COMMODITY AND OTHER DERIVATIVE CONTRACTUAL ASSETS AND LIABILITIES

Strategic Use of Derivatives

We transact in derivative instruments, such as options, swaps, futures and forward contracts, primarily to manage electricity price risk and interest rate risk exposure. Our principal activities involving derivatives consist of a natural gas hedging program and the hedging of interest costs on our long-term debt. See Note 8 for a discussion of the fair value of all derivatives.

Natural Gas Hedging Program — TCEH has a natural gas hedging program designed to reduce exposure to changes in future electricity prices due to changes in the price of natural gas, thereby hedging future revenues from electricity sales and related cash flows. In ERCOT, the wholesale price of electricity has generally moved with the price of natural gas. Under the program, TCEH has entered into market transactions involving natural gas-related financial instruments and has sold forward natural gas through 2014. These transactions are intended to hedge a portion of electricity price exposure related to expected lignite/coal- and nuclear-fueled generation for this period. Unrealized gains and losses arising from changes in the fair value of the instruments under the program as well as realized gains and losses upon settlement of the instruments are reported in the income statement in net gain (loss) from commodity hedging and trading activities.

Interest Rate Swap Transactions — Interest rate swap agreements are used to reduce exposure to interest rate changes by converting floating-rate debt to fixed rates, thereby hedging future interest costs and related cash flows. Interest rate basis swaps are used to effectively reduce the hedged borrowing costs. Unrealized gains and losses arising from changes in the fair value of the swaps as well as realized gains and losses upon settlement of the swaps are reported in the income statement in interest expense and related charges. See Note 5 for additional information about interest rate swap agreements.

Other Commodity Hedging and Trading Activity — TCEH also enters into derivatives, including electricity, natural gas, fuel oil, uranium, emission and coal instruments, generally for shorter-term hedging purposes. To a limited extent, TCEH also enters into derivative transactions for proprietary trading purposes, principally in natural gas and electricity markets.

Financial Statement Effects of Derivatives

Substantially all derivative contractual assets and liabilities arise from mark-to-market accounting consistent with accounting standards related to derivative instruments and hedging activities. The following tables provide detail of commodity and other derivative contractual assets and liabilities (with the column totals representing the net positions of the contracts) as reported in the balance sheets at September 30, 2013 and December 31, 2012:



September 30, 2013
	Derivative assets					Derivative liabilities
	Commodity contracts			Interest rate swaps		Commodity contracts			Interest rate swaps			Total
Current assets	$	972		$	1	$	—		$	—		$	973
Noncurrent assets	159			—		—			—			159
Current liabilities	(2		)	—		(204		)	(388		)	(594		)
Noncurrent liabilities	—			—		(3		)	(779		)	(782		)
Net assets (liabilities)	$	1,129		$	1	$	(207	)	$	(1,167	)	$	(244	)



December 31, 2012
	Derivative assets				Derivative liabilities
	Commodity contracts		Interest rate swaps		Commodity contracts			Interest rate swaps			Total
Current assets	$	1,461	$	2	$	—		$	—		$	1,463
Noncurrent assets	586		—		—			—			586
Current liabilities	—		—		(366		)	(528		)	(894		)
Noncurrent liabilities	—		—		(17		)	(1,539		)	(1,556		)
Net assets (liabilities)	$	2,047	$	2	$	(383	)	$	(2,067	)	$	(401	)

At September 30, 2013 and December 31, 2012, there were no derivative positions accounted for as cash flow or fair value hedges.

The following table presents the pretax effect of derivatives on net income (gains (losses)), including realized and unrealized effects:



	Three Months Ended September 30,					Nine Months Ended September 30,
Derivative (income statement presentation)	2013		2012			2013		2012
Commodity contracts (Net gain (loss) from commodity hedging and trading activities) (a)	$	98	$	(95	)	$	54	$	130
Interest rate swaps (Interest expense and related charges) (b)	253		(188		)	433		(521		)
Net gain (loss)	$	351	$	(283	)	$	487	$	(391	)

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(a)	Amount represents changes in fair value of positions in the derivative portfolio during the period, as realized amounts related to positions settled are assumed to equal reversals of previously recorded unrealized amounts.


(b)	Includes unrealized mark-to-market net gain (loss) as well as the net realized effect on interest paid/accrued, both reported in "Interest Expense and Related Charges" (see Note 12).

The following table presents the pretax effect (all losses) on net income and other comprehensive income (OCI) of derivative instruments previously accounted for as cash flow hedges. There were no amounts recognized in OCI for the three and nine months ended September 30, 2013 and 2012.



	Three Months Ended September 30,						Nine Months Ended September 30,
Derivative (income statement presentation)	2013			2012			2013			2012
Interest rate swaps (Interest expense and related charges)	$	(1	)	$	(1	)	$	(6	)	$	(6	)
Interest rate swaps (Depreciation and amortization)	(1		)	(1		)	(2		)	(2		)
Total	$	(2	)	$	(2	)	$	(8	)	$	(8	)

Accumulated other comprehensive income related to cash flow hedges at September 30, 2013 and December 31, 2012 totaled $37 million and $42 million in net losses (after-tax), respectively, substantially all of which relates to interest rate swaps previously accounted for as cash flow hedges. We expect that $2 million of net losses (after-tax) related to cash flow hedges included in accumulated other comprehensive income at September 30, 2013 will be reclassified into net income during the next twelve months as the related hedged transactions affect net income.

Balance Sheet Presentation of Derivatives

Consistent with elections under US GAAP to present amounts on a gross basis, we report derivative assets and liabilities in the balance sheet without taking into consideration netting arrangements we have with counterparties. This presentation can result in significant volatility in derivative assets and liabilities because we may enter into offsetting positions with the same counterparties, resulting in both assets and liabilities, and the underlying commodity prices can change significantly from period to period.

Margin deposits that contractually offset these derivative instruments are reported separately in the balance sheet. Margin deposits received from counterparties are either used for working capital or other corporate purposes or are deposited in a separate restricted cash account. At September 30, 2013 and December 31, 2012, essentially all margin deposits held were unrestricted.

We maintain standardized master netting agreements with certain counterparties that allow for the netting of positive and negative exposures. Generally, we utilize the International Swaps and Derivatives Association (ISDA) standardized contract for financial transactions, the Edison Electric Institute standardized contract for physical power transactions and the North American Energy Standards Board (NAESB) standardized contract for physical natural gas transactions. These contain credit enhancements that allow for the right to offset assets and liabilities with other financial instruments and collateral received in order to reduce credit exposure between us and the counterparty. These agreements contain specific language related to margin requirements, monthly settlement netting, cross-commodity netting and early termination netting, which is negotiated with the contract counterparty.

Certain entities are counterparties to both our natural gas hedge program positions and our interest rate swaps and have entered into master agreements that provide for netting and setoff of amounts related to these positions.

The following tables reconcile our derivative assets and liabilities as presented in the consolidated balance sheet to net amounts after taking into consideration netting arrangements with counterparties and financial collateral:



September 30, 2013
	Amounts Presented in Balance Sheet			Offsetting Financial Instruments (a)			Financial Collateral (Received) Pledged (b)			Net Amounts (c)
Derivative assets:
Commodity contracts	$	1,131		$	(613	)	$	(351	)	$	167
Interest rate swaps	1			(1		)	—			—
Total derivative assets	1,132			(614		)	(351		)	167
Derivative liabilities:
Commodity contracts	(209		)	180			11			(18		)
Interest rate swaps	(1,167		)	434			—			(733		)
Total derivative liabilities	(1,376		)	614			11			(751		)
Net amounts	$	(244	)	$	—		$	(340	)	$	(584	)



December 31, 2012
	Amounts Presented in Balance Sheet			Offsetting Financial Instruments (a)			Financial Collateral (Received) Pledged (b)			Net Amounts
Derivative assets:
Commodity contracts	$	2,047		$	(1,263	)	$	(597	)	$	187
Interest rate swaps	2			(2		)	—			—
Total derivative assets	2,049			(1,265		)	(597		)	187
Derivative liabilities:
Commodity contracts	(383		)	319			29			(35		)
Interest rate swaps	(2,067		)	946			—			(1,121		)
Total derivative liabilities	(2,450		)	1,265			29			(1,156		)
Net amounts	$	(401	)	$	—		$	(568	)	$	(969	)

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(a)	Offsetting financial instruments with respect to commodity contracts include amounts related to interest rate swaps and vice versa. Amounts exclude trade accounts receivable and payable related to settled financial instruments.


(b)	Financial collateral consists entirely of cash margin deposits.


(c)	Includes net liability positions totaling approximately $1.2 billion (before nonperformance risk adjustment) related to counterparties with positions that are secured by a first-lien interest in the same assets of TCEH (on a pari passu basis) with the TCEH Senior Secured Facilities and the TCEH Senior Secured Notes.

Derivative Volumes — The following table presents the gross notional amounts of derivative volumes at September 30, 2013 and December 31, 2012:




	September 30, 2013		December 31, 2012
Derivative type	Notional Volume				Unit of Measure
Interest rate swaps:
Floating/fixed (a)	$	30,740	$	31,060	Million US dollars
Basis	$	11,967	$	11,967	Million US dollars
Natural gas:
Natural gas forward sales and purchases (b)	452		875		Million MMBtu
Locational basis swaps	337		495		Million MMBtu
All other	2,021		1,549		Million MMBtu
Electricity	21,663		76,767		GWh
Congestion Revenue Rights (c)	82,156		111,185		GWh
Coal	11		14		Million US tons
Fuel oil	28		47		Million gallons
Uranium	575		441		Thousand pounds

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(a)	Includes notional amount of interest rate swaps with maturity dates through October 2014 as well as notional amount of swaps effective from October 2014 with maturity dates through October 2017 (see Note 5).


(b)	Represents gross notional forward sales, purchases and options transactions in the natural gas hedging program. The net amount of these transactions was approximately 210 million MMBtu and 360 million MMBtu at September 30, 2013 and December 31, 2012, respectively.


(c)	Represents gross forward purchases associated with instruments used to hedge electricity price differences between settlement points within ERCOT.

Credit Risk-Related Contingent Features of Derivatives

The agreements that govern our derivative instrument transactions may contain certain credit risk-related contingent features that could trigger liquidity requirements in the form of cash collateral, letters of credit or some other form of credit enhancement. Certain of these agreements require the posting of collateral if our credit rating is downgraded by one or more credit rating agencies; however, due to our credit ratings being below investment grade, substantially all of such collateral posting requirements are already effective.

At September 30, 2013 and December 31, 2012, the fair value of liabilities related to derivative instruments under agreements with credit risk-related contingent features that were not fully cash collateralized totaled $40 million and $58 million, respectively. The liquidity exposure associated with these liabilities was reduced by cash and letter of credit postings with the counterparties totaling $9 million and $12 million at September 30, 2013 and December 31, 2012, respectively. If all the credit risk-related contingent features related to these derivatives had been triggered, including cross default provisions, at September 30, 2013 and December 31, 2012, the remaining liquidity requirements would have totaled $8 million and none, respectively.

In addition, certain derivative agreements that are collateralized primarily with liens on certain of our assets include indebtedness cross-default provisions that could result in the settlement of such contracts if there were a failure under other financing arrangements to meet payment terms or to comply with other covenants that could result in the acceleration of such indebtedness. At September 30, 2013 and December 31, 2012, the fair value of derivative liabilities subject to such cross-default provisions, largely related to interest rate swaps, totaled $1.192 billion and $2.150 billion, respectively, before consideration of the amount of assets subject to the liens. No cash collateral or letters of credit were posted with these counterparties at September 30, 2013 and December 31, 2012 to reduce the liquidity exposure. If all the credit risk-related contingent features related to these derivatives, including amounts related to cross-default provisions, had been triggered at September 30, 2013 and December 31, 2012, the remaining related liquidity requirement after reduction for derivative assets under netting arrangements but before consideration of the amount of assets subject to the liens would have totaled $1.087 billion and $1.122 billion, respectively. See Note 5 for a description of other obligations that are supported by liens on certain of our assets.

As discussed immediately above, the aggregate fair values of liabilities under derivative agreements with credit risk-related contingent features, including cross-default provisions, totaled $1.232 billion and $2.208 billion at September 30, 2013 and December 31, 2012, respectively. These amounts are before consideration of cash and letter of credit collateral posted, net accounts receivable and derivative assets under netting arrangements and assets subject to related liens.

Some commodity derivative contracts contain credit risk-related contingent features that do not provide for specific amounts to be posted if the features are triggered. These provisions include material adverse change, performance assurance, and other clauses that generally provide counterparties with the right to request additional credit enhancements. The amounts disclosed above exclude credit risk-related contingent features that do not provide for specific amounts or exposure calculations.

Concentrations of Credit Risk Related to Derivatives

TCEH has concentrations of credit risk with the counterparties to its derivative contracts. At September 30, 2013, total credit risk exposure to all counterparties related to derivative contracts totaled $1.258 billion (including associated accounts receivable). The net exposure to those counterparties totaled $275 million at September 30, 2013 after taking into effect netting arrangements, setoff provisions and collateral. At September 30, 2013, the credit risk exposure to the banking and financial sector represented 88% of the total credit risk exposure and 59% of the net exposure, a significant amount of which is related to the natural gas hedging program, and the largest net exposure to a single counterparty totaled $50 million.

Exposure to banking and financial sector counterparties is considered to be within an acceptable level of risk tolerance because all of this exposure is with counterparties with investment grade credit ratings. However, this concentration increases the risk that a default by any of these counterparties would have a material effect on our financial condition, results of operations and liquidity. The transactions with these counterparties contain certain provisions that would require the counterparties to post collateral in the event of a material downgrade in their credit rating.

We maintain credit risk policies with regard to our counterparties to minimize overall credit risk. These policies authorize specific risk mitigation tools including, but not limited to, use of standardized master agreements that allow for netting of positive and negative exposures associated with a single counterparty. Credit enhancements such as parent guarantees, letters of credit, surety bonds, liens on assets and margin deposits are also utilized. Prospective material changes in the payment history or financial condition of a counterparty or downgrade of its credit quality result in the reassessment of the credit limit with that counterparty. The process can result in the subsequent reduction of the credit limit or a request for additional financial assurances. An event of default by one or more counterparties could subsequently result in termination-related settlement payments that reduce available liquidity if amounts are owed to the counterparties related to the derivative contracts or delays in receipts of expected settlements if the counterparties owe amounts to us.