eTrade 2003 Annual Report Download - page 110

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Table of Contents
Index to Financial Statements
acknowledged and recorded and is valid. The mortgage and the mortgage note are not subject to any right of rescission, set-off,
counterclaim or defense, including, without limitation, the defense of usury, and no such right of rescission, set-off, counterclaim or
defense has been asserted with respect thereto. If these claims prove to be untrue, the investor can require E*TRADE Bank to
repurchase the loan and return all loan premium pricing and service release premiums.
•
Should any eligible mortgage loan delivered pay off prior to the receipt of the first payment, loan premium pricing and service release
premium shall be fully refundable.
Management has determined that the maximum potential liability at December 31, 2003 is $69.3 million based on all available
information. During 2002, the aggregate potential liability to the Company was $86.1 million, of which $3.9 million was incurred and paid.
The current carrying amount of the liability recorded at December 31, 2003 is $3.5 million and is considered adequate based upon analysis of
historical trends and current economic conditions for these guarantees.
•
Should any eligible mortgage loan delivered to an investor pay off after the receipt of the first payment and within one hundred twenty
(120) days of the date of purchase, the servicing released premium shall be fully refunded.
NOTE 26—
ACCOUNTING FOR DERIVATIVE FINANCIAL INSTRUMENTS AND HEDGING ACTIVITIES
The Company enters into derivative transactions to protect against the risk of market price or interest rate movements on the value of
certain assets and future cash flows. The Company is also required to recognize certain contracts and commitments as derivatives when the
characteristics of those contracts and commitments meet the definition of a derivative as promulgated by SFAS No. 133.
Fair Value Hedges
Overview of Fair Value Hedges
The Company uses a combination of interest rate swaps, purchased options on forward starting swaps, caps and floors to offset its
exposure to a change in value of certain fixed rate assets. In calculating the effective portion of the fair value hedges under SFAS No. 133, the
being hedged. Accordingly, the net difference or hedge ineffectiveness, if any, is recognized currently in the consolidated statements of
operations in other income (expenses) as the fair value adjustments of financial derivatives. Fair value hedge ineffectiveness resulted in a loss
for 2003 of $19.7 million, $22.4 million for 2002 and $5.8 million for 2001.
De-recognized Fair Value Hedges
During 2003, 2002 and 2001, certain fair value hedges were de-recognized and, therefore, hedge accounting was discontinued during
those periods. The net gain or loss on these derivative instruments at the time of de-recognition is amortized to interest expense over the
original forecasted period of the underlying transactions which were being hedged. Changes in the fair value of these derivative instruments
after the discontinuance of fair value hedge accounting are recorded in gain on sales of loans held-for-sale and securities, net in the
consolidated statements of operations. In 2003, 2002 and 2001, the Company recognized losses after the discontinuance of the hedge
relationships of $3.0 million, $7.4 million and $10.0 million, respectively.
97