Financial Derivatives

3 Months Ended

Mar. 31, 2012

Notes to Financial Statements [Abstract]

Financial Derivatives

4. FINANCIAL DERIVATIVES

Farmer Mac enters into financial derivative transactions principally to protect against risk from the effects of market price or interest rate movements on the value of certain assets, future cash flows or debt issuance, not for trading or speculative purposes.  Farmer Mac enters into interest rate swap contracts to adjust the characteristics of its short-term debt to match more closely the cash flow and duration characteristics of its longer-term loans and other assets, and also to adjust the characteristics of its long-term debt to match more closely the cash flow and duration characteristics of its short-term assets, thereby reducing interest rate risk and often times deriving an overall lower effective cost of borrowing than would otherwise be available to Farmer Mac in the conventional debt market.  

Farmer Mac manages the interest rate risk related to loans it has committed to acquire, but has not yet purchased and permanently funded, through the use of forward sale contracts on the debt of other GSEs, futures contracts involving U.S. Treasury securities and interest rate swaps.  Farmer Mac uses forward sale contracts on GSE securities to reduce its interest rate exposure to changes in both Treasury rates and spreads on Farmer Mac debt.  The notional amounts of these contracts are determined based on a duration-matched hedge ratio between the hedged item and the hedge instrument.  Gains or losses generated by these hedge transactions should offset changes in funding costs.

All financial derivatives are recorded on the balance sheet at fair value as a freestanding asset or liability. Farmer Mac does not designate its financial derivatives as fair value hedges or cash flow hedges; therefore, the changes in the fair values of financial derivatives are reported as gains on financial derivatives in the consolidated statements of operations without any corresponding changes in the fair values of the hedged items.

The following tables summarize information related to Farmer Mac's financial derivatives as of March 31, 2012 and December 31, 2011:

	March 31, 2012
			Fair Value						Weighted- Average Pay Rate		Weighted- Average Receive Rate		Weighted- Average Forward Price	Weighted- Average Remaining Life (in years)
	Notional Amount		Asset			(Liability)
	(dollars in thousands)
Interest rate swaps:
Pay fixed non-callable	1,861,777		163			(142,343		)	3.55	%	0.53	%		4.45
Receive fixed non-callable	4,352,713		39,777			(166		)	0.42	%	0.90	%		0.83
Basis swaps	420,119		17			(1,422		)	0.82	%	0.44	%		1.04
Credit default swaps	10,000		—			(33		)	1.00	%	—			0.47
Agency forwards	56,408		—			(71		)					98.70
Treasury futures	1,700		6			—							129.82
Credit valuation adjustment	—		(844		)	812
Total financial derivatives	$	6,702,717	$	39,119		$	(143,223	)

	December 31, 2011
			Fair Value						Weighted- Average Pay Rate		Weighted- Average Receive Rate		Weighted- Average Remaining Life (in years)
	Notional Amount		Asset			(Liability)
	(dollars in thousands)
Interest rate swaps:
Pay fixed non-callable	1,906,123		—			(157,520		)	3.65	%	0.46	%	4.48
Receive fixed non-callable	4,212,713		41,006			(1,302		)	0.41	%	0.96	%	0.97
Basis swaps	457,694		—			(2,137		)	0.80	%	0.38	%	1.30
Credit default swaps	10,000		17			—			1.00	%	—		0.72
Credit valuation adjustment	—		(773		)	935
Total financial derivatives	$	6,586,530	$	40,250		$	(160,024	)

In the normal course of business, collateral requirements contained in Farmer Mac's derivative contracts are enforced by Farmer Mac and its counterparties.  Upon enforcement of the collateral requirements, the amount of collateral posted is typically based on the net fair value of all derivative contracts with the counterparty, i.e., derivative assets net of derivative liabilities at the counterparty level.  If Farmer Mac were to be in violation of certain provisions of the derivative contracts, the related counterparty could request payment or full collateralization on the derivative contracts.  As of March 31, 2012, the fair value of Farmer Mac's derivatives in a net liability position at the counterparty level, which includes accrued interest but excludes any adjustment for nonperformance risk, was $109.1 million.  As of March 31, 2012, Farmer Mac posted cash of $11.4 million and investment securities that the counterparty does not have the ability to sell or repledge with a fair value of $12.6 million as collateral for its derivatives in net liability positions.  Farmer Mac records posted cash as a reduction in the outstanding balance of cash and cash equivalents and an increase in the balance of prepaid expenses and other assets.  The investment securities posted as collateral are included in the investment securities balances on the consolidated balance sheets. If Farmer Mac had breached certain provisions of the derivative contracts as of March 31, 2012, it could have been required to settle its obligations under the agreements or post additional collateral of $85.1 million.

As of March 31, 2012, Farmer Mac had outstanding basis swaps with Zions First National Bank, a related party, with a total notional amount of $60.1 million and a fair value of $(1.2) million, compared to $72.7 million and $(1.3) million, respectively, as of December 31, 2011.  Under the terms of those basis swaps, Farmer Mac pays Constant Maturity Treasury-based rates and receives LIBOR.  Those swaps hedge most of the interest rate basis risk related to loans Farmer Mac purchases that pay a Constant Maturity Treasury based-rate and the discount notes Farmer Mac issues to fund the loan purchases.  The pricing of discount notes is closely correlated to LIBOR rates.  Accordingly, Farmer Mac recorded unrealized gains on those outstanding basis swaps for the three months ended March 31, 2012 and 2011 of $0.1 million and $1.7 million, respectively. The following table summarizes the effects of Farmer Mac's financial derivatives on the consolidated statements of operations for the three months ended March 31, 2012 and 2011:

	Gains on Financial Derivatives
	For the Three Months Ended
	March 31, 2012			March 31, 2011
	(in thousands)
Interest rate swaps	$	6,306		$	4,652
Agency forwards	203			(848		)
Treasury futures	(34		)	185
Credit default swaps	(75		)	16
Total	$	6,400		$	4,005