Freddie Mac 2012 Annual Report Download - page 23

We also issue PCs in exchange for cash. The following diagram illustrates an exchange for cash in a “cash auction” of
PCs:
Cash Auction of PCs
Mortgage Lender Securities Dealers
and Investors
Mortgage loan PC
Cash Cash
Cash (Delivery fees)
CASH PURCHASE
Freddie Mac
(administrator)
CASH AUCTION OF PC
TRUST
Mortgage
loans PC
Freddie Mac
(guarantor)
Guarantee
Fee
Institutional and other fixed-income investors, including pension funds, insurance companies, securities dealers, money
managers, REITs, and commercial banks, purchase our PCs. For the past several years, the Federal Reserve has purchased
significant amounts of mortgage-related securities issued by us, Fannie Mae and Ginnie Mae. These purchases, which are
ongoing, have affected mortgage spreads (positively and, in some periods, negatively) and the demand for and values of our
PCs.
PCs differ from most other fixed-income securities in several ways. For example, and most significantly, single-family
PCs can be partially or fully prepaid at any time. Homeowners have the right to prepay their mortgage at any time (known as
the prepayment option), and homeowner mortgage prepayments are passed through to the PC holder. Consequently,
mortgage-related securities implicitly have a call option that significantly reduces the average life of the security from the
contractual loan maturity. As a result, our PCs generally provide a higher nominal yield than certain other fixed-income
products. In addition, in contrast to U.S. Treasury securities, PCs are not backed by the full faith and credit of the United
States and are instead backed by interests in real estate, in addition to our own guarantee.
From time to time we undertake actions in an effort to support the liquidity and the relative price performance of our
PCs to comparable Fannie Mae securities through a variety of activities, including the resecuritization of PCs into REMICs
and Other Structured Securities. Other strategies may include: (a) encouraging sellers to pool mortgages that they deliver to
us into PC pools with a larger and more diverse population of mortgages; (b) influencing the volume and characteristics of
mortgages delivered to us by tailoring our loan eligibility guidelines and other means; and (c) engaging in portfolio purchase
and retention activities. See “Investments Segment —PC Support Activities” and “RISK FACTORS — Competitive and
Market Risks — A significant decline in the price performance of or demand for our PCs could have an adverse effect on the
volume and/or profitability of our new single-family guarantee business” for additional information about our effort to
support the liquidity and relative price performance of our PCs.
REMICs and Other Structured Securities
We issue single-class and multiclass securities. Single-class securities (e.g., PCs) involve the straight pass-through of all
of the cash flows of the underlying collateral to holders of the beneficial interests. Our primary multiclass securities qualify
for tax treatment as REMICs. Multiclass securities divide all of the cash flows of the underlying mortgage-related assets into
two or more classes designed to meet the investment criteria and portfolio needs of different investors by creating classes of
securities with varying maturities, payment priorities and coupons, each of which represents a beneficial ownership interest
in a separate portion of the cash flows of the underlying collateral. Usually, the cash flows are divided to modify the relative
exposure of different classes to interest-rate risk, or to create various coupon structures. The simplest division of cash flows
is into principal-only and interest-only classes. Other securities we issue can involve the creation of sequential payment and
planned or targeted amortization classes. In a sequential payment class structure, one or more classes receive all or a
disproportionate percentage of the principal payments on the underlying mortgage assets for a period of time until that class
or classes are retired, following which the principal payments are directed to other classes. Planned or targeted amortization
18 Freddie Mac