JP Morgan Chase 2010 Annual Report Download - page 198

Notes to consolidated financial statements
198 JPMorgan Chase & Co./2010 Annual Report
occurs, the issuer is not obligated to repay the par value of the note,
but rather, the issuer pays the investor the difference between the par
value of the note and the fair value of the defaulted reference obliga-
tion at the time of settlement. Neither party to the credit-related note
has recourse to the defaulting reference entity. For a further discus-
sion of credit-related notes, see Note 16 on pages 244–259 of this
Annual Report.
Effective July 1, 2010, the Firm adopted new accounting guidance
prospectively related to credit derivatives embedded in beneficial
interests in securitized financial assets, which resulted in the elec-
tion of the fair value option for certain instruments in the AFS
securities portfolio. The related cumulative effect adjustment in-
creased retained earnings and decreased accumulated other com-
prehensive income by $15 million, respectively, as of July 1, 2010.
The following table presents a summary of the notional amounts of
credit derivatives and credit-related notes the Firm sold and pur-
chased as of December 31, 2010 and 2009. Upon a credit event,
the Firm as seller of protection would typically pay out only a per-
centage of the full notional amount of net protection sold, as the
amount actually required to be paid on the contracts takes into
account the recovery value of the reference obligation at the time
of settlement. The Firm manages the credit risk on contracts to sell
protection by purchasing protection with identical or similar under-
lying reference entities. Other purchased protection referenced in
the following table includes credit derivatives bought on related,
but not identical, reference positions (including indices, portfolio
coverage and other reference points) as well as protection pur-
chased through credit-related notes.
The Firm does not use notional amounts as the primary measure of
risk management for credit derivatives, because the notional amount
does not take into account the probability of the occurrence of a
credit event, the recovery value of the reference obligation, or related
cash instruments and economic hedges.
Total credit derivatives and credit-related notes
Maximum payout/Notional amount
December 31, 2010
(in millions) Protection sold
Protection purchased with
identical underlyings(c)
Net protection
(sold)/purchased(d)
Other protection
purchased(e)
Credit derivatives
Credit default swaps
$
(2,659,24
0
)
$
2,652,313
$
(6,927)
$
32,867
Other credit derivatives
(a)
(93,776) 10,016 (83,760) 24,234
Total credit derivatives
(2,753,016)
2,662,329
(90,687)
57,101
Credit-related notes
(b)
(2,008) — (2,008) 3,327
Total
$
(2,755,024)
$
2,662,329
$
(92,695)
$
60,428
Maximum payout/Notional amount
December 31, 2009
(in millions) Protection sold
Protection purchased with
identical underlyings(c)
Net protection
(sold)/purchased(d)
Other protection
purchased(e)
Credit derivatives
Credit default swaps $ (2,937,442) $ 2,978,044 $ 40,602 $ 28,064
Other credit derivatives(a) (10,575) 9,290 (1,285) 30,473
Total credit derivatives (2,948,017) 2,987,334 39,317 58,537
Credit-related notes (4,031) — (4,031) 1,728
Total $ (2,952,048) $ 2,987,334 $ 35,286 $ 60,265
(a) Primarily consists of total return swaps and credit default swap options.
(b) As a result of the adoption of new accounting guidance, effective July 1, 2010, includes beneficial interests in securitized financial assets that contain embedded credit
derivatives.
(c) Represents the total notional amount of protection purchased where the underlying reference instrument is identical to the reference instrument on protection sold; the
notional amount of protection purchased for each individual identical underlying reference instrument may be greater or lower than the notional amount of protection sold.
(d) Does not take into account the fair value of the reference obligation at the time of settlement, which would generally reduce the amount the seller of protection pays to
the buyer of protection in determining settlement value.
(e) Represents protection purchased by the Firm through single-name and index credit default swap or credit-related notes.