JP Morgan Chase 2008 Annual Report Download - page 143

JPMorgan Chase & Co./ 2008 Annual Report 141
In anticipation of the close of the transaction on October 1, 2006,
effective with the second quarter of 2006, the results of operations
of these corporate trust businesses were transferred from the
Treasury & Securities Services (“TSS”) segment to the
Corporate/Private Equity segment, and reported as discontinued
operations. Condensed financial information of the selected corpo-
rate trust businesses follows.
Selected income statements data(a)
Year ended December 31, (in millions) 2006
Other noninterest revenue $ 407
Net interest income 264
Gain on sale of discontinued operations 1,081
Total net revenue 1,752
Noninterest expense 385
Income from discontinued operations
before income taxes 1,367
Income tax expense 572
Income from discontinued operations $ 795
(a) There was no income from discontinued operations during 2008 or 2007.
The following is a summary of the assets and liabilities associated
with the selected corporate trust businesses related to the Bank of
New York transaction that closed on October 1, 2006.
Selected balance sheet data
(in millions) October 1, 2006
Goodwill and other intangibles $ 838
Other assets 547
Total assets $ 1,385
Deposits $ 24,011
Other liabilities 547
Total liabilities $ 24,558
JPMorgan Chase provides certain transitional services to The Bank of
New York for a defined period of time after the closing date. The Bank of
New York compensates JPMorgan Chase for these transitional services.
Note 4 – Fair value measurement
In September 2006, the FASB issued SFAS 157 (“Fair Value
Measurements”), which was effective for fiscal years beginning after
November 15, 2007, with early adoption permitted. The Firm chose
early adoption for SFAS 157 effective January 1, 2007. SFAS 157:
• Defines fair value as the price that would be received to sell an
asset or paid to transfer a liability in an orderly transaction
between market participants at the measurement date, and
establishes a framework for measuring fair value;
• Establishes a three-level hierarchy for fair value measurements
based upon the transparency of inputs to the valuation of an
asset or liability as of the measurement date;
• Nullifies the guidance in EITF 02-3, which required the deferral of
profit at inception of a transaction involving a derivative financial
instrument in the absence of observable data supporting the val-
uation technique;
• Eliminates large position discounts for financial instruments quot-
ed in active markets and requires consideration of the Firm’s
creditworthiness when valuing liabilities; and
• Expands disclosures about instruments measured at fair value.
The Firm also chose early adoption for SFAS 159 effective January 1,
2007. SFAS 159 provides an option to elect fair value as an alterna-
tive measurement for selected financial assets, financial liabilities,
unrecognized firm commitments and written loan commitments not
previously recorded at fair value. The Firm elected fair value account-
ing for certain assets and liabilities not previously carried at fair
value. For more information, see Note 5 on pages 156–158 of this
Annual Report.
The following is a description of the Firm’s valuation methodologies
for assets and liabilities measured at fair value.
The Firm has an established and well-documented process for deter-
mining fair values. Fair value is based upon quoted market prices,
where available. If listed prices or quotes are not available, fair value
is based upon internally developed models that primarily use, as
inputs, market-based or independently sourced market parameters,
including but not limited to yield curves, interest rates, volatilities,
equity or debt prices, foreign exchange rates and credit curves. In
addition to market information, models also incorporate transaction
details, such as maturity of the instrument. Valuation adjustments
may be made to ensure that financial instruments are recorded at
fair value. These adjustments include amounts to reflect counterparty
credit quality, the Firm’s creditworthiness, constraints on liquidity and
unobservable parameters. Valuation adjustments are applied consis-
tently over time.
• Credit valuation adjustments (“CVA”) are necessary when the
market price (or parameter) is not indicative of the credit quality
of the counterparty. As few classes of derivative contracts are list-
ed on an exchange, the majority of derivative positions are val-
ued using internally developed models that use as their basis
observable market parameters. Market practice is to quote
parameters equivalent to an “AA” credit rating whereby all coun-
terparties are assumed to have the same credit quality. Therefore,
an adjustment is necessary to reflect the credit quality of each
derivative counterparty to arrive at fair value. The adjustment also
takes into account contractual factors designed to reduce the
Firm’s credit exposure to each counterparty, such as collateral
and legal rights of offset.
• Debit valuation adjustments (“DVA”) are necessary to reflect the
credit quality of the Firm in the valuation of liabilities measured
at fair value. This adjustment was incorporated into the Firm’s
valuations commencing January 1, 2007, in accordance with
SFAS 157. The methodology to determine the adjustment is con-
sistent with CVA and incorporates JPMorgan Chase’s credit
spread as observed through the credit default swap market.
• Liquidity valuation adjustments are necessary when the Firm may
not be able to observe a recent market price for a financial
instrument that trades in inactive (or less active) markets or to