Freddie Mac 2012 Annual Report Download - page 297

substituted for individual counterparties, and changes in the value of open exchange-traded contracts and cleared OTC
derivatives are settled daily via payments made through the financial clearinghouse established by each exchange. OTC
derivatives that are not cleared, however, expose us to institutional credit risk to individual counterparties because
transactions are executed and settled between us and each counterparty, exposing us to potential losses if a counterparty fails
to meet its contractual obligations.
Our use of OTC interest-rate swaps, option-based derivatives, and foreign-currency swaps is subject to internal credit
and legal reviews. All of our OTC derivative counterparties are major financial institutions and are experienced participants
in the OTC derivatives market.
On an ongoing basis, we review the credit fundamentals of all of our OTC derivative counterparties, clearing
organizations, and clearing firms to confirm that they continue to meet our internal standards. We assign internal ratings,
credit capital, and exposure limits to each counterparty based on quantitative and qualitative analysis, which we update and
monitor on a regular basis. We conduct additional reviews when market conditions dictate or certain events affecting an
individual counterparty occur.
Master Netting and Collateral Agreements
We use master netting and collateral agreements to reduce our credit risk exposure to our active OTC derivative
counterparties for interest-rate swaps, option-based derivatives, and foreign-currency swaps. Master netting agreements
provide for the netting of amounts receivable and payable from an individual counterparty, which reduces our exposure to a
single counterparty in the event of default. On a daily basis, the market value of each counterparty’s derivatives outstanding
is calculated to determine the amount of our net credit exposure, which is equal to derivatives in a net gain position by
counterparty after giving consideration to collateral posted. Our collateral agreements require most counterparties to post
collateral to us for the amount of our net exposure to them above the applicable threshold. Bilateral collateral agreements are
in place for all of our active OTC derivative counterparties. Collateral posting thresholds are 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 posting collateral can affect our net uncollateralized exposure to derivative counterparties.
Collateral posted by a derivative counterparty is typically in the form of cash, although U.S. Treasury securities and
Freddie Mac mortgage-related securities may also be posted. In the event a counterparty defaults on its obligations under the
derivatives agreement and the default is not remedied in the manner prescribed in the agreement, we have the right under the
agreement to direct the custodian bank to transfer the collateral to us or, in the case of non-cash collateral, to sell the
collateral and transfer the proceeds to us.
Our uncollateralized exposure to counterparties for OTC interest-rate swaps, option-based derivatives, foreign-currency
swaps, and purchased interest-rate caps, after applying netting agreements and collateral, was $69 million and $71 million at
December 31, 2012 and 2011, respectively. In the event that all of our counterparties for these derivatives were to have
defaulted simultaneously on December 31, 2012, our maximum loss for accounting purposes after applying netting
agreements and collateral, would have been approximately $69 million. Five counterparties each accounted for greater than
10% and collectively accounted for 83% of our net uncollateralized exposure to derivative counterparties, excluding futures
and clearinghouse-settled derivatives, commitments, swap guarantee derivatives, certain written options, and certain credit
derivatives at December 31, 2012. These counterparties were Credit Suisse International, Deutsche Bank, A.G., UBS A.G.,
Citibank, N.A. and Royal Bank of Scotland, all of which were rated “Aⳮ” or above using the lower of S&P’s or Moody’s
rating stated in terms of the S&P equivalent as of February 15, 2013.
The total exposure on our OTC forward purchase and sale commitments, which are treated as derivatives, was
$20 million and $38 million at December 31, 2012 and 2011, respectively. We do not require master netting and collateral
agreements for the counterparties of these commitments. However, the typical maturity of our forward purchase and sale
commitments is less than 60 days, and we monitor the credit fundamentals of the counterparties to these commitments on an
ongoing basis to ensure that they continue to meet our internal risk-management standards.
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