded derivatives, such as Treasury and Eurodollar futures, and
are required to post initial and maintenance margin with our clearing firm in connection with such transactions. The posting
of this margin exposes us to institutional credit risk in the event that our clearing firm or the exchange’s clearinghouse fail to
meet their obligations. However, the use of exchange-traded derivatives mitigates our institutional credit risk exposure to
individual counterparties because a central counterparty is substituted for individual counterparties, and changes in the value
of open exchange-traded contracts are settled daily via payments made through the financial clearinghouse established by
each exchange. OTC derivatives that are not subject to regulatory clearing requirements under the Dodd-Frank Act expose us
to institutional credit risk to individual counterparties, because these transactions are executed and settled directly between us
and each counterparty, exposing us to potential losses if a counterparty fails to meet its contractual obligations. When our net
position with a counterparty in OTC derivatives subject to a master netting agreement has a market value above zero (i.e., it
would be an asset reported as derivative assets, net on our consolidated balance sheets), the counterparty is obligated to
deliver collateral in the form of cash, securities, or a combination of both, in an amount equal to that market value (less a
small unsecured “threshold” amount in most cases) as necessary to satisfy its net obligation to us under the master
agreement.
The Dodd-Frank Act requires central clearing and trading on exchanges or comparable trading facilities of many types
of derivatives. Pursuant to the Dodd-Frank Act, the CFTC has determined that many of the types of interest rate derivatives
that we use will become subject to the central clearing requirement in 2013. See “BUSINESS — Regulation and
Supervision — Legislative and Regulatory Developments —Dodd-Frank Act” for more information. We will be exposed to
institutional credit risk with respect to the exchanges or trading facilities we use in the future to clear and trade such interest
rate derivatives, and to the members of such clearing organizations that execute and submit our transactions for clearing.
We seek to manage our exposure to institutional credit risk related to our derivative counterparties using several tools,
including:
• review of external rating analyses;
172 Freddie Mac