10-Q 1 f71398e10vq.htm 10-Q e10vq
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UNITED STATES SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
 
 
 
FORM 10-Q
 
 
x   QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934.
 
For the quarterly period ended September 30, 2010
 
or
 
o   TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934.
 
For the transition period from                to
 
Commission File Number: 000-53330
 
 
Federal Home Loan Mortgage Corporation
(Exact name of registrant as specified in its charter)
 
Freddie Mac
     
Federally chartered corporation   52-0904874
(State or other jurisdiction of
incorporation or organization)
  (I.R.S. Employer
Identification No.)
     
8200 Jones Branch Drive, McLean, Virginia   22102-3110
(Address of principal executive offices)   (Zip Code)
 
(703) 903-2000
 
(Registrant’s telephone number, including area code)
 
Indicate by check mark whether the registrant:  (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports); and (2) has been subject to such filing requirements for the past 90 days.     x Yes  o No
 
Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T (§232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files).     o Yes  o No
 
Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, or a smaller reporting company. See the definitions of “large accelerated filer,” “accelerated filer” and “smaller reporting company” in Rule 12b-2 of the Exchange Act.
 
Large accelerated filer o Accelerated filer x
 
Non-accelerated filer (Do not check if a smaller reporting company) o Smaller reporting company o
 
Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act).  o Yes   x No
 
As of October 22, 2010, there were 649,165,351 shares of the registrant’s common stock outstanding.
 


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FINANCIAL STATEMENTS
 
         
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PART I — FINANCIAL INFORMATION
 
We continue to operate under the conservatorship that commenced on September 6, 2008, under the direction of FHFA as our Conservator. The Conservator succeeded to all rights, titles, powers and privileges of Freddie Mac, and of any shareholder, officer or director thereof, with respect to the company and its assets. The Conservator has delegated certain authority to our Board of Directors to oversee, and management to conduct, day-to-day operations. See “BUSINESS — Conservatorship and Related Developments” in our Annual Report on Form 10-K for the year ended December 31, 2009, or 2009 Annual Report, for information on the terms of the conservatorship, the powers of the Conservator, and related matters, including the terms of our Purchase Agreement with Treasury.
 
Throughout Part I of this Form 10-Q, we use certain acronyms and terms which are defined in the Glossary.
 
This Quarterly Report on Form 10-Q includes forward-looking statements that are based on current expectations and are subject to significant risks and uncertainties. These forward-looking statements are made as of the date of this Form 10-Q and we undertake no obligation to update any forward-looking statement to reflect events or circumstances after the date of this Form 10-Q, or to reflect the occurrence of unanticipated events. Actual results might differ significantly from those described in or implied by such statements due to various factors and uncertainties, including those described in: (a) “MD&A — FORWARD-LOOKING STATEMENTS,” and “RISK FACTORS” in this Form 10-Q and in the comparably captioned sections of our 2009 Annual Report, and our Quarterly Reports on Form 10-Q for the first and second quarters of 2010; and (b) the “BUSINESS” section of our 2009 Annual Report.
 
ITEM 2. MANAGEMENT’S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONS
 
You should read this MD&A in conjunction with our consolidated financial statements and related notes for the three and nine months ended September 30, 2010 and our 2009 Annual Report.
 
EXECUTIVE SUMMARY
 
Overview
 
Freddie Mac is a GSE chartered by Congress in 1970 with a public mission to provide liquidity, stability, and affordability to the U.S. housing market. We have maintained a consistent market presence since our inception, providing mortgage liquidity in a wide range of economic environments. During the worst housing and financial crisis since the Great Depression, we are working to support the recovery of the housing market and the nation’s economy by providing essential liquidity to the mortgage market and helping to stem the rate of foreclosures. Taken together, we believe our actions are helping communities across the country by providing America’s families with access to mortgage funding at low rates while helping distressed borrowers keep their homes and avoid foreclosure.
 
Summary of Financial Results
 
Our financial performance in the third quarter of 2010 continues to be impacted by declines in long-term interest rates and the ongoing weakness in the economy, including in the mortgage market. Our total equity (deficit) was $(58) million at September 30, 2010 as our quarterly dividend of $1.6 billion to Treasury exceeded total comprehensive income (loss) for the third quarter of 2010. Our total comprehensive income (loss) was $1.4 billion for the third quarter of 2010 consisting of a net loss of $2.5 billion, reflecting continued significant provision for credit losses, and a $3.9 billion improvement in unrealized losses, net of taxes, related primarily to available-for-sale securities recorded in AOCI. On September 30, 2010, we paid a quarterly dividend to Treasury of $1.6 billion in cash on our senior preferred stock. To address our deficit in net worth, FHFA, as Conservator, will submit a draw request on our behalf to Treasury under the Purchase Agreement for $100 million. Our ability to access funds from Treasury under the Purchase Agreement is critical to keeping us solvent.
 
Our Primary Business Objectives
 
Under conservatorship, we are focused on: (a) meeting the needs of the U.S. residential mortgage market by making home ownership and rental housing more affordable by providing liquidity to mortgage originators and, indirectly, to mortgage borrowers; (b) working to reduce the number of foreclosures and helping to keep families in their homes, including through our role in the MHA Program initiatives, including HAMP, and our relief refinance mortgage initiative; (c) minimizing our credit losses; and (d) maintaining the credit quality of the loans we purchase and guarantee.
 
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Providing Mortgage Liquidity and Conforming Loan Availability
 
We provide liquidity to and support for the U.S. mortgage market in a number of important ways:
 
  •  Our support enables borrowers to have access to a variety of conforming mortgage products, including the prepayable 30-year fixed-rate mortgage which represents the foundation of the mortgage market.
 
  •  We are a constant liquidity provider — we and Fannie Mae were the source of more than two-thirds of the liquidity to the mortgage market during the third quarter of 2010.
 
  •  Our consistent market presence lets our customers know there will be a buyer for their conforming loans that meet our credit standards, which provides additional confidence to keep lending in difficult environments and helps stabilize the market.
 
  •  We are an important counter-cyclical influence as we stay in the market even when other sources of capital have pulled out, as evidenced by the events of the last three years.
 
During the three and nine months ended September 30, 2010, we guaranteed $91.4 billion and $261.3 billion in UPB of single-family conforming mortgage loans, respectively, representing 0.4 million and 1.2 million families, respectively, who purchased homes or refinanced their mortgages. We estimate that we, Fannie Mae, and Ginnie Mae collectively guaranteed over 95% of the single-family conforming mortgage issuances during the nine months ended September 30, 2010.
 
Borrowers typically pay less on mortgage loans, in the form of lower interest rates, funded by Freddie Mac, Fannie Mae, or Ginnie Mae. Mortgage originators are generally able to offer homebuyers lower mortgage rates on conforming loan products, including ours, because of the value investors place on GSE-guaranteed mortgage-related securities. Prior to 2007, mortgage markets were less volatile, home values were stable or rising, and there were many sources of mortgage funds. We estimate that prior to 2007 the average effective interest rates on conforming single-family mortgage loans were about 30 basis points lower than on non-conforming loans. Since 2007, there have been fewer sources of mortgage funds, and we estimate that interest rates on conforming loans, excluding conforming jumbo loans, have been lower than those on non-conforming loans by as much as 184 basis points. In September 2010, we estimate that borrowers were paying an average of 77 basis points less on these conforming loans than on non-conforming loans. These estimates are based on data provided by HSH Associates.
 
Reducing Foreclosures and Keeping Families in Homes
 
During the current housing crisis, we are focused on reducing the number of foreclosures and helping to keep families in their homes. In addition to our participation in the HAMP program, we introduced several options to eligible borrowers during this crisis, including our relief refinance mortgage initiative. Since the beginning of 2010, we helped more than 210,000 borrowers either stay in their homes or sell their properties and avoid foreclosure through our various workout programs, including HAMP. The following table presents our recent single-family loan workout activities.
 
Table 1 — Total Single-Family Loan Workout Volumes(1)
 
                                         
    For the Three Months Ended  
    09/30/2010     06/30/2010     03/31/2010     12/31/2009     09/30/2009  
    (number of loans)  
 
Loan modifications
    38,121       49,492       44,076       15,805       9,013  
Repayment plans
    7,030       7,455       8,761       8,129       7,728  
Forbearance agreements(2)
    6,976       12,815       8,858       8,780       2,979  
Short sales and deed-in-lieu transactions
    10,472       9,542       7,064       6,533       5,695  
                                         
Total single-family loan workouts
    62,599       79,304       68,759       39,247       25,415  
                                         
(1)  Based on actions completed with borrowers for loans within our single-family credit guarantee portfolio. Excludes those modification, repayment, and forbearance activities for which the borrower has started the required process, but the actions have not been made permanent, or effective, such as loans in the trial period under HAMP. Also excludes certain loan workouts where our single-family seller/servicers have executed agreements in the current or prior periods, but these have not been incorporated into certain of our operational systems, due to delays in processing. These categories are not mutually exclusive and a loan in one category may also be included within another category in the same period.
(2)  Excludes loans with long-term forbearance under a completed loan modification. Many borrowers complete a short-term forbearance agreement before another loan workout is pursued or completed. We only report forbearance activity for a single loan once during each quarterly period; however, a single loan may be included under separate forbearance agreements in separate periods.
 
We continue to execute a high volume of loan workouts. Recent highlights include the following:
 
  •  We completed 62,599 single-family loan workouts during the third quarter of 2010, including 38,121 loan modifications and 10,472 short sales and deed-in-lieu transactions.
 
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  •  Based on information provided by the MHA Program administrator, our servicers had completed 98,025 loan modifications under HAMP through September 30, 2010 and, as of such date, 23,203 loans were in HAMP trial periods (this figure only includes borrowers who made at least their first payment under the trial period).
 
  •  While Treasury’s HAFA program became effective on April 5, 2010, our version of the program was not implemented until August 1, 2010. We expect this program will enable the number of short sales to increase modestly during the fourth quarter of 2010.
 
In addition to these efforts, we continue to focus on assisting consumers through outreach and other efforts. These efforts include: (a) meeting with borrowers nationwide in foreclosure prevention workshops; (b) launching the Borrower Help Network to provide distressed borrowers with one-on-one counseling; (c) opening Borrower Help Centers in several cities nationwide to provide free counseling to distressed borrowers; and (d) in instances where foreclosure has occurred, allowing affected families who qualify to rent back their homes. We have also increased our efforts to directly assist our servicers by: (a) increasing our mortgage-related servicing staff; and (b) placing on-site specialists at mortgage servicers.
 
Minimizing Credit Losses
 
We establish guidelines for our servicers to follow in determining which loan workout solution would be expected to provide the best opportunity for minimizing our credit losses and helping the borrower. For example, if a borrower qualifies for a loan modification, this often provides us a better opportunity to minimize credit losses than a foreclosure. We rely on our servicers to identify the best alternative for each borrower.
 
To help minimize the credit losses related to our guarantee activities, we are focused on:
 
  •  pursuing a variety of loan workouts, including foreclosure alternatives, in an effort to reduce the severity of losses we incur;
 
  •  managing foreclosure timelines;
 
  •  managing our inventory of foreclosed properties to reduce costs and maximize proceeds; and
 
  •  pursuing contractual remedies with originators, lenders and servicers, as appropriate.
 
We have contractual arrangements with our seller/servicers under which they provide us with mortgage loans that have been originated under specified underwriting standards. If we subsequently discover that contractual standards were not followed, we can exercise certain contractual remedies to mitigate our credit losses. These contractual remedies include the ability to require the seller/servicer to repurchase the loan at its current UPB or make us whole for any credit losses realized with respect to the loan. As of September 30, 2010, the UPB of loans subject to repurchase requests issued to our single-family seller/servicers was approximately $5.6 billion, and approximately 32% of these requests were outstanding for more than four months since issuance of our repurchase demand. The actual amount we collect on these requests and others we may make in the future will be significantly less than their UPB amounts because we expect many of these requests will be satisfied by reimbursement of our realized losses by seller/servicers, instead of repurchase of loans at their UPB, or may be rescinded in the course of the appeals process provided for in our contracts.
 
Historically, our credit loss exposure has also been partially mitigated by mortgage insurance. Primary mortgage insurance is required to be purchased, at the borrower’s expense, for mortgages with higher LTV ratios. We received payments under primary and other mortgage insurance of $525 million and $1.2 billion in the three and nine months ended September 30, 2010, respectively, to help mitigate our credit losses.
 
Credit Quality of New Loan Purchases and Guarantees
 
We continue to focus on maintaining underwriting standards that are appropriate for the extension of credit in the current economic environment and allow us to purchase and guarantee loans made to qualified borrowers that we expect will generate returns that exceed our credit and administrative costs on such loans.
 
As of September 30, 2010, approximately one-third of our single-family credit guarantee portfolio consisted of mortgage loans originated in 2009 and the first nine months of 2010. We believe the credit quality of the single-family loans acquired in 2009 and the first nine months of 2010 (excluding relief refinance mortgages) is better than that of loans acquired from 2005 through 2008 as measured by original LTV ratios, FICO scores, and income documentation standards. These newer loans have also experienced significantly better serious delinquency trends at this stage in their lifecycle than loans acquired from 2006 through 2008. Early serious delinquency performance has historically been an indicator of long-term credit performance.
 
We believe the improvement in credit quality we are experiencing is primarily the result of the combination of: (a) changes in our underwriting guidelines implemented during 2009 and 2010; (b) fewer purchases in 2009 and 2010 of loans with higher risk characteristics; (c) changes in mortgage insurers’ and lenders’ underwriting practices; and
 
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(d) an increase in the relative amount of refinance mortgages versus new purchase mortgages we acquired in 2009 and 2010. The following table presents loan characteristics, serious delinquency rates, and credit losses by year of origination for our single-family credit guarantee portfolio at September 30, 2010.
 
Table 2 — Single-Family Credit Guarantee Portfolio Data by Year of Origination
 
                                         
    At September 30, 2010     3Q 2010
 
          Average
    Current
    Serious
    Credit
 
    UPB(1)
    FICO
    LTV
    Delinquency
    Losses
 
    (%)     Score     Ratio(2)     Rate     (in millions)  
 
Year of Origination
                                       
2010
    11 %     753       71 %     0.03 %   $  
2009
    23       755       68       0.19       23  
2008
    10       730       83       4.34       303  
2007
    12       709       100       11.04       1,427  
2006
    9       713       100       9.84       1,275  
2005
    11       720       87       5.65       782  
2004 and Prior
    24       723       57       2.32       406  
                                         
Total
    100 %     732       76       3.80     $ 4,216  
                                         
(1)  Based on the UPB of the single-family credit guarantee portfolio.
(2)  Current market values are estimated by adjusting the value of the property at origination based on changes in the market value of homes in the same area since origination.
 
During the first nine months of 2010, the guarantee-related revenue from the mortgage loans originated in 2009 and 2010 exceeded the credit-related expenses, which consist of our provision for credit losses and REO operations income (expense), associated with these loans. These new vintages reflect the combination of changes in underwriting practices and other factors discussed above and are replacing the older vintages that have a higher composition of higher-risk mortgage products. We currently expect that, over time, this should positively impact the serious delinquency rates and credit losses of our single-family credit guarantee portfolio.
 
Single-Family Credit Guarantee Portfolio
 
Since the beginning of 2008, on an aggregate basis, we recorded provision for credit losses associated with single-family loans of approximately $59.1 billion, and an additional $4.9 billion in losses on loans purchased from our PCs, net of recoveries. The majority of these losses are associated with loans originated in 2005 through 2008. Due in part to the factors discussed below, the loans we purchased or guaranteed that were originated in 2005 through 2008 may give rise to additional losses we have not yet provided for. However, we believe, as of September 30, 2010, we provided for the substantial majority of credit losses we expect to ultimately realize on these loans. Various factors, including increases in unemployment rates or further declines in home prices, could require us to provide for losses on these loans beyond our current expectations.
 
The following table provides certain credit statistics for our single-family credit guarantee portfolio. The UPB of our single-family credit guarantee portfolio decreased 3% during the first nine months of 2010, from approximately $1.90 trillion at December 31, 2009 to $1.84 trillion at September 30, 2010.
 
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Table 3 — Credit Statistics, Single-Family Credit Guarantee Portfolio
 
                                         
    As of
    09/30/2010   06/30/2010   03/31/2010   12/31/2009   09/30/2009
 
Payment status —
                                       
One month past due
    2.11 %     2.02 %     1.89 %     2.24 %     2.33 %
Two months past due
    0.80 %     0.77 %     0.79 %     0.95 %     0.95 %
Seriously delinquent(1)
    3.80 %     3.96 %     4.13 %     3.98 %     3.43 %
Non-performing loans (in millions)(2)
  $ 112,746     $ 111,758     $ 110,079     $ 98,689     $ 85,858  
Single-family loan loss reserve (in millions)(3)
  $ 37,665     $ 37,384     $ 35,969     $ 33,026     $ 30,160  
REO inventory (in units)
    74,897       62,178       53,831       45,047       41,133  
REO assets, net carrying value (in millions)
  $ 7,420     $ 6,228     $ 5,411     $ 4,661     $ 4,189  
                                         
                                         
    For the Three Months Ended
    09/30/2010   06/30/2010   03/31/2010   12/31/2009   09/30/2009
    (in units, unless noted)
 
Seriously delinquent loan additions(1)
    115,359       123,175       150,941       166,459       149,446  
Loan modifications(4)
    38,121       49,492       44,076       15,805       9,013  
Foreclosure starts ratio(5)
    0.75 %     0.61 %     0.64 %     0.57 %     0.59 %
REO acquisitions
    39,053       34,662       29,412       24,749       24,373  
REO disposition severity ratio(6)
    41.5 %     39.2 %     40.5 %     40.1 %     40.9 %
Single-family credit losses (in millions)(7)
  $ 4,216     $ 3,851     $ 2,907     $ 2,498     $ 2,138  
(1)  See “RISK MANAGEMENT — Credit Risk — Mortgage Credit Risk — Credit Performance — Delinquencies” for further information about our reported serious delinquency rates.
(2)  Consists of the UPB of loans in our single-family credit guarantee portfolio that have undergone a TDR or that are seriously delinquent.
(3)  Consists of the combination of: (a) our allowance for loan loss on mortgage loans held for investment; and (b) our reserve for guarantee losses associated with non-consolidated single-family mortgage securitization trusts and other mortgage-related financial guarantees, the latter of which is included within other liabilities on our consolidated balance sheets beginning January 1, 2010.
(4)  Represents the number of completed modifications under agreement with the borrower during the quarter. Excludes forbearance agreements, repayment plans, and loans in the trial period under HAMP.
(5)  Represents the ratio of the number of loans that entered the foreclosure process during the respective quarter divided by the number of loans in the portfolio at the end of the quarter. Excludes Structured Transactions and mortgages covered under long-term standby commitment agreements.
(6)  Calculated as the amount of our losses recorded on disposition of REO properties during the respective quarterly period, excluding those subject to repurchase requests made to our seller/servicers, divided by the aggregate UPB of the related loans. The amount of losses recognized on disposition of the properties is equal to the amount by which the UPB of the loans exceeds the amount of net sales proceeds from disposition of the properties. Excludes other related expenses, such as property maintenance and costs, as well as related recoveries from credit enhancements, such as mortgage insurance.
(7)  See endnote (3) of “Table 49 — Credit Loss Performance” for information on the composition of our credit losses.
 
As shown in the table above, although the number of seriously delinquent loan additions declined in the third quarter of 2010, our single-family credit guarantee portfolio continued to experience a high level of serious delinquencies. The credit losses of our single-family credit guarantee portfolio continued to increase in the third quarter of 2010 due to the ongoing weakness in the U.S. economy, including the labor and housing markets. Other factors affecting credit losses during the period include:
 
  •  Losses associated with increased foreclosures and foreclosure alternatives necessary to reduce the significant inventory of seriously delinquent loans. This inventory accumulated in prior periods, primarily during 2009, due to the lengthening in the foreclosure and modification timelines caused by various suspensions of foreclosure transfers, process requirements for the implementation of HAMP, and constraints in servicers’ capabilities to process large volumes of problem loans. Due to the length of time necessary for servicers either to complete the foreclosure process or pursue foreclosure alternatives on seriously delinquent loans still in our portfolio, we expect our credit losses will continue to rise even as the volume of new serious delinquencies declines.
 
  •  Certain loan groups within the single-family credit guarantee portfolio, such as those underwritten with certain lower documentation standards and interest-only loans, as well as other 2005 through 2008 vintage loans, continue to be large contributors to our credit losses.
 
  •  Declines in home prices in many geographic areas, based on our own index, which drove increased write-downs of our REO inventory and, to a lesser extent, increased losses on REO dispositions.
 
Some of our loss mitigation activities create fluctuations in our delinquency statistics. For example, loans that we report as seriously delinquent before they enter the HAMP trial period remain as seriously delinquent for purposes of our delinquency reporting until the modifications become effective and the loans are removed from delinquent status by our servicers. However, under many of our non-HAMP modifications, the borrower would return to a current payment status sooner, because many of these modifications do not have trial periods. Consequently, the volume, timing, and type of loan modifications impact our reported serious delinquency rate.
 
Government Support for Our Business
 
Our ability to access funds from Treasury under the Purchase Agreement is critical to keeping us solvent and avoiding the appointment of a receiver by FHFA under statutory mandatory receivership provisions. While the
 
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conservatorship has benefited us, we are subject to certain constraints on our business activities imposed by Treasury due to the terms of, and Treasury’s rights under, the Purchase Agreement and by FHFA, as our Conservator. Neither the U.S. government nor any other agency or instrumentality of the U.S. government is obligated to fund our mortgage purchase or financing activities or to guarantee our securities or other obligations. As of September 30, 2010, our annual cash dividend obligation to Treasury on the senior preferred stock exceeded our annual historical earnings in most periods.
 
On September 30, 2010, we received $1.8 billion in funding from Treasury under the Purchase Agreement relating to our net worth deficit as of June 30, 2010, which increased the aggregate liquidation preference of the senior preferred stock to $64.1 billion. To address our net worth deficit of $58 million as of September 30, 2010, FHFA, as Conservator, will submit a draw request, on our behalf, to Treasury under the Purchase Agreement in the amount of $100 million. Upon funding of the draw request, the aggregate liquidation preference on the senior preferred stock owned by Treasury will increase from $64.1 billion to $64.2 billion and the corresponding annual cash dividend payable to Treasury will increase to $6.42 billion. We have paid cash dividends to Treasury of $8.4 billion to date, an amount equal to 13% of our aggregate draws under the Purchase Agreement.
 
Under the Purchase Agreement, the commitment from Treasury will increase as necessary to eliminate any net worth deficits we may have during 2010, 2011, and 2012. We believe that the support provided by Treasury pursuant to the Purchase Agreement enables us to maintain our access to the debt markets and to have adequate liquidity to conduct our normal business activities, although the costs of our debt funding could vary.
 
Changes in Accounting Standards Related to Accounting for Transfers of Financial Assets and Consolidation of VIEs
 
In June 2009, the FASB issued two new accounting standards that amended the guidance applicable to the accounting for transfers of financial assets and the consolidation of VIEs. Effective January 1, 2010, we adopted these new accounting standards prospectively for all existing VIEs. The adoption of these two standards had a significant impact on our consolidated financial statements and other financial disclosures beginning in the first quarter of 2010. As a result of the adoption, our consolidated balance sheets reflect the consolidation of our single-family PC trusts and certain of our Structured Transactions. This consolidation resulted in an increase to our assets and liabilities of $1.5 trillion and a net decrease to total equity (deficit) as of January 1, 2010 of $11.7 billion.
 
Because our results of operations for the three and nine months ended September 30, 2010 (on both a GAAP and Segment Earnings basis) include the activities of the consolidated VIEs, they are not directly comparable with the results of operations for the three and nine months ended September 30, 2009, which reflect the accounting policies in effect during that time (i.e., when the majority of the securitization entities were accounted for off-balance sheet).
 
See “NOTE 2: CHANGE IN ACCOUNTING PRINCIPLES” for detailed discussions regarding the new accounting standards and the impact to our financial statements.
 
Financial Results for the Third Quarter of 2010
 
Net loss was $2.5 billion and $5.4 billion for the third quarters of 2010 and 2009, respectively. Key highlights of our financial results for the third quarter of 2010 include:
 
  •  Net interest income for the third quarter of 2010 decreased to $4.3 billion from $4.5 billion during the third quarter of 2009 mainly due to lower mortgage-related securities investments.
 
  •  Provision for credit losses was $3.7 billion and $8.0 billion for the third quarters of 2010 and 2009, respectively. The provision for credit losses in the third quarter of 2010 reflects a substantial slowdown in the rate of growth of our non-performing single-family loans, continued high volumes of loan modifications, and improved expectations for recoveries from credit enhancements. The provision for credit losses in the third quarter of 2009 reflected significant increases in non-performing loans and serious delinquency rates in that period.
 
  •  Non-interest income (loss) was $(2.6) billion for the third quarter of 2010, compared to $(1.1) billion for the third quarter of 2009. This decline was primarily due to income recognized on our guarantee activities in the third quarter of 2009 that was either reclassified or eliminated as a result of the adoption of the new accounting standards for all existing VIEs.
 
  •  Total comprehensive income was $1.4 billion for the third quarter of 2010 compared to total comprehensive income of $3.1 billion for the third quarter of 2009. Total comprehensive income reflects the $2.5 billion net loss for the third quarter of 2010, and an increase of $3.9 billion in AOCI primarily resulting from fair value improvements on available-for-sale securities.
 
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Housing, Mortgage Market and Economic Conditions
 
Overview
 
Mortgage and credit market conditions remained weak in the third quarter of 2010 due primarily to a continued weak labor market. The pace of economic recovery increased slightly in the third quarter of 2010, with the U.S. gross domestic product rising by 2.0% on an annualized basis during the period, compared to 1.7% during the second quarter of 2010, according to the Bureau of Economic Analysis advance estimate. Unemployment was 9.6% in September 2010, up 0.1% compared to June 2010, based on data from the U.S. Bureau of Labor Statistics.
 
Single-Family Housing Market
 
The federal homebuyer tax credit program ended in April 2010, which, we believe, contributed to a decline in home sales in the third quarter of 2010. New home sales fell 31.9% in May 2010 to a seasonally adjusted annual rate of 282,000, reflecting the lowest levels since the Census Bureau’s series began in 1963. New home sales recovered modestly in subsequent months, to a 307,000 annualized rate in September. Because existing home sales are reported at closing, typically a month or more after the contract is signed, the full effect of the expiration of the federal homebuyer tax credit program was not felt until July 2010, when existing home sales decreased by 27.0%. Sales of existing homes rose 18.0% over the subsequent two months, however, to an annual rate of 4.5 million in September. Thus, while the federal homebuyer tax credit program was successful in promoting demand for home purchases and accelerated the timing of the home-purchase decision for many buyers, home sales declined following the expiration of the program.
 
We estimate that home prices decreased 1.2% nationwide during the first nine months of 2010, which includes a 1.8% decrease in the third quarter of 2010, based on our own index of our single-family credit guarantee portfolio. Other indices of home prices may have different results, as they are determined using different pools of mortgage loans and calculated under different conventions than our own. The spring and summer months have historically been strong times for home sales, which we believe provided strength to home prices. We believe home prices in the first half of the year were positively impacted by seasonal movement as well as availability of the federal homebuyer tax credit.
 
Despite some signs of stabilization, serious delinquency rates on single-family loans remain at historically high levels for all major product types. The MBA reported in its National Delinquency Survey that delinquency rates on all single-family loans in their survey dipped to 9.1% as of June 30, 2010, the most recent date for which information is available, down from the record 9.7% at year-end 2009. This lower rate is still the third highest delinquency rate in the 50-year history of the MBA’s survey. Residential loan performance was better in areas with lower unemployment rates and where property prices have fallen slightly or not declined at all in the last two years. The MBA, in its survey, presents delinquency rates both for mortgages it classifies as subprime and for mortgages it classifies as prime conventional. The delinquency rates of subprime mortgages are markedly higher than those of prime conventional loan products in the MBA survey; however, the delinquency experience in prime conventional mortgage loans during the last two years has been significantly worse than in any year since the 1930s.
 
Based on data from the Federal Reserve’s Flow of Funds Accounts, there was a sustained and significant increase in single-family mortgage debt outstanding from 2001 to 2006. This increase in mortgage debt was driven by increasing sales of new and existing single-family homes during this same period. As reported by FHFA in its Conservator’s Report on the Enterprises’ Financial Condition, dated August 26, 2010, the market share of mortgage-backed securities issued by the GSEs and Ginnie Mae declined significantly from 2001 to 2006 while the market share of non-GSE, or private label, securities peaked. Non-traditional mortgage types, such as interest-only, Alt-A, and option ARMs, also increased in market share during these years, which we believe introduced greater risk into the market. We believe these shifts in market activity, in part, help explain the significant differentiation in delinquency performance of securitized private label and GSE mortgage loans as discussed below.
 
We estimate that we owned or guaranteed approximately 23% of the outstanding single-family mortgages in the U.S. at September 30, 2010. At June 30, 2010, we held or guaranteed approximately 492,500 seriously delinquent single-family loans, representing approximately 10% of the estimated 5.0 million seriously delinquent single-family mortgages in the market as of June 30, 2010, the most recent date for which the MBA has reported market loan delinquency data in its survey. In contrast, we estimate that private label securities comprised 10% of the single-family mortgages in the U.S. and represented approximately 26% of the seriously delinquent single-family mortgages at June 30, 2010.
 
Concerns Regarding Deficiencies in Foreclosure Practices
 
Recent announcements of deficiencies in foreclosure documentation by several large seller/servicers have raised various concerns relating to foreclosure practices. We are working with all of our seller/servicers to identify deficient foreclosure practices. A number of our seller/servicers, including several of our largest ones, have temporarily
 
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suspended foreclosure proceedings in some or all states in which they do business while they conduct their evaluations. We are also evaluating the impact of these foreclosure practices on our REO properties and have suspended certain REO sales and eviction proceedings for REO properties pending the completion of our evaluation. Issues have also been identified with respect to practices of certain legal counsel involved in the foreclosure process. We have terminated the eligibility of one law firm, which was responsible for handling a significant number of foreclosures for our servicers in Florida. We expect that these issues and the related foreclosure suspensions could prolong the foreclosure process nationwide and may delay sales of our REO properties.
 
On October 13, 2010, FHFA made public a four-point policy framework detailing FHFA’s plan to address these issues, including guidance for consistent remediation of identified foreclosure process deficiencies. FHFA has directed Freddie Mac and Fannie Mae to implement this plan.
 
We will face increased expenses related to deficiencies in foreclosure practices and the costs of curing them, which may be significant. These costs will include expenses to remediate issues relating to practices of certain legal counsel that will increase our expenses in future periods. For more information regarding how these deficiencies in foreclosure practices could impact our business, see “RISK MANAGEMENT — Credit Risk — Institutional Credit Risk — Mortgage Seller/Servicers” and “RISK FACTORS — Our expenses could increase and we may otherwise be adversely affected by deficiencies in foreclosure practices, as well as related delays in the foreclosure process.” Throughout this Form 10-Q, we generally refer to these matters as the concerns about foreclosure practices.
 
Multifamily Housing Market
 
National multifamily market fundamentals continued to improve during the third quarter of 2010. Vacancy rates, which had climbed to record levels, improved and effective rents, the principal source of income for property owners, appear to have stabilized and began to increase on a national basis. These improving fundamentals helped to stabilize property values in a number of markets. However, the multifamily market continues to be negatively impacted by high unemployment and ongoing weakness in the economy. Vacancy rates and effective rents are important to loan performance because multifamily loans are generally repaid from the cash flows generated by the underlying property. Prolonged periods of high apartment vacancies and negative or flat effective rent growth will adversely impact a multifamily property’s net operating income and related cash flows, which can strain the borrower’s ability to make loan payments and thereby potentially increase our delinquency rates and credit expenses.
 
Outlook
 
Forward-looking statements involve known and unknown risks and uncertainties, some of which are beyond our control. These statements are not historical facts, but rather represent our expectations based on current information, plans, judgments, assumptions, estimates, and projections. Actual results may differ significantly from those described in or implied by such forward-looking statements due to various factors and uncertainties. See “FORWARD-LOOKING STATEMENTS” for additional information.
 
Overview
 
Mortgage and credit market conditions will likely remain weak during the remainder of 2010 and the first part of 2011. However, we expect that continued focus on loan workouts, a gradual and modest employment recovery, and relative stabilization in national home prices should lead to lower serious delinquency rates for the overall market over time.
 
A number of factors make it difficult to predict when a sustained recovery in the mortgage and credit markets will occur, including, among others, uncertainty concerning the effect of current or future government actions to address the economic and housing crisis. We believe that it will be a considerable time until the housing market has a sustained recovery. Our expectation for home prices, based on our own index, is that national average home prices will continue to decline over the near term before a long-term recovery in housing begins, due to, among other factors:
 
  •  the negative impact of an anticipated seasonal slowdown of home purchases in the second half of 2010;
 
  •  our expectation for a sustained volume of distressed sales, which include short sales and sales by financial institutions of their REO properties;
 
  •  the expiration of the federal homebuyer tax credit; and
 
  •  the possibility that unemployment rates will remain high.
 
Single-Family Guarantee Business
 
Even if home prices do not continue to decline in the near term as we expect, our credit losses will likely increase in the near term and remain significantly above historical levels for the foreseeable future due to the substantial number of mortgage loans in our single-family credit guarantee portfolio on which borrowers owe more than their
 
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home is currently worth, as well as the substantial backlog of seriously delinquent loans. For the near term, we also expect:
 
  •  loss severity rates to remain relatively high, as market conditions, such as home prices and the rate of home sales, continue to remain weak;
 
  •  REO operations expense to continue to increase, as single-family REO acquisition volume continues to be high and REO property inventory continues to grow;
 
  •  non-performing assets, which include loans deemed TDRs, to continue to increase;
 
  •  the volume of loan workouts to remain high, in part due to our implementation of HAFA; and
 
  •  growth in the number of loans in the foreclosure process as well as prolonged foreclosure timelines, which may result in increased loan loss reserves in the near term and continued increases in charge-offs in subsequent periods.
 
Our expectations with respect to foreclosures, REO acquisitions, REO operations expense, and charge-offs could be impacted by delays in the foreclosure process, including further delays related to the concerns about deficiencies in foreclosure practices of our servicers as discussed above.
 
Multifamily Business
 
While national multifamily market fundamentals continued to improve in the third quarter of 2010, as discussed above, certain local markets continue to exhibit weak fundamentals. We expect that our multifamily non-performing assets will increase due to adverse market conditions particularly in these markets. Delinquency rates have historically been a lagging indicator and, as a result, we may continue to experience an increase in delinquencies and credit losses despite improving market fundamentals.
 
Long-Term Financial Sustainability and Future Status
 
We expect to request additional draws under the Purchase Agreement in future periods. The size and timing of such draws will be determined by a variety of factors that could adversely affect our net worth. While we may experience variability in GAAP total comprehensive income (loss) in future periods negatively impacting our net worth, we expect that our future net worth will continue to be negatively impacted over the long-term by dividend payments on our senior preferred stock. Given our current annual dividend obligation of $6.4 billion, which exceeds our earnings in most historical periods and would increase with additional draws, it is unlikely that we will have net income in excess of our annual dividends payable to Treasury in future periods. In addition, potentially substantial quarterly commitment fees payable to Treasury beginning in 2011 (the amounts of which must be determined by December 31, 2010) will also negatively impact our future net worth over the long-term. For a discussion of factors that could result in additional draws, see “LIQUIDITY AND CAPITAL RESOURCES — Capital Resources.”
 
There continues to be significant uncertainty in the current mortgage market environment, and any changes in the trends in macroeconomic factors, such as home prices and unemployment rates, may cause our results to vary significantly from our expectations. As a result of these factors, there is significant uncertainty as to our long-term financial sustainability.
 
There is also significant uncertainty as to whether or when we will emerge from conservatorship, as it has no specified termination date, and as to what changes may occur to our business structure during or following conservatorship, including whether we will continue to exist. While we are not aware of any current plans of our Conservator to significantly change our business structure in the near-term, the Dodd-Frank Act, which was signed into law on July 21, 2010, requires the Secretary of the Treasury to conduct a study and develop recommendations regarding the options for ending the conservatorship. The Secretary’s report and recommendations are required to be submitted to Congress not later than January 31, 2011. We have no ability to predict the outcome of these deliberations.
 
Legislative and Regulatory Matters
 
On September 14, 2010, FHFA published in the Federal Register a final rule establishing new affordable housing goals for Freddie Mac and Fannie Mae for 2010 and 2011. For additional information regarding this rule and other recent legislative and regulatory actions, see “LEGISLATIVE AND REGULATORY MATTERS.”
 
Investment Activity and Limits Under the Purchase Agreement and by FHFA
 
Under the terms of the Purchase Agreement and FHFA regulation, the UPB of our mortgage-related investments portfolio may not exceed $810 billion as of December 31, 2010 and this limit will be reduced by 10% each year until it reaches $250 billion. FHFA has stated its expectation that we will not be a substantial buyer or seller of mortgages for our mortgage-related investments portfolio, except for purchases of seriously delinquent mortgages out of PC trusts.
 
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Table 4 presents the UPB of our mortgage-related investments portfolio, for purposes of the limit imposed by the Purchase Agreement and FHFA regulation. We disclose our mortgage assets on this basis monthly under the caption “Mortgage-Related Investments Portfolio — Ending Balance” in our Monthly Volume Summary reports, which are available on our website and in current reports on Form 8-K we file with the SEC.
 
The UPB of our mortgage-related investments portfolio declined from December 31, 2009 to September 30, 2010, primarily due to liquidations, partially offset by the purchase of $113 billion of seriously delinquent loans from PC trusts.
 
Table 4 — Mortgage-Related Investments Portfolio(1)
 
                 
    September 30, 2010     December 31, 2009  
    (in millions)  
 
Investments segment — Mortgage investments portfolio
  $ 498,006     $ 597,827  
Single-family Guarantee segment — Single-family unsecuritized mortgage loans(2)
    68,744       10,743  
Multifamily segment — Mortgage investments portfolio
    143,498       146,702  
                 
Total mortgage-related investments portfolio
  $ 710,248     $ 755,272  
                 
(1)  Based on UPB and excludes mortgage loans and mortgage-related securities traded, but not yet settled.
(2)  Represents unsecuritized non-performing single-family loans for which the Single-family Guarantee segment is actively pursuing a problem loan workout.
 
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SELECTED FINANCIAL DATA(1)
 
                                 
    Three Months Ended
    Nine Months Ended
 
    September 30,     September 30,  
    2010     2009(2)     2010     2009(2)  
    (dollars in millions, except share related amounts)  
 
Statements of Operations Data
                               
Net interest income
  $ 4,279     $ 4,462     $ 12,540     $ 12,576  
Provision for credit losses
    (3,727 )     (7,973 )     (14,152 )     (22,553 )
Non-interest income (loss)
    (2,646 )     (1,082 )     (11,127 )     (955 )
Non-interest expense
    (828 )     (965 )     (1,974 )     (5,421 )
Net loss attributable to Freddie Mac
    (2,511 )     (5,408 )     (13,912 )     (15,081 )
Net loss attributable to common stockholders
    (4,069 )     (6,701 )     (18,058 )     (17,894 )
Total comprehensive income (loss) attributable to Freddie Mac
    1,436       3,052       (874 )     852  
Per common share data:
                               
Loss:
                               
Basic
    (1.25 )     (2.06 )     (5.56 )     (5.50 )
Diluted
    (1.25 )     (2.06 )     (5.56 )     (5.50 )
Cash common dividends
                       
Weighted average common shares outstanding (in thousands):(3)
                               
Basic
    3,248,794       3,253,172       3,249,753       3,254,261  
Diluted
    3,248,794       3,253,172       3,249,753       3,254,261  
                                 
                                 
                September 30,
    December 31,
 
                2010     2009  
                (dollars in millions)
 
 
Balance Sheets Data
                               
Mortgage loans held-for-investment, at amortized cost by consolidated trusts (net of allowance for loan losses)
                  $ 1,681,736     $  
All other assets
                    606,994       841,784  
Debt securities of consolidated trusts held by third parties
                    1,542,503        
Other debt
                    727,391       780,604  
All other liabilities
                    18,894       56,808  
Total Freddie Mac stockholders’ equity (deficit)
                    (58 )     4,278  
Portfolio Balances(4)
                               
Total mortgage portfolio(5)
                    2,192,079       2,250,539  
Mortgage-related investments portfolio
                    710,248       755,272  
Total PCs and Structured Securities(6)
                    1,747,465       1,854,813  
Non-performing assets(7)
                    121,003       103,919  
                                 
                                 
    Three Months Ended September 30,     Nine Months Ended September 30,  
    2010     2009(2)     2010     2009(2)  
 
Ratios(8)
                               
Return on average assets(9)
    (0.4 )%     (2.5 )%     (0.8 )%     (2.3 )%
Non-performing assets ratio(10)
    6.1       4.5       6.1       4.5  
Equity to assets ratio(11)
    0.0       1.0       (0.2 )     (1.2 )
 (1)  See “NOTE 2: CHANGE IN ACCOUNTING PRINCIPLES” for information regarding accounting changes impacting the current period. See “NOTE 1: SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES — Recently Adopted Accounting Standards” in our 2009 Annual Report for information regarding accounting changes impacting previously reported results.
 (2)  See “QUARTERLY SELECTED FINANCIAL DATA” in our 2009 Annual Report for an explanation of changes in the previously reported Statements of Operations Data for the three and nine months ended September 30, 2009.
 (3)  Includes the weighted average number of shares that are associated with the warrant for our common stock issued to Treasury as part of the Purchase Agreement. This warrant is included in basic loss per share for both the three and nine months ended September 30, 2010 and 2009, because it is unconditionally exercisable by the holder at a cost of $0.00001 per share.
 (4)  Represents the UPB and excludes mortgage loans and mortgage-related securities traded, but not yet settled.
 (5)  See “Table 11 — Segment Mortgage Portfolio Composition” for the composition of our total mortgage portfolio.
 (6)  For 2009, includes PCs and Structured Securities that we held for investment. See “Table 11 — Segment Mortgage Portfolio Composition” for the composition of our total mortgage portfolio. Excludes Structured Securities for which we have resecuritized our PCs and Structured Securities. These resecuritized securities do not increase our credit-related exposure and consist of single-class Structured Securities backed by PCs, Structured Securities and principal-only strips. The notional balances of interest-only strips are excluded because this line item is based on UPB.
 (7)  See “Table 47 — Non-Performing Assets” for a description of our non-performing assets.
 (8)  The return on common equity ratio is not presented because the simple average of the beginning and ending balances of total Freddie Mac stockholders’ equity (deficit), net of preferred stock (at redemption value), is less than zero for all periods presented. The dividend payout ratio on common stock is not presented because we are reporting a net loss attributable to common stockholders for all periods presented.
 (9)  Ratio computed as annualized net income (loss) attributable to Freddie Mac divided by the simple average of the beginning and ending balances of total assets. To calculate the simple average for the nine months ended September 30, 2010, the beginning balance of total assets is based on the January 1, 2010 total assets included in “NOTE 2: CHANGE IN ACCOUNTING PRINCIPLES — Table 2.1 — Impact of the Change in Accounting for Transfers of Financial Assets and Consolidation of Variable Interest Entities on Our Consolidated Balance Sheet” so that both the beginning and ending balances of total assets reflect the changes in accounting principles.
(10)  Ratio computed as non-performing assets divided by the total mortgage portfolio, excluding non-Freddie Mac securities.
(11)  Ratio computed as the simple average of the beginning and ending balances of total Freddie Mac stockholders’ equity (deficit) divided by the simple average of the beginning and ending balances of total assets. To calculate the simple average for the nine months ended September 30, 2010, the beginning balance of total Freddie Mac stockholders’ equity (deficit) is based on the January 1, 2010 total Freddie Mac stockholders’ equity (deficit) included in “NOTE 2: CHANGE IN ACCOUNTING PRINCIPLES — Table 2.1 — Impact of the Change in Accounting for Transfers of Financial Assets and Consolidation of Variable Interest Entities on Our Consolidated Balance Sheet” so that both the beginning and ending balances of total Freddie Mac stockholders’ equity (deficit) reflect the changes in accounting principles.
 
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CONSOLIDATED RESULTS OF OPERATIONS
 
The following discussion of our consolidated results of operations should be read in conjunction with our consolidated financial statements, including the accompanying notes. Also see “CRITICAL ACCOUNTING POLICIES AND ESTIMATES” for more information concerning our more significant accounting policies and estimates applied in determining our reported results of operations.
 
Change in Accounting Principles
 
As discussed in “EXECUTIVE SUMMARY,” our adoption of two new accounting standards that amended the guidance applicable to the accounting for transfers of financial assets and the consolidation of VIEs had a significant impact on our consolidated financial statements and other financial disclosures beginning in the first quarter of 2010.
 
The cumulative effect of these changes in accounting principles was a net decrease of $11.7 billion to total equity (deficit) as of January 1, 2010, which includes changes to the opening balances of retained earnings (accumulated deficit) and AOCI, net of taxes. See “NOTE 1: SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES — Consolidation and Equity Method of Accounting,” “NOTE 2: CHANGE IN ACCOUNTING PRINCIPLES,” “NOTE 4: VARIABLE INTEREST ENTITIES,” and “NOTE 22: SELECTED FINANCIAL STATEMENT LINE ITEMS” for additional information regarding these changes.
 
As these changes in accounting principles were applied prospectively, our results of operations for the three and nine months ended September 30, 2010 (on both a GAAP and Segment Earnings basis), which reflect the consolidation of trusts that issue our single-family PCs and certain Structured Transactions, are not directly comparable with the results of operations for the three and nine months ended September 30, 2009, which reflect the accounting policies in effect during that time (i.e., when the majority of the securitization entities were accounted for off-balance sheet).
 
Consolidated Statements of Operations — GAAP Results
 
Table 5 summarizes the GAAP Consolidated Statements of Operations.
 
Table 5 — Summary Consolidated Statements of Operations — GAAP Results(1)
 
                                 
    Three Months Ended
    Nine Months Ended
 
    September 30,     September 30,  
    2010     2009     2010     2009  
    (in millions)  
 
Net interest income
  $ 4,279     $ 4,462     $ 12,540     $ 12,576  
Provision for credit losses
    (3,727 )     (7,973 )     (14,152 )     (22,553 )
                                 
Net interest income (loss) after provision for credit losses
    552       (3,511 )     (1,612 )     (9,977 )
Non-interest income (loss):
                               
Gains (losses) on extinguishment of debt securities of consolidated trusts
    (66 )           (160 )      
Gains (losses) on retirement of other debt
    (50 )     (215 )     (229 )     (475 )
Gains (losses) on debt recorded at fair value
    (366 )     (238 )     525       (568 )
Derivative gains (losses)
    (1,130 )     (3,775 )     (9,653 )     (1,233 )
Impairment of available-for-sale securities(2):
                               
Total other-than-temporary impairment of available-for-sale securities
    (523 )     (4,199 )     (1,054 )     (21,802 )
Portion of other-than-temporary impairment recognized in AOCI
    (577 )     3,012       (984 )     11,272  
                                 
Net impairment of available-for-sale securities recognized in earnings
    (1,100 )     (1,187 )     (2,038 )     (10,530 )
Other gains (losses) on investment securities recognized in earnings
    (503 )     2,684       (1,176 )     5,693  
Other income
    569       1,649       1,604       6,158  
                                 
Total non-interest income (loss)
    (2,646 )     (1,082 )     (11,127 )     (955 )
                                 
Non-interest expense:
                               
Administrative expenses
    (376 )     (433 )     (1,158 )     (1,188 )
REO operations income (expense)
    (337 )     96       (456 )     (219 )
Other expenses
    (115 )     (628 )     (360 )     (4,014 )
                                 
Total non-interest expense
    (828 )     (965 )     (1,974 )     (5,421 )
                                 
Loss before income tax benefit
    (2,922 )     (5,558 )     (14,713 )     (16,353 )
Income tax benefit
    411       149       800       1,270  
                                 
Net loss
  $ (2,511 )   $ (5,409 )   $ (13,913 )   $ (15,083 )
Less: Net loss attributable to noncontrolling interest
          1       1       2  
                                 
Net loss attributable to Freddie Mac
  $ (2,511 )   $ (5,408 )   $ (13,912 )   $ (15,081 )
                                 
(1)  See “NOTE 2: CHANGE IN ACCOUNTING PRINCIPLES” for information regarding accounting changes impacting 2010 periods.
(2)  We adopted an amendment to the accounting standards for investments in debt and equity securities effective April 1, 2009. See “NOTE 1: SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES — Recently Adopted Accounting Standards” in our 2009 Annual Report for additional information regarding the impact of this amendment.
 
Net Interest Income
 
Table 6 presents an analysis of net interest income, including average balances and related yields earned on assets and incurred on liabilities.
 
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Table 6 — Net Interest Income/Yield and Average Balance Analysis
 
                                                 
    Three Months Ended September 30,  
    2010     2009  
          Interest
                Interest
       
    Average
    Income
    Average
    Average
    Income
    Average
 
    Balance(1)(2)     (Expense)(1)     Rate     Balance(1)(2)     (Expense)(1)     Rate  
    (dollars in millions)  
 
                                                 
Interest-earning assets:
                                               
                                                 
Cash and cash equivalents
  $ 32,956     $ 24       0.28 %   $ 48,403     $ 34       0.28 %
Federal funds sold and securities purchased under agreements to resell
    51,439       24       0.19       29,256       11       0.15  
                                                 
Mortgage-related securities:
                                               
Mortgage-related securities(3)
    500,500       6,058       4.84       663,744       7,936       4.78  
Extinguishment of PCs held by Freddie Mac
    (195,890 )     (2,543 )     (5.19 )                  
                                                 
Total mortgage-related securities, net
    304,610       3,515       4.62       663,744       7,936       4.78  
                                                 
Non-mortgage-related securities(3)
    28,631       42       0.59       19,282       144       2.99  
Mortgage loans held by consolidated trusts(4)
    1,702,055       21,473       5.05                    
Unsecuritized mortgage loans(4)
    222,138       2,305       4.15       129,721       1,740       5.37  
                                                 
Total interest-earning assets
  $ 2,341,829     $ 27,383       4.67     $ 890,406     $ 9,865       4.43  
                                                 
                                                 
Interest-bearing liabilities:
                                               
Debt securities of consolidated trusts including PCs held by Freddie Mac
  $ 1,723,095     $ (21,264 )     (4.94 )   $     $        
Extinguishment of PCs held by Freddie Mac
    (195,890 )     2,543       5.19                    
                                                 
Total debt securities of consolidated trusts held by third parties
    1,527,205       (18,721 )     (4.90 )                  
                                                 
Other debt:
                                               
Short-term debt
    207,673       (143 )     (0.27 )     256,324       (333 )     (0.51 )
Long-term debt(5)
    542,842       (4,002 )     (2.94 )     570,863       (4,792 )     (3.35 )
                                                 
Total other debt
    750,515       (4,145 )     (2.20 )     827,187       (5,125 )     (2.48 )
                                                 
Total interest-bearing liabilities
    2,277,720       (22,866 )     (4.01 )     827,187       (5,125 )     (2.48 )
Income (expense) related to derivatives(6)
          (238 )     (0.04 )           (278 )     (0.13 )
Impact of net non-interest-bearing funding
    64,109             0.11       63,219             0.19  
                                                 
Total funding of interest-earning assets
  $ 2,341,829     $ (23,104 )     (3.94 )   $ 890,406     $ (5,403 )     (2.42 )
                                                 
Net interest income/yield
          $ 4,279       0.73             $ 4,462       2.01  
                                                 
                                                 
                                                 
    Nine Months Ended September 30,  
    2010     2009  
          Interest
                Interest
       
    Average
    Income
    Average
    Average
    Income
    Average
 
    Balance(1)(2)     (Expense)(1)     Rate     Balance(1)(2)     (Expense)(1)     Rate  
                (dollars in millions)              
 
Interest-earning assets:
                                               
                                                 
Cash and cash equivalents
  $ 43,522     $ 59       0.18 %   $ 51,912     $ 172       0.44 %
Federal funds sold and securities purchased under agreements to resell
    46,774       56       0.16       30,801       42       0.18  
                                                 
Mortgage-related securities:
                                               
Mortgage-related securities(3)
    544,797       19,769       4.84       688,301       24,931       4.83  
Extinguishment of PCs held by Freddie Mac
    (224,397 )     (8,897 )     (5.29 )                  
                                                 
Total mortgage-related securities, net
    320,400       10,872       4.52       688,301       24,931       4.83  
                                                 
Non-mortgage-related securities(3)
    27,130       158       0.78       15,691       643       5.47  
Mortgage loans held by consolidated trusts(4)
    1,738,904       66,319       5.09                    
Unsecuritized mortgage loans(4)
    198,844       6,445       4.32       125,379       5,041       5.36  
                                                 
Total interest-earning assets
  $ 2,375,574     $ 83,909       4.71     $ 912,084     $ 30,829       4.51  
                                                 
                                                 
Interest-bearing liabilities:
                                               
Debt securities of consolidated trusts including PCs held by Freddie Mac
  $ 1,754,713     $ (66,309 )     (5.04 )   $     $        
Extinguishment of PCs held by Freddie Mac
    (224,397 )     8,897       5.29                    
                                                 
Total debt securities of consolidated trusts held by third parties
    1,530,316       (57,412 )     (5.00 )                  
                                                 
Other debt:
                                               
Short-term debt
    225,745       (421 )     (0.25 )     304,122       (2,026 )     (0.88 )
Long-term debt(5)
    553,701       (12,791 )     (3.08 )     558,337       (15,367 )     (3.67 )
                                                 
Total other debt
    779,446       (13,212 )     (2.26 )     862,459       (17,393 )     (2.68 )
                                                 
Total interest-bearing liabilities
    2,309,762       (70,624 )     (4.08 )     862,459       (17,393 )     (2.68 )
Income (expense) related to derivatives(6)
          (745 )     (0.04 )           (860 )     (0.13 )
Impact of net non-interest-bearing funding
    65,812             0.11       49,625             0.15  
                                                 
Total funding of interest-earning assets
  $ 2,375,574     $ (71,369 )     (4.01 )   $ 912,084     $ (18,253 )     (2.66 )
                                                 
Net interest income/yield
          $ 12,540       0.70             $ 12,576       1.85  
                                                 
(1)  Excludes mortgage loans and mortgage-related securities traded, but not yet settled.
(2)  For securities, we calculate average balances based on their amortized cost.
(3)  Interest income (expense) includes accretion of the portion of impairment charges recognized in earnings expected to be recovered.
(4)  Non-performing loans, where interest income is generally recognized when collected, are included in average balances.
(5)  Includes current portion of long-term debt.
(6)  Represents changes in fair value of derivatives in cash flow hedge relationships that were previously deferred in AOCI and have been reclassified to earnings as the associated hedged forecasted issuance of debt affects earnings.
 
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Our adoption of the change to the accounting standards for consolidation as of January 1, 2010, as discussed above, had the following impact on net interest income and net interest yield for the three and nine months ended September 30, 2010, and will have similar effects on those items in future periods:
 
  •  we now include in net interest income both: (a) the interest income earned on the assets held in our consolidated single-family trusts, comprised primarily of mortgage loans, restricted cash and cash equivalents and investments in securities purchased under agreements to resell (the average balance of such assets was $1.7 trillion and $1.8 trillion for the three and nine months ended September 30, 2010, respectively); and (b) the interest expense related to the debt in the form of PCs and Structured Transactions issued by these trusts that are held by third parties (the average balance of such debt was $1.5 trillion for both the three and nine months ended September 30, 2010). Prior to January 1, 2010, we reflected the earnings impact of these securitization activities as management and guarantee income, recorded within non-interest income on our consolidated statements of operations, and as interest income on single-family PCs and on certain Structured Transactions held for investment; and
 
  •  we reverse interest income recognized in prior periods on non-performing loans, where the collection of principal and interest is not reasonably assured, and do not recognize any further interest income associated with these loans upon their placement on non-accrual status except when cash payments are received. Interest income that we did not recognize, which we refer to as forgone interest income, and reversals of previously recognized interest income related to non-performing loans was $1.1 billion and $3.6 billion during the three and nine months ended September 30, 2010, respectively, compared to $92 million and $250 million for the three and nine months ended September 30, 2009, respectively. The increase in forgone interest income and the reversal of interest income reduced our net interest yield for the three and nine months ended September 30, 2010, compared to the three and nine months ended September 30, 2009. Prior to consolidation of these trusts, the forgone interest income on non-performing loans of the trusts did not reduce net interest income or net interest yield, since it was accounted for through a charge to provision for credit losses.
 
See “NOTE 2: CHANGE IN ACCOUNTING PRINCIPLES” for additional information.
 
Net interest income decreased by $183 million and $36 million during the three and nine months ended September 30, 2010, respectively, compared to the three and nine months ended September 30, 2009 due mainly to lower balances of mortgage-related investments, partially offset by lower funding costs and the inclusion of amounts previously classified as management and guarantee income. Net interest yield declined substantially during the 2010 periods because the net interest yield of our consolidated single-family trusts was lower than the net interest yield of PCs previously included in net interest income and our balance of non-performing mortgage loans increased.
 
During the nine months ended September 30, 2010, spreads on our debt and our access to the debt markets remained favorable relative to historical levels. For more information, see “LIQUIDITY AND CAPITAL RESOURCES — Liquidity.”
 
Provision for Credit Losses
 
We maintain loan loss reserves at levels we deem adequate to absorb probable incurred losses on mortgage loans held-for-investment and loans underlying our financial guarantees. Increases in our loan loss reserves are reflected in earnings through the provision for credit losses. As discussed in “Net Interest Income,” our provision for credit losses was positively impacted by the changes in accounting standards for transfers of financial assets and consolidation of VIEs effective January 1, 2010 since we no longer account for forgone interest income on non-performing loans within our provision for credit losses. See “NOTE 2: CHANGE IN ACCOUNTING PRINCIPLES” for further information.
 
Since the beginning of 2008, on an aggregate basis, we recorded provision for credit losses associated with single-family loans of approximately $59.1 billion, and an additional $4.9 billion in losses on loans purchased from our PCs, net of recoveries. The majority of these losses are associated with loans originated in 2005 through 2008. Due in part to the factors discussed below, the loans we purchased or guaranteed that were originated in 2005 through 2008 may give rise to additional losses we have not yet provided for. However, we believe, as of September 30, 2010, we provided for the substantial majority of credit losses we expect to ultimately realize on these loans. Various factors, including increases in unemployment rates or further declines in home prices, could require us to provide for losses on these loans beyond our current expectations. See “Table 3 — Credit Statistics, Single-Family Credit Guarantee Portfolio” for certain quarterly credit statistics for our single-family credit guarantee portfolio.
 
The provision for credit losses was $3.7 billion and $8.0 billion for the third quarters of 2010 and 2009, respectively, and was $14.2 billion in the nine months ended September 30, 2010 compared to $22.6 billion in the nine months ended September 30, 2009. During the 2010 periods, the aggregate UPB of our non-performing loans increased, though at a lower rate than in the 2009 periods. Loss severity rates on our single-family mortgage loans
 
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remained relatively stable in the first half of 2010, but worsened slightly in the third quarter of 2010, whereas severity rates increased throughout the first half of 2009 before moderating in the third quarter of 2009. The adverse effect of the slight increase in loss severity rates during the third quarter of 2010 was more than offset by higher expectations of recoveries from mortgage insurers.
 
During the second quarter of 2010, we identified a backlog related to the processing of certain loan workout activities reported to us by our servicers, principally loan modifications and short sales. This backlog resulted in erroneous loan data within our loan reporting systems, thereby impacting our financial accounting and reporting systems. The resulting error impacted our provision for credit losses, allowance for loan losses, and provision for income taxes and affected our previously reported financial statements for the interim period ended March 31, 2010, the interim 2009 periods, and the full year ended December 31, 2009. The cumulative effect of this error was recorded as a correction in the second quarter of 2010, which included a $1.0 billion pre-tax cumulative effect of this error associated with the year ended December 31, 2009. For additional information, see “NOTE 1: SUMMARY OF SIGNIFICANT POLICIES — Basis of Presentation — Out-of-Period Accounting Adjustment.”
 
Our charge-offs, net of recoveries, increased to $3.7 billion in the third quarter of 2010, compared to $2.2 billion in the third quarter of 2009, due to an increase in the volume of foreclosure transfers, short sales, and deed-in-lieu transactions associated with single-family loans. Charge-offs, net of recoveries, were $10.2 billion in the nine months ended September 30, 2010 compared to $5.0 billion in the nine months ended September 30, 2009. We believe the level of our charge-offs will continue to increase in 2011 as our inventory of seriously delinquent loans and pending foreclosures is reduced. While the quarterly amount of our provision for credit losses has declined for three consecutive quarters, our charge-offs, net of recoveries continued to increase and slightly exceeded our provision for credit losses during the third quarter of 2010.
 
Our provision for credit losses exceeded the level of our charge-offs, net, by $4.0 billion during the nine months ended September 30, 2010, primarily as a result of a continued increase in non-performing loans, including those in the process of foreclosure. As of September 30, 2010, and December 31, 2009, the UPB of our single-family non-performing loans was $112.7 billion and $98.7 billion, and the UPB of multifamily non-performing loans was $746 million and $538 million, respectively. Although still increasing, the rate of growth in the balance of our non-performing loans slowed during the nine months ended September 30, 2010.
 
Our non-performing single-family loans increased in the 2010 periods primarily due to continued high transition of loans into serious delinquency, which led to higher volumes of loan modifications and consequently, a rise in the number of loans categorized as TDRs. Impairment analysis for TDRs requires giving recognition in the provision for credit losses to the excess of our investment over the present value of the expected future cash flows. Consequently, we recognized provision for credit losses of approximately $2.8 billion related to concessions on single-family TDRs during the nine months ended September 30, 2010. We expect a continued increase in the number of loan modifications that qualify as TDRs in the fourth quarter of 2010 since the majority of our modifications are anticipated to include a significant reduction in the contractual interest rate.
 
Our serious delinquencies have remained high due to the continued weakness in home prices and persistently high unemployment, extended foreclosure timelines in many states, and challenges faced by servicers in building capacity to process large volumes of problem loans. Our seller/servicers have an active role in our loan workout activities, including under the MHA Program, and a decline in their performance could result in a failure to realize the anticipated benefits of our loss mitigation plans.
 
Our allowance for loan losses and amount of charge-offs in the future will be affected by a number of factors, including: (a) the actual level of mortgage defaults; (b) the impact of the MHA Program and our other loss mitigation efforts; (c) changes in property values; (d) regional economic conditions, including unemployment rates; (e) delays in the foreclosure process, including those related to the concerns about deficiencies in foreclosure practices of servicers; (f) third-party mortgage insurance coverage and recoveries; and (g) the realized rate of seller/servicer repurchases. See “RISK MANAGEMENT — Credit Risk — Institutional Credit Risk” for additional information on seller/servicer repurchase obligations.
 
The multifamily market is showing signs of stabilization on a national basis, with three consecutive quarters of positive trends in certain apartment statistics. However, some geographic areas in which we have investments in multifamily mortgage loans, including the states of Nevada, Arizona, and Georgia, continue to exhibit weaker than average fundamentals that increase our risk of future losses. The amount of multifamily loans identified as impaired, where we estimate a specific reserve, increased in both the three and nine months ended September 30, 2010, compared to the 2009 periods. As a result, we increased our loan loss reserves associated with multifamily loans to $931 million as of September 30, 2010 from $831 million as of December 31, 2009.
 
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Non-Interest Income (Loss)
 
Gains (Losses) on Extinguishment of Debt Securities of Consolidated Trusts
 
Subsequent to January 1, 2010, due to the change in accounting for consolidation of VIEs, when we purchase PCs that have been issued by consolidated PC trusts, we extinguish a pro rata portion of the outstanding debt securities of the related consolidated trust. We recognize a gain (loss) on extinguishment of the debt securities to the extent the amount paid to redeem the debt security differs from its carrying value. For the three and nine months ended September 30, 2010, we extinguished debt securities of consolidated trusts with a UPB of $15.9 billion and $21.2 billion, respectively (representing our purchase of single-family PCs with a corresponding UPB amount), and our gains (losses) on extinguishment of these debt securities of consolidated trusts were $(66) million and $(160) million, respectively. See “NOTE 2: CHANGE IN ACCOUNTING PRINCIPLES” for additional information.
 
Gains (Losses) on Retirement of Other Debt
 
Gains (losses) on retirement of other debt were $(50) million and $(229) million during the three and nine months ended September 30, 2010, respectively, compared to $(215) million and $(475) million during the three and nine months ended September 30, 2009, respectively. During the three and nine months ended September 30, 2010, we recognized fewer losses on debt retirement compared to the three and nine months ended September 30, 2009 primarily due to lower debt repurchase activity in 2010 compared to 2009.
 
Gains (Losses) on Debt Recorded at Fair Value
 
Gains (losses) on debt recorded at fair value primarily relate to changes in the fair value of our foreign-currency denominated debt. For the three and nine months ended September 30, 2010, we recognized gains (losses) on debt recorded at fair value of $(366) million and $525 million, respectively, due primarily to the U.S. dollar strengthening relative to the Euro during the first six months of 2010, followed by the U.S. dollar weakening relative to the Euro during the third quarter of 2010. For the three and nine months ended September 30, 2009, we recognized losses on debt recorded at fair value of $238 million and $568 million, respectively, primarily due to the U.S. dollar weakening relative to the Euro. We mitigate changes in the fair value of our foreign-currency denominated debt by using foreign currency swaps and foreign-currency denominated interest-rate swaps.
 
Derivative Gains (Losses)
 
Table 7 presents derivative gains (losses) reported in our consolidated statements of operations. See “NOTE 11: DERIVATIVES — Table 11.2 — Gains and Losses on Derivatives” for information about gains and losses related to specific categories of derivatives. Changes in fair value and interest accruals on derivatives not in hedge accounting relationships are recorded as derivative gains (losses) in our consolidated statements of operations. At September 30, 2010 and December 31, 2009, we did not have any derivatives in hedge accounting relationships; however, there are amounts recorded in AOCI related to discontinued cash flow hedges. Amounts deferred in AOCI associated with these closed cash flow hedges are reclassified to earnings when the forecasted transactions affect earnings. While derivatives are an important aspect of our management of interest-rate risk, they generally increase the volatility of reported net income (loss), because, while fair value changes in derivatives affect net income, fair value changes in several of the assets and liabilities being hedged do not affect net income.
 
Table 7 — Derivative Gains (Losses)
 
                                 
    Derivative Gains (Losses)  
    Three Months Ended
    Nine Months Ended
 
Derivatives not designated as hedging instruments under the
  September 30,     September 30,  
accounting standards for derivatives and hedging
  2010     2009     2010     2009  
    (in millions)  
 
Interest-rate swaps
  $ (3,963 )   $ (3,745 )   $ (14,235 )   $ 9,503  
Option-based derivatives(1)
    3,303       1,259       8,585       (7,352 )
Other derivatives(2)
    475       (158 )     (498 )     (671 )
Accrual of periodic settlements(3)
    (945 )     (1,131 )     (3,505 )     (2,713 )
                                 
Total
  $ (1,130 )   $ (3,775 )   $ (9,653 )   $ (1,233 )
                                 
(1)  Includes put swaptions, call swaptions, purchased interest rate caps and floors, guarantees of stated final maturity of issued Structured Securities, and other purchased and written options.
(2)  Other derivatives include futures, foreign currency swaps, commitments, credit derivatives, and swap guarantee derivatives. Foreign-currency swaps are defined as swaps in which net settlement is based on one leg calculated in a foreign-currency and the other leg calculated in U.S. dollars. Commitments include: (a) our commitments to purchase and sell investments in securities; and (b) our commitments to purchase and extinguish or issue debt securities of our consolidated trusts.
(3)  Includes imputed interest on zero-coupon swaps.
 
Gains (losses) on derivatives are principally driven by changes in: (a) swap and forward interest rates and implied volatility; and (b) the mix and volume of derivatives in our derivative portfolio.
 
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During the three and nine months ended September 30, 2010, the yield curve flattened with declining longer-term swap interest rates, resulting in a loss on derivatives of $1.1 billion and $9.7 billion, respectively. Specifically, for the three and nine months ended September 30, 2010, the decrease in longer-term swap interest rates resulted in fair value losses on our pay-fixed swaps of $11.5 billion and $34.9 billion, respectively, partially offset by fair value gains on our receive-fixed swaps of $7.5 billion and $20.6 billion, respectively. We recognized fair value gains for the three and nine months ended September 30, 2010 of $3.3 billion and $8.6 billion, respectively, on our option-based derivatives, resulting from gains on our purchased call swaptions primarily due to the declines in forward interest rates during these periods.
 
During the three months ended September 30, 2009, longer-term swap interest rates declined, resulting in a loss on derivatives of $3.8 billion. During the period, the decreasing swap interest rates resulted in fair value losses on our pay-fixed swaps of $8.2 billion, partially offset by gains on our receive-fixed swaps of $4.5 billion. The $1.3 billion increase in fair value of option-based derivatives resulted from gains on our purchased call swaptions due to the impact of the declines in forward interest rates.
 
During the nine months ended September 30, 2009, the mix and volume of our derivative portfolio were impacted by fluctuations in swap interest rates resulting in a loss on derivatives of $1.2 billion. Longer-term swap interest rates and implied volatility both increased during the nine months ended September 30, 2009. As a result of these factors, we recorded gains on our pay-fixed swap positions, partially offset by losses on our receive-fixed swaps. We also recorded losses on our option-based derivatives, primarily from purchased call swaptions, as the impact of the increasing forward interest rates more than offset the impact of higher implied volatility.
 
Investment Securities-Related Activities
 
Since January 1, 2010, as a result of our adoption of amendments to the accounting standards for transfers of financial assets and consolidation of VIEs, we no longer account for the single-family PCs and certain Structured Transactions we hold as investments in securities. Instead, we now recognize the underlying mortgage loans on our consolidated balance sheets through consolidation of the related trusts. Our adoption of these amendments resulted in a decrease in our investments in securities of $286.5 billion on January 1, 2010. See “NOTE 2: CHANGE IN ACCOUNTING PRINCIPLES” for additional information.
 
Impairments of Available-for-Sale Securities
 
We recorded net impairments of available-for-sale securities recognized in earnings of $1.1 billion and $2.0 billion during the three and nine months ended September 30, 2010, respectively, compared to $1.2 billion and $10.5 billion for the three and nine months ended September 30, 2009, respectively. See “CONSOLIDATED BALANCE SHEETS ANALYSIS — Investments in Securities — Mortgage-Related Securities — Other-Than-Temporary Impairments on Available-for-Sale Mortgage-Related Securities” for additional information regarding the other-than-temporary impairments recorded during the three and nine months ended September 30, 2010 and 2009 and “NOTE 7: INVESTMENTS IN SECURITIES” for information regarding the accounting principles for investments in debt and equity securities. See “NOTE 1: SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES — Recently Adopted Accounting Standards — Change in the Impairment Model for Debt Securities” in our 2009 Annual Report for information on how other-than-temporary impairments are recorded on our financial statements commencing in the second quarter of 2009.
 
Other Gains (Losses) on Investment Securities Recognized in Earnings
 
Other gains (losses) on investment securities recognized in earnings primarily consists of gains (losses) on trading securities. We recognized $(561) million and $(1.3) billion related to gains (losses) on trading securities during the three and nine months ended September 30, 2010, respectively, compared to $2.2 billion and $5.0 billion during the three and nine months ended September 30, 2009, respectively.
 
The fair value of our securities classified as trading was approximately $63.2 billion at September 30, 2010 compared to approximately $235.9 billion at September 30, 2009. The decline in fair value was primarily due to the decrease in our investments in securities resulting from our adoption of amendments to the accounting standards for transfers of financial assets and consolidation of VIEs on January 1, 2010 together with minimal purchase activity during the first three quarters of 2010. This changed the mix of our securities classified as trading to a larger percentage of interest-only securities, which were negatively impacted by the decline in interest rates during 2010. The net gains on trading securities during the three and nine months ended September 30, 2009 related primarily to a decline in interest rates during the three months ended September 30, 2009 and tightening OAS levels during the nine months ended September 30, 2009. In addition, during the three and nine months ended September 30, 2009, we sold
 
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agency securities classified as trading with UPB of approximately $48 billion and $135 billion, respectively, which generated realized gains of $213 million and $1.5 billion, respectively.
 
Other Income
 
Table 8 summarizes the significant components of other income.
 
Table 8 — Other Income
 
                                 
    Three Months Ended
    Nine Months Ended
 
    September 30,     September 30,  
   
2010
    2009     2010     2009  
    (in millions)  
 
Other income (losses):
                               
Management and guarantee income
  $ 35     $ 800     $ 107     $ 2,290  
Gains (losses) on guarantee asset
    (11 )     580       (36 )     2,241  
Income on guarantee obligation
    34       814       106       2,685  
Gains (losses) on sale of mortgage loans
    28       282       244       576  
Lower-of-cost-or-fair-value adjustments on held-for-sale mortgage loans
          (360 )           (591 )
Gains (losses) on mortgage loans recorded at fair value
    128       (1 )     154       (90 )
Recoveries on loans impaired upon purchase
    247       109       643       229  
Low-income housing tax credit partnerships
          (479 )           (752 )
Trust management income (expense)
          (155 )           (600 )
All other
    108       59       386       170  
                                 
Total other income
  $ 569     $ 1,649     $ 1,604     $ 6,158  
                                 
 
Other income includes items associated with our guarantee business activities of non-consolidated trusts, including management and guarantee income, gains (losses) on guarantee asset, income on guarantee obligation, and trust management income (expense). Upon consolidation of our single-family PC trusts and certain Structured Transactions, guarantee-related items no longer have a material impact on our results and are therefore included in other income on our consolidated statements of operations. The management and guarantee income recognized during the nine months ended September 30, 2010 was earned from our non-consolidated securitization trusts and other mortgage credit guarantees which had an aggregate UPB of $41.2 billion as of September 30, 2010 compared to $1.8 trillion as of September 30, 2009. For additional information on the impact of consolidation of our single-family PC trusts and certain Structured Transactions, see “NOTE 2: CHANGE IN ACCOUNTING PRINCIPLES” and “NOTE 22: SELECTED FINANCIAL STATEMENT LINE ITEMS.”
 
Lower-of-Cost-or-Fair-Value Adjustments on Held-for-Sale Mortgage Loans
 
During the three months ended September 30, 2010 and 2009, we recognized lower-of-cost-or-fair-value adjustments of $0 million and $(360) million, respectively. During the nine months ended September 30, 2010 and 2009, we recognized lower-of-cost-or-fair-value adjustments of $0 million and $(591) million, respectively. Due to the change in consolidation accounting for VIEs, which we adopted on January 1, 2010, all single-family mortgage loans on our balance sheet were reclassified as held-for-investment. Consequently, beginning in 2010, we no longer record lower-of-cost-or-fair-value adjustments on single-family mortgage loans.
 
Gains (Losses) on Mortgage Loans Recorded at Fair Value
 
We recognized gains (losses) on mortgage loans recorded at fair value of $128 million and $(1) million during the third quarters of 2010 and 2009, respectively, and $154 million and $(90) million during the nine months ended September 30, 2010 and 2009, respectively. We elect fair value on multifamily loans that we expect to securitize and sell. Fair value gains recognized during the 2010 periods reflect declining interest rates and improved multifamily property values during these periods, which increased the estimated fair values of our multifamily loans.
 
Recoveries on Loans Impaired Upon Purchase
 
During the three months ended September 30, 2010 and 2009, we recognized recoveries on loans impaired upon purchase of $247 million and $109 million, respectively, and in the nine months ended September 30, 2010 and 2009 our recoveries were $643 million and $229 million, respectively. Our recoveries on loans impaired upon purchase increased in the 2010 periods due to a higher volume of short sales and foreclosure transfers, combined with improvements in home prices in certain geographical areas during the first nine months of 2010, as compared to the first nine months of 2009. Our recoveries on these loans may be volatile in the short-term due to the effects of changes in home prices, among other factors.
 
Low-Income Housing Tax Credit Partnerships
 
We partially wrote down the carrying value of our LIHTC investments in the third quarter of 2009 and the remaining carrying value was reduced to zero in the fourth quarter of 2009, as we will not be able to realize any value either through reductions to our taxable income and related tax liabilities or through a sale to a third party. See
 
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“CONSOLIDATED RESULTS OF OPERATIONS — Non-Interest Income (Loss) — Low-Income Housing Tax Credit Partnerships” in our 2009 Annual Report for more information.
 
Non-Interest Expense
 
Table 9 summarizes the components of non-interest expense.
 
Table 9 — Non-Interest Expense
 
                                 
    Three Months Ended
    Nine Months Ended
 
    September 30,     September 30,  
    2010     2009     2010     2009  
    (in millions)  
 
Administrative expenses:
                               
Salaries and employee benefits
  $ 224     $ 230     $ 688     $ 658  
Professional services
    60       91       181       215  
Occupancy expense
    16       16       47       49  
Other administrative expenses
    76       96       242       266  
                                 
Total administrative expenses
    376       433       1,158       1,188  
REO operations (income) expense
    337       (96 )     456       219  
Other expenses
    115       628       360       4,014  
                                 
Total non-interest expense
  $ 828     $ 965     $ 1,974     $ 5,421  
                                 
 
Administrative Expenses
 
Administrative expenses decreased for the three and nine months ended September 30, 2010, compared to the three and nine months ended September 30, 2009, in part due to our focus on cost reduction measures in 2010, particularly on professional services costs.
 
REO Operations (Income) Expense
 
The table below presents the components of our REO operations (income) expense.
 
Table 10 — REO Operations (Income) Expense
 
                                 
    Three Months Ended
    Nine Months Ended
 
    September 30,     September 30,  
    2010     2009     2010     2009  
    (dollars in millions)  
 
Single-family:
                               
REO property expenses(1)
  $ 343     $ 204     $ 842     $ 480  
Disposition (gains) losses(2)
    26       125       (15 )     735  
Change in holding period allowance(3)
    210       (301 )     200       (552 )
Recoveries(4)
    (242 )     (126 )     (575 )     (454 )
                                 
Total single-family REO operations (income) expense
    337       (98 )     452       209  
Multifamily REO operations (income) expense
          2       4       10  
                                 
Total REO operations (income) expense
  $ 337     $ (96 )   $ 456     $ 219  
                                 
REO inventory (in properties), at September 30:
                               
Single-family
    74,897       41,133       74,897       41,133  
Multifamily
    13       7       13       7  
                                 
Total
    74,910       41,140       74,910       41,140  
                                 
REO property dispositions (in properties)
    26,336       17,941       74,621       48,568  
(1)  Consists of costs incurred to maintain or protect a property after foreclosure acquisition, such as legal fees, insurance, taxes, cleaning and other maintenance charges.
(2)  Represents the difference between the disposition proceeds, net of selling expenses, and the fair value of the property on the date of the foreclosure transfer. Excludes holding period writedowns while in REO inventory.
(3)  Includes both the increase (decrease) in the holding period allowance for properties that remain in inventory at the end of the period as well as any reductions associated with dispositions during the period.
(4)  Includes recoveries from primary mortgage insurance, pool insurance and seller/servicer repurchases.
 
REO operations (income) expense was $337 million for the third quarter of 2010 as compared to $(96) million for the third quarter of 2009 and was $456 million and $219 million for the nine months ended September 30, 2010 and 2009, respectively. Net disposition losses declined in the third quarter of 2010, compared to the third quarter of 2009, as sales proceeds in the third quarter of 2010 were more closely aligned with carrying values of our REO inventory. We estimate there was a decline in national home prices of 1.8% during the third quarter of 2010 based on our own index of home values, which resulted in our recording an increase in holding period allowance in the quarter. Improvements in recoveries and disposition losses were more than offset by the increases in our holding period allowance, and higher REO property expenses in the 2010 periods, as compared to the 2009 periods. We currently expect REO property expenses to continue to increase in the near term. Our REO acquisition volume could slow due to delays in the foreclosure process, including delays related to concerns about deficiencies in the foreclosure practices of servicers. For more information on how this could adversely affect our REO operations (income) expense, see “RISK
 
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FACTORS — Our expenses could increase and we may otherwise be adversely affected by deficiencies in foreclosure practices, as well as related delays in the foreclosure process.”
 
Other Expenses
 
Other expenses declined in 2010, as compared to 2009, primarily due to a significant decrease in losses on loans purchased. Our losses on loans purchased were $3 million and $531 million for the three months ended September 30, 2010 and 2009, respectively, and $23 million and $3.7 billion for the nine months ended September 30, 2010 and 2009, respectively. Beginning January 1, 2010, our single-family PC trusts are consolidated as a result of the change in accounting for consolidation of VIEs. As a result, we no longer record losses on loans purchased when we purchase loans from these consolidated entities since the loans are already recorded on our consolidated balance sheets. In the nine months ended September 30, 2010, losses on loans purchased were associated solely with single-family loans purchased pursuant to long-term standby agreements. See “NOTE 1: SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES — Impaired Loans” and “NOTE 22: SELECTED FINANCIAL STATEMENT LINE ITEMS” for additional information. See “Recoveries on Loans Impaired Upon Purchase” for additional information about the impacts from these loans on our financial results.
 
Income Tax Benefit
 
For the three months ended September 30, 2010 and 2009, we reported an income tax benefit of $411 million and $149 million, respectively. For the nine months ended September 30, 2010 and 2009 we reported an income tax benefit of $800 million and $1.3 billion, respectively. See “NOTE 13: INCOME TAXES” for additional information.
 
Segment Earnings
 
Our operations consist of three reportable segments, which are based on the type of business activities each performs — Investments, Single-family Guarantee, and Multifamily. Certain activities that are not part of a reportable segment are included in the All Other category.
 
The Investments segment reflects results from our investment, funding and hedging activities. In our Investments segment, we invest principally in mortgage-related securities and single-family mortgage loans funded by other debt issuances and hedged using derivatives. Segment Earnings for this segment consist primarily of the returns on these investments, less the related financing, hedging, and administrative expenses.
 
The Single-family Guarantee segment reflects results from our single-family credit guarantee activities. In our Single-family Guarantee segment, we purchase single-family mortgage loans originated by our lender customers in the primary mortgage market. We securitize most of the mortgages we purchase, and guarantee the payment of principal and interest on single-family mortgage loans and mortgage-related securities in exchange for management and guarantee fees received over time and other up-front credit-related fees. Segment Earnings for this segment consist primarily of management and guarantee fee revenues, including amortization of upfront fees, less the related credit costs (i.e., provision for credit losses), administrative expenses, allocated funding costs, and amounts related to net float benefits or expenses.
 
The Multifamily segment reflects results from our investments and guarantee activities in multifamily mortgage loans and securities. We primarily purchase multifamily mortgage loans for investment and securitization. We also purchase CMBS for investment; however we have not purchased significant amounts of non-agency CMBS since 2008. These activities support our mission to supply financing for affordable rental housing. Segment Earnings for this segment include management and guarantee fee revenues and the interest earned on assets related to multifamily investment activities, net of allocated funding costs.
 
We evaluate segment performance and allocate resources based on a Segment Earnings approach, subject to the conduct of our business under the direction of the Conservator. Beginning January 1, 2010, we revised our method for presenting Segment Earnings to reflect changes in how management measures and assesses the performance of each segment and the company as a whole. This change in method, in conjunction with our implementation of changes in accounting standards relating to transfers of financial assets and the consolidation of VIEs, resulted in significant changes to our presentation of Segment Earnings. Under the revised method, the financial performance of our segments is measured based on each segment’s contribution to GAAP net income (loss). Beginning January 1, 2010, under the revised method, the sum of Segment Earnings for each segment and the All Other category will equal GAAP net income (loss) attributable to Freddie Mac.
 
Segment Earnings for periods presented prior to 2010 now include the following items that are included in our GAAP-basis earnings, but were deferred or excluded under the previous method for presenting Segment Earnings:
 
  •  Current period GAAP earnings impact of fair value accounting for investments, debt, and derivatives;
 
  •  Allocation of the valuation allowance established against our net deferred tax assets;
 
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  •  Gains and losses on investment sales and debt retirements;
 
  •  Losses on loans purchased and related recoveries;
 
  •  Other-than-temporary impairment of securities recognized in earnings in excess of expected losses; and
 
  •  GAAP-basis accretion income that may result from impairment adjustments.
 
Under the revised method of presenting Segment Earnings, the All Other category consists of material corporate level expenses that are: (a) non-recurring in nature; and (b) based on management decisions outside the control of the management of our reportable segments. By recording these types of activities to the All Other category, we believe the financial results of our three reportable segments are more representative of the decisions and strategies that are executed within the reportable segments and provide greater comparability across time periods. Items included in the All Other category consist of: (a) the write-down of our LIHTC investments; and (b) the deferred tax asset valuation allowance associated with previously recognized income tax credits carried forward. Other items previously recorded in the All Other category prior to the revision to our method for presenting Segment Earnings have been allocated to our three reportable segments.
 
Effective January 1, 2010, we also made significant changes to our GAAP consolidated statements of operations as a result of our adoption of changes in accounting standards for transfers of financial assets and the consolidation of VIEs. These changes make it difficult to view results of our Investments, Single-family Guarantee and Multifamily segments. For example, GAAP net interest income now reflects the earnings impact of much of our securitization activity, whereas, prior to January 1, 2010, the earnings impact of such activity was reflected in GAAP management and guarantee income and other line items. As a result, in presenting Segment Earnings we make significant reclassifications to line items in order to reflect a measure of net interest income on investments and management and guarantee income on guarantees that is in line with our internal measures of performance.
 
We present Segment Earnings by: (a) reclassifying certain investment-related activities and credit guarantee-related activities between various line items on our GAAP consolidated statements of operations; and (b) allocating certain revenues and expenses, including certain returns on assets and funding costs, and all administrative expenses to our three reportable segments.
 
As a result of these reclassifications and allocations, Segment Earnings for our reportable segments differs significantly from, and should not be used as a substitute for, net income (loss) as determined in accordance with GAAP. Our definition of Segment Earnings may differ from similar measures used by other companies. However, we believe that Segment Earnings provides us with meaningful metrics to assess the financial performance of each segment and our company as a whole.
 
We restated Segment Earnings for the three and nine months ended September 30, 2009 to reflect the changes in our method of measuring and assessing the performance of our reportable segments described above. The restated Segment Earnings for the three and nine months ended September 30, 2009 do not include changes to the guarantee asset, guarantee obligation or other items that were eliminated or changed as a result of our implementation of the amendments to the accounting standards for transfers of financial assets and consolidation of VIEs adopted on January 1, 2010, as this change was applied prospectively consistent with our GAAP results. See “NOTE 2: CHANGE IN ACCOUNTING PRINCIPLES” for further information regarding the consolidation of certain of our securitization trusts.
 
See “NOTE 16: SEGMENT REPORTING” for further information regarding our segments, including the descriptions and activities of the segments and the reclassifications and allocations used to present Segment Earnings.
 
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Table 11 provides information about our various segment mortgage portfolios.
 
Table 11 — Segment Mortgage Portfolio Composition(1)
 
                 
    September 30, 2010     December 31, 2009  
    (in millions)  
 
Segment portfolios:
               
Investments — Mortgage investments portfolio:
               
Single-family unsecuritized mortgage loans(2)
  $ 71,118     $ 44,135  
Guaranteed PCs and Structured Securities
    281,380       374,362  
Non-Freddie Mac mortgage-related securities
    145,508       179,330  
                 
Total Investments — Mortgage investments portfolio
    498,006       597,827  
                 
Single-family Guarantee — Managed loan portfolio:
               
Single-family unsecuritized mortgage loans(3)
    68,744       10,743  
Single-family PCs and Structured Securities in the mortgage investments portfolio
    263,892       354,439  
Single-family PCs and Structured Securities held by third parties
    1,449,488       1,471,166  
Single-family Structured Transactions in the mortgage investments portfolio
    15,833       18,227  
Single-family Structured Transactions held by third parties
    11,360       8,727  
                 
Total Single-family Guarantee — Managed loan portfolio
    1,809,317       1,863,302  
                 
Multifamily — Guarantee portfolio:
               
Multifamily PCs and Structured Securities
    14,594       14,277  
Multifamily Structured Transactions
    8,529       3,046  
                 
Total Multifamily — Guarantee portfolio
    23,123       17,323  
                 
Multifamily — Mortgage investments portfolio:
               
Multifamily investment securities portfolio
    60,607       62,764  
Multifamily loan portfolio
    82,891       83,938  
                 
Total Multifamily — mortgage investments portfolio
    143,498       146,702  
                 
Total Multifamily portfolio
    166,621       164,025  
                 
Less: Guaranteed PCs, Structured Securities, and certain multifamily securities(4)
    (281,865 )     (374,615 )
                 
Total mortgage portfolio
  $ 2,192,079     $ 2,250,539  
                 
(1)  Based on UPB and excludes mortgage loans and mortgage-related securities traded, but not yet settled.
(2)  Excludes unsecuritized non-performing single-family loans for which the Single-family Guarantee segment is actively pursuing a problem loan workout.
(3)  Represents unsecuritized non-performing single-family loans for which the Single-family Guarantee segment is actively pursuing a problem loan workout.
(4)  Guaranteed PCs and Structured Securities held by us are included in both our Investments segment’s mortgage investments portfolio and our Single-family Guarantee segment’s managed loan portfolio, and certain multifamily securities held by us are included in both the multifamily investment securities portfolio and the multifamily guarantee portfolio. Therefore, these amounts are deducted in order to reconcile to our total mortgage portfolio.
 
Segment Earnings — Results
 
See “NOTE 16: SEGMENT REPORTING — Segments” for information regarding the description and activities of our Investments, Single-family Guarantee, and Multifamily Segments.
 
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Investments
 
Table 12 presents the Segment Earnings of our Investments segment.
 
Table 12 — Segment Earnings and Key Metrics — Investments(1)
 
                                 
    Three Months Ended
    Nine Months Ended
 
    September 30,     September 30,  
    2010     2009     2010     2009  
    (dollars in millions)  
 
Segment Earnings:
                               
Net interest income
  $ 1,667     $ 1,574     $ 4,487     $ 6,102  
Non-interest income (loss):
                               
Net impairments of available-for-sale securities
    (934 )     (1,004 )     (1,637 )     (9,376 )
Derivative gains (losses)
    192       (1,374 )     (4,703 )     3,312  
Other non-interest income (loss)
    (768 )     2,168       (496 )     4,360  
                                 
Total non-interest income (loss)
    (1,510 )     (210 )     (6,836 )     (1,704 )
                                 
Non-interest expense:
                               
Administrative expenses
    (110 )     (130 )     (343 )     (371 )
Other non-interest expense
    (1 )     (11 )     (14 )     (26 )
                                 
Total non-interest expense
    (111 )     (141 )     (357 )     (397 )
                                 
Segment adjustments(2)
    272             1,076        
                                 
Segment Earnings (loss) before income tax benefit (expense)
    318       1,223       (1,630 )     4,001  
Income tax benefit (expense)
    (34 )     (265 )     192       583  
Less: Net (income) loss — noncontrolling interest
                (2 )      
                                 
Segment Earnings (loss), net of taxes
  $ 284     $ 958     $ (1,440 )   $ 4,584  
                                 
Key metrics — Investments:
                               
Portfolio balances:
                               
Average balances of interest-earning assets:(3)(4)(5)
                               
Mortgage-related securities(6)
  $ 439,073     $ 585,209     $ 482,660     $ 614,527  
Non-mortgage-related investments(7)
    113,026       96,941       117,426       98,404  
Unsecuritized single-family loans
    65,214       49,926       54,550       48,120  
                                 
Total average balances of interest-earning assets
  $ 617,313     $ 732,076     $ 654,636     $ 761,051  
                                 
Return:
                               
Net interest yield — Segment Earnings basis (annualized)
    1.08 %     0.86 %     0.91 %     1.07 %
(1)  Under our revised method of presenting Segment Earnings, Segment Earnings for the Investments segment equals GAAP net income (loss) attributable to Freddie Mac for the Investments segment. For reconciliations of the Segment Earnings line items to the comparable line items in our consolidated financial statements prepared in accordance with GAAP, see “NOTE 16: SEGMENT REPORTING — Table 16.2 — Segment Earnings and Reconciliation to GAAP Results.”
(2)  For a description of our segment adjustments see “NOTE 16: SEGMENT REPORTING — Segment Earnings — Segment Adjustments.”
(3)  Based on UPB and excludes mortgage-related securities traded, but not yet settled.
(4)  Excludes non-performing single-family mortgage loans.
(5)  For securities, we calculate average balances based on their amortized cost.
(6)  Includes our investments in single-family PCs and certain Structured Transactions, which have been consolidated under GAAP on our consolidated balance sheet beginning on January 1, 2010.
(7)  Includes the average balances of interest-earning cash and cash equivalents, non-mortgage-related securities, and federal funds sold and securities purchased under agreements to resell.
 
Segment Earnings (loss) for our Investments segment decreased to $284 million and $(1.4) billion for the three and nine months ended September 30, 2010, respectively, compared to $958 million and $4.6 billion for the three and nine months ended September 30, 2009, respectively.
 
Segment Earnings net interest income and net interest yield increased $93 million and 22 basis points, respectively, during the three months ended September 30, 2010, compared to the three months ended September 30, 2009. The primary driver underlying the increases in Segment Earnings net interest income and Segment Earnings net interest yield was a decrease in funding costs as a result of: (a) the replacement of higher cost short- and long-term debt with lower cost debt; and (b) reduced derivative cash amortization, since in 2009 we increased our use of purchased swaptions to mitigate increases in prepayment option risk on our mortgage assets. The decrease in funding costs was partially offset by a shift in the mix of our average interest-earning assets from higher yielding mortgage-related securities to lower yielding mortgage-related and non-mortgage-related assets.
 
Segment Earnings net interest income and net interest yield decreased $1.6 billion and 16 basis points, respectively, during the nine months ended September 30, 2010, compared to the nine months ended September 30, 2009. The primary drivers underlying the decreases in Segment Earnings net interest income and Segment Earnings net interest yield were: (a) a decrease in the average balance of mortgage-related securities; and (b) lower yields on non-mortgage related assets. These drivers were partially offset by a decrease in funding costs as a result of the replacement of higher cost short- and long-term debt with lower cost debt.
 
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Our Segment Earnings non-interest loss increased $1.3 billion and $5.1 billion for the three and nine months ended September 30, 2010, compared to the three and nine months ended September 30, 2009, respectively. Included in other non-interest income (loss) are gains (losses) on trading securities of $(0.6) billion and $(1.3) billion during the three and nine months ended September 30, 2010, compared to $2.2 billion and $5.0 billion during the three and nine months ended September 30, 2009. As a result of our adoption of amendments to the accounting standards for transfers of financial assets and consolidation of VIEs on January 1, 2010 and together with minimal purchase activity during the first nine months of 2010, the mix of our securities classified as trading changed to a larger percentage of interest-only securities, which were negatively impacted by the decline in interest rates. The net gains on trading securities during the three and nine months ended September 30, 2009 related primarily to a decline in interest rates during the three months ended September 30, 2009 and tightening OAS levels during the nine months ended September 30, 2009.
 
We recorded derivative gains (losses) for this segment of $192 million and $(4.7) billion during the three and nine months ended September 30, 2010, respectively. While derivatives are an important aspect of our management of interest-rate risk, they generally increase the volatility of reported Segment Earnings, because, while fair value changes in derivatives affect Segment Earnings, fair value changes in several of the assets and liabilities being hedged do not affect Segment Earnings. The yield curve flattened with longer-term swap interest rates declining resulting in fair value losses on our pay-fixed swaps partially offset by fair value gains on our receive-fixed swaps and gains on our purchased call swaptions during the nine months ended September 30, 2010. However, during the three months ended September 30, 2010, these losses were offset by gains on our foreign-currency swaps as a result of the U.S. dollar weakening relative to the Euro. We recorded derivative gains (losses) of $(1.4) billion and $3.3 billion for the three and nine months ended September 30, 2009, respectively. Declines in the longer-term swap interest rates resulted in fair value losses for the three months ended September 30, 2009 while increases in the longer-term swap interest rates and implied volatility resulted in fair value gains for the nine months ended September 30, 2009.
 
Impairments recorded in our Investments segment decreased by $70 million and $7.7 billion during the three and nine months ended September 30, 2010, respectively, compared to the three and nine months ended September 30, 2009. Impairments for the nine months ended September 30, 2010 and 2009 are not comparable because the adoption of the amendment to the accounting standards for investments in debt and equity securities on April 1, 2009 significantly impacted both the identification and measurement of other-than-temporary impairments. See “Non-Interest Income (Loss) — Derivative Gains (Losses)” and “CONSOLIDATED BALANCE SHEETS ANALYSIS — Investments in Securities — Mortgage-Related Securities — Other-Than-Temporary Impairments on Available-for-Sale Mortgage-Related Securities” for additional information on our derivatives and impairments, respectively.
 
During the three and nine months ended September 30, 2010, the UPB of the Investments segment mortgage investments portfolio decreased at an annualized rate of 19% and 22%, respectively, compared to a decrease of 29% and 6% for the three and nine months ended September 30, 2009, respectively. The UPB of the Investments segment mortgage investments portfolio decreased from $598 billion at December 31, 2009 to $498 billion at September 30, 2010 as a result of liquidations and, to a lesser extent, sales, primarily of agency mortgage-related securities. Liquidations during 2010 increased substantially due to purchases of seriously delinquent and modified loans from the mortgage pools underlying both our PCs and other agency securities. Non-performing loans, including those that formerly underlay our PCs, are presented in the Single-family Guarantee segment.
 
We held $324.2 billion of agency mortgage-related securities and $102.7 billion of non-agency mortgage-related securities as of September 30, 2010 compared to $440.0 billion of agency mortgage-related securities and $113.7 billion of non-agency mortgage-related securities as of December 31, 2009. The decline in the UPB of mortgage-related securities is due mainly to the receipt of monthly remittances of principal repayments from both the recoveries of liquidated loans and, to a lesser extent, voluntary repayments of the underlying collateral representing a partial return of our investments in these securities. The decline in the UPB of non-agency mortgage-related securities is also due in part to principal cash shortfalls totaling $188 million and $416 million for the three and nine months ended September 30, 2010, respectively. See “CONSOLIDATED BALANCE SHEETS ANALYSIS — Investments in Securities” for additional information regarding our mortgage-related securities.
 
The objectives set forth for us under our charter and conservatorship and restrictions set forth in the Purchase Agreement may negatively impact our Investments segment results over the long term. For example, the required reduction in our mortgage-related investments portfolio UPB limit to $250 billion, through successive annual 10% declines, commencing in 2010, will likely cause a corresponding reduction in our net interest income from these assets and therefore negatively affect our Investments segment results. FHFA also stated its expectation that any net additions to our mortgage-related investments portfolio would be related to purchasing seriously delinquent mortgages out of PC pools. We are also subject to limits on the amount of mortgage assets we can sell in any calendar month without review and approval by FHFA and, if FHFA so determines, Treasury.
 
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For information on the potential impact of the requirement to reduce the mortgage-related investments portfolio limit by 10% annually, commencing in 2010, see “MD&A — LIQUIDITY AND CAPITAL RESOURCES — Liquidity” in our 2009 Annual Report and “NOTE 3: CONSERVATORSHIP AND RELATED DEVELOPMENTS — Impact of the Purchase Agreement and FHFA Regulation on the Mortgage-Related Investments Portfolio.”
 
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Single-Family Guarantee Segment
 
Table 13 presents the Segment Earnings of our Single-family Guarantee segment.
 
Table 13 — Segment Earnings and Key Metrics — Single-Family Guarantee(1)
 
                                 
    Three Months Ended
    Nine Months Ended
 
    September 30,     September 30,  
    2010     2009     2010     2009  
    (dollars in millions)  
 
Segment Earnings:
                               
Net interest income
  $ (4 )   $ 86     $ 106     $ 214  
Provision for credit losses
    (3,980 )     (7,922 )     (15,315 )     (22,511 )
Non-interest income:
                               
Management and guarantee income
    922       840       2,635       2,601  
Other non-interest income
    307       198       785       493  
                                 
Total non-interest income
    1,229       1,038       3,420       3,094  
Non-interest expense:
                               
Administrative expenses
    (212 )     (246 )     (656 )     (658 )
REO operations income (expense)
    (337 )     98       (452 )     (209 )
Other non-interest expense
    (97 )     (566 )     (293 )     (3,827 )
                                 
Total non-interest expense
    (646 )     (714 )     (1,401 )     (4,694 )
                                 
Segment adjustments(2)
    (245 )           (666 )      
                                 
Segment Earnings (loss) before income tax benefit
    (3,646 )     (7,512 )     (13,856 )     (23,897 )
Income tax benefit
    508       1,018       617       2,618  
                                 
Segment Earnings (loss), net of taxes
    (3,138 )     (6,494 )     (13,239 )     (21,279 )
Reconciliation to GAAP net income (loss):
                               
Credit guarantee-related adjustments(3)
          1,280             4,281  
Tax-related adjustments
          (448 )           (1,499 )
                                 
Total reconciling items, net of taxes
          832             2,782  
                                 
Net income (loss) attributable to Freddie Mac
  $ (3,138 )   $ (5,662 )   $ (13,239 )   $ (18,497 )
                                 
Key metrics — Single-family Guarantee:
                               
Balances and Growth (in billions, except rate):
                               
Average securitized balance of single-family credit guarantee portfolio(4)
  $ 1,710     $ 1,809     $ 1,748     $ 1,792  
Issuance — Single-family credit guarantees(4)
    91       122       261       381  
Fixed-rate products — Percentage of purchases(5)
    95.0 %     99.2 %     95.6 %     99.6 %
Liquidation rate — Single-family credit guarantees (annualized)(6)
    26.2 %     24.2 %     26.9 %     25.5 %
Management and Guarantee Fee Rate (in basis points, annualized):
                               
Contractual management and guarantee fees
    13.5       13.6       13.5       14.0  
Amortization of credit fees
    6.4       4.5       5.4       4.8  
                                 
Segment Earnings management and guarantee income
    19.9       18.1       18.9       18.8  
                                 
Credit:
                               
Serious delinquency rate at end of period
    3.80 %     3.43 %     3.80 %     3.43 %
REO inventory, at end of period (number of units)
    74,897       41,133       74,897       41,133  
Single-family credit losses, in basis points (annualized)(7)
    91.4       46.2       78.8       39.0  
Market:
                               
Single-family mortgage debt outstanding (total U.S. market, in billions)(8)
    N/A     $ 10,375       N/A     $ 10,375  
30-year fixed mortgage rate(9)
    4.3 %     5.0 %     4.3 %     5.0 %
(1)  Beginning January 1, 2010, under our revised method, Segment Earnings for the Single-family Guarantee segment equals GAAP net income (loss) attributable to Freddie Mac for the Single-family Guarantee segment. For reconciliations of Segment Earnings for the Single-family Guarantee segment in the three and nine months ended September 30, 2009 and the Segment Earnings line items to the comparable line items in our consolidated financial statements prepared in accordance with GAAP, see “NOTE 16: SEGMENT REPORTING — Table 16.2 — Segment Earnings and Reconciliation to GAAP Results.”
(2)  For a description of our segment adjustments see “NOTE 16: SEGMENT REPORTING — Segment Earnings — Segment Adjustments.”
(3)  Consists primarily of amortization and valuation adjustments pertaining to the guarantee obligation and guarantee asset which are excluded from Segment Earnings and cash compensation exchanged at the time of securitization, excluding buy-up and buy-down fees, which is amortized into earnings. These reconciling items exist in periods prior to 2010 as the amendment to the accounting standards for transfers of financial assets and consolidation of VIEs was applied prospectively on January 1, 2010.
(4)  Based on UPB.
(5)  Excludes Structured Transactions, but includes interest-only mortgages with fixed interest rates.
(6)  Includes our purchases of delinquent loans from PC pools. On February 10, 2010, we announced that we would begin purchasing substantially all 120 days or more delinquent mortgages from our related fixed-rate and ARM PCs. See “CONSOLIDATED BALANCE SHEET ANALYSIS — Mortgage Loans” for more information.
(7)  Credit losses are equal to REO operations expenses plus charge-offs, net of recoveries, associated with single-family mortgage loans. Calculated as the amount of credit losses divided by the average balance of our single-family credit guarantee portfolio.
(8)  Source: Federal Reserve Flow of Funds Accounts of the United States of America dated September 17, 2010.
(9)  Based on Freddie Mac’s Primary Mortgage Market Survey rate for the last week in the quarter, which represents the national average mortgage commitment rate to a qualified borrower exclusive of any fees and points required by the lender. This commitment rate applies only to conventional financing on conforming mortgages with LTV ratios of 80%.
 
Segment Earnings (loss) for our Single-family Guarantee segment was a loss of $(3.1) billion and $(6.5) billion in the third quarters of 2010 and 2009, and $(13.2) billion and $(21.3) billion for the nine months ended September 30, 2010 and 2009, respectively.
 
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Table 14 below provides summary information about the composition of Segment Earnings for this segment. Segment Earnings management and guarantee income consists of contractual amounts due to us related to our management and guarantee fees as well as amortization of credit fees.
 
Table 14 — Segment Earnings Composition — Single-Family Guarantee Segment
 
                                         
    For the Three Months Ended September 30, 2010  
    Segment Earnings
             
    Management and
             
    Guarantee Income(1)     Credit Expenses(2)        
          Average
          Average
    Net
 
    Amount     Rate(3)     Amount     Rate(3)     Amount(4)  
    (dollars in millions, rates in basis points)  
 
Year of origination:
                                       
2010
  $ 130       24.8     $ (46 )     8.7     $ 84  
2009
    210       19.5       (65 )     6.0       145  
2008
    142       31.3       (346 )     76.1       (204 )
2007
    115       20.4       (1,618 )     284.8       (1,503 )
2006
    69       16.2       (1,258 )     294.5       (1,189 )
2005
    76       15.7       (622 )     127.6       (546 )
2004 and prior
    180       16.4       (362 )     33.0       (182 )
                                         
Total
  $ 922       19.9     $ (4,317 )     93.0       (3,395 )
                                         
Administrative expenses
                                    (212 )
Net interest income
                                    (4 )
Income tax benefits and other non-interest income and (expense), net
                                    473  
                                         
Segment Earnings (loss), net of taxes
                                  $ (3,138 )
                                         
                                         
                                         
    For the Nine Months Ended September 30, 2010  
    Segment Earnings
             
    Management and
             
    Guarantee Income(1)     Credit Expenses(2)        
          Average
          Average
    Net
 
    Amount     Rate(3)     Amount     Rate(3)     Amount(4)  
    (dollars in millions, rates in basis points)  
 
Year of origination:
                                       
2010
  $ 226       23.9     $ (74 )     7.8     $ 152  
2009
    599       17.9       (314 )     9.4       285  
2008
    411       27.8       (1,791 )     121.4       (1,380 )
2007
    381       21.1       (6,121 )     339.6       (5,740 )
2006
    223       16.4       (4,734 )     348.1       (4,511 )
2005
    241       15.6       (1,954 )     126.9       (1,713 )
2004 and prior
    554       15.9       (779 )     22.4       (225 )
                                         
Total
  $ 2,635       18.9     $ (15,767 )     112.9       (13,132 )
                                         
Administrative expenses
                                    (656 )
Net interest income
                                    106  
Income tax benefits and other non-interest income and (expense), net
                                    443  
                                         
Segment Earnings (loss), net of taxes
                                  $ (13,239 )
                                         
(1)  Includes amortization of credit fees of $295 million and $749 million for the three and nine months ended September 30, 2010, respectively.
(2)  Consists of the aggregate of the Segment Earnings provision for credit losses and Segment Earnings REO operations expense.
(3)  Annualized, based on the average securitized balance of the single-family credit guarantee portfolio. Historical rates may not be representative of future results.
(4)  Calculated as Segment Earnings management and guarantee income less credit expenses, which consist of Segment Earnings provision for credit losses and Segment Earnings REO operations expense.
 
Segment Earnings management and guarantee income increased in the three and nine months ended September 30, 2010, as compared to the three and nine months ended September 30, 2009, primarily due to an increase in the amortization of credit fees. Increased amortization of credit fees in the 2010 periods, compared to the 2009 periods, reflects higher credit fees associated with loans purchased in the last two years as well as higher prepayment rates on guaranteed mortgages in the 2010 periods. The average balance of our Single-family Guarantee managed loan portfolio was approximately 1% lower in the third quarter of 2010, as compared to the third quarter of 2009, due to liquidations of mortgages exceeding our new purchase and guarantee activity in 2010. While our issuance volume in the nine months ended September 30, 2010 declined to $261 billion, compared to $381 billion in the nine months ended September 30, 2009, we continued to experience a high composition of refinance mortgages in our purchase volume during the third quarter of 2010 due to continued low interest rates and the impact of our relief refinance mortgages. We believe the combination of high refinance activity (excluding relief refinance mortgages) and changes in underwriting standards continues to result in overall improvement in the credit quality associated with our single-family mortgage purchases in 2009 and 2010 as compared to purchases from 2005 through 2008.
 
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During the nine months ended September 30, 2010, we raised our management and guarantee fee rates with certain of our seller/servicers; however, these increased rates are still lower than the average rates of the PCs that were liquidated during these periods. We currently believe the increase in management and guarantee fee rates, when coupled with the higher credit quality of the mortgages within our new PC issuances, should offset expected losses associated with these newly-issued guarantees. However, the increase in management and guarantee fees on our newly originated business will not be sufficient to offset the credit expenses associated with our historical PC issuances since the management and guarantee fees associated with those securities do not change. Consequently, we expect to continue to report a net loss for the Single-family Guarantee segment for the near term.
 
Our Segment Earnings provision for credit losses for the Single-family Guarantee segment was $4.0 billion for the third quarter of 2010, compared to $7.9 billion for the third quarter of 2009 and $15.3 billion for the nine months ended September 30, 2010, compared to $22.5 billion for the nine months ended September 30, 2009. Segment Earnings provision for credit loss for the third quarter of 2010 reflects a slowdown in the growth of our non-performing single-family loans and continued high volumes of loan modifications. The third quarter of 2010 also benefitted from higher expectations for future recoveries from mortgage insurers. The Segment Earnings provision for credit losses was lower in the nine months ended September 30, 2010 primarily due to slower growth in non-performing loans in our single-family credit guarantee portfolio, as compared to the nine months ended September 30, 2009, partially offset by an increase in the number of single-family loans subject to individual impairment resulting from an increase in modifications classified as TDRs during 2010. Our estimates of allowance for loan losses associated with loans classified as TDRs generally result in an increase in the allowance for loan losses as compared to non-TDR loans evaluated on an aggregate basis. See “RISK MANAGEMENT — Credit Risk — Mortgage Credit Risk — Credit Performance — Non-performing assets” for further information on the growth of non-performing single-family loans. Our Segment Earnings provision for credit losses is generally higher than that recorded under GAAP primarily due to recognized provision associated with forgone interest income on non-performing loans, which is not recognized under GAAP since the loans are placed on non-accrual status.
 
During the second quarter of 2010, we identified a backlog related to the processing of loan workout activities reported to us by our servicers, principally loan modifications and short sales. This backlog resulted in erroneous loan data within our loan reporting systems, thereby impacting our financial accounting and reporting systems. Our Single-family Guarantee segment’s results for the nine months ended September 30, 2010 includes an increase to provision for credit losses of $0.9 billion cumulative effect, net of taxes, of this error associated with the year ended December 31, 2009. For additional information, see “NOTE 1: SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES — Basis of Presentation — Out-of-Period Accounting Adjustment.”
 
The delinquency rate on our single-family credit guarantee portfolio decreased to 3.80% as of September 30, 2010 from 3.98% as of December 31, 2009 due to a higher volume of loan modifications, mortgage loans returning to non-delinquent status, and foreclosure transfers, as well as a slowdown in new serious delinquencies. As of September 30, 2010, more than one-third of our single-family credit guarantee portfolio is comprised of mortgage loans originated during 2009 and 2010. These new vintages reflect the combination of changes in underwriting practices and other factors and are replacing the older vintages that have a higher composition of higher-risk mortgage products. We currently expect that, over time, this should positively impact the serious delinquency rates and credit losses of our single-family credit guarantee portfolio. Gross charge-offs for this segment increased to $4.9 billion in the third quarter of 2010 compared to $2.9 billion in the third quarter of 2009, primarily due to an increase in the volume of foreclosure transfers and short sales. Gross single-family charge-offs were $13.0 billion and $6.6 billion in the nine months ended September 30, 2010 and 2009, respectively. See “NOTE 18: CONCENTRATION OF CREDIT AND OTHER RISKS” for additional information about our credit losses.
 
Segment Earnings other non-interest income rose to $307 million and $785 million during the three and nine months ended September 30, 2010, respectively, from $198 million and $493 million during the three and nine months ended September 30, 2009, respectively. The increases in the 2010 periods compared to the 2009 periods were primarily due to higher recoveries of a portion of previously recognized losses on loans purchased.
 
Segment Earnings non-interest expense was $646 million and $714 million in the third quarter of 2010 and 2009, respectively, and was $1.4 billion and $4.7 billion in the nine months ended September 30, 2010 and 2009, respectively. The declines in non-interest expense in the 2010 periods were primarily due to a decline in losses on loans purchased that resulted from changes in accounting standards adopted on January 1, 2010. REO operations income (expense) was $(337) million and $98 million in the third quarters of 2010 and 2009, respectively, and was $(452) million and $(209) million in the nine months ended September 30, 2010 and 2009, respectively. We experienced net disposition gains (losses) on REO properties of $(26) million and $15 million in the three and nine
 
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months ended September 30, 2010, respectively, compared to net disposition losses on REO properties of $(125) million and $(735) million in the three and nine months ended September 30, 2009, respectively.
 
Segment Earnings income tax benefit was $508 million and $617 million in the three and nine months ended September 30, 2010, compared to $1.0 billion and $2.6 billion in the three and nine months ended September 30, 2009, respectively. Income tax benefits primarily result from the benefit of carrying back a portion of our expected current year tax loss to offset prior years’ income and changes in our 2009 tax benefit that can be carried back to previous tax years. We exhausted our capacity for carrying back net operating losses for tax purposes during 2010.
 
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Multifamily Segment
 
Table 15 presents the Segment Earnings of our Multifamily segment.
 
Table 15 — Segment Earnings and Key Metrics — Multifamily(1)
 
                                 
    Three Months Ended
    Nine Months Ended
 
    September 30,     September 30,  
    2010     2009     2010     2009  
    (dollars in millions)  
 
Segment Earnings:
                               
Net interest income
  $ 290     $ 224     $ 806     $ 617  
Provision for credit losses
    (19 )     (89 )     (167 )     (146 )
Non-interest income (loss):
                               
Management and guarantee income
    25       22       74       66  
Security impairments
    (5 )     (54 )     (77 )     (54 )
Derivative gains (losses)
    1             5       (31 )
Other non-interest income (loss)
    185       (140 )     348       (355 )
                                 
Total non-interest income (loss)
    206       (172 )     350       (374 )
                                 
Non-interest expense:
                               
Administrative expenses
    (54 )     (57 )     (159 )     (159 )
REO operations expense
          (2 )     (4 )     (10 )
Other non-interest expense
    (17 )     (5 )     (53 )     (17 )
                                 
Total non-interest expense
    (71 )     (64 )     (216 )     (186 )
                                 
Segment adjustments(2)
                       
                                 
Segment Earnings (loss) before income tax benefit (expense)
    406       (101 )     773       (89 )
LIHTC partnerships tax benefit
    146       148       439       447  
Income tax benefit (expense)
    (171 )     (131 )     (463 )     (447 )
Less: Net (income) loss — noncontrolling interest
          1       3       2  
                                 
Segment Earnings (loss), net of taxes
    381       (83 )     752       (87 )
                                 
Reconciliation to GAAP net income (loss):
                               
Credit guarantee-related adjustments(3)
          9             11  
Fair value-related adjustments
          (362 )           (362 )
Tax-related adjustments
          123             122  
                                 
Total reconciling items, net of taxes
          (230 )           (229 )
                                 
Net income (loss) attributable to Freddie Mac
  $ 381     $ (313 )   $ 752     $ (316 )
                                 
Key metrics — Multifamily:
                               
Balances and Growth:
                               
Average balance of Multifamily loan portfolio
  $ 82,966     $ 79,748     $ 82,843     $ 77,214  
Average balance of Multifamily guarantee portfolio
  $ 22,480     $ 16,373     $ 21,229     $ 15,901  
Average balance of Multifamily investment securities portfolio
  $ 60,988     $ 63,468     $ 61,835     $ 64,067  
Liquidation rate — Multifamily loan portfolio (annualized)
    5.7 %     2.9 %     4.3 %     3.4 %
Growth rate (annualized)
    5.4 %     11.9 %     6.3 %     13.9 %
Yield and Rate:
                               
Net interest yield — Segment Earnings basis (annualized)
    0.80 %     0.63 %     0.74 %     0.58 %
Average Management and guarantee fee rate, in basis points (annualized)(4)
    49.8       53.7       50.6       53.2  
Credit:
                               
Delinquency rate, at period end(5)
    0.36 %     0.14 %     0.36 %     0.14 %
Allowance for loan losses and reserve for guarantee losses, at period end
  $ 931     $ 404     $ 931     $ 404  
Allowance for loan losses and reserve for guarantee losses, in basis points
    87.8       41.4       87.8       41.4  
Credit losses, in basis points (annualized)(6)
    9.0       7.4       9.2       4.3  
(1)  Beginning January 1, 2010, under our revised method, Segment Earnings for the Multifamily segment equals GAAP net income (loss) attributable to Freddie Mac for the Multifamily segment. For reconciliations of Segment Earnings for the Multifamily segment in the three and nine months ended September 30, 2009 and the Segment Earnings line items to the comparable line items in our consolidated financial statements prepared in accordance with GAAP, see “NOTE 16: SEGMENT REPORTING — Table 16.2 — Segment Earnings and Reconciliation to GAAP Results.”
(2)  For a description of our segment adjustments see “NOTE 16: SEGMENT REPORTING — Segment Earnings — Segment Adjustments.”
(3)  Consists primarily of amortization and valuation adjustments pertaining to the guarantee asset and guarantee obligation which were excluded from Segment Earnings in 2009.
(4)  Represents Multifamily Segment Earnings — management and guarantee income, excluding prepayment and certain other fees, divided by the average balance of the multifamily guarantee portfolio, excluding certain bonds under the New Issuance Bond Initiative.
(5)  Based on UPBs of mortgages two monthly payments or more past due as well as those in the process of foreclosure and excluding Structured Transactions at period end. See “RISK MANAGEMENT — Credit Risk — Mortgage Credit Risk — Credit Performance — Delinquencies” for further information.
(6)  Credit losses are equal to REO operations expenses plus charge-offs, net of recoveries, associated with multifamily mortgage loans. Calculated as the amount of credit losses divided by the combined average balances of our multifamily loan portfolio and multifamily guarantee portfolio, including Structured Transactions.
 
Segment Earnings (loss) for our Multifamily segment was $381 million and $(83) million for the third quarters of 2010 and 2009, respectively, and was $752 million and $(87) million for the nine months ended September 30, 2010 and 2009, respectively.
 
Segment Earnings net interest income increased to $290 million in the third quarter of 2010 from $224 million in the third quarter of 2009, and was $806 million and $617 million in the nine months ended September 30, 2010 and
 
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2009, respectively. We benefited from lower funding costs on allocated debt in the 2010 periods, primarily due to slightly lower interest rates as well as lower allocated debt levels from the write-down of our LIHTC investments. As a result, net interest yield in the third quarter of 2010 improved by 17 basis points from the third quarter of 2009.
 
Segment Earnings provision for credit losses was $19 million and $89 million in the three months ended September 30, 2010 and 2009, respectively and was $167 million and $146 million in the nine months ended September 30, 2010 and 2009, respectively. The increase in Segment Earnings provision for credit losses in the nine months ended September 30, 2010, compared to the nine months ended September 30, 2009, was primarily the result of an increase in the amount of loans identified as impaired and the specific reserve recorded in connection with those loans. The Segment Earnings provision for credit losses decreased in the third quarter of 2010, compared to the third quarter of 2009, as a result of improving fundamentals in the national multifamily market.
 
Segment Earnings non-interest income (loss) increased to $206 million in the three months ended September 30, 2010 from $(172) million in the third quarter of 2009 and was $350 million and $(374) million in the nine months ended September 30, 2010 and 2009, respectively. The increase in non-interest income in the 2010 periods was primarily due to net gains recognized on the sale of loans, gains on mortgage loans recorded at fair value, and the absence of LIHTC partnership losses. We sold $5.4 billion in UPB of multifamily loans during the nine months ended September 30, 2010, including $5.2 billion in sales through Structured Transactions, which support our efforts to increase our securitization of multifamily loans. In addition, there were no LIHTC partnership losses during the three and nine months ended September 30, 2010, due to the partial write-down of these investments during the third quarter of 2009 and the remaining carrying value was reduced to zero in the fourth quarter of 2009. See “MD&A — CONSOLIDATED RESULTS OF OPERATIONS — Non-Interest Income (Loss) — Low-Income Housing Tax Credit Partnerships” in our 2009 Annual Report for more information.
 
National multifamily market fundamentals continued to improve during the third quarter of 2010. Vacancy rates, which had climbed to record levels, improved and effective rents, the principal source of income for property owners, appear to have stabilized and began to increase on a national basis. Improving fundamentals, including lower vacancy rates, have helped to stabilize property values in a number of markets. However, the multifamily market continues to be negatively impacted by high unemployment and ongoing weakness in the economy. Certain local markets continue to exhibit weak fundamentals, particularly in the states of Nevada, Arizona, and Georgia. Vacancy rates and effective rents are important to loan performance because multifamily loans are generally repaid from the cash flows generated by the underlying property. Prolonged periods of high apartment vacancies and negative or flat effective rent growth will adversely impact a multifamily property’s net operating income and related cash flows, which can strain the borrower’s ability to make loan payments and thereby potentially increase our delinquency rates and credit expenses.
 
The delinquency rate of our multifamily mortgage portfolio increased in 2010, rising from 0.19% at December 31, 2009 to 0.36% at September 30, 2010. The delinquency rates for our multifamily mortgage portfolio are positively impacted to the extent we are successful in working with troubled borrowers to modify their loans prior to the loan becoming delinquent or in providing loan modifications to delinquent borrowers. Our credit-enhanced loans collectively have a higher average delinquency rate than our non-credit enhanced loans. As of September 30, 2010, more than one-half of our multifamily loans that were two monthly payments or more past due, measured both in terms of number of loans and on a UPB basis, had credit enhancements that we currently believe will mitigate our expected losses on those loans. See “NOTE 18: CONCENTRATION OF CREDIT AND OTHER RISKS” for further information on delinquencies, including geographical and other concentrations.
 
Multifamily mortgages where the original terms of the mortgage loan agreement are modified due to the borrower’s financial difficulties and where we provide a concession are accounted for as TDRs. During the nine months ended September 30, 2010, we modified or restructured 15 loans totaling $144 million in UPB that were categorized as TDRs, compared to one loan with $64 million in UPB categorized as a TDR in the nine months ended September 30, 2009. In the third quarter of 2010, we experienced increased volumes of TDRs and REO acquisitions, compared to the third quarter of 2009. These activities resulted in net charge-offs of $23 million and $68 million in the three and nine months ended September 30, 2010, respectively. We currently expect that our charge offs will continue to increase in the near term driven by REO acquisitions and TDRs as we continue to resolve loans with troubled borrowers.
 
The UPB of the multifamily loan portfolio decreased from $83.9 billion at December 31, 2009 to $82.9 billion at September 30, 2010, primarily due to increased securitization activity, lower purchase volume, and increased competition as other participants are slowly reentering the market. We expect to continue to purchase multifamily loans in the near term, though our purchases may not exceed liquidations and securitizations.
 
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CONSOLIDATED BALANCE SHEETS ANALYSIS
 
The following discussion of our consolidated balance sheets should be read in conjunction with our consolidated financial statements, including the accompanying notes. Also see “CRITICAL ACCOUNTING POLICIES AND ESTIMATES” for more information concerning our more significant accounting policies and estimates applied in determining our reported financial position.
 
Change in Accounting Principles
 
As discussed in “EXECUTIVE SUMMARY,” the adoption of two new accounting standards that amended the guidance applicable to the accounting for transfers of financial assets and the consolidation of VIEs had a significant impact on our consolidated financial statements and other financial disclosures beginning in the first quarter of 2010.
 
As a result of the adoption of these accounting standards, our consolidated balance sheets as of September 30, 2010 reflect the consolidation of our single-family PC trusts and certain of our Structured Transactions. The cumulative effect of these changes in accounting principles was an increase of $1.5 trillion to assets and liabilities, and a net decrease of $11.7 billion to total equity (deficit) as of January 1, 2010, which included changes to the opening balances of retained earnings (accumulated deficit) and AOCI, net of taxes. This net decrease was driven principally by: (a) the elimination of unrealized gains resulting from the extinguishment of PCs held as investment securities upon consolidation of the PC trusts, representing the difference between the UPB of the loans underlying the PC trusts and the fair value of the PCs, including premiums, discounts, and other basis adjustments; (b) the elimination of the guarantee asset and guarantee obligation established for guarantees issued to securitization trusts we consolidated; and (c) the application of our non-accrual policy to single-family seriously delinquent mortgage loans consolidated as of January 1, 2010.
 
See “NOTE 1: SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES — Consolidation and Equity Method of Accounting,” “NOTE 2: CHANGE IN ACCOUNTING PRINCIPLES,” “NOTE 4: VARIABLE INTEREST ENTITIES,” and “NOTE 22: SELECTED FINANCIAL STATEMENT LINE ITEMS” for additional information regarding these changes.
 
Cash and Cash Equivalents, Federal Funds Sold and Securities Purchased Under Agreements to Resell
 
Cash and cash equivalents, federal funds sold and securities purchased under agreements to resell, and other liquid assets discussed in “Investments in Securities — Non-Mortgage-Related Securities,” are important to our cash flow and asset and liability management, and our ability to provide liquidity and stability to the mortgage market. We use these assets to help manage recurring cash flows and meet our other cash management needs. We consider federal funds sold to be overnight unsecured trades executed with commercial banks that are members of the Federal Reserve System. Securities purchased under agreements to resell principally consist of short-term contractual agreements such as reverse repurchase agreements involving Treasury and agency securities. As discussed above, commencing January 1, 2010, we consolidated the assets of our single-family PC trusts and certain Structured Transactions. These assets included short-term non-mortgage assets, comprised primarily of restricted cash and cash equivalents and securities purchased under agreements to resell.
 
Excluding amounts related to our consolidated VIEs, we held $27.9 billion and $64.7 billion of cash and cash equivalents, $4.0 billion and $0 billion of federal funds sold, and $15.2 billion and $7.0 billion of securities purchased under agreements to resell at September 30, 2010 and December 31, 2009, respectively. The aggregate decrease in these assets is largely related to using such assets for debt calls and maturities during the first nine months of 2010. In addition, excluding amounts related to our consolidated VIEs, we held on average $29.1 billion and $36.7 billion of cash and cash equivalents and $30.2 billion and $32.9 billion of federal funds sold and securities purchased under agreements to resell during the three and nine months ended September 30, 2010, respectively.
 
Investments in Securities
 
Table 16 provides detail regarding our investments in securities as presented in our consolidated balance sheets. Due to the accounting changes noted above, Table 16 does not include our holdings of single-family PCs and certain Structured Transactions as of September 30, 2010. For information on our holdings of such securities, see “Table 11 — Segment Mortgage Portfolio Composition.”
 
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Table 16 — Investments in Securities
 
                 
    Fair Value  
    September 30, 2010     December 31, 2009  
    (in millions)  
 
Investments in securities:
               
Available-for-sale:
               
Available-for-sale mortgage-related securities:
               
Freddie Mac(1)(2)
  $ 87,166     $ 223,467  
Subprime
    34,074       35,721  
CMBS
    59,302       54,019  
Option ARM
    6,925       7,236  
Alt-A and other
    13,323       13,407  
Fannie Mae
    26,238       35,546  
Obligations of states and political subdivisions
    10,351       11,477  
Manufactured housing
    903       911  
Ginnie Mae
    312       347  
                 
Total available-for-sale mortgage-related securities
    238,594       382,131  
                 
Available-for-sale non-mortgage-related securities:
               
Asset-backed securities
    991       2,553  
                 
Total available-for-sale non-mortgage-related securities
    991       2,553  
                 
Total investments in available-for-sale securities
    239,585       384,684  
                 
Trading:
               
Trading mortgage-related securities:
               
Freddie Mac(1)(2)
    12,935       170,955  
Fannie Mae
    20,034       34,364  
Ginnie Mae
    179       185  
Other
    57       28  
                 
Total trading mortgage-related securities
    33,205       205,532  
                 
Trading non-mortgage-related securities:
               
Asset-backed securities
    13       1,492  
Treasury bills
    25,629       14,787  
Treasury notes
    3,919        
FDIC-guaranteed corporate medium-term notes
    442       439  
                 
Total trading non-mortgage-related securities
    30,003       16,718  
                 
Total investments in trading securities
    63,208       222,250  
                 
Total investments in securities
  $ 302,793     $ 606,934  
                 
(1)  Upon our adoption of amendments to the accounting standards for transfers of financial assets and consolidation of VIEs on January 1, 2010, we no longer account for single-family PCs and certain Structured Transactions we purchase as investments in securities because we now recognize the underlying mortgage loans on our consolidated balance sheets through consolidation of the related trusts. These loans are discussed below in “Mortgage Loans.” For further information, see “NOTE 2: CHANGE IN ACCOUNTING PRINCIPLES.”
 
(2)  For information on the types of instruments that are included, see “NOTE 1: SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES — Investments in Securities.”
 
Non-Mortgage-Related Securities
 
Our investments in non-mortgage-related securities provide an additional source of liquidity for us. We held investments in non-mortgage-related available-for-sale and trading securities of $31.0 billion and $19.3 billion as of September 30, 2010 and December 31, 2009, respectively. Our holdings of non-mortgage-related securities at September 30, 2010 increased compared to December 31, 2009 as we acquired Treasury bills to maintain required liquidity and contingency levels.
 
All of our holdings of non-mortgage-related asset-backed securities, primarily backed by credit card receivables, were AAA-rated as of October 22, 2010 based on UPB as of September 30, 2010 and using the lowest rating available.
 
We did not record a net impairment of available-for-sale securities recognized in earnings during the three and nine months ended September 30, 2010 on our non-mortgage-related securities. We recorded net impairments of $0 million and $185 million for our non-mortgage-related securities during the three and nine months ended September 30, 2009, respectively, as we could not assert that we did not intend to, or would not be required to, sell these securities before a recovery of the unrealized losses. We do not expect any contractual cash shortfalls related to these impaired securities. See “NOTE 1: SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES — Recently Adopted Accounting Standards — Change in the Impairment Model for Debt Securities” in our 2009 Annual Report for information on how other-than-temporary impairments are recorded on our financial statements commencing in the second quarter of 2009.
 
Mortgage-Related Securities
 
We are primarily a buy-and-hold investor in mortgage-related securities, which consist of securities issued by Fannie Mae, Ginnie Mae, and other financial institutions. We also invest in our own mortgage-related securities.
 
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However, upon our adoption of amendments to the accounting standards for transfers of financial assets and consolidation of VIEs on January 1, 2010, we no longer account for single-family PCs and certain Structured Transactions we purchase as investments in securities because we now recognize the underlying mortgage loans on our consolidated balance sheets through consolidation of the related trusts.
 
Table 17 provides the UPB of our investments in mortgage-related securities classified as either available-for-sale or trading on our consolidated balance sheets. Due to the accounting changes noted above, Table 17 does not include our holdings of single-family PCs and certain Structured Transactions as of September 30, 2010. For information on our holdings of such securities, see “Table 11 — Segment Mortgage Portfolio Composition.”
 
Table 17 — Characteristics of Mortgage-Related Securities on Our Consolidated Balance Sheets
 
                                                 
    September 30, 2010     December 31, 2009  
    Fixed Rate     Variable Rate(1)     Total     Fixed Rate     Variable Rate(1)     Total  
    (in millions)  
 
PCs and Structured Securities:(2)
                                               
Single-family
  $ 79,649     $ 8,074     $ 87,723     $ 294,958     $ 77,708     $ 372,666  
Multifamily
    444       1,696       2,140       277       1,672       1,949  
                                                 
Total PCs and Structured Securities
    80,093       9,770       89,863       295,235       79,380       374,615  
                                                 
Non-Freddie Mac mortgage-related securities:
                                               
Agency mortgage-related securities:(3)
                                               
Fannie Mae:
                                               
Single-family
    22,887       19,482       42,369       36,549       28,585       65,134  
Multifamily
    349       89       438       438       90       528  
Ginnie Mae:
                                               
Single-family
    307       121       428       341       133       474  
Multifamily
    30             30       35             35  
                                                 
Total agency mortgage-related securities
    23,573       19,692       43,265       37,363       28,808       66,171  
                                                 
Non-agency mortgage-related securities:
                                               
Single-family:(4)
                                               
Subprime
    370       55,366       55,736       395       61,179       61,574  
Option ARM
          16,104       16,104             17,687       17,687  
Alt-A and other
    2,496       16,946       19,442       2,845       18,594       21,439  
CMBS
    21,800       37,828       59,628       23,476       38,439       61,915  
Obligations of states and political subdivisions(5)
    10,316       34       10,350       11,812       42       11,854  
Manufactured housing
    955       150       1,105       1,034       167       1,201  
                                                 
Total non-agency mortgage-related securities(6)
    35,937       126,428       162,365       39,562       136,108       175,670  
                                                 
Total UPB of mortgage-related securities
  $ 139,603     $ 155,890       295,493     $ 372,160     $ 244,296       616,456  
                                                 
Premiums, discounts, deferred fees, impairments of UPB and other basis adjustments
                    (10,139 )                     (5,897 )
Net unrealized losses on mortgage-related securities, pre-tax
                    (13,555 )                     (22,896 )
                                                 
Total carrying value of mortgage-related securities
                  $ 271,799                     $ 587,663  
                                                 
(1)  Variable-rate mortgage-related securities include those with a contractual coupon rate that, prior to contractual maturity, is either scheduled to change or is subject to change based on changes in the composition of the underlying collateral.
(2)  For our PCs and Structured Securities, we are subject to the credit risk associated with the underlying mortgage loan collateral. On January 1, 2010, we began prospectively recognizing on our consolidated balance sheets the mortgage loans underlying our issued single-family PCs and certain Structured Transactions as held-for-investment mortgage loans, at amortized cost. We do not consolidate our resecuritization trusts since we are not deemed to be the primary beneficiary of such trusts. See “NOTE 1: SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES — Investments in Securities” for further information.
(3)  Agency mortgage-related securities are generally not separately rated by nationally recognized statistical rating organizations, but are viewed as having a level of credit quality at least equivalent to non-agency mortgage-related securities AAA-rated or equivalent.
(4)  For information about how these securities are rated, see “Table 22 — Ratings of Available-for-Sale Non-Agency Mortgage-Related Securities Backed by Subprime, Option ARM, Alt-A and Other Loans, and CMBS.”
(5)  Consists of mortgage revenue bonds. Approximately 52% and 55% of these securities held at September 30, 2010 and December 31, 2009, respectively, were AAA-rated as of those dates, based on the lowest rating available.
(6)  Credit ratings for most non-agency mortgage-related securities are designated by no fewer than two nationally recognized statistical rating organizations. Approximately 24% and 26% of total non-agency mortgage-related securities held at September 30, 2010 and December 31, 2009, respectively, were AAA-rated as of those dates, based on the UPB and the lowest rating available.
 
The total UPB of our investments in mortgage-related securities on our consolidated balance sheets decreased from $616.5 billion at December 31, 2009 to $295.5 billion at September 30, 2010 primarily as a result of a decrease of $286.5 billion related to our adoption of the amendments to the accounting standards for the transfers of financial assets and the consolidation of VIEs on January 1, 2010.
 
Table 18 summarizes our mortgage-related securities purchase activity for the three and nine months ended September 30, 2010 and 2009. The purchase activity for the three and nine months ended September 30, 2010 includes our purchase activity related to the single-family PCs and Structured Transactions issued by trusts that we consolidated. Due to the accounting changes noted above, effective January 1, 2010, purchases of single-family PCs and Structured
 
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Transactions issued by trusts that we consolidated are recorded as an extinguishment of debt securities of consolidated trusts held by third parties on our consolidated balance sheets.
 
Table 18 — Total Mortgage-Related Securities Purchase Activity(1)
 
                                 
    Three Months Ended
    Nine Months Ended
 
    September 30,     September 30,  
    2010     2009     2010     2009  
    (in millions)  
 
Non-Freddie Mac mortgage-related securities purchased for Structured Securities:
                               
Ginnie Mae Certificates
  $ 40     $ 7     $ 53     $ 41  
Non-agency mortgage-related securities purchased for Structured Transactions(2)
    969             8,653       5,690  
                                 
Total Non-Freddie Mac mortgage-related securities purchased for Structured Securities
    1,009       7       8,706       5,731  
                                 
Non-Freddie Mac mortgage-related securities purchased as investments in securities:
                               
Agency securities:
                               
Fannie Mae:
                               
Fixed-rate
          269             39,796  
Variable-rate
    209       106       373       2,669  
                                 
Total Fannie Mae
    209       375       373       42,465  
                                 
Ginnie Mae fixed-rate
                      27  
                                 
Total agency mortgage-related securities
    209       375       373       42,492  
                                 
Non-agency securities:
                               
CMBS variable-rate
    40             40        
Mortgage revenue bonds fixed-rate
          84             179  
                                 
Total non-agency mortgage-related securities
    40       84       40       179  
                                 
Total non-Freddie Mac mortgage-related securities purchased as investments in securities
    249       459       413       42,671  
                                 
Total non-Freddie Mac mortgage-related securities purchased
  $ 1,258     $ 466     $ 9,119     $ 48,402  
                                 
Freddie Mac mortgage-related securities repurchased:
                               
Single-family:
                               
Fixed-rate
  $ 17,344     $ 38,873     $ 23,389     $ 169,135  
Variable-rate
    79       4,852       282       5,369  
Multifamily:
                               
Fixed-rate
    31             216        
Variable-rate
                41        
                                 
Total Freddie Mac mortgage-related securities repurchased
  $ 17,454     $ 43,725     $ 23,928     $ 174,504  
                                 
(1)  Based on UPB. Excludes mortgage-related securities traded but not yet settled.
(2)  Purchases in 2010 primarily include Structured Transactions, and HFA bonds we acquired and resecuritized under the New Issue Bond Initiative. See our 2009 Annual Report for further information on this component of the Housing Finance Agency Initiative.
 
Unrealized Losses on Available-for-Sale Mortgage-Related Securities
 
At September 30, 2010, our gross unrealized losses, pre-tax, on available-for-sale mortgage-related securities were $26.9 billion, compared to $42.7 billion at December 31, 2009. This improvement in unrealized losses reflects: (a) a decline in market interest rates; and (b) fair value gains related to the movement of securities with unrealized losses towards maturity. We believe the unrealized losses related to these securities at September 30, 2010 were mainly attributable to poor underlying collateral performance, limited liquidity and large risk premiums in the market for residential non-agency mortgage-related securities. All securities in an unrealized loss position are evaluated to determine if the impairment is other-than-temporary. See “Total Equity (Deficit)” and “NOTE 7: INVESTMENTS IN SECURITIES” for additional information regarding unrealized losses on our available-for-sale securities.
 
Higher Risk Components of Our Investments in Mortgage-Related Securities
 
As discussed below, we have exposure to subprime, option ARM, and Alt-A and other loans as part of our investments in mortgage-related securities as follows:
 
  •  Single-family non-agency mortgage-related securities:  We hold non-agency mortgage-related securities backed by subprime, option ARM, and Alt-A and other loans.
 
  •  Structured Transactions:  We hold certain Structured Transactions as part of our investments in securities. There are subprime and option ARM loans underlying some of these Structured Transactions. For more information on certain higher risk categories of single-family loans underlying our Structured Transactions, see “RISK MANAGEMENT — Credit Risk — Mortgage Credit Risk.”
 
            35 Freddie Mac


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Non-Agency Mortgage-Related Securities Backed by Subprime, Option ARM, and Alt-A Loans
 
We classify our non-agency mortgage-related securities as subprime, option ARM, or Alt-A if the securities were labeled as such when sold to us. Tables 19 and 20 present information about our holdings of these securities.
 
Table 19 — Non-Agency Mortgage-Related Securities Backed by Subprime First Lien, Option ARM, and Alt-A Loans and Certain Related Credit Statistics(1)
 
                                         
    As of
    09/30/2010   06/30/2010   03/31/2010   12/31/2009   09/30/2009
    (dollars in millions)
 
UPB:
                                       
Subprime first lien
  $ 55,250     $ 56,922     $ 58,912     $ 61,019     $ 63,810  
Option ARM
    16,104       16,603       17,206       17,687       18,213  
Alt-A(2)
    16,406       16,909       17,476       17,998       18,683  
Gross unrealized losses, pre-tax:(3)
                                       
Subprime first lien
  $ 16,446     $ 17,757     $ 18,462     $ 20,998     $ 24,440  
Option ARM
    4,815       5,770       6,147       6,475       6,996  
Alt-A(2)
    2,542       3,335       3,539       4,032       4,834  
Present value of expected credit losses:
                                       
Subprime first lien
  $ 4.364     $ 3,311     $ 4,444     $ 4,263     $ 3,788  
Option ARM
    4,208       3,534       3,769       3,700       3,862  
Alt-A(2)
    2,101       1,653       1,635       1,845       1,935  
Collateral delinquency rate:(4)
                                       
Subprime first lien
    45 %     46 %     49 %     49 %     46 %
Option ARM
    44       45       46       45       42  
Alt-A(2)
    26       26       27       26       24  
Cumulative collateral loss:(5)
                                       
Subprime first lien
    17 %     16 %     15 %     13 %     12 %
Option ARM
    11       10       9       7       6  
Alt-A(2)
    6       5       5       4       3  
Average credit enhancement:(6)
                                       
Subprime first lien
    25 %     26 %     28 %     29 %     30 %
Option ARM
    12       13       15       16       18  
Alt-A(2)
    9       10       10       11       12  
(1)  See “Ratings of Non-Agency Mortgage-Related Securities” for additional information about these securities.
(2)  Excludes non-agency mortgage-related securities backed by other loans primarily comprised of securities backed by home equity lines of credit.
(3)  Gross unrealized losses, pre-tax, represent the aggregate of the amount by which amortized cost, after other-than-temporary impairments, exceeds fair value measured at the individual lot level.
(4)  Determined based on the number of loans that are two monthly payments or more past due that underlie the securities using information obtained from a third-party data provider.
(5)  Based on the actual losses incurred on the collateral underlying these securities. Actual losses incurred on the securities that we hold are significantly less than the losses on the underlying collateral as presented in this table, as our non-agency mortgage-related securities backed by subprime first lien, option ARM, and Alt-A loans were structured to include credit enhancements, particularly through subordination.
(6)  Reflects the average current credit enhancement on all such securities we hold provided by subordination of other securities held by third parties. Excludes credit enhancement provided by monoline bond insurance.
 
Table 20 — Non-Agency Mortgage-Related Securities Backed by Subprime, Option ARM, and Alt-A Loans(1)
 
                                         
    Three Months Ended
    09/30/2010   06/30/2010   03/31/2010   12/31/2009   09/30/2009
    (in millions)
 
Net impairment of available-for-sale securities recognized in earnings:
                                       
Subprime — first and second liens
  $ 213     $ 17     $ 332     $ 515     $ 623  
Option ARM
    577       48       102       15       224  
Alt-A and other
    296       333       19       51       283  
Principal repayments and cash shortfalls:(2)
                                       
Subprime — first and second liens:
                                       
Principal repayments
  $ 1,685     $ 2,001     $ 2,117     $ 2,807     $ 3,166  
Principal cash shortfalls
    8       12       13       14       12  
Option ARM:
                                       
Principal repayments
  $ 377     $ 435     $ 449     $ 525     $ 533  
Principal cash shortfalls
    122       80       32       2        
Alt-A and other:
                                       
Principal repayments
  $ 582     $ 653     $ 617     $ 792     $ 899  
Principal cash shortfalls
    56       67       22       21       16  
(1)  See “Ratings of Non-Agency Mortgage-Related Securities” for additional information about these securities.
(2)  In addition to the contractual interest payments, we receive monthly remittances of principal repayments from both the recoveries of liquidated loans and, to a lesser extent, voluntary repayments of the underlying collateral of these securities representing a partial return of our investment in these securities.
 
Since the first quarter of 2008 we have not purchased any non-agency mortgage-related securities backed by subprime, option ARM, or Alt-A loans. As discussed below, we recognized impairment on our holdings of such securities in 2009 and 2010, including during the three months ended September 30, 2010 and 2009. See “Table 21 — Net Impairment on Available-for-Sale Mortgage-Related Securities Recognized in Earnings” for more information.
 
            36 Freddie Mac


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We continue to pursue strategies to mitigate our losses as an investor in non-agency mortgage-related securities. On July 12, 2010, FHFA, as Conservator of Freddie Mac and Fannie Mae, announced that it had issued subpoenas to various entities seeking loan files and other transaction documents related to non-agency mortgage-related securities in which the two enterprises invested. FHFA stated that the documents will enable it to determine whether issuers of these securities and others are liable to Freddie Mac and Fannie Mae for certain losses they have suffered on the securities. In its announcement, FHFA noted that, before and during conservatorship, Freddie Mac and Fannie Mae sought to assess and enforce their rights as investors in non-agency mortgage-related securities, in an effort to recoup losses suffered in connection with their portfolios. However, difficulty in obtaining the loan documents has presented a challenge to the companies’ efforts. There is no assurance as to how the various entities will respond to the subpoenas, or to what extent the information sought will result in loss recoveries.
 
We also have joined an investor group that has delivered a notice of non-performance to Bank of New York Mellon, as Trustee, and Countrywide Home Loan Servicing LP related to possible ineligible mortgages backing certain mortgage-related securities issued by Countrywide Financial.
 
The effectiveness of these or any other loss mitigation efforts for these securities is uncertain and any potential recoveries may take significant time to realize. These efforts could have a material impact on our estimate of future losses.
 
For purposes of our impairment analysis, our estimate of the present value of expected credit losses on our non-agency mortgage-related securities portfolio increased from $9.9 billion to $12.0 billion during the three months ended September 30, 2010. This increase was due mainly to increased estimates of loss severities, resulting from: (a) declines in realized and expected home prices; and (b) an increase in our estimate of the impact these price declines will have on severities after considering lengthening foreclosure timelines and other factors. As impairment is determined on an individual security basis, we recorded net impairment of available-for-sale securities recognized in earnings on non-agency mortgage-related securities during the three months ended September 30, 2010, as our estimate of the present value of expected credit losses on certain of these individual securities increased during the period, in excess of previously recorded other-than-temporary impairment expense.
 
Since the beginning of 2007, we have incurred actual principal cash shortfalls of $523 million on impaired non-agency mortgage-related securities. Many of the trusts that issued our non-agency mortgage-related securities were structured so that realized collateral losses in excess of credit enhancements are not passed on to investors until the investment matures. We currently estimate that the future expected principal and interest shortfalls on non-agency mortgage-related securities will be significantly less than the fair value declines.
 
Our non-agency mortgage-related securities backed by subprime first lien, option ARM, and Alt-A loans were structured to include credit enhancements, particularly through subordination. These credit enhancements are one of the primary reasons we expect our actual losses, through principal or interest shortfalls, to be less than the underlying collateral losses in aggregate. However, it is difficult to estimate the point at which credit enhancements will be exhausted. During the third quarter of 2010, we experienced the depletion of credit enhancements on select securities backed by subprime first lien, option ARM, and Alt-A loans due to poor performance of the underlying collateral.
 
The concerns about deficiencies in foreclosure practices of servicers may also adversely affect the values of, and our losses on, our non-agency mortgage-related securities, including by causing further delays in foreclosure timelines.
 
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Other-Than-Temporary Impairments on Available-for-Sale Mortgage-Related Securities
 
Table 21 provides information about the mortgage-related securities for which we recognized other-than-temporary impairments during the three months ended September 30, 2010 and 2009.
 
Table 21 — Net Impairment on Available-for-Sale Mortgage-Related Securities Recognized in Earnings
 
                                 
    Three Months Ended September 30, 2010     Three Months Ended September 30, 2009  
          Net Impairment of
          Net Impairment of
 
          Available-for-Sale Securities
          Available-for-Sale Securities
 
    UPB     Recognized in Earnings     UPB     Recognized in Earnings  
    (in millions)  
 
Subprime:
                               
2006 and 2007 first lien
  $ 12,847     $ 204     $ 27,888     $ 607  
Other years — first and second liens(1)
    496       9       763       16  
                                 
Total subprime — first and second liens
    13,343       213       28,651       623  
                                 
Option ARM:
                               
2006 and 2007
    10,721       526       8,353       165  
Other years
    1,509       51       2,422       59  
                                 
Total option ARM
    12,230       577       10,775       224  
                                 
Alt-A:
                               
2006 and 2007
    4,971       227       4,805       123  
Other years
    2,607       59       5,691       160  
                                 
Total Alt-A
    7,578       286       10,496       283  
                                 
Other loans(2)
    841       10              
                                 
Total subprime, option ARM, Alt-A, and other loans
    33,992       1,086       49,922       1,130  
CMBS
    312       6       1,351       54  
Manufactured housing
    460       8       58       3  
                                 
Total available-for-sale mortgage-related securities
  $ 34,764     $ 1,100     $ 51,331     $ 1,187  
                                 
(1)  Includes all second liens.
(2)  Primarily comprised of securities backed by home equity lines of credit.
 
We recorded net impairment of available-for-sale mortgage-related securities recognized in earnings of $1.1 billion and $2.0 billion during the three and nine months ended September 30, 2010, respectively, as our estimate of the present value of expected credit losses on certain individual securities increased during the periods. Included in these net impairments are $1.1 billion and $1.9 billion of impairments related to securities backed by subprime, option ARM, and Alt-A and other loans during the three and nine months ended September 30, 2010, respectively.
 
There has been a decline in credit performance of loans underlying our non-agency mortgage-related securities. This decline has been particularly severe for subprime, option ARM, and Alt-A and other loans. Many of the same economic factors impacting the performance of our single-family credit guarantee portfolio also impact the performance of our investments in non-agency mortgage-related securities. High unemployment, a large inventory of seriously delinquent mortgage loans and unsold homes, tight credit conditions, and weak consumer confidence contributed to poor performance during the three and nine months ended September 30, 2010. In addition, subprime, option ARM, and Alt-A and other loans backing our securities have significantly greater concentrations in the states that are undergoing the greatest economic stress, such as California, Florida, Arizona, and Nevada. Loans in these states undergoing economic stress are more likely to become delinquent and the credit losses associated with such loans are likely to be higher.
 
We rely on monoline bond insurance, including secondary coverage, to provide credit protection on some of our investments in mortgage-related and non-mortgage-related securities. We have determined that there is substantial uncertainty surrounding certain monoline bond insurers’ ability to pay our future claims on expected credit losses related to our non-agency mortgage-related security investments. This uncertainty contributed to the impairments recognized in earnings during the nine months ended September 30, 2010 and 2009. See “NOTE 18: CONCENTRATION OF CREDIT AND OTHER RISKS — Bond Insurers” for additional information.
 
While it is reasonably possible that collateral losses on our available-for-sale mortgage-related securities where we have not recorded an impairment earnings charge could exceed our credit enhancement levels, we do not believe that those conditions were likely at September 30, 2010. Based on our conclusion that we do not intend to sell our remaining available-for-sale mortgage-related securities and it is not more likely than not that we will be required to sell these securities before a sufficient time to recover all unrealized losses and our consideration of other available information, we have concluded that the reduction in fair value of these securities was temporary at September 30, 2010 and as such has been recorded in AOCI.
 
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During the three and nine months ended September 30, 2009 we recorded net impairment of available-for-sale mortgage-related securities recognized in earnings of $1.2 billion and $10.3 billion, respectively. The impairments recorded during the three months ended September 30, 2009 related primarily to increases in expected credit losses on our non-agency mortgage-related securities. Of the impairments recorded during the nine months ended September 30, 2009, $6.9 billion were recognized in the first quarter, prior to our adoption of the amendment to the accounting standards related to investments in debt and equity securities, and included both credit and non-credit-related other-than-temporary impairments. For further information on our adoption of the amendment to the accounting standards for investments in debt and equity securities and how other-than-temporary impairments are recorded on our financial statements commencing in the second quarter of 2009, see “NOTE 1: SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES — Recently Adopted Accounting Standards — Change in the Impairment Model for Debt Securities” in our 2009 Annual Report. See “NOTE 7: INVESTMENTS IN SECURITIES” for additional information regarding the accounting principles for investments in debt and equity securities and the other-than-temporary impairments recorded during the three and nine months ended September 30, 2010 and 2009.
 
Our assessments concerning other-than-temporary impairment require significant judgment and the use of models, and are subject to potentially significant change due to the performance of the individual securities and mortgage market conditions. Depending on the structure of the individual mortgage-related security and our estimate of collateral losses relative to the amount of credit support available for the senior classes we own, a change in collateral loss estimates can have a disproportionate impact on the loss estimate for the security. Additionally, servicer performance, loan modification programs and backlogs, bankruptcy reform and other forms of government intervention in the housing market can significantly affect the performance of these securities, including the timing of loss recognition of the underlying loans and thus the timing of losses we recognize on our securities. Foreclosure processing suspensions can also affect our losses. For example, while defaulted loans remain in the trusts prior to completion of the foreclosure process, the subordinate classes of securities issued by the securitization trusts may continue to receive interest payments, rather than absorbing default losses, thereby reducing the amount of credit support available for the senior classes we own. Given the extent of the housing and economic downturn over the past few years, it is difficult to forecast and estimate the future performance of mortgage loans and mortgage-related securities with any assurance, and actual results could differ materially from our expectations. Furthermore, various market participants could arrive at materially different conclusions regarding estimates of future cash shortfalls. For more information on how delays in the foreclosure process, including delays related to concerns about deficiencies in foreclosure practices, could adversely affect the values of, and our losses on, our non-agency mortgage-related securities, see “RISK FACTORS — Our expenses could increase and we may otherwise be adversely affected by deficiencies in foreclosure practices, as well as related delays in the foreclosure process.
 
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Ratings of Non-Agency Mortgage-Related Securities
 
Table 22 shows the ratings of available-for-sale non-agency mortgage-related securities backed by subprime, option ARM, Alt-A and other loans, and CMBS held at September 30, 2010 based on their ratings as of September 30, 2010 as well as those held at December 31, 2009 based on their ratings as of December 31, 2009 using the lowest rating available for each security.
 
Table 22 — Ratings of Available-for-Sale Non-Agency Mortgage-Related Securities Backed by Subprime, Option ARM, Alt-A and Other Loans, and CMBS
 
                                 
                Gross
    Monoline
 
          Amortized
    Unrealized
    Insurance
 
Credit Ratings as of September 30, 2010
  UPB     Cost     Losses     Coverage(1)  
    (in millions)  
 
Subprime loans:
                               
AAA-rated
  $ 2,350     $ 2,350     $ (248 )   $ 33  
Other investment grade
    3,499       3,499       (477 )     456  
Below investment grade(2)
    49,880       44,744       (15,796 )     1,839  
                                 
Total
  $ 55,729     $ 50,593     $ (16,521 )   $ 2,328  
                                 
Option ARM loans:
                               
AAA-rated
  $     $     $     $  
Other investment grade
    253       253       (58 )     146  
Below investment grade(2)
    15,851       11,473       (4,757 )     54  
                                 
Total
  $ 16,104     $ 11,726     $ (4,815 )   $ 200  
                                 
Alt-A and other loans:
                               
AAA-rated
  $ 1,364     $ 1,371     $ (114 )   $ 7  
Other investment grade
    3,046       3,056       (442 )     385  
Below investment grade(2)
    15,032       12,036       (2,615 )     2,525  
                                 
Total
  $ 19,442     $ 16,463     $ (3,171 )   $ 2,917  
                                 
CMBS:
                               
AAA-rated
  $ 29,520     $ 29,588     $ (80 )   $ 43  
Other investment grade
    26,377       26,333       (843 )     1,656  
Below investment grade(2)
    3,653       3,428       (1,177 )     1,705  
                                 
Total
  $ 59,550     $ 59,349     $ (2,100 )   $ 3,404  
                                 
                                 
                                 
Credit Ratings as of December 31, 2009
                       
 
Subprime loans:
                               
AAA-rated
  $ 4,600     $ 4,597     $ (643 )   $ 34  
Other investment grade
    6,248       6,247       (1,562 )     625  
Below investment grade(2)
    50,716       45,977       (18,897 )     1,895  
                                 
Total
  $ 61,564     $ 56,821     $ (21,102 )   $ 2,554  
                                 
Option ARM loans:
                               
AAA-rated
  $     $     $     $  
Other investment grade
    350       345       (152 )     166  
Below investment grade(2)
    17,337       13,341       (6,323 )     163  
                                 
Total
  $ 17,687     $ 13,686     $ (6,475 )   $ 329  
                                 
Alt-A and other loans:
                               
AAA-rated
  $ 1,825     $ 1,844     $ (247 )   $ 9  
Other investment grade
    4,829       4,834       (1,051 )     530  
Below investment grade(2)
    14,785       12,267       (4,249 )     2,752  
                                 
Total
  $ 21,439     $ 18,945     $ (5,547 )   $ 3,291  
                                 
CMBS:
                               
AAA-rated
  $ 32,831     $ 32,914     $ (2,108 )   $ 43