US Bank 2015 Annual Report Download - page 140

Available-For-Sale Investment Securities The significant
unobservable inputs used in the fair value measurement of the
Company’s modeled Level 3 available-for-sale investment
securities are prepayment rates, probability of default and loss
severities associated with the underlying collateral, as well as
the discount margin used to calculate the present value of the
projected cash flows. Increases in prepayment rates for Level
3 securities will typically result in higher fair values, as
increased prepayment rates accelerate the receipt of
expected cash flows and reduce exposure to credit losses.
Increases in the probability of default and loss severities will
result in lower fair values, as these increases reduce expected
cash flows. Discount margin is the Company’s estimate of the
current market spread above the respective benchmark rate.
Higher discount margin will result in lower fair values, as it
reduces the present value of the expected cash flows.
Prepayment rates generally move in the opposite direction
of market interest rates. In the current environment, an
increase in the probability of default will generally be
accompanied with an increase in loss severity, as both are
impacted by underlying collateral values. Discount margins
are influenced by market expectations about the security’s
collateral performance, and therefore may directionally move
with probability and severity of default; however, discount
margins are also impacted by broader market forces, such as
competing investment yields, sector liquidity, economic news,
and other macroeconomic factors.
The following table shows the significant valuation assumption ranges for Level 3 available-for-sale investment securities at
December 31, 2015:
Minimum Maximum Average
Residential Prime Non-Agency Mortgage-Backed Securities(a)
Estimated lifetime prepayment rates .......................................................... 5% 20% 14%
Lifetime probability of default rates ............................................................ – 7 4
Lifetime loss severity rates .................................................................. 15 60 33
Discount margin .......................................................................... 2 5 3
Residential Non-Prime Non-Agency Mortgage-Backed Securities(b)
Estimated lifetime prepayment rates .......................................................... 3% 13% 8%
Lifetime probability of default rates ............................................................ 4 12 7
Lifetime loss severity rates .................................................................. 20 70 52
Discount margin .......................................................................... 1 6 3
Other Asset-Backed Securities
Estimated lifetime prepayment rates .......................................................... 6% 6% 6%
Lifetime probability of default rates ............................................................ 5 5 5
Lifetime loss severity rates .................................................................. 40 40 40
Discount margin .......................................................................... 6 6 6
(a) Prime securities are those designated as such by the issuer at origination. When an issuer designation is unavailable, the Company determines at acquisition date the categorization based on
asset pool characteristics (such as weighted-average credit score, loan-to-value, loan type, prevalence of low documentation loans) and deal performance (such as pool delinquencies and
security market spreads).
(b) Includes all securities not meeting the conditions to be designated as prime.
Mortgage Servicing Rights The significant unobservable
inputs used in the fair value measurement of the Company’s
MSRs are expected prepayments and the discount rate used
to calculate the present value of the projected cash flows.
Significant increases in either of these inputs in isolation would
result in a significantly lower fair value measurement.
Significant decreases in either of these inputs in isolation
would result in a significantly higher fair value measurement.
There is no direct interrelationship between prepayments and
discount rate. Prepayment rates generally move in the
opposite direction of market interest rates. Discount rates are
generally impacted by changes in market return requirements.
The following table shows the significant valuation assumption ranges for MSRs at December 31, 2015:
Minimum Maximum Average
Expected prepayment ...................................................................... 10% 19% 11%
Discount rate ............................................................................. 9 13 10
Derivatives The Company has two distinct Level 3 derivative
portfolios: (i) the Company’s commitments to purchase and
originate mortgage loans that meet the requirements of a
derivative and (ii) the Company’s asset/liability and customer-
related derivatives that are Level 3 due to unobservable inputs
related to measurement of risk of nonperformance by the
counterparty. In addition, the Company’s Visa swaps are
classified within Level 3.
—138 —