eTrade 2008 Annual Report Download - page 104

Fair value hedges are accounted for by recording the fair value of the financial derivative instrument and the
change in fair value of the asset or liability being hedged on the consolidated balance sheet with the net
difference, or hedge ineffectiveness, reported as fair value adjustments of financial derivatives in the gain (loss)
on loans and securities, net line item in the consolidated statement of income (loss). Cash payments or receipts
and related accruals during the reporting period on derivatives included in fair value hedge relationships are
recorded as an adjustment to interest income on the hedged asset or liability. If a financial derivative in a fair
value hedging relationship is no longer effective, de-designated from its hedging relationship or terminated, the
Company discontinues fair value hedge accounting for the derivative and the hedged item. Changes in the fair
value of these derivative instruments no longer designated in an accounting hedge relationship are recorded in the
gain (loss) on loans and securities, net, line item in the consolidated statement of income (loss). The accumulated
adjustment of the carrying amount of the hedged interest-earning asset or liability is recognized in earnings as an
adjustment to interest income over the expected remaining life of the asset using the effective interest method.
Cash flow hedges are accounted for by recording the fair value of the financial derivative instrument as
either a freestanding asset or a freestanding liability in the consolidated balance sheet, with the effective portion
of the change in fair value of the financial derivative recorded in accumulated other comprehensive loss, net of
tax in the consolidated balance sheet. Amounts are then included in net operating interest income as a yield
adjustment in the same period the hedged forecasted transaction affects earnings. The ineffective portion of the
change in fair value of the financial derivative is reported as fair value adjustments of financial derivatives in the
gain (loss) on loans and securities, net line item in the consolidated statement of income (loss). If it becomes
probable that a hedged forecasted transaction will not occur, amounts included in accumulated other
comprehensive loss related to the specific hedging instruments are reported in the gain (loss) on loans and
securities, net line item in the consolidated statement of income (loss). If a financial derivative ceases to be
highly effective as a hedge, hedge accounting is discontinued prospectively and the financial derivative
instrument continues to be recorded at fair value with changes in fair value being reported in the gain (loss) on
loans and securities, net line item in the consolidated statement of income (loss).
Derivative gains and losses that are not held as accounting hedges are recognized in the gain (loss) on loans
and securities, net line item in the consolidated statement of income (loss) as these derivatives do not qualify for
hedge accounting under SFAS No. 133, as amended.
Fair Value—Effective January 1, 2008, the Company adopted SFAS No. 157 which 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. The Company determines the fair value of its financial instruments and for
nonfinancial assets and nonfinancial liabilities that are recognized or disclosed at fair value in the financial
statements on a recurring basis in accordance with SFAS No. 157. The Company will not adopt certain
provisions of this statement until January 1, 2009 as they relate to nonfinancial assets and nonfinancial liabilities
that are not recognized or disclosed at fair value in the financial statements on a recurring basis. Examples of
assets and liabilities for which the Company has not applied the provisions of SFAS No. 157 include reporting
units and indefinite-lived intangible assets measured at fair value in impairment tests under SFAS No. 142,
nonfinancial long-lived assets measured at fair value for an impairment assessment under SFAS No. 144, as well
as nonfinancial liabilities for exit or disposal activities initially measured at fair value under SFAS No. 146. See
Note 6—Fair Value Disclosures.
Fair Value Option—Effective January 1, 2008, the Company elected to carry investments in Fannie Mae
and Freddie Mac preferred stock at fair value through earnings under SFAS No. 159. The Company elected to
carry the investment in preferred stock at fair value through earnings to allow the Company to economically
hedge the portfolio without the burden of complying with SFAS No. 133, as amended. The impact of this
adoption was an after-tax decrease to opening retained earnings as of January 1, 2008 of approximately $86.9
million ($134.9 million before taxes). As of December 31, 2007, the Company’s investment in preferred stock
was reported in the balance sheet line item available-for-sale mortgage-backed and investment securities. In
accordance with SFAS No. 159, as a result of the fair value election the investment in preferred stock was
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