2003

ANNUAL REPORT

“

”

...the most successful companies of all are those

with a clear mission that they

execute with ferocious focus.

Richard F. Syron, chairman and CEO
To Our Shareholders,

I am pleased to write you my first annual letter as

chairman and CEO of Freddie Mac. Even in the very

challenging year that led up to my arrival, the company

delivered good financial results — which I’ll discuss later

in this message — while fulfilling our mission.

This past December, when the board of directors asked

me to take on this job, I was deeply honored. That’s

because Freddie Mac is much more than one of the

largest financial services companies in America. As a

government-sponsored enterprise, or GSE, we have

the vital public mission of helping American families

achieve their dreams through low-cost homeownership.

We also have the responsibility to keep our company

financially safe, sound and strong. And I feel a powerful

personal obligation — as in my preceding private-sector

jobs — to be a vigilant steward of shareholder capital.

Let’s start with the fundamentals. Freddie Mac operates

in a highly attractive market: U.S. residential mortgage

debt. Within this growing market, our congressional

charter gives us special privileges and opportunities,

along with special responsibilities. We have a strong

foundation of capital and a well-earned reputation for

managing interest-rate and credit risk. And Freddie Mac

has done enormous good with its franchise. Over the

years, we have made home possible for one in six

homebuyers across America — helping them build

wealth, and helping our nation build the world’s finest

system of housing finance.

But as we all know, major problems surfaced at Freddie

Mac in 2003 — the same ones that brought me here. I

have been highly impressed in my first nine months with

the company’s financial safety and soundness, risk management, core business and superb people. But I’ve

also seen clearly the consequences of serious problems

in accounting, internal controls and corporate governance that came to light last year.

My game plan has three basic parts: 

1. Getting our house in order and rebuilding 

public confidence; 

2. Making this a truly mission-driven company; and 

3. Using these efforts to build long-term 

shareholder value. 

We’ve made good progress in these areas, but much

remains to be done. Let me tell you where things stand

today and where I see Freddie Mac tomorrow.

a message from

the chairman
3

getting our

house

in order

Richard F. Syron, chairman and CEO

Getting Our House in Order

Getting our house in order has been my most urgent priority. My primary focus has been on rebuilding our senior

management team to help us excel in an increasingly

competitive market. So I am delighted that within the

first nine months of 2004, we have been able to bring

together a truly world-class group of senior executives.

We have hired Gene McQuade as president and chief

operating officer. Gene is the former president of Bank

of America and chief operating officer of FleetBoston

Financial, and he brings a wealth of operating and financial reporting experience to Freddie Mac. We also have

brought on Patti Cook, a 25-year Wall Street veteran of

the fixed-income markets, to serve as executive vice

president of investments.

Other key additions include Ralph Boyd as executive vice

president and general counsel, to manage our legal,

government relations and communications functions.

Ralph is a former Assistant U.S. Attorney General and

head of the Justice Department’s Civil Rights Division

in the Bush Administration. Stan Martin, a veteran SEC

reviewing partner with KPMG, is our new head of Internal

Audit. Jerry Weiss, another of our Wall Street hires, is

in the new post of chief compliance officer. Marty

Baumann, our CFO, joined us in April 2003 and leads

our ongoing accounting remediation effort. And Hollis

McLoughlin, with a dual background in business and

the public sector, is bringing both strategic focus and

process discipline to bear as my chief of staff.
4

“

”

With these changes made, we will finish the job of getting

our financial reporting where it needs to be. An important

first step was meeting our commitment to report 2003

results within our self-imposed deadline of June 30,

2004. But our remediation is not yet complete. The truth

is that our progress in building accounting systems and

improving internal controls must accelerate and come to

fruition. These weaknesses in processes and systems are

preventing us from reporting our financials to you on a

timely basis.

One milestone in our financial reporting will be registering

our common stock with the SEC under the Securities

Exchange Act of 1934 and filing 10-Ks and 10-Qs as 

a reporting company under the Act. We also recognize

investors’ need to understand our financial reporting

better, so that we are more easily comparable with other

large financial institutions. Meanwhile, we expect to

deliver both quarterly and full-year 2004 results to you

by March 31. And we will continue to be an accessible

and accountable management team, providing quarterly

conference calls, in the interim.

But Freddie Mac is doing more than hiring a new senior

management team and fixing our accounting; we are

enhancing our corporate governance as well. As a GSE in

the Sarbanes-Oxley era, we must serve as a role model

of sound corporate governance that inspires public trust.

So we have adopted corporate governance guidelines —

including criteria for board independence — that fully

meet New York Stock Exchange listing standards, as well

as SEC standards for audit committee independence.

Moreover, we have met, on time, every element of our

regulator’s rigorous consent order. We have committed 

to split the roles of chairman and CEO, and laid the

groundwork to do so. We are requiring all board members to hold Freddie Mac stock, so they have a greater

stake in the company’s long-term success. And we are

conducting an orderly transition of the board — so that,

during the course of this year, we will see the turnover of

about half of our elected board.

If all this strikes you as a lot of change, it is. I am not a

status quo leader and Freddie Mac will not be a status

quo company.

I am not a status quo leader and Freddie Mac

will not be a status quo company.
5

becoming

mission

driven

Becoming Mission-Driven

There’s a big difference between being a company that

happens to have a statutory mission, and being a company that is truly mission-driven. For too long, Freddie

Mac acted like the former kind of company. I mean to

make it indisputably the latter.

That is why we have retooled our performance measures

to tie our senior managers’ compensation to mission fulfillment as well as financial goals. We have dedicated

first-rate staff and resources to focus entirely on ways for

affordability of America’s mortgage markets. Freddie

Mac gets high marks for providing liquidity and stability,

but we need to do more on affordability. We must find

ways to reach and serve minorities, immigrants, and

others who are underserved today. This means innovating aggressively yet responsibly so that every household

that can afford to buy and keep a home gets that

opportunity, at lowest cost — and those who cannot or

choose not to own, have quality, affordable rental alternatives. But Freddie Mac’s mission is not only to assist

the “affordable” end of the market. We cannot allow that

noble goal to undermine or be set against our broader

mission. For we have the statutory obligation to make

us to better understand and execute our mission. We

are developing a number of initiatives to help us meet

the affordable housing goals set forth by the federal

government. And we have set for ourselves the ambitious strategic goal of leading the industry in expanding

housing opportunities for underserved groups within

five years.

These are significant steps. But to become truly missiondriven, Freddie Mac must foster a deeper understanding

of our mission. Congress has given us an important

public purpose: to enhance the liquidity, stability and

America’s housing finance markets work better for

everyone we serve.

To succeed in carrying out our mission, Freddie Mac

must do two things. As a GSE, we must continue working closely with Congress and the executive branch to

modernize our regulatory structure. And as a company in

a competitive marketplace, we must continue innovating,

driving down our costs, and striving always to serve our

customers better.
6

building

shareholder

value

Building Shareholder Value

If that sounds like capitalism at work, it is. Which brings

me back to you, our shareholders. My third and culminating priority is to ensure that Freddie Mac creates lasting

value. Instead of managing to near-term expectations, I

am determined to set our sights on building shareholder

value that holds up over the long run.

If there is one thing that was never in question, it is 

this company’s fundamental financial and economic

strength and soundness. Our 2003 results bear out

Freddie Mac supported the largest refinancing market

in history, while keeping our assets and liabilities well

matched and our retained portfolio well hedged and

insulated from major interest-rate swings. Our monthly

reports demonstrated throughout the year that Freddie

Mac’s tradition of excellence in risk management is

alive and well. 

Still, we can do more and we can do better. For example,

I am determined to attack our general and administrative

expenses, which increased considerably due in part to

our accounting remediation efforts. Once we gain effithat confidence. We produced another strong year of

earnings. We enhanced our strong capital position. We

managed our interest-rate and credit risks to achieve

impressive results. As a consequence, we posted strong

fair value growth in a very challenging economic environment. Last year’s results made it clear that Freddie Mac’s

franchise remained financially healthy, and the engine of

our business produced good value.

Our 2003 results were fueled by strong portfolio growth

and record business volume. No less important, we

protected the value of our franchise during a volatile

interest-rate environment, in which prepayments surged

and rates moved by some 70 basis points in six months.

ciencies from the automated accounting and controls

systems, our cost structure should normalize. And I am

taking other steps to reduce our army of consultants

and associated costs. 

Looking at the economic and competitive environment

for this year, it’s plain we can’t continue to grow our

retained mortgage portfolio at the extraordinary clip of

the past decade (during which it increased more than

ten-fold). For the reasons discussed in this annual

report, our GAAP results will continue to show substantial volatility. And as also detailed in the report, if

current conditions continue until year-end, our fair value

growth, if any, is likely to be significantly below last
7

“

”

If there is one thing that was never in question, it is this company’s

fundamental financial and economic

strength and soundness.

year’s, when it exceeded our long-term expectations. It

is important to note, however, that while fair value is an

important means of measuring our returns, it is the trend

of fair value growth over a multi-year period that provides

a better yardstick of our success.

These cautions should not be interpreted to mean we

don’t have great opportunities — because we surely do.

U.S. residential mortgage debt outstanding is expected

to grow at the robust rate of more than eight percent

annually for the next decade, and we expect to grow

along with it. Moreover, consistent with our charter,

Leaner, more efficient companies are happier and more

successful companies. And astute observers have realized that the most successful companies of all are those

with a clear mission that they execute with ferocious

focus. Indeed, mission-driven companies have the ability

to create greater shareholder value than firms that are

purely financially driven.

That is a big reason why Freddie Mac — as a missiondriven company conscious of its costs and of the need

for constant innovation — is worthy of your continued

confidence. We have a mission that benefits our society,

when market conditions create a demand for us to

increase our mortgage investment activity we will not

hesitate to take advantage of profitable opportunities.

This approach has enabled us to generate strong economic returns in a wide variety of market conditions.

Freddie Mac is well positioned to take advantage of

opportunities in a growing market in part because we

have an extremely strong capital base. We are currently

holding 30 percent surplus core capital, under the

capital monitoring framework created by our regulator,

until we return to timely financial reporting. As soon as

this requirement is lifted, we can and will consider

opportunities to enhance shareholder return.

motivates our employees, and has the support of our

nation. And we understand that being mission-driven is

not in tension with building shareholder value; rather, our

charter is a source of shareholder value.

Conclusion

I came to Freddie Mac with a mandate and a mind 

to take a great franchise, give it a new management

team, fix its accounting, improve its corporate governance, and make this a truly mission-driven company

whose relentless execution of its mission builds lasting

shareholder value. I won’t pretend this is an easy task,

just as I wouldn’t expect to turn an aircraft carrier on a
8

“

”

We have made good progress in 

putting our problems behind us 

and are becoming a better company for it.

dime. But I have met with a great many people during my

early months at Freddie Mac — shareholders, investors,

business partners, regulators, competitors, employees,

you name it. And it’s striking that virtually every one of

them sees us as a company with a vital public mission

and bright long-term prospects. These people are right

on the mark. We have made good progress in putting

our problems behind us and are becoming a better

company for it.

And as we move forward, let’s remember that Freddie

Mac’s mission is not a headwind for this company. It is

a tailwind. Because our greatest gift from Congress is

our clarity of mission. It means that all of us who serve

Freddie Mac, from the board to the senior officers to

middle managers to rank-and-file employees, are fortunate. By virtue of our clear public mission — and the

market means by which we are chartered to achieve

it — Freddie Mac does well precisely by doing good.

That is more than a proposition about our values. It is a

value proposition.

Sincerely,

Richard F. Syron

Chairman and Chief Executive Officer

BOARD OF DIRECTORS (as of September 1, 2004)*

Richard F. Syron Henry Kaufman

Chairman and Chief Executive OÇcer President

Freddie Mac Henry Kaufman & Company, Inc.

McLean, Virginia An economic and Ñnancial consulting and

Joan E. Donoghue investment management Ñrm

New York, New York Senior Vice President and Principal

Deputy General Counsel William I. Ledman Freddie Mac Senior Vice President of Information Systems McLean, Virginia and Services

Michelle Engler Freddie Mac

Trustee McLean, Virginia

JNL Investor Series Trust

and Member of Board of Managers John B. McCoy

JNL Variable Funds Retired Chairman and Chief Executive OÇcer

Both investment companies Bank One Corporation

Lansing, Michigan A Ñnancial services company

Columbus, Ohio Richard Karl Goeltz

Retired Vice Chairman and Chief Financial OÇcer Shaun F. O'Malley

American Express Company Chairman Emeritus

A Ñnancial services company Price Waterhouse LLP

New York, New York An accounting and consulting Ñrm

George D. Gould Philadelphia, Pennsylvania

Vice Chairman

Ronald F. Poe Klingenstein, Fields & Company, LP President An investment management Ñrm Ronald F. Poe & Associates New York, New York A mortgage banking company Thomas S. Johnson White Plains, New York Chairman and Chief Executive OÇcer

GreenPoint Financial Corporation Stephen A. Ross

A financial services company Professor

New York, New York Massachusetts Institute of Technology

Cambridge, Massachusetts

William J. Turner

Manager

Signature Capital, Inc.

A venture capital investment Ñrm

Winnetka, Illinois

* Freddie Mac's enabling legislation establishes the membership of the Board of Directors at 18 directors: 13 directors elected by the

stockholders and 5 directors appointed by the President of the United States. Prior to our March 31, 2004 Annual Meeting, the OÇce

of Counsel to the President informed us that the President did not intend to reappoint any of his then-current presidential appointees.

Consequently, each of their terms as presidential appointees ended on the date of that annual meeting. No new appointees have been

named by the President as of September 1, 2004.
SENIOR MANAGEMENT (as of September 1, 2004)

Richard F. Syron Ì Chairman and Chief Executive Michael W. Hager Ì Senior Vice President,

OÇcer Human Resources

Eugene M. McQuade Ì President and Chief Oper- William I. Ledman Ì Senior Vice President,

ating OÇcer Information Systems and Services

Martin F. Baumann Ì Executive Vice President, Jerome T. Lienhard Ì Senior Vice President,

Finance and Chief Financial OÇcer Debt and Equity Financing

Ralph F. Boyd, Jr. Ì Executive Vice President, Stanley J.D. Martin Ì Senior Vice President

General Counsel and Corporate Secretary and General Auditor

Patricia L. Cook Ì Executive Vice President, Michael C. May Ì Senior Vice President,

Investments Mortgage Sourcing, Operations and Funding

David A. Andrukonis Ì Senior Vice President Hollis S. McLoughlin Ì Senior Vice President

and Chief Enterprise Risk OÇcer and Chief of StaÅ

Donald J. Bisenius Ì Senior Vice President, Credit Milton Moore Ì Senior Vice President,

Policy and Portfolio Management Technology Infrastructure and Operations

Margaret A. Colon Ì Senior Vice President and Dwight P. Robinson Ì Senior Vice President,

Chief Administrative OÇcer Corporate Relations

Adrian B. Corbiere Ì Senior Vice President, Raymond G. Romano Ì Senior Vice President,

Multifamily Credit Risk Oversight

Catherine M. Dondzila Ì Senior Vice President, David H. Stevens Ì Senior Vice President,

Investments and Capital Markets Accounting Mortgage Sourcing

Joan E. Donoghue Ì Senior Vice President and Robert Y. Tsien Ì Senior Vice President,

Principal Deputy General Counsel Mission Division

Nazir G. Dossani Ì Senior Vice President, Jerry Weiss Ì Senior Vice President and Chief

Investments and Capital Markets Compliance OÇcer

Cindy Gertz Ì Senior Vice President, John F. Woods Ì Senior Vice President and

Operational Risk Oversight Principal Accounting OÇcer

Edward L. Golding Ì Senior Vice President,

Capital Oversight and Economics
INFORMATION STATEMENT

AND

ANNUAL REPORT TO STOCKHOLDERS

For the Ñscal year ended December 31, 2003

Freddie Mac is a stockholder-owned, government-sponsored enterprise, or GSE, established by Congress

to provide a continuous Öow of funds for residential mortgages. We perform this function primarily by buying

and guaranteeing residential mortgage loans and mortgage-related securities, which we Ñnance by issuing

mortgage-related securities, debt securities and equity securities. Our securities are not required to be

registered under the Securities Act of 1933 or the Securities Exchange Act of 1934 and we are not currently

required to Ñle periodic reports with the Securities and Exchange Commission under the Exchange Act.

However, we are committed to the voluntary registration of our common stock under the Exchange Act,

which we expect to complete once we return to timely Ñnancial reporting. We alone are responsible for making

payments on our securities. Neither the United States nor any other agency or instrumentality of the United

States is obligated to fund our mortgage purchase or Ñnancing activities or to guarantee our securities or other

obligations.

The publication of this Information Statement and Annual Report, or Information Statement, has been

delayed signiÑcantly, as a result of the ongoing controls remediation and systems re-engineering and

development necessary to return to timely Ñnancial reporting following the previous revision and restatement

of our Ñnancial results for 2002, 2001 and 2000. For more details, see ""EXPLANATORY NOTE.''

This Information Statement contains important Ñnancial and other information about Freddie Mac. The

Information Statement will be supplemented periodically. All available supplements should be read together

with this Information Statement. We also provide information about the securities we issue in the OÅering

Circular for each securities program and any supplement for each particular oÅering. You can obtain copies of

the Information Statement, OÅering Circulars, all available supplements, Ñnancial reports and other similar

information by visiting our Internet website (www.FreddieMac.com) or by writing or calling us at:

Freddie Mac

Investor Relations Department

1551 Park Run Drive

McLean, Virginia 22102-3110

Telephone: 1-800-FREDDIE (800-373-3343) or 571-382-4732

Our principal oÇces are located at 8200 Jones Branch Drive, McLean, Virginia 22102

(telephone: 703-903-2000).

THIS INFORMATION STATEMENT IS DATED SEPTEMBER 24, 2004
TABLE OF CONTENTS

Page

EXPLANATORY NOTE ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 1

BUSINESSÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 3

Financial Information about Segments ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 3

Business Overview ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 4

Market Overview ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 8

Mortgage Purchase and Guarantee Activity ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 11

The To Be Announced Market ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 13

ResecuritizationÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 13

Portfolio Investment ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 15

PC Market-Making and Support ActivitiesÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 16

Mortgage Security Performance and Other Market Support Activities ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 17

Regulation and Governmental Relationships ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 18

PROPERTIES ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 23

LEGAL PROCEEDINGS ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 23

SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERSÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 24

MARKET PRICE FOR THE COMPANY'S COMMON EQUITY AND RELATED STOCKHOLDER MATTERS ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 25

FORWARD-LOOKING STATEMENTSÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 27

SELECTED FINANCIAL DATA ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 29

MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL

CONDITION AND RESULTS OF OPERATIONS ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 30

EXECUTIVE SUMMARY ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 30

CRITICAL ACCOUNTING POLICIES ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 37

CONSOLIDATED RESULTS OF OPERATIONS ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 45

CONSOLIDATED BALANCE SHEETS ANALYSIS ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 69

AVERAGE CONSOLIDATED BALANCE SHEETS AND RATE/VOLUME

ANALYSIS ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 73

CONSOLIDATED FAIR VALUE BALANCE SHEETS ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 76

VOLUME STATISTICS ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 80

LIQUIDITY AND CAPITAL RESOURCES ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 84

OFF-BALANCE SHEET ARRANGEMENTS ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 93

RISK MANAGEMENT ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 96

Operational Risk ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 96

Interest-Rate and Other Market Risks ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 103

Credit Risks ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 122

QUARTERLY SELECTED FINANCIAL DATA ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 144

SUBSEQUENT ACCOUNTING REVISIONS ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 145

VOLUNTARY COMMITMENTS ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 146

CONSOLIDATED FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA ÏÏÏÏÏÏÏÏ 149

CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON

ACCOUNTING AND FINANCIAL DISCLOSURE ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 238

DIRECTORS AND EXECUTIVE OFFICERS ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 239

EXECUTIVE COMPENSATION ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 242

SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT

AND RELATED STOCKHOLDER MATTERS ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 242

CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 242

INDEMNIFICATION AND OTHER REIMBURSEMENTS OF DIRECTORS, OFFICERS

AND EMPLOYEES ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 242

PRINCIPAL ACCOUNTANT FEES AND SERVICES ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 242

CERTIFICATIONS ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 243

RATIOS OF EARNINGS TO FIXED CHARGES AND EARNINGS TO COMBINED

FIXED CHARGES AND PREFERRED STOCK DIVIDENDSÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 244

Freddie Mac

i
EXPLANATORY NOTE

This Information Statement contains forward-looking statements regarding our current expectations

about objectives for Ñnancial reporting, future business plans, results of operations, Ñnancial condition, and

trends. Forward-looking statements do not relate to historical matters and involve known and unknown risks,

uncertainties and other factors, including those listed in the section titled ""FORWARD-LOOKING

STATEMENTS.'' We undertake no obligation to publicly update any forward-looking statement to reÖect

events or circumstances after the date of this Information Statement, or to reÖect the occurrence of

unanticipated events.

The publication of this Information Statement has been delayed signiÑcantly as a result of the ongoing

controls remediation and systems re-engineering and development necessary to return to timely Ñnancial

reporting following the previous revision and restatement of our Ñnancial results for 2002, 2001 and 2000.

Although we are addressing the operational weaknesses that are contributing to our current inability to release

Ñnancial results on a timely basis, uncertainty regarding the expected success, scope and timing of these

activities remains. See ""MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS, or MD&A, Ì RISK MANAGEMENT Ì Operational

Risk Ì Sources of Operational Risks.''

Our current objective is to provide quarterly and full-year Ñnancial results for 2004 by March 31, 2005.

Our delivery of both quarterly and full-year 2004 results in the Ñrst quarter of 2005 will enable us to resume

quarterly Ñnancial reporting in 2005 on a timetable to be announced later this year. This decision allows our

primary focus to be on our controls and systems remediation eÅorts (including those we are undertaking in

accordance with the consent order we entered into with the OÇce of Federal Housing Enterprise Oversight, or

OFHEO, discussed below) to address the material weaknesses and other deÑciencies in our internal controls

over Ñnancial reporting, as described in ""MD&A Ì RISK MANAGEMENT Ì Operational Risk.'' This

approach should permit us to complete a comprehensive assessment of the design of our internal controls

before the next earnings release, an important step in our ongoing remediation eÅorts. At the same time, we

expect to be able to make signiÑcant progress on our eÅorts to develop and build a fully capable systems

infrastructure. These combined eÅorts will facilitate our return to timely Ñnancial reporting, enabling us to

fulÑll our commitment to register our common stock with the SEC under the Exchange Act.

SigniÑcant systems revisions are still required as a result of our adoption of revised accounting policies

from the 2002 restatement and new accounting rules promulgated for 2003. While we have made substantial

progress, we face continuing challenges because of the prior deÑciencies in our accounting infrastructure and

the operational complexities caused by the volume of revised and new accounting policies we have adopted.

Because most of our new systems are still in development, our current accounting close processes for

period-end reporting are executed in two steps. First, we produce preliminary Ñnancial Ñgures using our

existing systems. Second, we adjust, or ""remeasure,'' those Ñgures using interim processes (which include

several dependencies on manual, or oÅ-line, accounting processes, as described in ""MD&A Ì RISK

MANAGEMENT Ì Operational Risk'') to bring the Ñgures into conformity with generally accepted

accounting principles, or GAAP. As a result, we must complete substantial validation and analytical review

procedures of our Ñnancial results to mitigate our current inability to rely extensively on more automated

internal controls.

The continued existence of material weaknesses in our internal controls over Ñnancial reporting and the

reliance on validation and analytical review procedures are highlighted by the fact that, in the course of the

2003 close process, we identiÑed a number of immaterial errors in our previously published results, which were

recorded as corrections in the Ñrst quarter of 2003. Although not material to the net income of 2003 or any

prior year's published results, these errors evidence the higher level of operational risk that we are addressing.

See ""MD&A Ì CONSOLIDATED RESULTS OF OPERATIONS Ì NON-INTEREST INCOME

(LOSS) Ì Other Income and Certain Prior Year Accounting Error Adjustments'' for more information.

Freddie Mac

1
We are devoting extraordinary resources to systems and controls initiatives and have made signiÑcant

progress. For example, we have implemented a controlled subledger system for our retained mortgage portfolio

that captures accounting data for our mortgage security investment activities, replacing what had been a much

more manual process dependent on end-user desktop systems. For the remainder of 2004 and into 2005, we

will continue to re-engineer and build systems to eliminate our current two-step accounting close processes.

We believe that our overall timetable is appropriate in that it contemplates the necessary additional

management due diligence processes for current Ñnancial reports in this challenging operating environment

and the signiÑcant requirements for controls remediation and systems re-engineering and development that are

needed to prepare us for the future. Our current plan is to brief the market, at least quarterly, beginning near

the end of October 2004, regarding our business and progress toward, and timetable for, timely Ñnancial

reporting.

While this Information Statement focuses on a presentation and analysis of our Ñnancial results for the

years 2003, 2002 and 2001, it also includes selected information about certain topics pertaining to the year

2004 that are not aÅected by our current inability to produce timely Ñnancial statements.

While we are not yet subject to the SEC's disclosure requirements with respect to this Information

Statement, we have attempted to comply with them to the extent possible. However, in some instances we

have departed from speciÑc SEC data requirements, principally in cases where we have provided data for

fewer years than would be required if we were an SEC registrant. The omission of this data primarily arises

because we have not restated our consolidated Ñnancial statements for periods prior to 2000. We do not believe

the omissions are material to an understanding of our results for the periods presented.

In addition, this Information Statement and the certiÑcations by our Chief Executive OÇcer and Chief

Financial OÇcer, which are based on the certiÑcations required of SEC registrants as to the accuracy and

completeness of the information and the fair presentation of the consolidated Ñnancial statements and other

Ñnancial information in periodic reports, do not address the eÅectiveness of our disclosure controls and

procedures. This is because an evaluation of the eÅectiveness of these controls and procedures was not

performed as of December 31, 2003. See ""MD&A Ì RISK MANAGEMENT Ì Operational Risk Ì

Sources of Operational Risks'' for additional information regarding our internal control weaknesses and

remediation eÅorts. On April 26, 2004, our Chief Executive OÇcer submitted to the New York Stock

Exchange the certiÑcation required by Section 303A.12(a) of the New York Stock Exchange, or NYSE,

Listed Company Manual regarding our compliance with the NYSE's corporate governance listing standards.

We released restated and revised Ñnancial statements for the years 2002, 2001 and 2000 on November 21,

2003 (collectively referred to as the ""restatement''). On December 10, 2003, we announced that we had

entered into a consent order and settlement generally resolving the investigation by OFHEO relating to our

restatement of prior Ñnancial results. Under the terms of the consent order, we are undertaking remedial

actions relating to governance, corporate culture, internal controls, accounting practices, disclosure and

oversight. See ""LEGAL PROCEEDINGS'' and ""NOTE 13: LEGAL CONTINGENCIES'' to the

consolidated Ñnancial statements for more information.

Freddie Mac

2
BUSINESS

Freddie Mac is one of the largest participants in the U.S. mortgage market. We are a stockholder-owned

GSE chartered by Congress on July 24, 1970 under the Federal Home Loan Mortgage Corporation Act, as

amended, which we refer to as the Freddie Mac Act or our charter.

Our statutory purposes are:

‚ To provide stability in the secondary market for residential mortgages;

‚ To respond appropriately to the private capital markets;

‚ To provide ongoing assistance to the secondary market for residential mortgages (including mortgages

on housing for low- and moderate-income families involving a reasonable economic return that may be

less than the return received on other activities) by increasing the liquidity of mortgage investments

and improving the distribution of investment capital available for residential mortgage Ñnance; and

‚ To promote access to mortgage credit throughout the U.S. (including central cities, rural areas and

other underserved areas) by increasing the liquidity of mortgage investments and improving the

distribution of investment capital available for residential mortgage Ñnance.

We fulÑll these statutory purposes primarily by purchasing residential mortgage loans and mortgagerelated securities from mortgage lenders and securities dealers, Ñnancing these purchases with debt, equity and

mortgage-related securities, and guaranteeing the payment of principal and interest on the mortgage-related

securities we issue. For purposes of this discussion, and as further described in ""Business Overview'' below, the

terms ""purchase'' and ""mortgage purchase'' encompass both the purchase of mortgages Ñnanced with debt

and equity securities and the issuance of guaranteed securities representing undivided interests in mortgage

loans and mortgage-related securities.

We purchase mortgages that Ñnance homes in every geographic region of the U.S. In this way, we reduce

the cost of homeownership and rental housing and improve the quality of life by making the American dream

of decent, accessible housing a reality. For more than three decades, we have been a successful competitor in a

large and consistently growing mortgage debt market.

Our principal oÇces are located in McLean, Virginia. We have additional oÇces in Washington, D.C.;

Reston, Virginia; Atlanta, Georgia; Chicago, Illinois; Dallas, Texas; New York, New York; and Woodland

Hills, California. As of August 25, 2004, we had 4,844 full-time and 150 part-time employees.

We do not currently Ñle periodic reports with the SEC, although we will begin to do so upon completion

of the voluntary registration of our common stock under the Exchange Act. We make our Ñnancial disclosure

documents available free of charge on our website. Our corporate governance guidelines, Codes of Conduct for

employees and members of the Board of Directors and the charters of the Board's Ñve standing committees,

(i.e., the Audit, Finance and Capital Deployment, Mission and Sourcing, Governance and Nominating, and

Compensation and Human Resources Committees) are also available on our website. Printed copies of these

documents may be obtained upon request. Our Internet address is www.FreddieMac.com. (We are providing

this Internet address solely for the information of interested persons. We do not intend this Internet address to

be an active link, and are not using references to this address here or elsewhere in this Information Statement

to incorporate additional information into this Information Statement.)

Financial Information about Segments

We did not meet the criteria for reporting business segments that are prescribed in Statement of Financial

Accounting Standards, or SFAS, No. 131, ""Disclosures About Segments of an Enterprise and Related

Information,'' or SFAS 131, for any period presented in this report. For example, we did not maintain, as

required by SFAS 131, discretely available and reliable Ñnancial information that we used to allocate internal

resources and to evaluate the performance of internal business units. As a result, we have determined that we

have only one business segment for Ñnancial reporting purposes.

Freddie Mac

3
Business Overview

We play a fundamental role in the American housing Ñnance system, linking the domestic mortgage

market and the global capital markets. In this role, we focus on the following strategies:

‚ Maintaining the lowest possible cost of Ñnancing for our mortgage investments by creating broader

and more liquid markets for our mortgage-related and debt securities;

‚ Delivering these low-cost funds to a broad spectrum of America's homeowners by bringing

innovation and eÇciency to the mortgage market; and

‚ Managing the operational risk, interest-rate risk, credit risk and other business and market risks

that arise from these business activities.

We participate in the secondary mortgage market principally by providing our credit guarantee for

residential mortgages originated by mortgage lenders, and investing in mortgages and mortgage-related

securities and holding them in our Retained portfolio. These activities, which include our credit guarantee

activities and our portfolio investment activities, are summarized below:

Credit Guarantee Activities We purchase residential mortgage loans originated by mortgage lenders as

well as mortgage-related securities. One of the means by which we fund purchases of mortgage loans is

through the use of securitization-based Ñnancing. That is, we fund the purchases of such Ñnancial assets by

issuing undivided interests in purchased mortgage loans and selling such interests to investors. Such undivided

interests are referred to as Mortgage Participation CertiÑcates, or PCs. Most of our credit guarantee activity

occurs through the Guarantor Program in the form of mortgage swap transactions. In a mortgage swap

transaction, a mortgage lender or other seller delivers mortgages to us in exchange for our PCs. Mortgage

lenders and other originators also sell mortgages to us for cash through our Cash Window Program. In these

cash transactions, we decide whether to hold the mortgage loans in our Retained portfolio and Ñnance them by

issuing debt and equity securities (portfolio investment), or sell them in the secondary market in the form of

PCs that carry our guarantee of payment of principal and interest (credit guarantee). Mortgages we purchase

for cash that we do not retain are pooled together with other mortgage loans we receive in connection with

MultiLender Swaps. MultiLender Swaps are PC swap-based transactions that we execute with various

lenders.

Our guarantee activities also involve the resecuritization of mortgage-related securities. In the resecuritization process, we issue securities representing undivided interests in PCs and certain other types of

mortgage-related securities. We refer to securities that we issue through our resecuritization activities as

Structured Securities. We resecuritize PCs, non-Freddie Mac mortgage-related securities and other already

issued Structured Securities. We commonly transfer Structured Securities to third parties in exchange for

either cash or the collateral underlying the Structured Securities (e.g., mortgage-related securities that thirdparty securities dealers deliver to us).

We provide a guarantee of the payment of principal and interest on tax-exempt multifamily housing

revenue bonds that support pass-through certiÑcates issued by third parties. These housing revenue bonds are

collateralized by mortgage loans on low- and moderate-income multifamily housing projects. In addition, we

guarantee the payment of principal and interest related to low- and moderate-income multifamily mortgage

loans that are originated and held by state and municipal agencies to support tax-exempt multifamily housing

revenue bonds. The unpaid principal amounts of the underlying mortgage loans are included within the

deÑnition of PCs and Structured Securities. For further details, see ""NOTE 4: FINANCIAL GUARANTEES'' to the consolidated Ñnancial statements. We guarantee payment of principal and interest on all issued

PCs and Structured Securities. Mortgage-related assets that back PCs and Structured Securities held by third

parties are not included in our consolidated Ñnancial statements. However, our obligation to provide the

payment of principal and interest on issued PCs and Structured Securities usually results in the recognition of

a guarantee asset and guarantee obligation on our consolidated balance sheets. For further details, see

""NOTE 1: SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES'' to the consolidated Ñnancial

statements.

Freddie Mac

4
Portfolio Investment We purchase mortgage loans and mortgage-related securities (including PCs and

Structured Securities we previously issued to third parties) and hold such securities in our Retained portfolio

for investment purposes. We Ñnance these purchases by issuing debt and equity securities. Portfolio

investments (including PCs in our Retained portfolio) are recorded on our consolidated balance sheets as

assets within our Retained portfolio.

Our Retained portfolio consists of our investments in mortgage loans and mortgage-related securities,

including PCs and Structured Securities we previously issued that we have acquired.

Figure 1 illustrates our basic credit guarantee and portfolio investment activities:

Figure 1

CREDIT GUARANTEE

SWAP TRANSACTION THROUGH THE GUARANTOR PROGRAM

Mortgage Loans

Mortgage 4 Freddie Mac Lenders PCs

1

CREDIT GUARANTEE

CASH TRANSACTION THROUGH THE CASH WINDOW PROGRAM

Mortgage Loans PCs

4 4 Securities Mortgage Freddie Mac Dealers and Lenders Cash Cash Investors

1 1

PORTFOLIO INVESTMENT

Mortgage-related

Securities Dealers, Securities and

Other Investors Freddie Mac Mortgage Loans Debt Security

and Mortgage Debt Investor 4 Freddie Mac 4

Lenders Cash Cash

1 1

Our total mortgage portfolio is an important measure of our business activity. It consists of:

‚ PCs and Structured Securities (which are Freddie Mac securities) we hold in our Retained

portfolio;

‚ Non-Freddie Mac mortgage-related securities we hold in our Retained portfolio, including

securities issued by the Federal National Mortgage Association, or Fannie Mae, securities

guaranteed by the Government National Mortgage Association, or Ginnie Mae, non-agency

securities and obligations of states and political subdivisions;

‚ Mortgage loans we hold in our Retained portfolio;

‚ PCs and Structured Securities we hold for our PC market-making and support activities; and

‚ PCs and Structured Securities that third parties hold.

Freddie Mac

5
Table 1 provides information about the composition of our total mortgage portfolio as of December 31,

2003 and 2002 based on unpaid principal balances. Our total mortgage portfolio as presented in Table 1

includes the unpaid principal balances of mortgages and mortgage-related securities held in our Retained

portfolio and the balance of PCs and Structured Securities held by third parties, or Outstanding PCs and

Structured Securities, which are not included on our consolidated balance sheets. For the purposes of Table 1,

the unpaid principal balances only reÖect all PCs issued and that portion of Structured Securities backed by

non-Freddie Mac mortgage-related securities. The unpaid principal balances of Structured Securities

representing the resecuritization of PCs or previously issued Structured Securities are excluded because these

issuances do not signiÑcantly increase our credit exposure or expected future cash Öows.

Freddie Mac

6
Table 1 Ì Freddie Mac's Total Mortgage Portfolio Based on Unpaid Principal Balances(1)(2)

December 31,

2003 2002

% of % of

Total Total

Dollars in Mortgage Dollars in Mortgage

Millions Portfolio Millions Portfolio

Outstanding PCs and Structured Securities(3)(4) ÏÏÏÏÏÏÏ $ 752,164 53% $ 729,809 55%

Retained portfolio:

PCs and Structured Securities ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 393,135 28 341,287 26

Non-Freddie Mac mortgage-related securities:

Agency mortgage-related securities ÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 77,289 6 83,707 6

Non-agency mortgage-related securities ÏÏÏÏÏÏÏÏÏÏ 114,772 8 78,392 6

Total non-Freddie Mac mortgage-related securities ÏÏ 192,061 14 162,099 12

Mortgage loans ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 60,270 4 63,886 5

Total Retained portfolio(5) ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 645,466 46 567,272 43

PCs and Structured Securities in the Cash and

investments portfolio(4)(6) ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 16,769 1 19,528 2

Total mortgage portfolio ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ $1,414,399 100% $1,316,609 100%

Total PCs issued and Structured Securities(7)(8) ÏÏÏÏÏÏÏ $1,162,068 $1,090,624

(1) Excludes mortgage loans and mortgage-related securities traded, but not yet settled.

(2) Due to the nature of security program remittance cycles of PCs and Structured Securities, the unpaid principal balances of the

underlying mortgage loans do not always equal the unpaid principal balance of issued PCs and Structured Securities. See

""NOTE 1: SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES Ì Due to Participation CertiÑcate Investors'' to the

consolidated Ñnancial statements for more information.

(3) Represents PCs and Structured Securities that are held by third parties.

(4) Subsequent to the announcement of our 2003 Ñnancial results in our Information Statement Supplement dated June 30, 2004, we

revised the balance of PCs and Structured Securities in the Cash and investments portfolio due to a calculation error. The eÅect of

this change was a $584 million decrease in PCs and Structured Securities in the Cash and investments portfolio at December 31,

2002 and a corresponding increase in Outstanding PCs and Structured Securities. The consolidated Ñnancial statements were not

aÅected by this revision.

(5) The Retained portfolio presented in this table diÅers from the Retained portfolio presented in our consolidated balance sheets

because the consolidated balance sheet caption includes valuation adjustments (e.g., fair value adjustments for securities classiÑed as

available for sale and trading and the Reserve for losses on mortgage loans held for investment) and deferred balances (e.g.,

premiums and discounts). ""Table 2 Ì Reconciliation of Retained Portfolio Unpaid Principal Balances to the Consolidated Balance

Sheets'' below provides a reconciliation of the Retained portfolio amounts shown in this table to the amounts shown under such

caption in accordance with GAAP on our consolidated balance sheets.

(6) Represents PCs and Structured Securities we hold in connection with PC market-making and support activities, which are reÖected

in Investments on our consolidated balance sheets.

(7) As further discussed in ""NOTE 4: FINANCIAL GUARANTEES'' to the consolidated Ñnancial statements, these amounts

include:

‚ $4,729 million and $8,561 million of Structured Securities backed by Ginnie Mae CertiÑcates at December 31, 2003 and

2002, respectively.

‚ $5,044 million and $4,643 million at December 31, 2003 and 2002, respectively, that pertain to our guarantee of the payment

of principal and interest on (a) tax-exempt multifamily housing revenue bonds that support pass-through certiÑcates issued

by third parties and (b) multifamily mortgage loans that are originated and held by state and municipal agencies to support

tax-exempt multifamily housing revenue bonds.

‚ $2,278 million and $Ó0Ó at December 31, 2003 and 2002, respectively, of single-family mortgage loans held by third parties

for which we provided a credit guarantee.

(8) PCs and Structured Securities (including single-class and multi-class securities, as deÑned in ""Table 3 Ì Freddie Mac Single-Class

and Multi-class PCs and Structured Securities Based on Unpaid Principal Balances'') exclude $637,491 million and $752,671 million at December 31, 2003 and 2002, respectively, of Structured Securities where we have resecuritized PCs and other previously

issued Structured Securities. These excluded Structured Securities do not increase our credit related exposure and consist of singleclass Structured Securities backed by PCs, Real Estate Mortgage Investment Conduits, or REMICs and principal-only strips. The

notional balance of interest-only strips of $91,192 million and $113,654 million at December 31, 2003 and 2002, respectively, is

excluded because this table is based on unpaid principal balances. Also excluded are modiÑable and combinable REMIC tranches

and Interest and Principal classes, which collectively totaled $988,600 million and $1,301,666 million at December 31, 2003 and

2002, respectively, where the holder has the option to exchange the security tranches for other pre-deÑned security tranches. See

""Resecuritization'' for more information on Structured Securities.

Freddie Mac

7
Table 2 provides a reconciliation of the Retained portfolio unpaid principal balances to the amount shown

on our consolidated balance sheets.

Table 2 Ì Reconciliation of Retained Portfolio Unpaid Principal Balances to the Consolidated Balance

Sheets

December 31,

2003 2002

(dollars in millions)

Mortgage loans in the Retained portfolio:

Unpaid principal balances ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ $ 60,270 $ 63,886

Premiums, discounts, deferred fees and other basis adjustments(1) ÏÏÏÏÏÏÏÏÏÏÏÏ 64 232

Less: Reserve for losses on mortgage loans held for investment ÏÏÏÏÏÏÏÏÏÏÏÏÏÏ (174) (177)

Mortgage loans, net of reserve per consolidated balance sheets ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 60,160 63,941

Mortgage-related securities in the Retained portfolio:(2)

Unpaid principal balances(3) ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 585,196 503,386

Premiums, discounts, deferred fees and other basis adjustments(4) ÏÏÏÏÏÏÏÏÏÏÏÏ 4,729 3,463

Net unrealized gains on mortgage-related securities ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 9,601 18,520

Participation CertiÑcate residuals at fair value ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 671 412

Mortgage-related securities per consolidated balance sheetsÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 600,197 525,781

Total Retained portfolio per consolidated balance sheets ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ $660,357 $589,722

(1) Other basis adjustments primarily relate to valuation adjustments for loans held for sale, as well as basis adjustments related to

hedging activities. Basis adjustments are modiÑcations to the carrying value of these mortgage loans.

(2) Includes PCs, Structured Securities and non-Freddie Mac mortgage-related securities.

(3) Includes other-than-temporary impairments of certain securities. Impairments to unpaid principal balances are recorded in certain

circumstances when the fair value declines below the amortized cost basis of a security.

(4) Other basis adjustments are related to hedging activities, certain impairments related to interest-only securities and the Day One

DiÅerences (as deÑned in ""NOTE 1: SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES'' to the consolidated

Ñnancial statements) that correspond to PCs and Structured Securities that we purchase. Basis adjustments are modiÑcations to the

carrying value of these securities.

Our Cash and investments portfolio, which primarily consists of non-mortgage-related securities, is not

included in our Retained portfolio. Our Cash and investments portfolio includes investments we acquire to

manage recurring cash Öows, provide a source of liquidity, temporarily deploy capital until the capital can be

redeployed into Retained portfolio investments and manage interest-rate risk exposure. The Cash and

investments portfolio also includes certain mortgage-related securities, which are not included in the Retained

portfolio since they are held in conjunction with our PC market-making and support activities.

For information regarding the sources of our revenues and net income, including derivative and

investment gains (losses) and expenses, see ""MD&A Ì CONSOLIDATED RESULTS OF

OPERATIONS.''

Market Overview

We conduct business in the U.S. residential mortgage market and the global securities market. Our

participation in these markets links America's homebuyers with the world's capital markets. Total U.S.

residential mortgage debt outstanding exceeded $7.7 trillion and $6.8 trillion at December 31, 2003 and 2002,

respectively. Mortgage debt outstanding has grown every year since the end of World War II and grew at a

13 percent rate in 2003 and a 12 percent rate in 2002, even though some other indicators of economic growth

slowed during these same periods.

In general terms, the U.S. residential mortgage market consists of a primary mortgage market that links

homebuyers and lenders, and a secondary mortgage market that links lenders and investors. In the primary

market, residential mortgage lenders such as mortgage banking companies, commercial banks, savings

institutions and credit unions originate or provide mortgages to borrowers. They obtain the funds they lend to

Freddie Mac

8
mortgage borrowers in a variety of ways, including selling mortgages into the secondary market. Our charter

does not permit us to originate loans in the primary mortgage market.

The secondary market consists of institutions engaged in buying and selling mortgages in the form of

whole loans (i.e., mortgages that have not been securitized) and mortgage-related securities. The magnitude

of investment and trading activity in the secondary mortgage market supports a continuous Öow of funds to the

primary market. This stable Öow of funds helps moderate cyclical swings in the housing market and provides

for mortgage funds to be available at all times.

Various other participants also play signiÑcant roles in the residential mortgage market. Mortgage brokers

advise prospective borrowers about mortgage products and lending rates, and they connect borrowers with

lenders. Mortgage servicers administer mortgage loans by collecting payments of principal and interest from

borrowers as well as amounts related to property taxes and insurance. Mortgage servicers remit the principal

and interest payments to us, less a servicing fee, and for mortgages we have securitized, we pass these

payments through to mortgage investors, less a fee we charge to guarantee the payment of principal and

interest and administer payments. The servicing fee charged by mortgage servicers varies by mortgage

product. As of December 31, 2003, the required minimum percentage fee typically retained by our singlefamily servicers was 0.25 percent of the unpaid principal balance of the mortgage loans. Mortgage servicers

also help us manage our loss mitigation and foreclosure process for mortgages that we own or guarantee. In

addition, private mortgage insurance companies and other Ñnancial institutions sometimes provide third-party

insurance for mortgage loans or pools of loans. Our charter requires third-party insurance or other credit

protections on some loans that we purchase.

Freddie Mac and Fannie Mae are the largest participants in the U.S. secondary mortgage market.

Freddie Mac and Fannie Mae are both GSEs with the public purpose of increasing the supply and availability

of home mortgage Ñnancing. As discussed below, our statutory mission requires us to participate in the

conforming mortgage market at all times. By contrast, non-GSE market participants are free to enter and exit

the mortgage market as part of business strategies that allow them to pursue multiple lines of business in a

variety of economic conditions.

Freddie Mac and Fannie Mae have charters that prohibit them from originating mortgage loans and limit

them to purchasing mortgages with original principal balances at or below prescribed dollar limits. These

limits are referred to as conforming loan limits and are subject to annual adjustment based on an index of

national average house prices and in accordance with a procedure established by OFHEO. The conforming

loan limit for a Ñrst-lien conventional single-family mortgage in 2003 was $322,700 for a one-family residence,

$413,100 for a two-family residence, $499,300 for a three-family residence and $620,500 for a four-family

residence. For 2004, the conforming loan limit is $333,700 for a one-family residence, $427,150 for a twofamily residence, $516,300 for a three-family residence and $641,650 for a four-family residence. The

conforming loan limit for second-lien mortgages on one-family residences is 50 percent of the limit for Ñrstlien mortgages on such residences. When we purchase both the Ñrst-lien and second-lien mortgage on the

same property, the total amount that we purchase may not exceed the applicable conforming Ñrst-lien loan

limit. The applicable conforming loan limits are 50 percent higher for mortgages secured by properties in

Alaska, Guam, Hawaii and the U.S. Virgin Islands. No comparable limits apply to multifamily mortgage

purchases.

The Freddie Mac Act also prohibits us from purchasing Ñrst-lien conventional (that is, not guaranteed or

insured by any agency or instrumentality of the U.S. government) single-family mortgages if the outstanding

principal balance at the time of purchase exceeds 80 percent of the value of the property securing the

mortgage, unless we have one or more of the following credit protections: mortgage insurance from an

approved mortgage insurer; a seller's agreement to repurchase or replace (for periods and under conditions as

we may determine) any mortgage in default; or retention by the seller of at least a ten percent participation

interest in the mortgages. This requirement does not apply to multifamily mortgages or to mortgages insured

by the Federal Housing Administration, or FHA, or partially guaranteed by the Department of Veterans

AÅairs, or VA.

Freddie Mac

9
Under the Freddie Mac Act, so far as practicable, we may only purchase mortgages that are of a quality,

type and class that generally meet the purchase standards of private institutional mortgage investors. This

means the mortgages we purchase must be readily marketable to institutional mortgage investors.

While we compete in the secondary mortgage market primarily with Fannie Mae, we also compete with

other Ñnancial institutions that retain or securitize mortgages, such as banks, dealers and thrift institutions,

and with the Federal Home Loan Banks. Competition from these entities can vary with economic, Ñnancial

market and regulatory environments. Among other things, these factors may aÅect the degree to which

depository and other institutions sell mortgages in the secondary market rather than retain them in their own

portfolios.

During 2003, we estimate that approximately $2.8 trillion of conventional, conforming single-family

mortgages were originated in the U.S. and that Freddie Mac and Fannie Mae purchased 25 percent and

42 percent of that amount, respectively. During 2002, we estimate that approximately $2.0 trillion of

conventional, conforming single-family mortgages were originated in the U.S. and that Freddie Mac and

Fannie Mae purchased 26 percent and 32 percent of that amount, respectively. The relatively high market

share of Freddie Mac and Fannie Mae resulted from the high level of reÑnance activity in 2003 and 2002 as a

consequence of declining interest rates and a strong demand for Ñxed-rate mortgage products, which loan

originators tend to deliver to Freddie Mac and Fannie Mae.

We also compete in the global securities market as an issuer of mortgage-related and debt securities. Our

securities have a number of attributes that help us operate eÇciently and on a large scale in both our mortgage

securitization and debt Ñnancing activities. These attributes include the high credit quality and liquidity of our

securities. They also include legal attributes under our charter and other federal laws and regulations. These

legal attributes, which facilitate our development and maintenance of the liquid markets that are essential to

fulÑlling our Congressional mandate, are described in ""Regulation and Governmental Relationships Ì

Legislative Matters Ì Congressional Charter'' below.

Our purchases of mortgage loans and issuances of mortgage-related and debt securities may be aÅected

by a variety of legislative and regulatory actions related to the activities of banks, savings institutions,

insurance companies, securities dealers and other regulated entities that comprise a signiÑcant part of our

customer base. Among the legislative and regulatory provisions applicable to these entities are:

‚ Regulatory capital requirements for federally insured depository institutions and regulated bank

holding companies; for example, the Basel Committee on Banking Supervision, composed of

representatives of certain central banks and bank supervisors, is developing a new set of risk-based

capital standards for banking organizations. The U.S. banking regulators have proposed to adopt

the new capital standards for certain banking organizations by January 1, 2007 and have solicited

public comments regarding the manner of such implementation. If Ñnal rules adopted by the U.S.

banking regulators revise the treatment of mortgage assets, decisions by U.S. banking organizations about whether to hold or sell such assets could be aÅected. However, the contents and timing

of any Ñnal rules remain uncertain, as does the manner in which U.S. banking organizations may

respond to them.

‚ Limitations on investments by federally insured depository institutions in certain types of

mortgage securities; and

‚ Legislation and regulations regarding the subprime lending activities of federally insured depository institutions.

To the extent that legislative or regulatory provisions create or remove incentives for these entities either

to sell mortgage loans to us or to purchase our securities, they could have a material eÅect on our business

results.

Freddie Mac

10
Mortgage Purchase and Guarantee Activity

We purchase single-family mortgages mainly from mortgage bankers, dealers, insurance companies and

federally insured Ñnancial institutions. We purchase multifamily mortgages from mortgage lenders, including

federally insured Ñnancial institutions, mortgage bankers, investment bankers and insurance companies.

Our single-family mortgage products, services and initiatives are designed to provide a steady source of

low-cost mortgage funding to America's homebuyers. Our multifamily mortgage products, services and

initiatives are designed primarily to Ñnance rental housing aÅordable to low- and moderate-income families.

A signiÑcant portion of our single-family mortgage purchase volume is generated from several large

mortgage lenders. During 2003, Wells Fargo Home Mortgage, Inc., ABN Amro Mortgage Group, Inc.,

Principal Residential Mortgage Inc., and Chase Manhattan Mortgage Corporation together accounted for

approximately 58 percent of our mortgage volume. Wells Fargo was the largest source and accounted for

approximately 33 percent of our mortgage purchase volume in 2003, while ABN Amro, our second largest

source, accounted for approximately 12 percent of our mortgage purchase volume. We have contracts with

some of these lenders that include a commitment by the lender to sell us a minimum share or dollar amount of

its conventional conforming mortgage origination volume. Because the typical length of these contracts is one

year, some of the contracts may expire in close proximity to each other at any given time. We actively monitor

these lenders' share volume and if a mortgage lender fails to meet its contractual commitment, we have a

variety of contractual protections, including the assessment of certain fees.

We are exposed to the risk that we will lose signiÑcant business volume and will be unable to replace this

business if one or more of these key lenders chooses to signiÑcantly reduce the volume of mortgages it delivers

to us or if a lender ceases to exist because of a merger or an acquisition. For example, in 2003, one mortgage

lender that has historically provided us with signiÑcant business volume, Bank of America, N.A., substantially

reduced its deliveries to us. In addition, Principal Residential Mortgage Inc., one of our top mortgage lenders,

was acquired by Citigroup Inc. in 2004. The loss of any one of our key lenders could adversely aÅect our

market share, our revenues, the use of our technology by participants in the mortgage market and the

performance of our mortgage-related securities. We believe that we would be able to recover from a signiÑcant

decrease in, or loss of, business volume from one or more of our largest customers, through such means as

strengthening our relationships with other major lenders and servicers or modifying our business strategies.

This anticipated recovery, however, might not occur quickly or at all.

Single-Family Mortgages

Single-family mortgages are mortgages secured by one- to four-family properties. We purchase singlefamily mortgages of various types, including 30-year, 20-year, 15-year and 10-year Ñxed-rate mortgages,

adjustable-rate mortgages, or ARMs, and balloon/reset mortgages. The substantial majority of the mortgages

we purchase are conventional mortgages. However, we purchase some mortgages that are fully insured by the

FHA and the Rural Housing Services, or RHS, and some mortgages that are partially guaranteed by the VA.

Single-family mortgages generally are subject to our internal credit policies and the credit, appraisal,

underwriting and other purchase policies and guidelines incorporated into Loan Prospector» (our automated

underwriting system) and set forth in our Single-Family Seller/Servicer Guide. However, we may modify or

grant waivers to these policies and guidelines.

Multifamily Mortgages

We purchase multifamily mortgages, which are secured by structures with Ñve or more units designed

principally for residential use, with terms generally ranging from Ñve to 30 years from approved lenders. We

have established multifamily mortgage credit, appraisal and underwriting guidelines as set forth in our internal

credit policies and our Multifamily Seller/Servicer Guide. We may modify these guidelines or grant waivers

for some multifamily mortgages when compensating factors (such as higher debt coverage ratios or credit

enhancements) are present.

Freddie Mac

11
Credit Guarantee

We typically assume the mortgage credit risk on mortgages underlying PCs by guaranteeing the payment

of principal and interest to PC holders. We manage this risk carefully, sharing the risk in some cases with third

parties through the use of primary loan-level mortgage insurance, insurance on pools of mortgage loans

(known as ""pool insurance'') and other credit enhancements. See ""MD&A Ì RISK MANAGEMENT Ì

Credit Risk'' for more information.

As we expand our business activities in the aÅordable housing sector of the mortgage market in support of

our statutory mission, we anticipate that some of the mortgages we will purchase through these activities may

present a higher risk of default loss than the mortgages we purchased in previous years. We expect to utilize

our experience in mortgage underwriting and credit risk assessment to manage this increased risk eÅectively.

Additions made to date to the scope of our mortgage purchases in the aÅordable housing sector are not

expected to materially increase credit losses above the range generally assumed in pricing our mortgage

purchases. We believe that if the U.S. Department of Housing and Urban Development, or HUD, adopts

revised aÅordable housing goals as it has proposed, or if market conditions reduce the percentage of our

routine mortgage purchases that are goal-eligible, these factors could adversely aÅect our future results of

operations, due to increased credit losses on purchases of goal-qualifying mortgages, less favorable pricing of

such purchases, or reduced purchases of non-goal-qualifying mortgages. See ""Regulation and Governmental

Relationships Ì Regulatory Matters.''

We form PCs under our Mortgage Participation CertiÑcates Agreement, which we refer to as the PC

Agreement, among Freddie Mac and the holders of our PCs. The PC Agreement describes the manner in

which mortgages are transferred to a pool and, upon issuance of a PC, an undivided interest in the mortgages

in the pool is conveyed to the holder of the PC. The PC Agreement also describes our obligations as guarantor

of principal and interest on the PCs, and the manner in which those payments are passed through to the PC

holders. In addition, the PC Agreement describes the rights of the PC holders in the event of our default.

Once mortgages are placed in a pool, the mortgages cannot be removed from the pool except in limited

circumstances speciÑed in the PC Agreement. We generally begin a process to repurchase defaulted

mortgages when they have been identiÑed as being delinquent for 120 consecutive days. We then hold these

repurchased mortgages in our Retained portfolio. In order to manage and resolve troubled assets and lower

credit losses, we utilize a number of loss mitigation strategies, which emphasize early intervention in

delinquent mortgages and alternatives to foreclosure. See ""MD&A Ì RISK MANAGEMENT Ì Credit

Risk Ì Mortgage Credit Risk Ì Mortgage Credit Risk Management Strategies Ì Loss Mitigation Activities''

for more information.

OFHEO is our safety and soundness regulator. If we were to experience signiÑcant Ñnancial diÇculties

and the Director of OFHEO were to appoint a conservator, we believe, based on an opinion of counsel

analyzing various provisions in the Federal Housing Enterprises Financial Safety and Soundness Act of 1992,

or the GSE Act, and other relevant law, that the proportional undivided interests of the PC holders would be

preserved and borrowers' payments and other recoveries on the mortgage loans would continue to be passed

through to the PC holders. Payments due to PC holders pursuant to our guarantees could be made only from

our general funds to the extent and so long as they were available. If we were unable to meet our guarantee

obligations, the primary sources of funds available to investors would be payments by mortgage borrowers and

recoveries related to properties securing the mortgage loans. In that case, payments to the PC holders could be

adversely aÅected by loan delinquencies and defaults. See ""Regulation and Governmental Relationships'' for

more information about OFHEO.

The proÑtability of our credit guarantee activities and our ability to compete for mortgage purchases and

guarantee business tend to be aÅected, and may be aÅected signiÑcantly, by the price diÅerence, or spread,

between our PCs and competing securities, primarily those issued by Fannie Mae. See ""PC Market-Making

and Support Activities'' for more information. Other key factors aÅecting the proÑtability of credit guarantee

activities include credit-related expenses, the costs incurred to administer PC pools, and timing diÅerences in

our receipt of principal and interest payments from mortgage servicers and the subsequent pass through of

payments to PC investors, which we refer to as ""security program cycles.''

Freddie Mac

12
The To Be Announced Market

Most of the PCs we issue represent pools of mortgages that have similar characteristics Ó such as PCs

comprising 30-year fully amortizing Ñxed-rate mortgages with mortgage coupons within a speciÑed range.

Because these PCs are homogeneous and are issued in high volume, they are highly liquid and trade on a

""generic'' basis, also referred to as trading in the To Be Announced, or TBA, market. A TBA trade represents

a contract for the purchase or sale of PCs to be delivered at a future agreed-upon date; however, the speciÑc

PCs, and thus the speciÑc characteristics of the mortgages underlying those PCs, that will be delivered to

fulÑll the trade obligation are not known (i.e., ""announced'') at the time of the trade, but only subsequently

when the trade is to be settled.

Any two (or more) market participants may be involved as parties to a TBA trade. Counterparties to a

particular trade may include: mortgage originator to dealer, dealer to dealer, dealer to investor, institution to

institution, or parties dealing through an electronic trading system Ó anonymous or not. While the majority of

TBA trades are performed manually, with purchases and sales occurring through direct contact between or

among the parties to the trade, broker-dealers often trade as anonymous participants through an inter-dealer

broker or electronic trading system.

Purchases and sales of TBA-eligible PCs occur daily. Prices are generally quoted and accepted based only

upon the name of the issuer (e.g., Freddie Mac), the type of PC (e.g., 30-year Ñxed rate), the coupon of the

PC, the quantity and the settlement month, all of which is similar to the manner in which U.S. Treasury

securities are quoted. Each type of TBA trade has a single designated settlement date in each month, and 48

hours before the settlement date the parties identify the speciÑc PCs to be delivered to fulÑll the TBA trade

obligation. During 2003 and 2002, we issued approximately $564 billion and $434 billion, respectively, of PCs

that were eligible to be delivered to settle TBA trades, representing approximately 80 percent and 81 percent,

respectively, of our total PC issuances.

Lenders use the TBA market to hedge the risk of changes in the fair value of mortgage loans caused by

Öuctuations in mortgage interest rates that occur after the lender ""locks in'' a mortgage interest rate with a

borrower, but before the mortgage loan is originated. When a lender locks in a rate for a borrower, the lender

may sell PCs in the TBA market. After the lender originates the mortgages, it delivers the mortgages to us in a

swap transaction and receives PCs in return. Those PCs can then be used to settle the TBA trade, or the

lender can settle the trade with any of our other existing PCs that meet the generic terms of the trade.

We also use the TBA market to hedge cash transactions. When a lender commits to deliver mortgages to

us in exchange for cash at a speciÑed price, we may sell PCs in the TBA market for delivery at a future date.

By using the TBA market, we can hedge the risk of Öuctuations in interest rates by locking in the price at

which we will sell the PCs that will ultimately be formed from the mortgages we purchase from lenders in cash

transactions.

These uses of the TBA market by lenders, dealers, investors and us increase the liquidity of mortgage

investments and improve the distribution of investment capital available for residential mortgage Ñnancing,

thereby helping us to accomplish our statutory mission.

Resecuritization

We resecuritize PCs and non-Freddie Mac mortgage-related securities into single-class and multi-class

Structured Securities. We also resecuritize Structured Securities into other Structured Securities.

Single-Class Structured Securities

We issue single-class Structured Securities backed by PCs and by non-Freddie Mac mortgage-related

securities, including Ginnie Mae CertiÑcates.

Multi-Class Structured Securities

We issue multi-class Structured Securities that divide the cash Öows of the underlying PCs or nonFreddie Mac mortgage-related securities, including Ginnie Mae CertiÑcates and non-agency mortgage-related

securities, into two or more classes that meet the investment criteria and portfolio needs of diÅerent types of

Freddie Mac

13
investors. The non-agency mortgage-related securities may be backed by mortgages originated using

underwriting standards that are less stringent than our normal criteria; however, these securities are

signiÑcantly credit-enhanced at issuance. By issuing Structured Securities backed by these securities, we seek

to provide liquidity to alternative segments of the mortgage market. See ""MD&A Ì RISK MANAGEMENT Ì Credit Risks Ì Mortgage Credit Risk Ì Mortgage Credit Risk Management Strategies Ì Portfolio DiversiÑcation'' for more information concerning the additional credit risk related to these transactions.

Our principal multi-class Structured Securities activity is the issuance and sale of securities that qualify

for tax treatment as REMICs. A multi-class Structured Security may include short-, intermediate-, and longterm classes that are paid diÅerent allocations of principal and interest from the underlying PCs or other

securities according to speciÑed criteria (such as principal-only strips, interest-only strips, or securities with

Ñxed- or variable-rate coupons) and residual classes that receive any cash Öow not required to be distributed to

the other classes of the REMIC. Some multi-class Structured Securities are structured to provide investors

with more predictable cash Öows than a typical PC, while other multi-class Structured Securities generate less

predictable cash Öows.

The issuance of multi-class Structured Securities backed directly or indirectly by PCs improves the

demand for, and value of, PCs and ultimately reduces mortgage rates. Issuing multi-class Structured

Securities generally does not generate additional management and guarantee income for us or expose us to

additional credit risk. We typically collect a fee upon the formation of each multi-class Structured Security

based on the dollar amount and type of structure issued. We may purchase previously issued multi-class

Structured Securities for our Retained portfolio. Some of the multi-class Structured Securities in our

Retained portfolio are less liquid than PCs. Consequently, it may be more diÇcult to sell these assets at their

estimated fair value as a result of the comparatively large bid/ask spreads that arise due to the relative

liquidity of these multi-class Structured Securities. We also issue multi-class Structured Securities, which

may be backed by PCs or other securities contributed by our Retained portfolio, with the intent of purchasing

and retaining one or more classes that meet our portfolio investment needs and selling the other classes.

Freddie Mac

14
Table 3 Ì Freddie Mac Single-Class and Multi-Class PCs and Structured Securities Based on Unpaid

Principal Balances(1)

December 31, 2003

PCs and Structured PCs and Structured

PCs and Structured Securities in Cash Securities Outstanding Total PCs and

Securities in and Investments (held by Structured Securities

Retained Portfolio Portfolio(2) third parties) Issued

(dollars in millions)

PCs and Structured Securities:

Single-class(3) ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ $269,442 $15,970 $397,009 $ 682,421

Multi-class(4)(5)ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 123,693 799 347,833 472,325

Other(6) ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ Ì Ì 7,322 7,322

Total PCs and Structured Securities ÏÏ $393,135 $16,769 $752,164 $1,162,068

December 31, 2002

PCs and Structured PCs and Structured

PCs and Structured Securities in Cash Securities Outstanding Total PCs and

Securities in and Investments (held by Structured Securities

Retained Portfolio Portfolio(2) third parties) Issued

(dollars in millions)

PCs and Structured Securities:

Single-class(3) ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ $203,538 $17,893 $332,621 $ 554,052

Multi-class(4)(5)ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 137,749 1,635 392,545 531,929

Other(6) ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ Ì Ì 4,643 4,643

Total PCs and Structured Securities ÏÏÏ $341,287 $19,528 $729,809 $1,090,624

(1) Excludes mortgage loans and mortgage-related securities traded, but not yet settled.

(2) Represents PCs and Structured Securities held by us in connection with PC market-making and support activities, which are

reÖected in Investments on our consolidated balance sheets.

(3) Includes PCs that do not back Structured Securities and single-class Structured Securities backed by Ginnie Mae CertiÑcates.

(4) Includes Structured Securities backed by PCs, Structured Securities backed by non-Freddie Mac mortgage-related securities and

multi-class Structured Securities backed by Ginnie Mae CertiÑcates.

(5) Excludes $42,692 million and $18,423 million at December 31, 2003 and 2002, respectively, of total multi-class Structured Securities

where we have resecuritized other already issued Structured Securities.

(6) As further discussed in ""NOTE 4: FINANCIAL GUARANTEES'' to the consolidated Ñnancial statements, these amounts include:

‚ $4,729 million and $8,561 million of Structured Securities backed by Ginnie Mae CertiÑcates at December 31, 2003 and 2002,

respectively.

‚ $5,044 million and $4,643 million at December 31, 2003 and 2002, respectively, that pertain to our guarantee of the payment of

principal and interest on (a) tax-exempt multifamily housing revenue bonds that support pass-through certiÑcates issued by third

parties and (b) multifamily mortgage loans that are originated and held by state and municipal agencies to support tax-exempt

multifamily housing revenue bonds.

‚ $2,278 million and $-0- at December 31, 2003 and 2002, respectively, of single-family mortgage loans held by third parties for

which we provided a credit guarantee.

Portfolio Investment

We manage a large and diversiÑed retained mortgage portfolio through a disciplined strategy of long-term

capital deployment. We apply extensive mortgage-market expertise and a deep understanding of this asset

class to support prudent and timely asset selection while managing our interest-rate risk. We invest in

mortgage-related securities issued by GSEs or governmental agencies, which we refer to as agency securities,

non-agency mortgage-related securities and whole mortgage loans. For information concerning the types of

securities we purchase and hold as well as the volume of our purchases and balances held in our Retained

portfolio by security type, see ""MD&A Ì VOLUME STATISTICS'' and ""MD&A Ì RISK MANAGEMENT Ì Credit Risks.''

We issue debt principally to Ñnance our purchases of mortgage-related securities and mortgage loans for

our Retained portfolio. We manage interest-rate risk and reduce funding cost by:

‚ Issuing a mixture of debt of various maturities, either callable (that is, redeemable at our option at

one or more times before its scheduled maturity) or non-callable. We use this funding mix to

manage our interest-rate risk through the Öexibility to closely match the interest obligations on our

debt with the expected cash inÖows from our mortgage-related investments;

‚ Using a variety of derivatives. See ""MD&A Ì RISK MANAGEMENT Ì Interest-Rate and

Other Market Risks'' for more information; and

Freddie Mac

15
‚ Restructuring mortgage-related securities cash Öows, and retaining a portion of these restructured

cash Öows as Structured Securities.

Our Retained portfolio (based on unpaid principal balances) grew by 14 percent during both 2003 and

2002.

Debt Securities

We issue short-, medium- and long-term debt; and subordinated debt.

Short-Term Debt. We raise funds to meet our operating cash needs primarily through the issuance of

Reference Bills» securities and other discount notes, which are short-term instruments with maturities of one

year or less that are sold on a discounted basis, paying only principal at maturity. Our Reference Bills»

program consists of large issues of short-term debt that we auction to dealers through the Internet on a regular

schedule. We currently auction Reference Bills» with 1-, 3- and 6-month maturities weekly. Prior to 2004, we

also auctioned Reference Bills» with 2-month maturities weekly. We auction Reference Bills» with 12-month

maturities every four weeks. We issue discount notes with maturities ranging from one day to one year in

response to investor demand and our cash needs.

Medium- and Long-Term Debt. We issue medium- and long-term debt primarily through our

medium-term note program and our global debt facility. Each of these programs accommodates a variety of

structures, including callable and non-callable Ñxed-rate securities, zero coupon securities and variable-rate

securities. Through our Reference Notes» securities program, we sell large issues of medium- and long-term

debt that provide investors worldwide with a high-quality, liquid investment vehicle. Some of our Reference

Notes» are sold through Internet auctions. We primarily issue securities denominated in U.S. dollars,

although we may issue securities denominated in various other currencies, particularly Euros. We publish an

annual Ñnancing calendar that is intended to provide clarity and transparency with regard to the timing of our

oÅerings of Reference Notes» and settlement dates for issuances.

The investor base for our medium- and long-term debt is predominantly institutional. However, we also

conduct weekly oÅerings of FreddieNotes» securities, a medium- and long-term debt program designed to

meet the investment needs of retail investors.

Subordinated Debt. In October 2000, we announced plans to initiate periodic issuances of subordinated

debt securities, which we refer to as Freddie SUBS» securities, as part of a series of voluntary commitments

regarding our Ñnancial operations and disclosures designed to further strengthen our transparency, capital

adequacy and market discipline. During 2001 and 2002, we completed four oÅerings of Freddie SUBS» that

provided approximately $5.5 billion in net proceeds. During 2003, we did not issue any Freddie SUBS». Our

ability to issue subordinated debt may be limited until we return to timely Ñnancial reporting. See ""MD&A Ì

LIQUIDITY AND CAPITAL RESOURCES,'' ""MD&A Ì VOLUNTARY COMMITMENTS'' and our

Internet website (www.FreddieMac.com/investors) for additional information about our voluntary

commitments.

PC Market-Making and Support Activities

We make markets in agency mortgage-related securities by distributing these securities to, and trading

these securities with, various counterparties, including mortgage sellers, institutional investors and securities

dealers. We manage and conduct these trading activities primarily through our Securities Sales and Trading

Group, or SS&TG, business unit. SS&TG buys, sells and exchanges our PCs and Structured Securities, as

well as Fannie Mae and Ginnie Mae mortgage-related securities, in various Ñnancial transactions (including

forward sales, dollar rolls and reverse repurchase transactions). SS&TG transacts in such securities in large

volumes to ensure competitiveness in the mortgage-related securities market, to have a positive impact on the

liquidity of Freddie Mac PCs and Structured Securities and to contribute to corporate proÑtability. SS&TG

also regularly purchases mortgage-related securities on behalf of our Retained portfolio. This sourcing activity

builds upon SS&TG's daily purchases of mortgage-related securities through its direct trading relationships

with mortgage sellers and investors. As part of these relationships, SS&TG also provides services to assist

Freddie Mac

16
mortgage sellers and investors in the execution of transactions involving mortgage loans and mortgage-related

securities. In conjunction with our PC market-making and support activities, SS&TG often holds mortgagerelated securities in its trading portfolio. Gains and losses related to SS&TG's investment activities are

reÖected in Gain (loss) on investment activities while the net interest income related to SS&TG's investments

is included in Net interest income on our consolidated statements of income. SS&TG's assets are included in

the Cash and investments portfolio on our consolidated balance sheets.

We manage market risks associated with SS&TG's securities positions primarily through forward

purchases and sales of PCs and Structured Securities, as well as through the purchase and sale of mortgage

pass-through securities of Fannie Mae and Ginnie Mae. To accomplish this objective, we also may use U.S.

Treasury securities, agency debt securities, Eurodollar futures and options to buy or sell agency debt and

mortgage-related securities. To manage institutional credit risk, SS&TG analyzes and monitors the Ñnancial

condition and trading positions of all counterparties and establishes trading limits consistent with these

reviews.

SS&TG also assists in the distribution of PCs and Structured Securities to institutional investors and

other market participants. Distribution activities may include participation in dealer auctions of these

securities, resecuritization of outstanding PCs and Structured Securities, participation in dealer syndicates for

underwritten oÅerings of Structured Securities and other transactions.

Mortgage Security Performance and Other Market Support Activities

We support the liquidity and depth of the market for PCs through various activities, including:

‚ Actively trading PCs through SS&TG;

‚ Participating with external money managers to buy and sell PCs;

‚ Marketing to dealers and investors the relative merits of trading and investing in PCs;

‚ Purchasing and selling PCs through the Retained portfolio; and

‚ Introducing new mortgage-related securities products and initiatives.

We may increase, reduce or discontinue these or other related activities at any time, which could aÅect the

liquidity and depth of the market for our PCs. We support the execution of our credit guarantee business by

making guarantee fee trade-oÅs with sellers. If the price performance of, and demand for, our PCs is not

comparable to Fannie Mae securities on future mortgage deliveries by sellers, we may use market-adjusted

pricing where we provide guarantee fee price adjustments to partially oÅset weaknesses in prevailing security

prices in order to increase the competitiveness of our credit guarantee business. The use of market-adjusted

pricing could have a material adverse eÅect on the proÑtability of our new credit guarantee business.

Our strategies to support PC price performance in 2003 included the purchase by our Retained portfolio

of TBA PCs and both the purchase and sale of other agency securities, including the sale of Fannie Mae

securities. While some purchases of PCs may result in an expected return on equity substantially below our

normal thresholds, this strategy is not currently expected to have a material eÅect on the performance of our

Retained portfolio overall. Depending upon market factors and trends, including the relative prices and supply

of PCs and comparable Fannie Mae securities in accordance with this strategy, there may be substantial

variability in any period of the total amount of TBA PCs the Retained portfolio purchases and of other agency

securities the Retained portfolio purchases or sells.

Freddie Mac

17
Regulation and Governmental Relationships

Legislative Matters

Congressional Charter

Our Congressional charter provides us with special attributes such as:

‚ Exemption from Securities Act and Exchange Act registration requirements (although we are

subject to the antifraud provisions of those laws and are committed to the voluntary registration of

our common stock with the SEC under the Exchange Act);

‚ Favorable treatment of our securities under various legal investment laws and other regulations;

‚ Access to the Federal Reserve Banks' book-entry system, which provides book-entry issuance,

transfer, payment and settlement for our mortgage-related and debt securities;

‚ Discretionary authority of the Secretary of the Treasury to purchase obligations issued by us up to

a maximum of $2.25 billion principal balance outstanding at any one time; and

‚ Exemption from state and local taxes, except tax on real property that we own.

These special attributes, combined with our Ñnancial strength and the eÇciency we bring to the market, help

us to develop and maintain the liquid markets that are essential to fulÑlling our Congressional mandate.

We could be required, or may Ñnd it advisable, to change the nature or extent of our business activities if

our various exemptions and special attributes were modiÑed or eliminated, new or additional fees or

substantive regulation of our business activities were imposed, our relationship to the federal government were

altered or eliminated, or the Freddie Mac Act, the GSE Act or other federal legislation aÅecting us were

signiÑcantly amended. Any of these changes could have a material adverse eÅect on the scope of our activities,

Ñnancial condition and results of operations. Any amendments to the Freddie Mac Act or the GSE Act,

including repeal of any of our exemptions, would require legislative action. In addition, our business also could

be adversely aÅected by any modiÑcation, reduction or repeal of the federal income tax deductibility of

mortgage interest payments.

GSE Regulatory Oversight Legislation

The Senate Banking Committee passed a GSE regulatory oversight bill on April 1, 2004. Freddie Mac

believes that the Senate is unlikely to take further action on this bill in 2004. We also believe that it is unlikely

that the House of Representatives will consider GSE regulatory oversight legislation in 2004. Both the House

and the Senate have indicated that they are likely to consider GSE regulatory oversight legislation in the next

session of Congress. Freddie Mac strongly supports enactment of legislation to strengthen the GSE regulatory

structure. We will continue to work with the Congress, the Administration and other interested parties toward

enacting appropriate regulatory oversight legislation.

Regulatory Matters

We are currently subject to oversight by:

‚ HUD; and

‚ OFHEO, a separate oÇce within HUD created by the GSE Act.

In addition, the U.S. Department of the Treasury has the authority to approve our issuances of debt and

mortgage-related securities as discussed below.

See ""Voluntary SEC Reporting'' below for information concerning the SEC's future oversight of us.

HUD. HUD has general regulatory power over us. HUD's oversight to date has focused upon three

main areas: housing goals, fair lending and new program approval.

Freddie Mac

18
Housing Goals. The GSE Act requires the Secretary of HUD to establish three goals related to our

Ñnancing of:

‚ Housing for low- and moderate-income families, which we refer to as the Low- and ModerateIncome Goal;

‚ Housing located in central cities, rural areas and other underserved areas, which we refer to as the

Underserved Areas Goal; and

‚ Housing for low-income families in low-income areas and for very-low-income families, including

a dollar amount for multifamily housing, which we refer to as the Special AÅordable Goal.

We seek to purchase most single-family and multifamily mortgages that qualify under one or more of the

aÅordable housing goals through our standard mortgage purchase programs and under the same credit

standards as our other mortgage purchases. In October 2000, the Secretary of HUD issued Ñnal regulations

establishing aÅordable housing goals for us and Fannie Mae for calendar years 2001 through 2003, which

increased the aÅordable housing goals in place relative to calendar years 1997 through 2000. The Ñnal rule

increased the Low- and Moderate-Income Goal from the previous 42 percent of mortgage purchases to

50 percent; the Underserved Areas Goal from the previous 24 percent of mortgage purchases to 31 percent;

and the Special AÅordable Goal from the previous 14 percent of mortgage purchases to 20 percent, including

an increase in the target for qualifying multifamily mortgage purchases from the previous $0.99 billion to

$2.11 billion.

We have reported to HUD that we achieved each of the goals in 2003 and 2002. Our purchases, as

counted under HUD's regulations, are set forth in ""Table 4 Ì Housing Goals'' below. On April 27, 2004 and

May 7, 2004, we received letters from the House of Representatives Committee on Financial Services

requesting information pertaining to certain transactions entered into in whole or in part for the purpose of

meeting the aÅordable housing goals for calendar years 2001, 2002 and 2003. In addition, on May 4, 2004 and

August 3, 2004, we received letters from HUD requesting information pertaining to certain transactions

entered into in calendar years 2001, 2002 and 2003. As part of the information request, HUD asked us to

describe how each identiÑed transaction complies with HUD's rules for counting units Ñnanced in each

transaction toward the housing goals in 2003, 2002 and 2001. We fully complied with these requests for

information.

Table 4 Ì Housing Goals

Year Ended December 31,

2003 2002

Goal Result Goal Result

Low- and moderate-income goal ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 50% 51% 50% 51%

Underserved areas goal ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 31 33 31 32

Special aÅordable goal ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 20 20 20 21

Multifamily special aÅordable volume goal (dollars in billions) ÏÏÏÏÏÏÏÏ $2.11 $8.00 $2.11 $5.01

We view the purchase of mortgage loans beneÑting low- and moderate-income families and neighborhoods as an integral part of our mission and business, and remain committed to fulÑlling the needs of

underserved borrowers and markets. We expect that we will continue to purchase the majority of the singlefamily and multifamily mortgages counted toward our performance under the housing goals through our

standard purchase programs, in conformity with our customary mortgage underwriting standards. We will

continue to expand anti-predatory lending and consumer credit education programs and to pilot products that

reach creditworthy borrowers otherwise overlooked by traditional lending sources.

From time to time, we also enter into transactions on a large scale or with non-standard terms in order to

advance our progress toward meeting the aÅordable housing goals set by HUD. We entered into two

transactions of this type during 2003. One of these transactions involved the acquisition of approximately $6

billion of multifamily mortgages from Washington Mutual Bank, FA and Washington Mutual Bank, which we

Freddie Mac

19
refer to collectively as WaMu, during September and October 2003. Among other provisions, the transaction

contained a number of contractual incentives, including the payment of fees to WaMu totaling $100 million.

WaMu was also granted the option to reacquire all of the mortgages underlying any PC pool created in the

transaction by delivering to us all of the PCs related to that pool. The option cannot be exercised until one year

after the settlement date for any PC pool. Similarly, in December 2003, we agreed to acquire from Citibank,

NA and its aÇliates a portfolio of multifamily mortgages that totaled approximately $5 billion. The

transaction, involving deliveries of mortgages in 2003 and 2004, included a number of contractual incentives,

including payment of fees to Citibank of approximately $24 million in 2003 and an additional $41 million in

2004 and an option to reacquire the mortgages similar to the one granted in the WaMu transaction not

exercisable until 18 months after the settlement date for any PC pool. We paid these fees to encourage WaMu

and Citibank to enter into these transactions, in part because HUD regulations oÅered incentives to encourage

the acquisition of the type of mortgages involved. However, as noted below, HUD has notiÑed us that it would

not renew for 2004 the incentives under the housing goals for the acquisition of the particular type of

mortgages involved in the WaMu and Citibank transactions.

If the Secretary of HUD were to Ñnd that we failed, or that there was a substantial probability that we

would fail, to meet any housing goal and that achievement of the housing goal was or is feasible, the Secretary

would require us to submit a housing plan. The housing plan would describe the actions we would take to

achieve the goal in the future. HUD also has the authority to issue a cease and desist order and to assess civil

money penalties against us in the event that we fail to submit a required housing plan or fail to make a good

faith eÅort to comply with a plan approved by HUD.

In December 2003, HUD notiÑed us that although it was extending the 2000 regulations through 2004, it

would not renew for 2004 certain incentives under the housing goals that contributed signiÑcantly to our

achievement of the goals since 2001. HUD's action will require an increased level of eÅort on our part to meet

each of the goals for 2004.

On May 3, 2004, HUD published for public notice and comment a proposed rule that would establish

higher aÅordable housing mortgage purchase goals for us and Fannie Mae for calendar years 2005 through

2008. The proposed rule would also establish new subgoals for purchase-money mortgages. On July 16, 2004,

we Ñled comments with HUD on the proposed housing goals.

We believe that the adoption of the rule as proposed, or certain market conditions, could adversely aÅect

our results of operations in future years. See also ""BUSINESS Ì Mortgage Purchase and Guarantee

Activity Ì Credit Guarantee'' for more information regarding these factors. If a Ñnal rule were to be adopted

substantially as proposed, we would take measures to reduce or eliminate material adverse business impacts;

however, there could be no assurance that any such measures would be fully successful. At the conclusion of

the rulemaking process, HUD may promulgate a Ñnal rule that diÅers from, or is the same as, the proposed

rule based upon the comments that it receives, or HUD may withdraw the proposed rule entirely.

Consequently, we are unable to predict with certainty the future impact of any Ñnal rule on our business

operations, Ñnancial condition or results of operations.

Fair Lending. Our mortgage purchase activities are subject to federal anti-discrimination laws. In

addition, the GSE Act requires the Secretary of HUD to adopt regulations prohibiting discriminatory

practices in the mortgage purchase activities of both GSEs and periodically to review and comment on our

underwriting and appraisal guidelines for consistency with the Fair Housing Act and the GSE Act. The GSE

Act also requires the Secretary of HUD to direct that we:

‚ Submit data to HUD to assist it in investigating whether a mortgage lender with which we do

business has failed to comply with the Fair Housing Act or the Equal Credit Opportunity Act, or

ECOA; and

‚ Undertake remedial actions, including suspension, probation, reprimand or settlement, against

lenders that are found to have engaged in discriminatory lending practices in violation of the Fair

Housing Act or ECOA pursuant to a Ñnal adjudication and after opportunity for an administrative

hearing.

Freddie Mac

20
New Program Approval. Under the GSE Act, we must obtain the approval of the Secretary of HUD for

any new program for the purchasing, servicing, selling, lending on the security of, or otherwise dealing in,

conventional mortgages that:

‚ Is signiÑcantly diÅerent from programs that were previously approved or programs that we

engaged in before the date the GSE Act was enacted; or

‚ Represents a material expansion of programs above limits expressly contained in any prior

approval.

HUD has issued regulations implementing the new program approval authority granted under the GSE

Act. To date, HUD has not disapproved any of our mortgage programs under these regulations. The Secretary

of HUD is required to approve any new program unless the Secretary determines that the new program is not

authorized under the Freddie Mac Act or that the program is not in the public interest.

OFHEO. The GSE Act created OFHEO as a separate oÇce within HUD, substantially independent of

the Secretary of HUD. OFHEO is headed by the Director, who is appointed by the President of the United

States and conÑrmed by the Senate for a Ñve-year term. The Director of OFHEO has exclusive regulatory

authority for ensuring our adequate capitalization and safe and sound operation in accordance with the GSE

Act. Among other matters, the GSE Act subjects both us and Fannie Mae to certain minimum, critical and

risk-based capital standards issued by OFHEO. See ""NOTE 13: LEGAL CONTINGENCIES'' to the

consolidated Ñnancial statements for a discussion of OFHEO's investigation of Freddie Mac in connection

with the restatement.

On April 12, 2004, OFHEO proposed for public comment certain revisions to its corporate governance

regulation. On June 14, 2004, we submitted comments to OFHEO on these proposed revisions.

The GSE Act establishes our capital standards, and OFHEO has issued regulations that set our

minimum, critical and risk-based capital requirements. OFHEO is required to classify our capital adequacy at

least quarterly. OFHEO has never classiÑed us as other than ""adequately capitalized,'' the highest possible

classiÑcation. See ""MD&A Ì LIQUIDITY AND CAPITAL RESOURCES Ì Capital Resources'' for

additional information regarding OFHEO's capital rules.

We may pay a dividend on our common or preferred stock without prior OFHEO approval only if our

payment would not decrease our Core capital to an amount less than our minimum capital level and would not

decrease our Total capital to an amount less than our risk-based capital level. Core capital consists of the par

value of outstanding common stock (common stock issued less common stock held in treasury), par value of

outstanding perpetual preferred stock, Additional paid in capital and Retained earnings, as determined in

accordance with GAAP. Total capital includes Core capital and general reserves for mortgage and foreclosure

losses. If our Core capital were to fall below the minimum capital level, we would be able to make a capital

distribution only if the Director of OFHEO determined that the distribution satisÑed certain statutory

standards. If our Total capital were to fall below the risk-based capital level, but our Core capital equaled or

exceeded the minimum capital level, we would be prohibited from making a capital distribution (which

includes dividend payments, common stock repurchases and preferred stock redemptions) that would decrease

our Core capital to an amount less than the minimum capital level. Under these circumstances, we would be

prohibited from making any capital distribution that would decrease our Core capital to less than the critical

capital level.

In addition to the preceding requirements, the Director of OFHEO has authority, under certain

conditions, to require us to submit for the Director's approval a capital restoration plan or to restrict our

activities, either of which also could aÅect adversely our ability to make capital distributions. In connection

with the legislative proposals being considered by Congress, the Director's authority to set capital levels may

be expanded. See ""Legislative Matters Ì GSE Regulatory Oversight Bill'' for more information.

Freddie Mac

21
On January 29, 2004, OFHEO announced the creation of a framework for monitoring our capital due to

the temporarily higher operational risk arising from our current inability to produce timely Ñnancial statements

in accordance with GAAP. The framework includes a target capital surplus of 30 percent of our minimum

capital requirement, subject to certain conditions and variations; weekly monitoring; and prior approval of

certain capital transactions, to verify that appropriate levels of capital are maintained. While OFHEO's

framework includes stringent monitoring and imposes restrictions on share repurchases and other capital

activities, we do not expect it to adversely aÅect our disciplined growth strategy in most scenarios. For

additional information about the OFHEO target capital surplus framework, see ""NOTE 10: REGULATORY

CAPITAL'' to the consolidated Ñnancial statements.

Treasury. Under the Freddie Mac Act, the Secretary of the Treasury has approval authority over all of

our issuances of notes, debentures and substantially identical types of unsecured debt obligations (including

the interest rates and maturities on these securities), as well as new types of mortgage-related securities issued

subsequent to the enactment of the Financial Institutions Reform, Recovery and Enforcement Act of 1989.

The Secretary of the Treasury has historically performed this debt securities approval function by coordinating

GSE debt oÅerings with Treasury funding activities. Recently, Treasury oÇcials have indicated that they are

reviewing the scope of Treasury's authority over our securities issuances.

Voluntary SEC Reporting. On July 12, 2002, we announced an agreement, as a result of a consensus

among the Treasury, the OÇce of Management and Budget, the SEC, OFHEO and us, to initiate a voluntary

registration process with the SEC. Once this process is complete, we will be subject to the Ñnancial reporting

requirements applicable to publicly traded companies under the Exchange Act, including Ñling with the SEC

annual reports on Form 10-K, quarterly reports on Form 10-Q and current reports on Form 8-K. We will

complete our voluntary registration with the SEC as soon as practicable after we return to timely Ñnancial

reporting and will become subject to these SEC reporting requirements when our Exchange Act registration

statement is declared eÅective by the SEC.

In addition, OFHEO has issued a supplemental disclosure regulation that will obligate us to submit proxy

statements and insider transaction reports to the SEC in accordance with rules governing publicly traded

companies under the Exchange Act.

These actions do not aÅect the SEC exemption that Congress provided for our equity, debt and

mortgage-related securities in our charter. As part of our July 12, 2002 announcement, the SEC provided

written conÑrmation that our securities will continue to be exempt from the securities oÅering registration

requirements of the Securities Act and certain other provisions of the federal securities laws.

Predatory Lending. We have instituted a comprehensive set of anti-predatory lending policies intended

to prevent the purchase or assignment of mortgage loans with unacceptable terms or conditions or resulting

from unacceptable practices. In accordance with these policies, we will not purchase:

‚ Mortgages originated with single-premium credit insurance;

‚ Mortgages with terms that exceed either the annual percentage rate or the points and fees

threshold under the Home Ownership and Equity Protection Act of 1994, or HOEPA;

‚ Subprime mortgages with prepayment penalty terms that exceed three years; or

‚ Mortgages with mandatory arbitration clauses originated on or after August 1, 2004.

In addition, we require our servicers to report all borrower credit information, including monthly mortgage

payments.

Several states have enacted laws aimed at predatory lending practices, generally with regard to loans

exceeding thresholds based on annual percentage rates or Ñnancing costs. These loans are typically referred to

as ""high-cost home loans.'' The high-cost home loan thresholds trigger state law liabilities for subsequent

purchasers or assignees of such loans that may be broader than liabilities imposed upon such purchasers or

assignees under HOEPA. Currently, we do not purchase high-cost home loans in the states of Arkansas,

Georgia, Illinois, Kentucky, Maine, Nevada, New Jersey, New Mexico, New York and Oklahoma. We

Freddie Mac

22
continue to assess newly enacted and proposed state laws to determine our policies with respect to the

purchase of loans aÅected by those laws.

PROPERTIES

We own a 75 percent interest in a limited partnership that owns our principal oÇces, consisting of four

oÇce buildings in McLean, Virginia that comprise approximately 1.2 million square feet. We occupy the

headquarters complex under a long-term lease from the partnership. We also lease space for our oÇces in

McLean, Virginia; Reston, Virginia; Washington, D.C.; Atlanta, Georgia; Chicago, Illinois; Dallas, Texas;

New York, New York; and Woodland Hills, California.

LEGAL PROCEEDINGS

We are involved as a party to a variety of legal proceedings arising from time to time in the ordinary

course of business including, among other things, contractual disputes, personal injury claims, employmentrelated litigation and other legal proceedings incidental to our business.

Furthermore, we are frequently involved, directly or indirectly, in litigation involving mortgage foreclosures. We also are involved in proceedings arising from our termination of a seller/servicer's eligibility to sell

mortgages to, and service mortgages for, us. In these cases, the former seller/servicer sometimes seeks

damages against us for wrongful termination under a variety of legal theories. In addition, we are sometimes

sued in connection with the origination or servicing of mortgages. These suits generally involve claims alleging

wrongful actions of seller/servicers. Our contracts with our seller/servicers generally provide for them to

indemnify us against liability arising from their wrongful actions.

We are also subject to various legal proceedings, including regulatory investigations and administrative

and civil litigation, arising from the restatement. These proceedings include class action and stockholder

derivative lawsuits, administrative enforcement proceedings commenced by OFHEO, and investigations by

the SEC, Department of Labor and the U.S. Attorney's oÇce. We have also received inquiries from the

Internal Revenue Service, or IRS, and from the Committee on Energy and Commerce of the U.S. House of

Representatives.

Litigation and claims resolution are subject to many uncertainties and are not susceptible to accurate

prediction. For additional information on these proceedings, see ""NOTE 13: LEGAL CONTINGENCIES''

and ""NOTE 14: INCOME TAXES'' to the consolidated Ñnancial statements.

Freddie Mac

23
SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS

The following matters were presented for stockholder vote at the March 31, 2004 Annual Meeting of

Stockholders: (a) election of 13 members to our Board of Directors, each for a term ending on the date of the

next annual meeting of our stockholders; and (b) ratiÑcation of the appointment of PricewaterhouseCoopers

LLP, or PwC, as independent auditors for our 2003 consolidated Ñnancial statements. At the meeting,

608,812,644 shares were present in person or by proxy.

Table 5 Ì Votes of Security Holders

At the meeting, the following persons were elected to our Board of Directors by the respective votes

indicated:

Votes For Votes Withheld

Joan E. Donoghue ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 579,380,702 29,431,942

Michelle Engler ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 561,069,106 47,743,538

Richard Karl Goeltz ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 581,996,065 26,816,579

George D. Gould ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 569,699,329 39,113,315

Henry Kaufman ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 569,717,530 39,095,114

William I. Ledman ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 568,247,086 40,565,558

John B. McCoy ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 568,278,696 40,533,948

Shaun F. O'MalleyÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 571,604,456 37,208,188

Ronald F. PoeÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 567,206,260 41,606,384

Stephen A. RossÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 572,639,329 36,173,315

Christina Seix ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 569,819,767 38,992,877

Richard F. Syron ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 577,412,690 31,399,954

William J. TurnerÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 567,089,459 41,723,185

The appointment of PricewaterhouseCoopers LLP was ratiÑed at the meeting by the following votes:

Votes for Votes Against Abstentions

596,988,834 8,697,063 3,126,747

No matters were submitted to stockholders from April 1, 2004 through the date of the Information

Statement.

Freddie Mac

24
MARKET PRICE FOR THE COMPANY'S

COMMON EQUITY AND RELATED STOCKHOLDER MATTERS

Market Information

Our common stock, par value $0.21 per share, is listed on the NYSE and the PaciÑc Stock Exchange

under the symbol FRE. From time to time, our common stock may be admitted to unlisted trading status on

other national securities exchanges. Put and call options on our common stock are traded on U.S. options

exchanges. As of December 31, 2003, there were 688,573,911 shares outstanding of our common stock.

Table 6 sets forth the high and low sale prices of our common stock for the periods indicated.

Table 6 Ì Quarterly Common Stock Information

Sale Prices(1)(2)

High Low

2004 Quarter Ended

June 30 ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ $64.62 $56.45

March 31ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 65.15 57.60

2003 Quarter Ended

December 31ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ $59.75 $52.65

September 30 ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 56.04 47.35

June 30 ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 61.40 46.48

March 31ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 64.78 49.53

2002 Quarter Ended

December 31ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ $64.45 $53.85

September 30 ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 65.59 52.60

June 30 ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 68.50 59.80

March 31ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 69.50 60.71

(1) The principal market is the NYSE, and prices are based on the Composite Tape. Our common stock is also listed on the PaciÑc

Stock Exchange.

(2) High and low sales prices reÖect intraday trading activity during the period.

As of August 31, 2004, the closing price for our common stock was $67.12 per share. As part of a stock

repurchase plan approved by our Board of Directors, we are authorized to repurchase our common stock in an

amount up to 5 percent of our shares outstanding as of September 5, 1997, which was approximately

34 million shares. At December 31, 2003, approximately 13 million common shares remained available for

repurchase under this plan. We did not repurchase any common stock during 2003 or the Ñrst eight months of

2004, and we do not expect to engage in share repurchases until after we resume timely Ñnancial reporting.

See ""Business Ì Regulatory and Government Relationships Ì Regulatory Matters Ì OFHEO'' for more

information.

Dividends

Table 7 sets forth the dividend per common share that we have paid for the periods indicated.

Table 7 Ì Dividends Per Common Share

Regular Cash

Dividend Per Share

2004 Quarter Ended

June 30 ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ $0.30

March 31ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 0.30

2003 Quarter Ended

December 31ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ $0.26

September 30 ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 0.26

June 30 ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 0.26

March 31ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 0.26

2002 Quarter Ended

December 31ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ $0.22

September 30 ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 0.22

June 30 ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 0.22

March 31ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 0.22

Freddie Mac

25
Each stockholder is entitled to receive dividends that may be declared by our Board of Directors out of

legally available funds. We have historically paid dividends to our stockholders in each quarter. Our Board of

Directors intends to retain this policy of providing dividends quarterly, but further dividends will depend upon

earnings, Ñnancial condition and other factors relevant at the time our Board of Directors considers our

dividend policy and the declaration of speciÑc dividends. See ""NOTE 10: REGULATORY CAPITAL'' to

the consolidated Ñnancial statements for additional information regarding dividend payments and ""NOTE: 9:

STOCKHOLDERS' EQUITY'' to the consolidated Ñnancial statements for additional information regarding

our preferred stock dividend payments.

Holders

As of August 25, 2004, we had approximately 2,700 common stockholders of record. Based on the

number of requests for proxies, we estimate that approximately 248,000 additional common stockholders held

shares through banks, brokers and nominees as of August 25, 2004.

Securities Authorized for Issuance under Equity Compensation Plans

Table 8 provides information about our common stock that may be issued upon the exercise of options,

warrants and rights under our existing equity compensation plans as of December 31, 2003. Our stockholders

have approved the 1995 Directors' Stock Compensation Plan, the 1995 Stock Compensation Plan, as amended

and restated, the 1995 Employee Stock Purchase Plan and the terms of the 1990 Stock Compensation Plan.

Table 8 Ì Securities Authorized for Issuance under Equity Compensation Plans

(c)

(a) Number of securities

Number of securities remaining available for

to be issued upon (b) future issuance under

exercise of Weighted-average equity compensation

outstanding exercise price of plans (excluding

options, warrants outstanding options, securities reÖected in

Plan Category and rights warrants and rights column (a))

Equity compensation plans approved by

stockholders ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 10,017,319(1) $40.83(2) 9,503,542(3)

Equity compensation plans not approved by

stockholders ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ None N/A None

(1) Includes 1,295,722 restricted stock units issued under the 1995 Directors' Stock Compensation Plan and the 1995 Stock

Compensation Plan and options to purchase 65,257 shares under the Employee Stock Purchase Plan.

(2) For the purpose of calculating this amount, the restricted stock units are assigned a value of zero.

(3) Includes 4,361,954 shares, 3,481,774 shares and 1,659,814 shares available for issuance under the 1995 Stock Compensation Plan,

the Employee Stock Purchase Plan and the 1995 Director's Stock Compensation Plan, as amended and restated in 1998,

respectively. No shares are available for issuance under the 1990 Stock Compensation Plan.

Freddie Mac

26
FORWARD-LOOKING STATEMENTS

We regularly communicate information concerning our business activities to investors, securities analysts,

the news media and others as part of our normal operations. Some of these communications include ""forwardlooking statements'' pertaining to our current expectations about our objectives for Ñnancial reporting, future

business plans, results of operations, Ñnancial condition and trends. Forward-looking statements are typically

accompanied by, and identiÑed with, terms such as ""estimates,'' ""anticipates,'' ""believes,'' ""expects,''

""intends,'' ""objectives,'' ""will,'' ""may,'' ""might,'' ""could,'' ""would,'' and similar phrases. This Information

Statement includes forward-looking statements. These statements are based on current plans, estimates and

projections. Forward-looking statements involve known and unknown risks, uncertainties and other factors,

some of which are beyond our control. You should be careful about relying on any forward-looking statements.

You should also consider all risks, uncertainties and other factors described in this Information Statement in

considering any forward-looking statements. Factors that could cause actual results to diÅer materially from

the expectations expressed in these and other forward-looking statements by management include, among

others:

‚ Changes in the level and volatility of interest rates, house prices, employment rates and the

general economy;

‚ Changes in our strategies for and results of credit loss mitigation, interest-rate and other market

risk management activities and investment activities;

‚ The availability of debt funding and equity capital in suÇcient quantity and at attractive rates to

support continued growth in our Retained portfolio, to reÑnance maturing debt and to meet

regulatory capital requirements;

‚ Actions by governmental entities, securities rating agencies or others that could adversely aÅect

the supply or cost of equity capital or debt Ñnancing available to us;

‚ The availability from acceptable counterparties of options, interest-rate and currency swaps, and

other derivative Ñnancial instruments, or derivatives, of the types and in the quantities needed for

investment funding and risk management purposes;

‚ The rate of growth in total outstanding U.S. residential mortgage debt;

‚ The size of the residential mortgage market;

‚ Concentration of the sources of mortgage loans in a small number of originators;

‚ Borrower preferences for Ñxed-rate mortgages or ARMs;

‚ Preferences of originators to sell mortgages into the secondary market;

‚ Changes in investor preferences for mortgage loans and mortgage-related and debt securities

versus other investments;

‚ Changes in foreign exchange rates;

‚ Competition in the mortgage market and in the market for mortgage-related and debt securities;

‚ Our ability to eÅectively manage interest-rate and other market risks and credit risk;

‚ Our ability to identify, manage, mitigate and/or remedy internal control weaknesses and other

operational risks;

‚ Our ability to implement business processing improvements;

‚ Volatility of reported results due to changes in fair value of certain instruments/assets;

‚ Our ability to eÅectively and timely implement the remediation plan undertaken as a result of the

restatement of our consolidated Ñnancial statements and the consent order entered into with our

safety and soundness regulator, OFHEO, including particular initiatives relating to technical

infrastructure and controls over Ñnancial reporting;

‚ Developments in, outcomes of, impacts of, and costs, expenses, settlements and judgments related

to government investigations and civil litigation in which we are involved;

‚ SigniÑcant business disruptions resulting from acts of war or terrorism;

Freddie Mac

27
‚ The occurrence of a major natural or other disaster in a geographic area in which our total

mortgage portfolio is heavily concentrated;

‚ The degree to which our business and Ñnancial forecasting methods accurately predict actual

results;

‚ The impact of new accounting standards, including the timely development of supporting systems;

and

‚ Changes in the legislative or regulatory environment, our Congressional charter, aÅordable

housing goals, regulatory capital requirements, including the temporary 30 percent target minimum capital surplus imposed on us by OFHEO in January 2004, and the exercise or assertion of

regulatory or administrative authority beyond current practice.

We undertake no obligation to update these forward-looking statements to reÖect events or circumstances

after the date of this Information Statement, or to reÖect the occurrence of unanticipated events.

Freddie Mac

28
SELECTED FINANCIAL DATA(1)(2)

At or for the Year Ended December 31,

2003 2002 2001 2000

(dollars in millions, except share-related amounts)

Income Statement Data

Net interest income(3) ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ $ 9,498 $ 9,525 $ 7,448 $ 3,758

Non-interest income (loss)(3) ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ (259) 7,143 (1,602) 2,647

Income before cumulative eÅect of change in accounting principles, net

of taxes ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 4,816 10,090 3,115 3,666

Cumulative eÅect of change in accounting principles, net of taxes ÏÏÏÏÏ Ì Ì 43 Ì

Net income ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ $ 4,816 $ 10,090 $ 3,158 $ 3,666

Earnings per common share before cumulative eÅect of change in

accounting principles, net of taxes

Basic(4)ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ $ 6.69 $ 14.22 $ 4.19 $ 5.04

Diluted(4) ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 6.68 14.17 4.17 5.01

Earnings per common share after cumulative eÅect of change in

accounting principles, net of taxes

Basic(4)ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ $ 6.69 $ 14.22 $ 4.25 $ 5.04

Diluted(4) ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 6.68 14.17 4.23 5.01

Dividends per common share ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 1.04 0.88 0.80 0.68

Weighted average common shares outstanding (in thousands)

BasicÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 687,094 692,727 692,603 692,097

Diluted ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 688,675 695,116 695,973 695,307

Balance Sheet Data

Total assets ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ $ 803,449 $ 752,249 $ 641,100 $462,803

Debt securities, net due within one year ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 295,262 244,429 264,227 183,374

Debt securities, net due after one yearÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 438,738 415,662 311,013 244,732

Subordinated debt, due after one year ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 5,613 5,605 3,128 144

Miscellaneous liabilities(5) ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 30,420 52,914 40,489 14,252

Minority interest in consolidated subsidiaries ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 1,929 2,309 2,619 2,944

Stockholders' equity ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 31,487 31,330 19,624 17,357

Portfolio Balances(6)

Retained portfolio (unpaid principal balances)(7) ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ $ 645,466 $ 567,272 $ 497,639 $392,298

Total PCs issued and Structured Securities (unpaid principal

balances)(8) ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 1,162,068 1,090,624 961,511 838,323

Total mortgage portfolio (unpaid principal balances) ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 1,414,399 1,316,609 1,150,723 975,612

Ratios

Return on average assets(9) ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 0.6% 1.4% 0.6% 0.9%

Return on common equity(10) ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 17.2 47.2 20.2 39.0

Return on total equity(11)ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 15.3 39.6 17.1 30.2

Dividend payout ratio on common stock(12) ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 15.6 6.2 18.9 13.6

Equity to assets ratio(13)ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 4.0 3.7 3.4 2.9

(1) EÅective January 1, 2003, we adopted the provisions of FASB Interpretation No. 45 ""Guarantor's Accounting and Disclosure Requirements for Guarantees,

Including Indirect Guarantees of Indebtedness of Others,'' or FIN 45, and FASB StaÅ Position 45-2, ""Whether FASB Interpretation No. 45, "Guarantor's

Accounting and Disclosure Requirements for Guarantees, Including Indirect Guarantees of Indebtedness of Others,' or FSP FIN 45-2, Provides Support for

Subsequently Accounting for a Guarantor's Liability at Fair Value,'' or FSP 45-2. We also adopted the provisions of SFAS No. 133, ""Accounting for Derivative

Instruments and Hedging Activities,'' or SFAS 133, and the provisions of Emerging Issues Task Force, or EITF 99-20 ""Recognition of Interest Income and

Impairment on Purchased and Retained BeneÑcial Interests in Securitized Financial Assets,'' as of January 1, 2001 and April 1, 2001, respectively. See ""NOTE 1:

SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES'' to our consolidated Ñnancial statements for more information.

(2) Information at or for the year-ended December 31, 1999 is omitted because we did not restate our consolidated Ñnancial statements for periods prior to 2000.

(3) In accordance with interpretive guidance on SFAS 133, published by the OÇce of the Chief Accountant of the SEC, we reclassiÑed the accrual of periodic cash

settlements in accordance with the contractual terms of derivatives not designated in a qualifying hedge accounting relationship from Income (expense) related to

derivatives, a component of Net interest income, to Derivative gains (losses), a component of Non-interest income, for 2002 and 2001. These reclassiÑcations,

which decreased Derivative gains (losses) and increased Income (expense) related to derivatives, totaled $639 million and $456 million for 2002 and 2001,

respectively. In 2000, SFAS 133 was not in eÅect and the amount recorded in Net interest income for derivatives not designated in a qualifying hedge accounting

relationship was not signiÑcant.

(4) In accordance with the requirements of EITF Topic No. D-42, ""The EÅect of the Calculation of Earnings Per Share for the Redemption or Induced Conversion of

Preferred Stock,'' or EITF D-42, we restated the 2002 amount of Preferred stock dividends and issuance costs on redeemed preferred stock reported on our

consolidated statements of income. For the year ended December 31, 2002, the restatement increased by $5 million the amount representing issuance costs on

redeemed preferred stock and therefore reduced Net income available to common stockholders by $5 million. This caused a reduction in both basic and diluted

earnings per share for the same year by $0.01 per share. See ""NOTE 1: SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES'' to the consolidated

Ñnancial statements for additional information.

(5) Includes Due to Participation CertiÑcate investors, Accrued interest payable, Guarantee obligation for Participation CertiÑcates, Derivative liabilities, at fair value,

Reserve for guarantee losses on Participation CertiÑcates and Other liabilities.

(6) Excludes mortgage loans and mortgage-related securities traded, but not yet settled.

(7) The Retained portfolio presented in our consolidated balance sheets diÅers from the Retained portfolio on this table because the consolidated balance sheets

caption includes valuation adjustments (e.g., fair value adjustments for securities classiÑed as available for sale and trading and the Reserve for losses on mortgage

loans held for investment) and deferred balances (e.g., premiums and discounts). See ""Table 2 Ì Reconciliation of Retained Portfolio Unpaid Principal Balances

to the Consolidated Balance Sheets.''

(8) Represents PCs, Structured Securities and other credit guarantees of mortgage loans held by third parties. The balances and activities are based on the collateral

underlying the PCs and Structured Securities.

(9) Ratio computed as Net income divided by the simple average of beginning and ending Total assets.

(10) Ratio computed as Net income available to common stockholders divided by the simple average of beginning and ending Stockholders' equity, net of Preferred

stock (at redemption value).

(11) Ratio computed as Net income divided by the simple average of beginning and ending Stockholders' equity.

(12) Ratio computed as Common stock dividends declared divided by Net income available to common stockholders.

(13) Ratio computed as the simple average of beginning and ending Stockholders' equity divided by the simple average of beginning and ending Total assets.

Freddie Mac

29
MANAGEMENT'S DISCUSSION AND ANALYSIS

OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS

The discussion that follows, particularly the discussion under the caption ""Business Outlook,'' includes

forward-looking statements describing results and trends for business performance metrics during the Ñrst part

of 2004, as well as our outlook for certain metrics for the full year ending December 31, 2004. Actual results

will depend on a number of factors such as changes in interest rates and other market conditions and may

diÅer from the outlook discussed below. See ""FORWARD-LOOKING STATEMENTS'' for additional

information.

EXECUTIVE SUMMARY

Overview

We generate revenue from two primary sources: management and guarantee income from our credit

guarantee activities and net interest income from our portfolio investment activities.

Management and guarantee income represents the fee we charge mortgage originators or servicers to

guarantee the payment of principal and interest. This fee is compensation for:

‚ Guaranteeing the payment of principal and interest to security holders; and

‚ Costs incurred in administering payments on these securities, including expenses related to the

timing diÅerence between the receipt of principal and interest payments from seller/servicers and

the remittance of those payments to security holders. (See ""Due to Participation CertiÑcate

Investors'' in ""NOTE 1: SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES'' to

the consolidated Ñnancial statements for further information regarding the timing diÅerence

related to the PC remittance cycle).

The accounting policies we apply to our credit guarantee activities signiÑcantly aÅect the volatility of our

reported earnings in a number of ways, including through the initial recognition of the fair value of guarantee

assets and guarantee obligations in connection with sales of PCs and Structured Securities, the recognition of

subsequent gains or losses from the change in fair value of guarantee assets and PC residuals generated from

such sales, and the repurchase of PCs into our Retained portfolio.

Net interest income is the diÅerence between interest income earned on mortgages and mortgage-related

assets and interest expense owed on debt. To manage the interest-rate and other market risks associated with

portfolio investments and to reduce Ñnancing costs, we enter into interest-rate swaps, options and other

derivatives. Although we execute derivative transactions to manage interest-rate risk, they may signiÑcantly

aÅect, and increase the volatility of, our reported earnings. This is particularly the case where the derivative is

not accounted for in a hedge accounting relationship, because the fair value gains and losses on such

transactions are recorded on our income statement without the oÅsetting change in the value of the

economically hedged risk being recognized in earnings.

In addition to management and guarantee income and net interest income, Freddie Mac generates

revenue from fee-based activities. For instance, we earn fees associated with servicing and technology-related

programs, including Loan Prospector» (our automated underwriting system).

2003 Summary Of Results

Our 2003 operating performance underscores the strength of our underlying business and our commitment to our mission. During 2003, we Ñnanced homes for approximately 6 million families, including

2.5 million low- and moderate-income families, 184,000 Ñrst-time homebuyers and 720,000 minority families.

Our net income was $4.8 billion for 2003, a decrease of 52 percent from $10.1 billion for 2002. The net

decrease for 2003 was primarily driven by a substantial decrease in total non-interest income. Non-interest

income results continue to be aÅected by changes in unrealized gains and losses on certain Ñnancial

instruments that we report at fair value. Changes in the level and volatility of interest rates have resulted in

signiÑcant period-to-period volatility in our reported net income. To the extent changes in interest rates

Freddie Mac

30
continue to be signiÑcant, our overall net income will remain volatile. However, it is important to note that

while our reported net income under GAAP was volatile, our interest-rate risk remained low, as demonstrated

by the low levels of portfolio market value sensitivity, or PMVS, and duration gap throughout 2003. See

""CRITICAL ACCOUNTING POLICIES'' for more information.

Net interest income was down slightly, totaling $9.498 billion in 2003, compared to $9.525 billion in 2002.

The decline in 2003 results was attributable to lower yields on assets acquired in 2003 and increased

amortization expense related to premiums paid on interest earning assets, largely oÅset by the positive eÅects

of a decrease in average debt funding costs and growth in the Retained portfolio.

Net interest yield decreased to 127 basis points in 2003 from 146 basis points in 2002. The decline in

interest yield was driven by increased amortization expense related to premiums paid on interest-earning assets

and by the addition of lower-yielding mortgage-related securities in 2003, which exceeded the beneÑt of

improved funding costs and lower derivative-related expenses during 2003. During the Ñrst quarter of 2003, we

reÑned the assumptions and calculations for the amortization of deferred fees recorded as discounts on assets

in our Retained portfolio, most notably with regard to estimates of future prepayments. The eÅect on net

interest income of reÑning these assumptions, which was treated as a change in estimate and also impacted

management and guarantee income as noted below, was the recognition of $31 million of additional

amortization income during the Ñrst quarter of 2003.

Management and guarantee income, which is a component of Non-interest income (loss) on the

consolidated statements of income, was $1.6 billion in 2003, compared to $1.5 billion in 2002. Reported

management and guarantee income consists of the guarantee fee on outstanding PCs, and the amortization of

certain fees paid by the seller/servicer at the time of securitization that are amortized into management and

guarantee income over the estimated life of the security. The increase in reported management and guarantee

income in 2003 was driven by a 3 percent increase in the average balance of outstanding PCs and an increase

in net amortization income related to the fees paid to us. As noted above, during the Ñrst quarter of 2003, we

reÑned the assumptions and calculations for this fee amortization, most notably with regard to estimates of

future prepayments. The eÅect on management and guarantee income of reÑning these assumptions, which

was treated as a change in estimate, was the recognition of $110 million of additional amortization income

during the Ñrst quarter of 2003. These positive impacts were partially oÅset by a decrease in the average

contractual guarantee fee on outstanding PCs.

Non-interest income (loss), excluding Management and guarantee income, totaled ($1.9) billion in

2003, compared to $5.6 billion in 2002. The large decrease in comparison to 2002 was primarily due to: (a) a

signiÑcantly smaller net mark-to-fair value gain on derivative instruments in 2003 of $39 million, compared to

$5.3 billion in 2002; (b) losses on investment activity of ($1.1) billion in 2003, compared to gains of

$1.8 billion in 2002 (primarily due to a net mark-to-fair value loss on trading securities in 2003 of ($2.1)

billion compared to a net gain of $0.9 billion in 2002); and (c) an increase in losses on debt retirements to

($1.8) billion in 2003, from ($0.7) billion in 2002.

Non-interest expense totaled $2.2 billion in 2003, compared to $1.9 billion in 2002. During 2003, we

incurred signiÑcant increases in Other expenses primarily due to accounting, auditing and consulting costs of

approximately $124 million and legal costs of approximately $48 million associated with the restatement and

related remediation activities, the $125 million civil money penalty imposed by OFHEO, fees of $124 million

that were paid in connection with certain multifamily aÅordable housing transactions, and additional expense

of $75 million for a loss contingency related to the proceedings arising from the restatement. See

""NOTE 13: LEGAL CONTINGENCIES'' to the consolidated Ñnancial statements for additional information about legal and regulatory proceedings. Our 2002 results include a $225 million charge related to a special

cash contribution to our philanthropic program, which includes the Freddie Mac Foundation and corporate

giving programs. We did not make a similar contribution in 2003.

Total stockholders' equity increased to $31.5 billion at December 31, 2003 from $31.3 billion at

December 31, 2002. The primary drivers of the net increase were an increase in retained earnings partially

oÅset by a decrease in Accumulated other comprehensive income (loss), or AOCI, net of taxes. Retained

earnings increased as a result of net income in 2003, which was driven by the factors discussed previously,

partially oÅset by $0.9 billion in dividends declared in 2003. The decrease in AOCI, net of taxes of ($3.8)

Freddie Mac

31
billion was due to high prepayment activity related to higher coupon securities and higher interest rates at the

end of 2003 compared to the end of 2002, which resulted in a net decrease in the mark-to-fair value of

available-for-sale securities of ($5.9) billion, partially oÅset by a decrease in deferred losses related to the

eÅective portion of derivatives accounted for as cash Öow hedges of approximately $2.0 billion. The fair value

of our available-for-sale securities tends to decrease as interest rates rise. Derivatives accounted for in cash

Öow hedge relationships primarily consist of pay-Ñxed interest-rate swaps, which tend to generate gains when

interest rates rise.

As discussed in ""NOTE 13: LEGAL CONTINGENCIES'' to the consolidated Ñnancial statements, we

are subject to various legal proceedings, including regulatory investigations and administrative and civil

litigation, arising from the restatement. We believe that a loss in connection with the proceedings arising from

the restatement is probable and currently estimate the range of minimum loss to be from $75 million to

$100 million. We have established a reserve of $75 million for this loss contingency in the second quarter of

2003, the period in which many of the legal proceedings were initiated. The ultimate resolution of these

proceedings could result in losses lower than or in excess of the estimated range of minimum loss. Litigation

and claims resolution are subject to many uncertainties and are not susceptible to accurate prediction. It is not

possible for us to reasonably estimate the upper end of the range of any additional losses that might result from

adverse resolutions of any of these legal proceedings, or their potential eÅect on our Ñnancial condition or

results of operations.

In December 2003, we entered into a consent order with OFHEO. Under the terms of the consent order,

we paid a $125 million civil money penalty and we are undertaking a variety of remedial actions in accordance

with a prescribed schedule. See ""NOTE 13: LEGAL CONTINGENCIES'' to the consolidated Ñnancial

statements for more information.

Fair Value Balance Sheets For December 31, 2003 and 2002

We believe fair value measures provide an important view of our business economics and risks because

fair value takes a consistent approach to the representation of all Ñnancial assets and liabilities, rather than an

approach that combines historical cost and fair value techniques, as is the case with our GAAP consolidated

Ñnancial statements.

As presented in ""CONSOLIDATED FAIR VALUE BALANCE SHEETS,'' at December 31, 2003,

the fair value of net assets (net of tax eÅect) was $27.3 billion, a $4.4 billion, or 19 percent, increase from

December 31, 2002. For the same period, the fair value of net assets attributable to common stockholders

(representing the fair value balance sheet total net assets less the fair value of net assets attributable to

preferred stockholders) was $22.9 billion, a $4.6 billion, or 25 percent, increase from December 31, 2002. The

diÅerence between the $4.4 billion increase and the $4.6 billion increase relates to the change in the fair value

of preferred stock. Among the primary contributors to the increase in 2003 fair value balance sheet net assets

were core spread income (deÑned as the income we expect to earn from the spread between mortgage

investments and debt, calculated on an option-adjusted basis), guarantee fees on PCs and Structured

Securities held by third parties and other fee income. As discussed below under ""Business Outlook,'' the fair

value growth percentage achieved in 2003 exceeded our long-run expectations.

2003 Business Volumes

Total Mortgage Portfolio

The total mortgage portfolio grew 7 percent to $1.414 trillion at December 31, 2003, from $1.317 trillion

at December 31, 2002. New business purchase volume (which excludes purchases of PCs for the Retained

portfolio) was $834.9 billion in 2003, up from $650.7 billion in 2002. Total mortgage portfolio liquidations

were $737.1 billion in 2003, up from $484.8 billion in 2002.

Retained Portfolio

The Retained portfolio unpaid principal balance grew 14 percent to $645.5 billion at December 31, 2003,

from $567.3 billion at December 31, 2002. Mortgage-related investment opportunities were most attractive

Freddie Mac

32
during the second and third quarters, but began to lessen in the fourth quarter as strong demand from other

investors, coupled with lower mortgage originations, resulted in tighter mortgage-to-debt spreads.

The Retained portfolio and its related debt funding are the primary source of our interest-rate risk. In

2003, our interest-rate risk remained low. We provide investors with monthly interest-rate risk sensitivity

disclosures in our Monthly Volume Summary report, which is available on our website at

www.FreddieMac.com, using our primary interest-rate risk measures: PMVS and duration gap. PMVS-Level,

or PMVS-L, one of the two ways we measure PMVS, estimates the sensitivity of our fair value of net assets

attributable to common stockholders to immediate adverse shifts in the level of interest rates. (We are

providing this reference to the Monthly Volume Summary report solely for the information of interested

persons. We are not using references to this report here or elsewhere in this Information Statement to

incorporate additional information into this Information Statement.) Duration gap estimates the average daily

diÅerence (measured in months) between the estimated weighted-average lives of our Ñnancial assets,

liabilities and derivatives.

Total PCs and Structured Securities Issued and Outstanding PCs and Structured Securities

Total PCs and Structured Securities issued, which represents the unpaid principal balance of all PCs and

Structured Securities issued by us, grew 7 percent, lagging the 12.5 percent growth in U.S. residential

mortgage debt outstanding. Total PCs and Structured Securities issued increased to $1.162 trillion at

December 31, 2003, from $1.091 trillion at December 31, 2002. Historically, growth in Total PCs and

Structured Securities issued has slightly exceeded the growth in U.S. residential mortgage debt outstanding.

The below market growth in 2003 was primarily caused by weak PC price performance, together with a

substantial reduction in deliveries to us from one of our signiÑcant mortgage originators and adverse market

reaction to additional credit fees we charged for lower credit quality loans. Outstanding PCs and Structured

Securities (equal to Total PCs and Structured Securities issued less PCs and Structured Securities held in the

Retained portfolio or held as part of our PC market-making and support activities) grew 3 percent to

$752.2 billion at December 31, 2003, from $729.8 billion at December 31, 2002.

Guarantee Fees/Security Performance

In the second quarter of 2003, the demand for and price of PCs weakened relative to comparable Fannie

Mae securities. Customer contracts typically establish a Ñxed guarantee fee commitment for each mortgage

product (e.g., 15-year Ñxed-rate, 30-year Ñxed rate, or ARMs) during the period the contract is in eÅect. The

negotiated guarantee fee contained in these contracts is based on the value created for the seller through sales

of mortgage loans to us in comparison to the sales alternatives that exist. The attractiveness of the execution

we oÅer is based on this Ñxed guarantee fee and the market price of the PCs we create. In June 2003, we

began taking action to improve our market share by broadly implementing a pricing feature that adjusts the

contract guarantee fee by the security price execution diÅerence (the current level of security price spreads on

single class mortgage-related securities issued by us and Fannie Mae) at the time of the loan sale to us. This

feature adjusts guarantee fees upward or downward as the security price diÅerential moves. Given the weak

performance of our PCs in the second half of 2003, the pricing feature caused the contractual guarantee fees

on new business to be adjusted downward.

Credit Losses

Our total credit losses, deÑned as real estate owned, or REO, operations income (expense) plus net

charge-oÅs, rose slightly in 2003 but were still low as a percentage of the average total mortgage portfolio

(excluding non-Freddie Mac mortgage-related securities and the portion of Structured Securities backed by

Ginnie Mae certiÑcates). These positive results during 2003 were driven by the quality of our total mortgage

portfolio and favorable economic conditions, primarily low mortgage rates and continued single-family houseprice appreciation. Our single-family credit loss results also continued to reÖect the beneÑts of automated

underwriting, loss mitigation activities, high levels of credit enhancement we have obtained on our existing

mortgage portfolio and overall strong nationwide house-price appreciation. Multifamily market vacancy rates

continued to rise in 2003, but our portfolio had minimal losses. See ""RISK MANAGEMENT Ì Credit

Risk'' for more information.

Freddie Mac

33
Business Outlook

Financial Results for the First Half of 2004

Under GAAP, some of our assets and liabilities are measured at historical cost while others are measured

at fair value. This mixed model exposes our reported results to signiÑcant volatility. For example, our GAAP

net income reÖects fair value gains and losses on derivative instruments we hold that are not designated in

hedge accounting relationships. While we use these derivatives to economically hedge the interest-rate risk of

our mortgage business, the fair value of these derivatives can Öuctuate signiÑcantly from period to period,

based on changes both in interest rate levels and implied volatilities. The recognition of these fair value

Öuctuations in income can make our GAAP results very volatile from quarter to quarter and year to year,

aÅecting our reported net income, retained earnings and regulatory capital position. We expect this type of

volatility to adversely aÅect our GAAP results in the Ñrst half of 2004. While period-to-period changes in the

value of these derivatives must be monitored for their impact on reported earnings and regulatory capital

adequacy, we do not regard periodic, unrealized gains and losses on derivatives as a meaningful indicator of

our long-term success in generating economic returns on deployed capital.

Retained Portfolio

During the Ñrst part of 2004, our Retained portfolio purchases were low due to tight mortgage-to-debt

option-adjusted spreads. Together with high liquidations, this caused a net decrease in the Retained portfolio.

The combination of an increase in the percentage of originations in ARMs, wider option-adjusted spreads, and

slower liquidation rates on our existing portfolio have resulted in higher Retained portfolio growth in recent

months. Agency and AAA-rated non-agency adjustable-rate mortgage products currently produce attractive

risk-adjusted returns and represent an increasing percentage of our total purchases. While we still anticipate

the net Retained portfolio growth rate to be below the growth rate of mortgage debt outstanding for the fullyear 2004, we now expect that the Retained portfolio growth rate for the year will be in the low to middle

single digits. However, market conditions such as demand from other investors, mortgage origination volumes

and product mix, and liquidation rates could cause the actual growth rate to vary substantially from our

current expectations.

Regulatory Capital

We believe the current level of our capital is adequate to meet all regulatory capital requirements, and the

target capital surplus established by OFHEO in January 2004 equal to 30 percent of our minimum capital

requirement. For additional information regarding the target capital surplus, see ""Capital'' below.

Fair Value Balance Sheet Net Asset Growth

A signiÑcant portion of our fair value balance sheet net asset growth for 2003 was due to the tightening of

mortgage-to-debt option-adjusted spreads as of December 31, 2003. As a result, the increase in fair value

balance sheet net assets for 2003 was above our long-term expectations. The 2004 outlook for this metric is

inherently uncertain because the Ñnal results will depend heavily on market conditions as of December 31,

2004. Mortgage-to-debt option-adjusted spreads are currently wider than at December 31, 2003. If current

conditions remain in place, we expect fair value balance sheet net asset growth in 2004, if any, to be

signiÑcantly below the growth seen in 2003. In addition, if mortgage-to-debt option-adjusted spreads widen

materially from the current levels, then the fair value of net assets could decline in 2004.

Total PCs Issued

In 2004, we expect the growth rate of our Total PCs issued to be between 7 percent and 9 percent, slightly

lagging the 10 percent anticipated growth rate in U.S. residential mortgage debt outstanding. As mortgage

rates change over time, the ratio of Ñxed-rate mortgages to ARMs will change. As rates rise, the market tends

to produce a higher ratio of ARMs. Bank portfolios typically retain a large percentage of ARMs. In 2004, we

expect interest rates to rise and the proportion of ARMs originated to increase. As a result, bank portfolios will

likely retain a larger percentage of the loans they originate in whole loan form and the percentage of loans sold

to the GSEs will decline.

Freddie Mac

34
Guarantee Fees/Security Performance

In the second quarter of 2003, the demand for and price of our PCs weakened relative to comparable

Fannie Mae securities. As discussed above under ""2003 Business Volumes,'' in June 2003 we began to take

action to improve our security performance by broadly implementing a pricing feature that adjusts the contract

guarantee fee by the security price execution diÅerence (as previously deÑned). The downward pricing

adjustments that we made to certain mortgages securitized in the second half of 2003 have caused the

contractual guarantee fee on new business to be adjusted downward and therefore will aÅect the contractual

guarantee fee collected. During the Ñrst eight months of 2004, PC prices have strengthened compared to the

second half of 2003. This recovery is expected to have a positive impact on guarantee fees on new business

purchases, reÖecting the improvement in our security prices relative to the competition.

Credit Losses

Although single-family credit losses are expected to increase from recent levels, we currently expect

single-family market conditions to remain favorable and, given our strong credit position, we expect singlefamily credit losses to remain low as a percentage of the average total mortgage portfolio (excluding nonFreddie Mac mortgage-related securities and the portion of Structured Securities backed by Ginnie Mae

certiÑcates). Multifamily market vacancy rates are expected to stabilize in late 2004 and early 2005, with

many rental markets experiencing slow recovery from recent widespread market weakness. Nevertheless, we

expect delinquencies in the multifamily portfolio to increase somewhat this year, as loans in weaker markets

default. Although we expect multifamily credit losses to remain low in 2004, we expect to see an increase in

2005.

Administrative Expenses

We expect administrative expenses, which include Salaries and employee beneÑts, Occupancy expense

and certain Other expenses such as professional services and audit fees, to be higher than historical levels at

least through 2005 due to the signiÑcant infrastructure and control remediation eÅorts that are necessary to

address the material weaknesses in controls surrounding our Ñnancial reporting.

Capital

Table 9 summarizes our regulatory capital surpluses at the end of each quarter in 2003 based on data

reported to OFHEO. In the case of the minimum and critical capital surplus, amounts shown in the table

represent the excess of our Core capital over our minimum and critical capital requirements, as applicable.

The estimates of minimum and critical capital surplus amounts reported for the second, third and fourth

quarters of 2003 have been revised from the amounts included in our Information Statement Supplement

dated June 30, 2004 to reÖect: (a) a loss contingency reserve recorded in the second quarter of 2003 related to

proceedings arising from the restatement; and (b) the OFHEO civil money penalty that is now recorded in the

second quarter of 2003, which had been previously recorded in the fourth quarter of 2003. See ""2003

Summary of Results'' and ""NOTE 13: LEGAL CONTINGENCIES'' to the consolidated Ñnancial

statements for further information. We have submitted to OFHEO amended minimum capital reports for the

second, third and fourth quarters of 2003 that reÖect this reserve. OFHEO is the authoritative source of the

capital calculations that underlie our capital calculation. Risk-based capital surplus represents the excess of

our Total capital over our risk-based capital requirement as calculated by OFHEO. OFHEO determined not

to recalculate the risk-based capital amounts given that the minimum capital requirement remained the

determining requirement for our classiÑcation as adequately capitalized.

Freddie Mac

35
Table 9 Ì Regulatory Capital Surpluses as Reported to OFHEO(1)

2003

1Q 2Q 3Q 4Q

(dollars in millions)

Minimum Capital Surplus ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ $ 9,065 $10,185 $ 8,322 $ 9,211

Critical Capital Surplus ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ $19,857 $21,467 $20,295 $20,888

Risk-Based Capital Surplus ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ $21,314 $24,620 $27,168 $28,010

(1) See ""Table 43 Ì Regulatory Capital Requirements'' for additional information regarding our regulatory capital requirements and

capital surpluses.

On January 29, 2004, OFHEO announced the creation of a framework for monitoring our capital due to

the temporarily higher operational risk arising from our current inability to produce timely Ñnancial statements

in accordance with GAAP. The framework includes a target capital surplus of 30 percent of our minimum

capital requirement, subject to certain conditions and variations, weekly monitoring, and prior approval of

certain capital transactions, to verify that appropriate levels of capital are maintained. While OFHEO's

framework includes stringent monitoring and imposes restrictions on share repurchases and other capital

activities, we do not expect it to adversely aÅect our disciplined growth strategy in most scenarios. Had the

target capital surplus been in eÅect at December 31, 2003, our estimated surplus in excess of the target would

have been approximately $2.1 billion. For additional information, see ""LIQUIDITY AND CAPITAL

RESOURCES Ì Capital Resources Ì Capital Adequacy'' and ""NOTE 10: REGULATORY CAPITAL''

to the consolidated Ñnancial statements.

We do not expect to engage in share repurchases until after we resume timely Ñnancial reporting. As long

as the capital monitoring framework established by OFHEO remains in eÅect, any such repurchases will

require prior approval by OFHEO.

Freddie Mac

36
CRITICAL ACCOUNTING POLICIES

The notes to the consolidated Ñnancial statements contain a summary of our signiÑcant accounting

policies, including a discussion of recently issued accounting pronouncements. Certain of these policies as well

as estimates we made are critical to the presentation of our Ñnancial condition since they are particularly

sensitive to our judgment and are highly complex in nature. Some of these policies and estimates relate to

matters that are inherently uncertain. Actual results could diÅer from our estimates and it is possible that such

diÅerences could have a material impact on the consolidated Ñnancial statements. See ""NOTE 1: SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES'' to the consolidated Ñnancial statements for

additional information about these and other accounting policies. We have discussed each of these critical

accounting policies and the signiÑcant related estimates with the Audit Committee of the Board of Directors.

Fair Value

The measurement of fair value is fundamental to the presentation of our Ñnancial condition and results of

operations in our consolidated Ñnancial statements. Fair value is deÑned as an estimate of the amount at which

an instrument could be bought and sold between willing parties, in an active market and not in a forced or

liquidation sale. The estimation of fair value involves signiÑcant judgment by us. We record many of our

Ñnancial instruments at fair value in the consolidated balance sheets, with changes in these fair values

recognized as gains and losses in the consolidated statements of income or AOCI which is part of

stockholders' equity. We also prepare a fair value-basis balance sheet, which presents our assets and liabilities

at fair value (including instruments such as debt which are presented at amortized cost in the GAAP Ñnancial

statements). The fair value balance sheet satisÑes our disclosure requirements under SFAS No. 107,

""Disclosures About Fair Values of Financial Instruments,'' or SFAS 107, and is a tool to communicate our

Ñnancial position and results on a fair value basis. See ""CONSOLIDATED FAIR VALUE BALANCE

SHEETS'' and ""NOTE 16: FAIR VALUE DISCLOSURES'' to the consolidated Ñnancial statements for

more information.

Table 10 summarizes our assets and liabilities that are recorded at fair value in the consolidated GAAP

balance sheets at December 31, 2003 and 2002.

Table 10 Ì Assets and Liabilities Recorded at Fair Value

December 31,

2003 2002

(dollars in millions)

Retained portfolio

Mortgage-related securities:

Available for sale, at fair valueÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ $581,326 $496,265

Trading, at fair value ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 18,200 29,104

Participation CertiÑcate residuals, at fair value ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 671 412

Investments

Mortgage-related securities:

Trading, at fair value ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 32,817 32,366

Participation CertiÑcate residuals, at fair value ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ (5) 8

Non-mortgage-related securities:

Available for sale, at fair valueÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 31,228 66,419

Trading, at fair value ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 1,314 2,409

Other assets

Derivative assets, at fair value ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 16,180 10,393

Guarantee asset for Participation CertiÑcates, at fair value ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 3,686 2,445

Selected debt securities, net

Securities sold, not yet purchased, at fair value ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 733 6,356

Other liabilities

Derivative liabilities, at fair valueÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 357 967

Freddie Mac

37
Fair value aÅects our earnings in a variety of ways. For certain Ñnancial instruments that are carried at

fair value (such as securities classiÑed as trading, derivatives with no hedge designation, liabilities representing

short sales of Treasury securities, and guarantee assets and PC residuals), changes in fair value are recognized

in current period earnings. These income eÅects are classiÑed in several captions, including Gains (losses) on

investment activity, Derivative gains (losses) and Gains (losses) on guarantee assets for PCs, at fair value. For

other instruments that are carried at fair value (such as securities classiÑed as available for sale and derivatives

in cash Öow hedge relationships), changes in fair value are generally deferred, net of tax, in AOCI. The

deferred gains and losses in AOCI, initially measured at fair value, are recognized in earnings over time

through the application of various accounting policies concerning amortization, sale recognition for securities

sold from the available-for-sale category, and impairment recognition. Furthermore, impairments of mortgage

loans classiÑed as held for sale are marked to fair value through earnings as part of the lower of cost or market

value accounting policy. Finally, other instruments (such as guarantee obligations) are initially measured at

fair value but are not remeasured at fair value on a periodic basis. These instruments aÅect earnings over time

through the application of accounting policies addressing the amortization of these amounts into income and

extinguishment when we purchase the related PCs and Structured Securities.

The assumptions used to determine or estimate fair values reÖect our judgment regarding appropriate

valuation methods. The selection of a method to estimate fair value for each type of Ñnancial instrument

contemplates both the reliability and availability of relevant market data. The amount of management

judgment involved in estimating the fair value of an instrument is aÅected by a number of factors, such as the

type of Ñnancial instrument, the liquidity of the markets for the instrument, and the contractual characteristics

of the instrument. For some instruments, actively quoted prices or pricing parameters (such as rates, spreads

or volatilities) are available. The fair value of a substantial portion of our Ñnancial instruments is based on

quoted prices or market parameters obtained from third-party pricing services or broker-dealers in active

markets or is derived from such prices or parameters. Examples of these Ñnancial instruments include most

mortgage-related securities, derivatives and all mortgage loans. Even for instruments with a high degree of

price transparency, fair value estimation involves ongoing, signiÑcant judgment by us. These judgments

include:

‚ Evaluation of the expected reliability;

‚ Reliability and timeliness and cost of alternative valuation methodologies;

‚ Selection of third-party market data sources;

‚ Selection of proxy instruments as necessary; and

‚ Adjustments to market-derived data to reÖect diÅerences in instruments' contractual terms.

While our general principle is to use consistent valuation methodologies over time, we periodically

evaluate our methodologies and often change them to improve our fair value estimates or to accommodate

market developments or changes in data availability.

Some of our Ñnancial instruments are not traded in active markets. Examples include guarantee assets,

guarantee obligations and PC residuals. The fair value of these instruments is determined using internally

developed models that facilitate simulation of multiple future scenarios that may occur. Material assumptions

include:

‚ Projections of interest rates and housing prices; and

‚ Expectations about the resultant eÅects on prepayments, defaults and loss severity rates.

We also use signiÑcant judgment in incorporating market-implied option-adjusted spread data into our

discount rates, including the selection of benchmark interest-only securities and the application of a trailing

average option-adjusted spread assumption of up to 24 months. Similarly, the valuation of guarantee

obligations involves the use of internal models incorporating empirical data coupled with the results of an

eÅort to benchmark default and capital assumptions observed in comparable non-conforming securities

market trades adjusted (as appropriate) to reÖect diÅerences in underlying collateral and other factors.

Material assumptions include projections of credit losses (inÖuenced by expectations about factors such as

Freddie Mac

38
defaults and loss severities) and expectations about the estimated risk premium needed to address exposure to

unexpected increases in credit losses.

As described above, the determination of fair value often requires judgment and we might have

reasonably chosen diÅerent methodologies or assumptions in the current period. The use of diÅerent pricing

methodologies and assumptions could have produced materially diÅerent estimates of fair value in the periods

currently presented. However, we believe the fair values we estimated are reasonable based on internal reviews

of signiÑcant pricing models and methodologies as well as veriÑcation of Ñnancial instrument pricing with third

party broker-dealers or pricing services. Furthermore, our estimates of fair value will change in future periods

to reÖect changes in market factors such as interest rates and related volatility, credit performance,

expectations about prepayment behavior and other factors. Our estimates of fair value for individual

instruments may change by material amounts, depending on market developments. See ""RISK MANAGEMENT Ì Interest-Rate and Other Market Risks'' for discussion of market risks and our interest-rate

sensitivity disclosures, PMVS and duration gap.

Issuances and Transfers of Guaranteed Mortgage Securities

We purchase residential mortgage loans originated by mortgage lenders as well as mortgage-related

securities. One of the means by which we fund purchases of mortgage loans is through the use of

securitization-based Ñnancing. That is, we fund the purchases of such Ñnancial assets by issuing PCs, which

are undivided interests in purchased mortgage loans, and transferring such PCs to investors in exchange for

cash. We refer to securities that we issue through our resecuritization activities as Structured Securities which

we issue through the resecuritization of PCs, non-Freddie Mac mortgage-related securities and other already

issued Structured Securities. We commonly transfer Structured Securities to third parties in exchange for

either cash or mortgage-related securities that third-party securities dealers deliver to us. We also provide a

guarantee of the payment of principal and interest on tax-exempt multifamily housing revenue bonds that

support pass-through certiÑcates issued by third parties. These housing revenue bonds are collateralized by

mortgage loans on low- and moderate-income multifamily housing projects. In addition, we guarantee the

payment of principal and interest related to low- and moderate-income multifamily mortgage loans that are

originated and held by state and municipal agencies to support tax-exempt multifamily housing revenue

bonds. The unpaid principal amounts of the underlying mortgage loans are included in our deÑnition of PCs

and Structured Securities. We guarantee the payment of principal and interest on all issued PCs and

Structured Securities. Mortgage-related assets that back PCs and Structured Securities held by third parties

are not included in our consolidated Ñnancial statements. However, our obligation to provide the payment of

principal and interest on issued PCs and Structured Securities usually results in the recognition of a guarantee

asset and guarantee obligation on our consolidated balance sheets.

We evaluate whether transfers of PCs or Structured Securities qualify as sales based upon the

requirements of SFAS No. 140, ""Accounting for Transfers and Servicing of Financial Assets and Extinguishments of Liabilities'' and, prior to April 1, 2001, SFAS No. 125, ""Accounting for Transfers and Servicing of

Financial Assets and Extinguishments of Liabilities,'' which we collectively refer to as SFAS 125/140. If we

determine that a transfer of PCs or Structured Securities does not qualify as a sale, we account for such

transfers as secured borrowings. If a transfer of PCs or Structured Securities qualiÑes as a sale, we recognize

gain or loss on the sale immediately in earnings based upon the diÅerence in value between cash received, the

recognized carrying value of interests sold and the fair value of liabilities incurred upon sale. The

determination of gain or loss on sale involves our best estimate of key assumptions, including expected credit

losses and exposure to credit losses that could deviate from expected credit losses, prepayment rates, forward

yield curves and discount rates. See ""CRITICAL ACCOUNTING POLICIES Ì Fair Value'' for further

discussion concerning judgments made in connection with the valuation of guarantee assets and guarantee

obligations.

Many of the transfers of PCs and Structured Securities that are made to third parties do not qualify as

sales but are accounted for pursuant to the provisions of FIN 45. For such transactions, we recognize at the

inception of an executed guarantee a guarantee obligation that is initially measured to be the greater of

(a) fair value or (b) the contingent liability amount required to be recognized at inception of the guarantee by

paragraph 8 of SFAS No. 5, ""Accounting For Contingencies,'' or SFAS 5. We also recognize the fair value of

Freddie Mac

39
any consideration received on such transactions. Positive diÅerences between the fair value of consideration

received and guarantee obligations incurred are deferred, while negative diÅerences between such amounts are

recognized immediately in earnings.

Table 11 summarizes securitization activity in 2003, 2002 and 2001.

Table 11 Ì Securitization Activity

Year Ended

2003 2002 2001

(dollars in millions)

Transfers of Freddie Mac securities that were accounted for as sales ÏÏÏÏ $347,874 $241,214 $158,166

Gain on sale(1)ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 711 874 311

(1) Subsequent to the issuance of our 2002 Information Statement dated February 27, 2004, we revised the amounts reported above for

Gain on sale for the years ended December 31, 2002 and 2001, respectively, to conform previously reported amounts with methods

used in 2003 to quantify gain on sale (as further discussed in ""NOTE 2: TRANSFERS OF SECURITIZED INTERESTS IN

MORTGAGE-RELATED ASSETS'' to the consolidated Ñnancial statements). This revision had no impact on the consolidated

Ñnancial statements.

The measurement of recognized guarantee assets, guarantee obligations and credit enhancement-related

assets involves our best estimate of key assumptions, including expected credit losses and the exposure to

credit losses that could be greater than expected credit losses, prepayment rates, forward yield curves and

discount rates. We believe that the assumptions we made in this regard are comparable to those used by other

market participants. The use of diÅerent pricing models and assumptions could produce materially diÅerent

results. See ""NOTE 2: TRANSFERS OF SECURITIZED INTERESTS IN MORTGAGE-RELATED

ASSETS'' to the consolidated Ñnancial statements for further discussion of methodologies we used to

determine the fair values of guarantee assets and obligations.

Hedge Accounting

Our Retained portfolio activities and our funding of these investments with a mix of short- and long-term

debt expose us to interest-rate risk and other market risks. In particular, a mortgage borrower's prepayment

option makes the timing and amount of mortgage prepayments very sensitive to changes in interest rates. The

borrower's option exposes us to a potential mismatch in cash inÖows from the mortgage assets we purchase for

investment as compared to cash outÖows required to make payments on our debt. We manage this interestrate risk through various investment and funding activities, as well as through the use of derivatives.

We recognize all derivatives, whether designated in hedging relationships or not, as either assets or

liabilities on our consolidated balance sheets at fair value. Derivatives that are expected to be highly eÅective

in reducing the risk associated with the exposure being hedged may be designated for accounting purposes as a

hedge of the cash Öows of a variable-rate instrument or a forecasted transaction (a cash Öow hedge), a hedge

of the changes in fair value of a Ñxed-rate instrument (a fair value hedge), or a foreign currency fair value or

cash Öow hedge (a foreign currency hedge). The change in fair value of derivatives that are not in hedge

accounting relationships is reported in the consolidated statements of income in the period in which it occurs.

The change in fair value of derivatives that are in cash Öow hedging accounting relationships, to the extent

these relationships are eÅective, is recorded as a separate component of AOCI, net of taxes, on the

consolidated balance sheets and reclassiÑed into the consolidated statements of income when the earnings

eÅect of the hedged risk is recorded. The change in fair value of derivatives that are in fair value hedge

accounting relationships is recorded each period in the consolidated statements of income, along with the

change in fair value of the hedged item.

The determination of whether a derivative qualiÑes for hedge accounting requires judgment about the

application of SFAS 133, as amended by SFAS No. 138, ""Accounting for Certain Derivative Instruments and

Certain Hedging Activities'' and SFAS No. 149 ""Amendment of Statement 133 on Derivative Instruments

and Hedging Activities,'' which we collectively refer to as SFAS 133. SFAS 133 requires contemporaneous

documentation of our hedge relationships, including the identiÑcation of the hedged item, the hedging

instrument, the nature of the hedged risk and the method used to assess the eÅectiveness of the hedge

relationship. We use statistical analysis or comparison of the critical terms of the hedging instrument to those

Freddie Mac

40
of the hedged item to assess the eÅectiveness of hedges. If our documentation and assessments are not

adequate, the derivative does not qualify for hedge accounting. SFAS 133 also requires the periodic

measurement and earnings recognition of the ineÅective portion of the change in fair value of derivatives that

are designated as part of hedge accounting relationships.

Derivatives designated as cash Öow hedges generally hedge interest-rate risk related to forecasted

issuances of debt. For these hedging relationships to qualify for hedge accounting, we must estimate the

probable future level of certain types of debt issuances. These estimates are made based on our expectation of

future funding needs and the future mix of funding sources. Our expectations about future funding are based

upon projected growth and historical activity. If the estimates of future funding needs were to decrease or if

the expected mix of debt funding were to become more concentrated in instruments that we did not designate

in hedge accounting relationships, fewer derivatives could be designated as cash Öow hedges and material

amounts that we currently defer and report in AOCI would be reported in Derivatives gains (losses) in the

consolidated statements of income. If our estimates of future funding are not realized, certain cash Öow

hedging relationships may no longer qualify for hedge accounting and material amounts that were deferred

and reported in AOCI would be immediately recognized in Derivatives gains (losses) in the consolidated

statements of income. We believe that the forecasted issuances of debt hedged in cash Öow hedging

relationships are probable of occurring.

Hedge accounting also requires us to measure hedge ineÅectiveness and recognize it currently in the

consolidated statements of income. For cash Öow hedging relationships, we have elected to use the

hypothetical derivative method, one of three methods acceptable under GAAP. This method requires us to

develop a hypothetical derivative whose terms match those of the hedged item and compare estimated

changes in it to changes in the hedging derivative. Development of this hypothetical derivative requires us to

make certain assumptions and estimates. The use of diÅerent assumptions and estimates could result in a

materially diÅerent amount of recorded ineÅectiveness. We believe that our assumptions and estimates used

to develop the hypothetical derivative are reasonable.

We use derivatives designated as fair value hedges generally to hedge interest-rate risk in existing debt

instruments. Certain fair value hedging relationships are frequently terminated and started anew, or

redesignated because the eÅectiveness of these relationships may deteriorate over time. When the hedge is

terminated or redesignated, the fair value adjustment to the carrying amount of the hedged asset or liability is

amortized to earnings as a component of the hedged item's interest income or expense over the remaining life

of the hedged item using the eÅective yield method. In addition, a new hedging relationship may be formed.

Thus, frequent redesignation may introduce material income statement volatility. Each time a hedging

relationship is terminated and a new hedging relationship is formed, new documentation and assessments of

eÅectiveness are required.

For a more detailed description of our use of derivatives and summaries of derivative positions, see

""RISK MANAGEMENT Ì Interest-Rate and Other Market Risks Ì Interest-Rate Risk Management and

Use of Derivatives.''

Reserves for Losses on Mortgage Loans Held for Investment and Losses on PCs

We maintain a Reserve for losses on mortgage loans held for investment to provide for credit losses

incurred in that portfolio. At December 31, 2003 and 2002, the Reserve for losses on mortgages held for

investment was $174 million and $177 million, respectively. The Reserve for losses on mortgage loans held for

investment is determined pursuant to the provisions of SFAS 5 and SFAS No. 114, ""Accounting by Creditors

for Impairment of a Loan Ì an Amendment of FASB Statements No. 5 and 15,'' or SFAS 114. We also

maintain a Reserve for guarantee losses on Participation CertiÑcates to provide for losses incurred on

mortgages underlying PCs or Structured Securities held by third parties. At December 31, 2003 and 2002, the

Reserve for guarantee losses on Participation CertiÑcates was $125 million and $88 million, respectively. The

Reserve for guarantee losses on Participation CertiÑcates is determined pursuant to the provisions of SFAS 5.

The Reserve for losses on mortgage loans held for investment and the Reserve for guarantee losses on

Participation CertiÑcates are collectively referred to as the loan loss reserves. Increases in loan loss reserves

that relate to both mortgage loans held in portfolio and PCs or Structured Securities held by third parties are

Freddie Mac

41
reÖected in earnings as a component of the Provision for credit losses. Decreases in loan loss reserves are

reÖected through either (a) charging-oÅ such balances (net of recoveries) where realized losses are recorded

or (b) reducing Provision for credit losses.

Loan loss reserves are also increased upon the sale of PCs and Structured Securities for which we

incurred losses on the underlying mortgage loans while such securities were held in portfolio. From an earnings

perspective, such incurred losses are recognized as a component of Gains (losses) on investment activity

through, where applicable, (a) the subsequent measurement of corresponding PC residuals that are classiÑed

as trading (and to which such PCs or Structured Securities relate), (b) the recognition of impairment-related

losses on such securities (i.e., to the extent that such securities do not have recognized PC residual balances

associated with them that are classiÑed as trading) or (c) as a component of gain (loss) on sale of such

securities. In this regard, and upon the sale of such PCs or Structured Securities, incurred losses are classiÑed

on the consolidated balance sheets as Reserve for guarantee losses on Participation CertiÑcates. See

""NOTE 1: SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES Ì Recently Adopted Accounting Standards and Accounting Changes Ì Accounting for Financial Guarantees,'' to the consolidated

Ñnancial statements for a discussion of the impact of newly adopted accounting standards on the loan loss

reserves in 2003. See ""NOTE 1: SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES'' and

""NOTE 6: LOAN LOSS RESERVES'' to the consolidated Ñnancial statements for more information about

our process for determining the loan loss reserves.

The process for determining the level of loan loss reserves is subject to numerous estimates and

assumptions that are highly uncertain and require a high degree of judgment. The underlying estimates and

assumptions used in determining the loan loss reserves are regularly evaluated by us and updated to reÖect our

own historical experience and our current view of overall economic conditions and other relevant factors.

Changes in one or more of these underlying estimates and assumptions could have a material impact on the

loan loss reserves and the provision for credit losses. The degree to which a change in these estimates and

assumptions impacts the loan loss reserves is dependent upon the signiÑcance of such change. Key estimates

and assumptions that could have an impact on loan loss reserves include:

‚ Loss severity trends;

‚ Default experience;

‚ Expected proceeds from credit enhancements;

‚ Evaluation of collateral; and

‚ IdentiÑcation of relevant macroeconomic factors and assessment of their applications.

The factors we have chosen are based on all available information and our knowledge and experience in

the single-family and multifamily loan markets. As a signiÑcant amount of judgment is exercised in selecting

these factors, had we made diÅerent determinations in the selection of these factors, a materially diÅerent

level of loan loss reserves could have resulted. Additionally, it is possible that others, given the same

information, could have reached diÅerent reasonable conclusions. However, we believe the level of loan loss

reserves are reasonable based on internal reviews of the factors and methodologies used. Actual credit loss

experience could diÅer from our current estimates.

Freddie Mac

42
Table 12 summarizes the activity in loan loss reserves in 2003 and 2002.

Table 12 Ì Loan Loss Reserves

December 31,

2003 2002

(dollars in millions)

Beginning balance ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ $265 $ 224

Provision for credit losses ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 10 128

Charge-oÅs ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ (224) (171)

Recoveries(1) ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 119 84

Charge-oÅs, net ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ (105) (87)

Adjustment for change in accounting(2) ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 110 Ì

Transfers-in during the period(3) ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 19 Ì

Ending balanceÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ $299 $ 265

(1) Includes recoveries of charge-oÅs primarily resulting from foreclosure alternatives and REO acquisitions on loans where the primary

default risk has been assumed by servicers, mortgage insurers, or third parties through credit enhancements. Recoveries of chargeoÅs through credit enhancements are limited in many instances to amounts less than the full amount of the loss.

(2) On January 1, 2003, that portion of recognized guarantee obligations that was attributable to estimated incurred losses on outstanding

PCs or Structured Securities, of $110 million, was reclassiÑed to Reserve for guarantee losses on Participation CertiÑcates.

(3) Represents estimated losses that were incurred in 2003 related to PCs and Structured Securities transferred to third parties in 2003.

Interest Income Recognition and Impairment Recognition

For most of our investments in mortgage-related securities and non-mortgage related securities, interest

income is recognized using the eÅective interest method in accordance with SFAS No. 91, ""Accounting for

Nonrefundable Fees and Costs Associated with Originating or Acquiring Loans and Initial Direct Costs of

Leases,'' or SFAS 91. Deferred items, including premiums, discounts and other basis adjustments such as

changes in commitment-period fair value, are amortized into interest income over the estimated lives of the

securities using the retrospective eÅective interest method in accordance with SFAS 91. Under the

retrospective method, we recalculate the constant eÅective yield based on changes in estimated prepayments

and actual prepayments versus anticipated prepayments. Catch-up adjustments to the unamortized balance of

premiums, discounts and other deferred items that result from applying the updated eÅective yield as if it had

been in eÅect since acquisition are recognized through interest income. For certain other investments in

mortgage-related securities and non-mortgage-related securities classiÑed as available for sale, interest income

is recognized using the prospective eÅective interest method in accordance with EITF No. 99-20, ""Recognition of Interest Income and Impairment on Purchased and Retained BeneÑcial Interests in Securitized

Financial Assets,'' or EITF 99-20. Under the prospective method, changes in the eÅective yield are recognized

as adjustments to interest income in future periods. We speciÑcally apply such guidance to beneÑcial interests

(including undivided interests which are similar to beneÑcial interests) in securitized Ñnancial assets that:

‚ Can contractually be prepaid or otherwise settled in such a way that we may not recover

substantially all of our recorded investment (such as interest-only stripped securities); or

‚ Are not of high credit quality at the date that Freddie Mac acquired them.

We use actual prepayment experience and estimates of future prepayments to determine the constant

yield needed to apply the eÅective interest method of income recognition. In estimating future prepayments

and cash Öows, we aggregate securities by similar characteristics of their underlying collateral such as

origination date, coupon and maturity. For securities with structured cash Öow payments, such as Structured

Securities we also consider the characteristics of other security classes within the same transaction structure

when estimating future prepayments and cash Öows. Estimates of future prepayments are derived from market

sources and prepayment models. Determination of the eÅective yield requires signiÑcant judgment in

estimating expected prepayment behavior, which is inherently uncertain. Our prepayment models contemplate

a variety of assumptions about borrower behavior in response to changes in interest rates and other

macroeconomic factors. Judgment is involved in making initial determinations about prepayment expectations

and in changing those expectations over time in response to changes in market conditions. The eÅects of future

Freddie Mac

43
changes in market conditions may be material. We believe that the above assumptions are comparable to

those used by other market participants. However, the use of diÅerent assumptions in our prepayment models

could have resulted in materially diÅerent income recognition results.

We recognize impairment losses on available-for-sale securities in our Retained portfolio and cash and

investments portfolio when we have concluded that a decrease in the fair value of a security is other than

temporary. More speciÑcally, EITF 99-20 requires impairment recognition when there is both a decline in fair

value below the carrying amount and an adverse change in expected cash Öows. Determination of whether an

adverse change has occurred involves judgment about expected prepayments and credit events. For securities

not accounted for under EITF 99-20, we review securities for possible other-than-temporary impairment when

a security meets one or more of a series of objective criteria relative to its fair value compared to its amortized

cost, credit ratings, the amount of time the investment has been in an unrealized loss position, or if we

otherwise believe that an unrealized loss is other than temporary based on qualitative indicators of potential

impairment. We apply signiÑcant judgment in selecting these objective criteria and in otherwise determining

whether impairment loss recognition is appropriate. We believe our judgments are reasonable; however,

diÅerent judgments could have resulted in materially diÅerent impairment loss recognition.

See ""NOTE 1: SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES'' to the consolidated

Ñnancial statements for a discussion of the potential impact of EITF 03-1.

Accounting Changes and Future Application of Accounting Standards

See ""NOTE 1: SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES'' to the consolidated

Ñnancial statements for more information concerning accounting changes and new accounting

pronouncements.

Freddie Mac

44
CONSOLIDATED RESULTS OF OPERATIONS

MD&A, and the following discussion of our consolidated results of operations in particular, should be

read in conjunction with the notes to our consolidated Ñnancial statements.

Table 13 summarizes our Ñnancial performance for the periods presented.

Table 13 Ì Summary of Consolidated Results

2003 vs. 2002 2002 vs. 2001

Year Ended Year Ended

December 31, Change Change December 31,

2003 2002 Dollar Percent 2001 Dollar Percent

(in millions, except per share amounts)

Net interest income ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ $ 9,498 $ 9,525 $ (27) Ì% $ 7,448 $ 2,077 28%

Non-interest income (loss)

Management and guarantee income ÏÏÏ 1,638 1,516 122 8 1,392 124 9

Gains (losses) on ""Guarantee asset for

Participation CertiÑcates, at fair

value'' ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ (1,461) (2,176) 715 (33) (789) (1,387) 176

Income (expense) on ""Guarantee

obligation for Participation

CertiÑcates'' ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 925 592 333 56 203 389 192

Derivative gains (losses) ÏÏÏÏÏÏÏÏÏÏÏÏÏ 39 5,302 (5,263) (99) (2,313) 7,615 (329)

Hedge accounting gains (losses) ÏÏÏÏÏÏ 644 187 457 244 (294) 481 (164)

Gains (losses) on investment activity ÏÏ (1,114) 1,799 (2,913) (162) 191 1,608 842

Gains (losses) on debt retirement ÏÏÏÏÏ (1,775) (674) (1,101) 163 (356) (318) 89

Resecuritization fees ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 352 276 76 28 135 141 104

Other income ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 493 321 172 54 229 92 40

Total non-interest income (loss) ÏÏ (259) 7,143 (7,402) (104) (1,602) 8,745 (546)

Non-interest expense

Provision for credit losses ÏÏÏÏÏÏÏÏÏÏÏÏ (10) (128) 118 (92) (32) (96) 300

REO operations income (expense) ÏÏÏÏ 23 13 10 77 (7) 20 (286)

Salaries and employee beneÑts ÏÏÏÏÏÏÏÏ (624) (593) (31) 5 (537) (56) 10

Occupancy expense ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ (52) (42) (10) 24 (35) (7) 20

Housing tax credit partnerships ÏÏÏÏÏÏÏ (200) (160) (40) 25 (121) (39) 32

Minority interest in earnings of

consolidated subsidiaries ÏÏÏÏÏÏÏÏÏÏÏ (157) (184) 27 (15) (208) 24 (12)

Other expenses ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ (1,201) (771) (430) 56 (452) (319) 71

Total non-interest expense ÏÏÏÏÏÏÏ (2,221) (1,865) (356) 19 (1,392) (473) 34

Income before income tax expense and

cumulative eÅect of change in

accounting principles ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 7,018 14,803 (7,785) (53) 4,454 10,349 232

Income tax expense ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ (2,202) (4,713) 2,511 (53) (1,339) (3,374) 252

Income before cumulative eÅect of

change in accounting principles, net of

taxes ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 4,816 10,090 (5,274) (52) 3,115 6,975 224

Cumulative eÅect of change in accounting

principles, net of taxesÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ Ì Ì Ì Ì 43 (43) (100)

Net income ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 4,816 10,090 (5,274) (52) 3,158 6,932 220

Preferred stock dividends and issuance

costs on redeemed preferred stock(1) ÏÏÏ (216) (239) 23 (10) (217) (22) 10

Net income available to common

stockholders(1) ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ $ 4,600 $ 9,851 $(5,251) (53)% $ 2,941 $ 6,910 235%

Diluted earnings per common share after

cumulative eÅect of change in

accounting principles, net of taxes(1) ÏÏÏ $ 6.68 $ 14.17 $ (7.49) (53)% $ 4.23 $ 9.94 235%

(1) In accordance with the requirements of EITF D-42, we restated the 2002 amount of Preferred stock dividends and issuance costs on redeemed preferred stock

reported on our consolidated statements of income. For the year ended December 31, 2002, the restatement increased by $5 million the amount representing

issuance costs on redeemed preferred stock and therefore reduced Net income available to common stockholders by $5 million. This caused a reduction in both

basic and diluted earnings per share for the same year of $0.01 per share. See ""NOTE 1: SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES Ì

Recently Issued Accounting Standards'' to the consolidated Ñnancial statements for additional information.

Freddie Mac

45
Net Interest Income

Net interest income, our principal source of earnings, represents the diÅerence between interest income

and interest expense. Net interest income is aÅected by changes in the balance and contractual rates associated

with our interest-bearing assets, liabilities and derivative contracts, as adjusted for amortization of premiums

and discounts and amortization of deferred hedging gains and losses as explained later in ""Analysis of

Quarterly Results.'' We analyze net interest income, and the related net interest yield, on a taxable-equivalent

basis to consistently reÖect income from taxable and tax-exempt investments based on a 35 percent marginal

tax rate.

In 2003, in accordance with interpretive guidance published by the OÇce of the Chief Accountant of the

SEC, we reclassiÑed the accrual of periodic cash settlements in accordance with the contractual terms of

derivatives not designated in hedge accounting relationships from Income (expense) related to derivatives, a

component of Net interest income, to Derivative gains (losses), a component of Non-interest income (loss).

These amounts have also been reclassiÑed in all prior periods to conform to the 2003 presentation.

Freddie Mac

46
2003 versus 2002

Table 14 summarizes net interest income for 2003 compared to 2002, and the related analysis of the

eÅect of changes in the rates and volumes of our interest-bearing assets and liabilities on the changes in net

interest income between 2003 and 2002.

Table 14 Ì Net Interest Income and Rate/Volume Analysis (2003 compared to 2002)

Attributable to Increase 2003 2002 Changes in(1)

(Decrease)

Amount Yield Amount Yield to Amount Rate Volume

(dollars in millions)

Interest income:

Mortgage loans ÏÏÏÏÏÏÏÏÏÏÏÏÏÏ $ 4,251 6.70% $ 4,290 7.02% $ (39) $ (199) $ 160

Mortgage-related securities(2) ÏÏ 29,051 5.34 30,039 6.39 (988) (5,330) 4,342

Total Retained portfolioÏÏÏÏÏ 33,302 5.48 34,329 6.46 (1,027) (5,529) 4,502

Cash and investments ÏÏÏÏÏÏÏÏ 3,796 2.63 4,147 3.41 (351) (718) 367

Total interest-earning assets 37,098 4.93 38,476 5.89 (1,378) (6,247) 4,869

Interest expense:

Short-term debt ÏÏÏÏÏÏÏÏÏÏÏÏÏ (2,785) (1.21) (4,303) (2.03) 1,518 1,849 (331)

Long-term debtÏÏÏÏÏÏÏÏÏÏÏÏÏÏ (22,083) (4.62) (21,337) (5.24) (746) 2,725 (3,471)

Total interest expense on

debt securities ÏÏÏÏÏÏÏÏÏÏÏ (24,868) (3.52) (25,640) (4.15) 772 4,574 (3,802)

Due to Participation CertiÑcate

investors ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ (1,641) (6.26) (1,236) (6.82) (405) 110 (515)

Total expense on interestbearing liabilitiesÏÏÏÏÏÏÏÏÏ (26,509) (3.62) (26,876) (4.23) 367 4,684 (4,317)

Income (expense) related to

derivatives(3) ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ (1,091) (0.15) (2,075) (0.32) 984 984 Ì

Impact of net non-interest-bearing

fundingÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ Ì 0.10 Ì 0.13 Ì Ì Ì

Net interest income(3)(4) ÏÏÏÏ 9,498 1.27 9,525 1.46 (27) (579) 552

Fully taxable-equivalent

adjustment ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 227 0.03 252 0.04 (25) 9 (34)

Net interest income (fully

taxable-equivalent basis)(3)(4) ÏÏ $ 9,725 1.30% $ 9,777 1.50% $ (52) $ (570) $ 518

(1) Combined rate/volume changes are allocated to the individual rate and volume changes based on their relative size.

(2) Subsequent to the announcement of our 2003 Ñnancial results in our Information Statement Supplement dated June 30, 2004, we

revised the average balances of Mortgage-related securities in the Retained portfolio to include certain basis adjustments related to

these securities. This revision resulted in a decrease to the Average Balance of Mortgage-related securities in the Retained portfolio

of $112 million and $175 million for the years 2003 and 2002, respectively, as well as an increase of 0.01 percent to the 2002 Yield

related to Mortgage-related securities in the Retained portfolio. This revision also resulted in corresponding changes to the related

Rate/Volume Analysis.

(3) In 2003 we reclassiÑed the accrual of periodic cash settlements in accordance with the contractual terms of derivatives not designated

in hedge accounting relationships from Income (expense) related to derivatives to Derivative gains (losses). For comparative

purposes, we reclassiÑed $639 million of expense from Income (expense) related to derivatives to Derivative gains (losses) in 2002.

(4) May not sum due to rounding.

Net interest income on a fully taxable-equivalent basis decreased by $52 million to $9,725 million in 2003

from $9,777 million in 2002. During 2003, interest income on mortgage-related securities declined by

$988 million, or 3 percent. The interest income generated by the 14 percent growth in the unpaid principal

balance of the Retained portfolio was more than oÅset by the accelerated amortization of higher net premiums

on these securities, lower yields on assets acquired due to the low interest rate environment during 2003, and

the continued liquidation of higher-yielding assets during 2003. Net interest income and net interest yield were

reduced as the yield on interest-earning assets declined at a faster rate than the cost of debt funding during

2003. During the Ñrst quarter of 2003, we reÑned the assumptions and calculations for the amortization of

deferred fees recorded as discounts on assets in our Retained portfolio. The eÅect on net interest income of

reÑning these assumptions, which was treated as a change in estimate, was the recognition of $31 million of

additional amortization income during the Ñrst quarter of 2003. As discussed below, these reÑned assumptions

Freddie Mac

47
also aÅected management and guarantee fee income. Interest income related to cash and investments declined

by $351 million, or 8 percent, during 2003 as the negative impact of declining interest rates during the Ñrst half

of 2003 was only partially oÅset by the 19 percent increase in the average balances of cash and investments

during 2003.

The decline in short-term interest rates during the Ñrst half of 2003 was the primary factor in the decline

in interest expense related to short-term debt for the year of $1,518 million, or 35 percent, which was only

partially oÅset by an 8 percent increase in the average balances of short-term debt during the year. Interest

expense related to long-term debt increased by $746 million, or 3 percent, during 2003 as the average balances

of long-term debt increased by 17 percent, which oÅset the beneÑt of issuing new debt at lower rates. We

repurchased approximately $27 billion of long-term debt during 2003 and issued new debt at lower average

rates in most cases. The most signiÑcant debt repurchases in 2003 occurred in the second quarter when we

repurchased an aggregate of approximately $17 billion of U.S. dollar and Euro-denominated debt securities,

most of which followed the announcement of changes in our senior management. We executed these

particular repurchases in an eÅort to support the liquidity and price performance of these securities. Gains and

losses on debt retirement are reported as a component of Non-interest income (loss).

Interest expense related to amounts due to PC investors increased by $405 million to ($1,641) million in

2003 from ($1,236) million in 2002 as prepayments on the collateral underlying PCs accelerated during the

Ñrst part of 2003 in response to declining interest rates. The liquidation rate on outstanding PCs and

Structured Securities increased to 63 percent in 2003 from 47 percent in 2002. For a further discussion of how

the prepayments of the collateral underlying PCs aÅect net interest income, see ""Analysis of Quarterly

Results Ì Interest Expense Related to Amounts Due to Participation CertiÑcate Investors.''

Income (expense) related to derivatives, which includes the accrual of periodic cash settlements on

interest-rate swap transactions accounted for as hedges and amortization of net deferred losses on closed cash

Öow hedges, improved by $984 million, decreasing to ($1,091) million in 2003 from ($2,075) million in 2002.

During 2002 and into 2003, we terminated pay-Ñxed swaps to help manage the funding mismatch caused by

the decrease in the expected lives of mortgage investments and an increase in the balance of long-term debt.

In 2002, the portfolio of swaps designated in hedge accounting relationships was in a net pay-Ñxed position,

which resulted in increasing interest expense as market interest rates declined.

Net interest yield on a fully taxable-equivalent basis decreased by 20 basis points to 130 basis points in

2003 from 150 basis points in 2002. For 2003, net interest yield was lower as declines in yields on interestearning assets outpaced the beneÑt of lower funding costs. The net interest yield on interest-earning assets

declined as a result of high liquidations in the Ñrst three quarters of 2003 and the acquisition of new assets in a

lower rate environment. The net interest yield on debt securities declined as the result of our long-term debt

retirements, primarily in the second quarter of 2003, and subsequent reÑnance activity, primarily decreasing

our short-term funding costs. Overall net interest yield declined as our interest-earning assets repriced faster

than our debt.

Freddie Mac

48
2002 versus 2001

Table 15 summarizes net interest income for 2002 compared to 2001, and the related rate/volume

analysis for the changes between 2002 and 2001.

Table 15 Ì Net Interest Income and Rate/Volume Analysis (2002 compared to 2001)

Attributable to Increase 2002 2001 Changes in(1)

(Decrease)

Amount Yield Amount Yield to Amount Rate Volume

(dollars in millions)

Interest income:

Mortgage loans ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ $ 4,290 7.02% $ 4,385 7.22% $ (95) $ (118) $ 23

Mortgage-related securities(2) ÏÏÏ 30,039 6.39 26,847 6.92 3,192 (2,201) 5,393

Total Retained portfolioÏÏÏÏ 34,329 6.46 31,232 6.96 3,097 (2,319) 5,416

Cash and investments ÏÏÏÏÏÏÏÏÏ 4,147 3.41 4,136 4.82 11 (1,448) 1,459

Total interest-earning assets 38,476 5.89 35,368 6.62 3,108 (3,767) 6,875

Interest expense:

Short-term debt ÏÏÏÏÏÏÏÏÏÏÏÏÏÏ (4,303) (2.03) (9,056) (4.23) 4,753 4,670 83

Long-term debtÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ (21,337) (5.24) (17,494) (6.00) (3,843) 2,416 (6,259)

Total interest expense on

debt securities ÏÏÏÏÏÏÏÏÏÏ (25,640) (4.15) (26,550) (5.25) 910 7,086 (6,176)

Due to Participation CertiÑcate

investors ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ (1,236) (6.82) (1,027) (7.27) (209) 66 (275)

Total expense on interestbearing liabilitiesÏÏÏÏÏÏÏÏ (26,876) (4.23) (27,577) (5.31) 701 7,152 (6,451)

Income (expense) related to

derivatives(3) ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ (2,075) (0.32) (343) (0.07) (1,732) (1,732) Ì

Impact of net non-interest-bearing

fundingÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ Ì 0.13 Ì 0.17 Ì Ì Ì

Net interest income(3)(4) ÏÏÏ 9,525 1.46 7,448 1.41 2,077 1,653 424

Fully taxable-equivalent adjustment 252 0.04 237 0.04 15 4 11

Net interest income (fully taxableequivalent basis)(3)(4) ÏÏÏÏÏÏÏÏÏÏ $ 9,777 1.50% $ 7,685 1.45% $ 2,092 $ 1,657 $ 435

(1) Combined rate/volume changes are allocated to the individual rate and volume changes based on their relative size.

(2) Subsequent to the announcement of our 2003 Ñnancial results in our Information Statement Supplement dated June 30, 2004, we

revised the average balances of Mortgage-related securities in the Retained portfolio to include certain basis adjustments related to

these securities. This revision resulted in a decrease to the Average Balance of Mortgage-related securities in the Retained portfolio

of $175 million and $121 million for the years 2002 and 2001, respectively, as well as an increase of 0.01 percent to the 2002 Yield

related to Mortgage-related securities in the Retained portfolio. This revision also resulted in corresponding changes to the related

Rate/Volume Analysis.

(3) In 2003 we reclassiÑed the accrual of periodic cash settlements in accordance with the contractual terms of derivatives not designated

in hedge accounting relationships from Income (expense) related to derivatives to Derivative gains (losses). For comparative

purposes, we reclassiÑed $639 million and $456 million of expense from Income (expense) related to derivatives to Derivative gains

(losses) in 2002 and 2001, respectively.

(4) May not sum due to rounding.

Net interest income on a fully taxable-equivalent basis increased $2,092 million, or 27 percent, to

$9,777 million in 2002 from $7,685 million in 2001. The increase in net interest income was primarily due to a

continuation during 2002 of the steep yield curve environment that existed in 2001. A steepening yield curve

means that short-term interest rates are decreasing more than long-term rates, or are increasing at a slower

rate than long-term rates. The decrease in short-term interest rates during 2002 coupled with the steepening

yield curve resulted in a reduction in short-term debt costs and wider initial mortgage-to-debt spreads on

additions to the Retained portfolio. An increase of $83 billion, or 18 percent, in the average balance of the

Retained portfolio in 2002 also contributed to the increase in net interest income. See ""CONSOLIDATED

BALANCE SHEETS ANALYSIS Ì Retained Portfolio'' for a discussion regarding changes in the balance

of the Retained portfolio.

Freddie Mac

49
The positive eÅects of the steep yield curve and Retained portfolio growth on net interest income were

oÅset by higher expenses related to the accrual of periodic cash settlements of derivatives in hedge accounting

relationships and increased amortization expense associated with (1) net premiums on mortgage-related

investments and (2) deferred hedging losses related to terminated pay-Ñxed swaps recorded in AOCI. The

increase in amortization expense was caused by decreases in long-term rates during 2002, which shortened the

expected lives of mortgage-related investments resulting in accelerated amortization of related premiums. In

addition, we terminated pay-Ñxed swaps in cash Öow hedge accounting relationships in loss positions, resulting

in increased amortization expense related to closed hedge positions. As discussed in ""CONSOLIDATED

BALANCE SHEETS ANALYSIS Ì Total Debt Securities, Net,'' the termination of these pay-Ñxed swaps

shortened the eÅective duration of our liabilities to address the decrease in the expected lives of mortgage

investments. For further information regarding amortization of premiums, discounts and hedging gains and

losses, see ""Analysis of Quarterly Results'' below.

Net interest yield on a fully taxable-equivalent basis increased by 5 basis points to 150 basis points in

2002 from 145 basis points in 2001. This relatively small change in net interest yield was the net result of the

eÅects of the steep yield curve, increased amortization expense and the shift in the mix of interest-earning

assets toward cash and investments which typically generates relatively lower yields. The average balance of

cash and investments increased by 42 percent, fueled by cash inÖows from prepayments on outstanding PCs.

Limited Retained portfolio investment opportunities during certain periods of 2002 also contributed to growth

in the average balance of cash and investments.

Analysis of Quarterly Results

Table 16 summarizes quarterly net interest income and net interest yield for 2003 and 2002.

Table 16 Ì Quarterly Net Interest Income (quarterly yields annualized)

1Q 2003 2Q 2003 3Q 2003 4Q 2003 2003

(dollars in millions)

Net interest income ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ $2,421 $2,185 $2,442 $2,450 $9,498

Fully taxable-equivalent adjustment ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 41 64 60 62 227

Net interest income (fully taxable-equivalent basis) ÏÏÏÏ $2,462 $2,249 $2,502 $2,512 $9,725

Net interest yield (fully taxable-equivalent basis) ÏÏÏÏÏÏ 1.40% 1.26% 1.27% 1.26% 1.30%

1Q 2002 2Q 2002 3Q 2002 4Q 2002 2002

(dollars in millions)

Net interest income(1) ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ $2,544 $2,352 $2,231 $2,398 $9,525

Fully taxable-equivalent adjustment ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 66 65 66 55 252

Net interest income (fully taxable-equivalent basis)(1) ÏÏ $2,610 $2,417 $2,297 $2,453 $9,777

Net interest yield (fully taxable-equivalent basis)(1) ÏÏÏÏ 1.67% 1.53% 1.41% 1.41% 1.50%

(1) In 2003 we reclassiÑed the accrual of periodic cash settlements in accordance with the contractual terms of derivatives not designated

in hedge accounting relationships from Income (expense) related to derivatives to Derivative gains (losses). For comparative

purposes, we reclassiÑed expense of $130 million, $229 million, $152 million and $128 million for the Ñrst, second, third and fourth

quarters of 2002, respectively, and $639 million for full-year 2002 from Income (expense) related to derivatives to Derivative gains

(losses).

Changes in quarterly net interest income and net interest yield in 2003 and 2002 were driven primarily by

changes in interest rates and growth in the Retained portfolio, as described above in the analysis of annual

results. Other drivers of net interest income and yields are described in detail below, followed by a tabular

presentation (see ""Table 17 Ì Explanation of Quarterly Changes in Net Interest Income and Net Interest

Yield'') discussing the impact of these drivers on net interest income during the quarterly periods of 2003 and

2002.

‚ Investment asset mix. The purchase, sale and liquidation activity of assets within the Retained

portfolio and the cash and investments portfolio, which we collectively refer to as our portfolios,

Freddie Mac

50
has a signiÑcant impact on our overall net interest yield. As the composition of the portfolios

changes between higher or lower yielding asset types, the overall net asset yield on these portfolios

Öuctuates. Generally, during periods of declining interest rates, as we experienced in 2002 and the

Ñrst half of 2003, the yield on portfolio assets will decline as higher-yielding assets liquidate and

new assets are acquired at lower rates. The opposite eÅect is generally seen when interest rates

rise, as the pace of liquidations slows and new assets are acquired at higher rates. Changes in the

interest yields of our portfolios occur when there is a shift in the proportion of higher-yielding asset

types to lower-yielding asset types. For example, the mortgage-related securities portfolio net

interest yield will decline if there is an increase in the amount of lower-yielding mortgages such as

15-year mortgages or ARMs as compared to higher-yielding 30-year Ñxed-rate loans.

‚ Amortization of premiums and discounts. When we purchase mortgage-related securities, the

price we pay for the assets generally does not equal the securities' unpaid principal balance. We

pay more than the unpaid principal balance (referred to as a premium) when the coupon on the

security is greater than the current market yield for that security. We pay less than the unpaid

principal balance (referred to as a discount) when the coupon on the security is less than the

current market yield for that security. As interest rates declined during 2002 and the Ñrst half of

2003, the total premiums we paid increased on the mortgage-related securities we acquired. This

resulted in a shift in the portfolios to a net premium position late in 2002, and an increasing

premium position in 2003.

Premiums and discounts are amortized over the estimated life of the purchased assets as

adjustments to interest income primarily based on the eÅective interest method in accordance

with SFAS 91. This method of amortization results in periodic adjustments to interest income

when the eÅective interest rate changes due to diÅerences between actual and estimated

prepayments and changes in estimated future prepayments.

‚ Amortization of hedging gains and losses. Certain derivative contracts (primarily pay-Ñxed

swaps) are accounted for as cash Öow hedges of the variability of interest payments on forecasted

debt issuances, while other derivative contracts (primarily receive-Ñxed swaps) are accounted for

as fair value hedges of existing debt. In both cases, termination of the hedge accounting

relationship results in the associated deferred hedging gain or loss being amortized into net interest

income. Amortization related to terminated cash Öow hedges is included in Income (expense) related to derivatives or, if the deferred gain or loss is related to a closed cash Öow hedge on

long-term debt, in Interest expense on long-term debt. The amortization related to terminated fair

value hedges is also included in Interest expense on long-term debt.

‚ Interest expense related to amounts due to PC investors. As a result of the payment remittance

cycle associated with PCs, interest expense related to amounts due to PC investors tends to

increase during periods of rising prepayments and decrease during periods of declining prepayments. We invest the proceeds from prepayments on PCs in short-term investments until related

payments are due to PC investors. The interest earned on these investments is reported as a

component of interest income on cash and investments. As short-term rates declined in 2002 and

the Ñrst half of 2003, prepayments accelerated due to a decline in mortgage rates and our interest

costs due to PC investors increased while the interest earnings on our related investments

declined. This had an overall negative impact on ""Net interest income.''

‚ Debt funding mix. As discussed in ""CONSOLIDATED BALANCE SHEETS ANALYSIS Ì Total Debt Securities, Net,'' we adjust the composition of our derivative portfolio to

address diÅerences between outstanding debt, scheduled debt issuances and our funding needs.

Due to declining interest rates in 2002 and the Ñrst half of 2003, the expected lives of assets held

in the Retained portfolio decreased, requiring us to reduce the duration of our long-term debt

funding from an asset/liability management perspective. However, the volume of long-term debt

issued is generally determined by our commitment to our Reference Notes» securities calendar.

In 2002 and the Ñrst half of 2003, we terminated certain pay-Ñxed swaps and entered into receiveÑxed swaps to shorten the eÅective duration of our debt and thereby manage the funding

Freddie Mac

51
mismatch created by the decline in interest rates. Receive-Ñxed swaps eÅectively convert a Ñxedrate debt payment into a variable-rate payment. Conversely, a pay-Ñxed swap requires us to make

a Ñxed interest payment in exchange for a variable rate payment. In the third quarter of 2003, we

entered into additional pay-Ñxed swaps to extend the duration of our debt portfolio as interest rates

increased.

Table 17 describes the eÅect of these factors on changes in quarterly net interest income on a fully

taxable-equivalent basis.

Table 17 Ì Explanation of Quarterly Changes in Net Interest Income and Net Interest Yield

Increase Increase

(Decrease) (Decrease)

in Net in Net

Interest Interest

Income Yield

Period (in millions) (in bps) Comments

2Q02 vs. 1Q02 $(193) (14) Decreases were driven by a continued shift in debt funding from

short-term debt to long-term debt and increased amortization of

deferred hedging losses resulting from terminated pay-Ñxed

swaps, as described above in ""Debt funding mix.''

3Q02 vs. 2Q02 (120) (12) Decreases were due to increased amortization expense related to

deferred premiums on Retained portfolio purchases and deferred

hedging losses associated with terminated pay-Ñxed swaps. As

discussed above in ""Amortization of premiums and discounts,''

the deferred amount related to the Retained portfolio shifted to a

net premium position late in 2002. The associated increase in

amortization expense was partially oÅset by an increase in

interest income from derivative contracts as a result of increases

in the notional amount of receive-Ñxed swaps in hedge

accounting relationships.

4Q02 vs. 3Q02 156 Ì The increase in net interest income was driven by the recognition

of amortization income in the fourth quarter as compared to

expense in the third quarter and interest income on derivative

contracts, partially oÅset by increased interest expense related to

amounts due to PC investors. The increase in amortization

income was primarily due to a $305 million adjustment related to

enhancements made in the fourth quarter of 2002 to our method

of estimating prepayments of the collateral underlying our

mortgage-related securities. The increase in interest income on

derivative contracts was due to an increase in the notional amount

of receive-Ñxed swaps. Interest expense on amounts due to PC

investors increased as the liquidation rate on total PCs issued

increased in the fourth quarter of 2002.

1Q03 vs. 4Q02 9 (1) The increase in net interest income related to a decrease in shortterm debt expense as a result of declining interest rates and

higher interest income related to derivatives due to an increase in

volume of receive-Ñxed swaps. Partially oÅsetting these increases

was higher amortization expense related to net deferred

premiums on mortgage investment purchases. In addition, lower

yields were recognized on the investment portfolio as short-term

rates remained low. During the Ñrst quarter of 2003, we reÑned

the assumptions and calculations for the amortization of deferred

fees recorded as discounts on assets in our Retained portfolio.

The eÅect on net interest income of reÑning these assumptions,

which was treated as a change in estimate (and which also

impacted management and guarantee income) was the

recognition of $31 million of additional amortization income

during the Ñrst quarter of 2003. Although yields on assets were

declining faster than debt costs, the margin reduction was oÅset

by the rate impact of lower derivative expenses.

Freddie Mac

52
Table 17 Ì Explanation of Quarterly Changes in Net Interest Income and Net Interest Yield (continued)

Increase Increase

(Decrease) (Decrease)

in Net in Net

Interest Interest

Income Yield

Period (in millions) (in bps) Comments

2Q03 vs. 1Q03 $(213) (14) Decreases were driven by increases in amortization expense

related to deferred premiums on mortgage investment purchases.

As discussed above in ""Amortization of premiums and

discounts,'' the deferred amount related to the total Retained

portfolio was in an increasing net premium position and

liquidations increased in the quarter. Also, increased liquidations

on PCs outstanding generated timing diÅerences between

amounts due from servicers and amounts due to PC investors

resulting in increased interest expense. The liquidation rate on

total PCs issued increased from 59 percent in the Ñrst quarter of

2003 to 74 percent in the second quarter of 2003. Partially

oÅsetting the negative eÅects above was lower long-term debt

expense due to large debt retirements completed in the second

quarter. Net interest yield declined as amortization expenses and

lower asset yields outpaced lower funding costs.

3Q03 vs. 2Q03 253 1 Increases were driven by lower amortization expense resulting

from adjustments to the amortization of the related deferred

premiums in the Retained portfolio as mortgage rates and

estimates of weighted average mortgage lives increased. Net

interest income also beneÑted from decreases in long-term debt

expense and net growth in the Retained portfolio. Interest

expense on derivative contracts increased with purchases of

additional pay-Ñxed swaps typically acquired in a rising rate

environment, which were designated in hedge accounting

relationships. Net interest yield remained relatively Öat as the

decline in our debt costs was oÅset by the decline in asset yields

and an increase in expense related to derivatives.

4Q03 vs. 3Q03 10 (1) Increases to net interest income were due to increased interest

income recognized on the mortgage investment portfolio as the

average balance of the Retained portfolio increased by 5 percent

quarter-over-quarter, oÅset by increased long-term debt expense

related to the funding of the Retained portfolio growth. Net

interest yield remained relatively Öat as improved funding costs

were oÅset by lower asset yields.

Non-Interest Income (Loss)

Management and Guarantee Income

Management and guarantee income primarily represents the contractual guarantee fees we receive on

mortgage-related securities issued and guaranteed by us and held by third party investors. For securities we

hold, the associated components of guarantee income are included in Net interest income. Management and

guarantee income also includes amortization of deferred fees, including credit fees and buy-down fees on these

securities if they had not previously been sold under SFAS 125/140, or previously been subject to guarantee

accounting under FIN 45.

Freddie Mac

53
Table 18 provides summary information about management and guarantee income for 2003, 2002 and

2001. The total management and guarantee rate consists of the contractual management and guarantee fee

rate as adjusted for amortization of deferred fees, including credit fees and buy-down fees.

Table 18 Ì Management and Guarantee Income

2003 2002 2001

Amount Rate Amount Rate Amount Rate

(dollars in millions, rate in basis points)

Contractual management and guarantee fees ÏÏÏ $ 1,229 17.3 $ 1,335 19.4 $ 1,277 21.7

Amortization of deferred fees ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 409 5.7 181 2.6 115 1.9

Total management and guarantee incomeÏÏÏÏÏÏ $ 1,638 23.0 $ 1,516 22.0 $ 1,392 23.6

Management and guarantee income increased by $122 million, or 8 percent, to $1,638 million in 2003

from $1,516 million in 2002. This increase in guarantee income was driven by a 3 percent increase in average

outstanding PCs and an increase in the average total management and guarantee rate recognized in 2003,

which includes amortization of deferred fees.

The total management and guarantee rate recognized in 2003 was 23.0 basis points compared with 22.0

basis points in 2002. The increase in the total management and guarantee rate between 2003 and 2002 was

driven by accelerated amortization of deferred fees, partially oÅset by lower contractual management and

guarantee fee rates on new business. Deferred fees are amortized over the estimated life of the mortgages

underlying PCs using the eÅective interest method (as established by SFAS 91) and periodic adjustments to

deferred fee amortization are made to reÖect diÅerences between actual and estimated mortgage prepayments

and changes in estimated future prepayments. Increased amortization of deferred fees resulted from the

decline in mortgage interest rates during the Ñrst half of 2003 and the related increase in mortgage

prepayments, as well as a Ñrst quarter 2003 change in the prepayment models we used to determine the

weighted average lives of outstanding PCs (as discussed below).

In the Ñrst quarter of 2003, we improved our methodology for estimating the expected weighted average

lives of mortgages with related deferred fees, including credit fees and buy-down fees. The change in estimate

included enhancements to the prepayment models we use to determine the expected weighted average lives of

mortgage loans underlying our PCs, which in turn are used to calculate the recognition of deferred fees based

on the eÅective interest method. Under this method, we use actual prepayment experience and estimates of

future prepayments to determine, and subsequently adjust, a constant yield necessary to properly apply the

eÅective interest method. These improvements to our models were treated as a change in estimate in

accordance with Accounting Principles Board Opinion No. 20, ""Accounting Changes'', and resulted in the

recognition of $110 million of additional amortization income in management and guarantee income in the

Ñrst quarter of 2003.

The accelerated amortization of deferred fees in 2003 was partially oÅset by a decline in the contractual

guarantee fees received in 2003. The decline in contractual guarantee fees received was driven generally by

portfolio turnover, resulting in a decrease in the average contractual guarantee fee rate to 17.3 basis points in

2003 from 19.4 basis points in 2002. The portfolio turnover in 2003 was characterized by decreases in rates on

new guarantees, as well as high turnover of seasoned loans with rates higher than the portfolio average. The

decrease in contractual rates on new guarantees was driven by (a) an increase in the issuance of 15-year PCs,

which generally have lower credit risk and, thus, a lower management and guarantee fee rate relative to 30-

year PCs and (b) competitive pricing pressures. Turnover of seasoned loans with higher contractual rates

resulted in a decrease in the proportion of loans with buy-ups. Buy-ups are upfront payments we make that

increase the contractual guarantee fees that we receive over the life of the PC in connection with our

guarantee.

As of December 31, 2003 and 2002, 81 percent and 54 percent, respectively, of outstanding PCs and

Structured Securities had a corresponding guarantee asset and guarantee obligation. The percentage increase

results from the recognition of guarantee assets and guarantee obligations on PCs issued through the

Guarantor Program in accordance with FIN 45, which was adopted in 2003. See ""NOTE 1: SUMMARY OF

Freddie Mac

54
SIGNIFICANT ACCOUNTING POLICIES'' to our consolidated Ñnancial statements for more information. Deferred fees related to these securities have either been recognized in earnings in connection with a PC

sales transaction or included as part of the guarantee obligation (see ""CONSOLIDATED BALANCE

SHEETS ANALYSIS Ì Guarantee Obligation For Participation CertiÑcates,'' for additional information

about guarantee obligations). As of December 31, 2003 and 2002, 19 percent and 46 percent, respectively, of

outstanding PCs and Structured Securities had deferred fees accounted for as a deferred liability, which are

currently being amortized into management and guarantee income. On January 1, 2003, we implemented

FIN 45 and began amortizing the deferred fees related to PC issuances after this date into income as part of

Income (expense) on Guarantee obligation for Participation CertiÑcates to the extent that related transfers of

such PCs to third parties were not accounted for pursuant to SFAS 125/140. Therefore, the amount of the

deferred liability from prior years that remains to be amortized into management and guarantee income has

been decreasing.

In 2002, management and guarantee income increased $124 million, or 9 percent, compared to 2001.

This increase in guarantee income was driven by a 17 percent increase in average outstanding PCs. The

decrease in the total management and guarantee rate between 2002 and 2001 was driven by lower contractual

guarantee fee rates, partially oÅset by accelerated revenue recognition of deferred fees due to high levels of

mortgage prepayments.

Table 19 summarizes management and guarantee income and rates for each quarter in 2003 and 2002.

Table 19 Ì Quarterly Management and Guarantee Income

1Q 2003 2Q 2003 3Q 2003 4Q 2003

Amount Rate Amount Rate Amount Rate Amount Rate

(dollars in millions, rate in basis points)

Contractual management and

guarantee fees ÏÏÏÏÏÏÏÏÏÏÏ $ 314 17.3 $ 311 17.4 $ 296 17.3 $ 309 17.1

Amortization of deferred fees 244 13.5 165 9.3 (61) (3.5) 60 3.3

Total management and

guarantee income ÏÏÏÏÏÏÏÏ $ 558 30.8 $ 476 26.7 $ 235 13.8 $ 369 20.4

1Q 2002 2Q 2002 3Q 2002 4Q 2002

Amount Rate Amount Rate Amount Rate Amount Rate

(dollars in millions, rate in basis points)

Contractual management and

guarantee fees ÏÏÏÏÏÏÏÏÏÏÏ $ 326 20.3 $ 341 19.9 $ 340 19.2 $ 328 18.3

Amortization of deferred fees 46 2.9 44 2.5 30 1.7 61 3.4

Total management and

guarantee income ÏÏÏÏÏÏÏÏ $ 372 23.2 $ 385 22.4 $ 370 20.9 $ 389 21.7

As described above, the total management and guarantee rate represents the contractual management

and guarantee fee rate as adjusted for amortization of deferred fees, including credit fees and buy-down fees.

The amortization component of management and guarantee income representing the recognition of deferred

fees is based on the eÅective interest method required by SFAS 91, which requires estimating the expected

weighted average lives of mortgages with related deferred fees. The use of the eÅective interest method

requires periodic adjustments to the amortization of deferred fees, which can cause signiÑcant volatility in

quarterly income, as both a current period amortization and a cumulative prior period adjustment are

recognized in a given period as the eÅective constant yield changes over time. This volatility is driven primarily

by variances between actual and anticipated prepayments, which aÅects the internal rate of return applied in

determining the eÅective constant yield.

1Q03 vs. 4Q02

Management and guarantee income increased by $169 million, or 43 percent, to $558 million in the Ñrst

quarter of 2003 from $389 million in the fourth quarter of 2002. This increase was driven primarily by a

signiÑcant increase in the portion of management and guarantee income representing the amortization of

Freddie Mac

55
deferred fees. The decline in contractual guarantee fees received was primarily attributable to a decrease in the

proportion of the portfolio of loans with buy-ups due to the turnover of seasoned loans with higher contractual

rates.

The increase in the amortization of deferred fees recognized was driven primarily by a decrease in the

expected weighted average lives of mortgages underlying our PCs, including the impact of the previously

described improvements made to our methodology for estimating the expected weighted average lives of

mortgages. These improvements in the quality of our expected weighted average mortgage life estimates

resulted in a $110 million dollar increase in management and guarantee income in the Ñrst quarter of 2003.

2Q03 vs. 1Q03

Management and guarantee income decreased by $82 million, or 15 percent, to $476 million in the

second quarter of 2003 from $558 million in the Ñrst quarter of 2003. This decrease primarily reÖects the eÅect

of the $110 million adjustment made in the Ñrst quarter of 2003 as discussed above. The change in the cash

Öow portion of management and guarantee income was relatively small, reÖective of the two percent decrease

in average outstanding PCs.

3Q03 vs. 2Q03

Management and guarantee income decreased by $241 million, or 51 percent, to $235 million in the third

quarter of 2003 from $476 million in the second quarter of 2003. This was driven primarily by the fact that

amortization expenses were recorded due to the interest rate environment. The change in the contractual

guarantee fee portion of management and guarantee income was relatively small, reÖective of the four percent

decrease in average outstanding PCs.

The change in amortization recognition was driven by an approximately 70 basis point increase in the

average 30-year mortgage rate during the quarter, which was greater than previously expected. The resulting

increase in the level yield necessary to apply the eÅective interest method caused us to recognize net

amortization expense instead of income in the third quarter of 2003.

4Q03 vs. 3Q03

Management and guarantee income increased by $134 million, or 57 percent, to $369 million in the

fourth quarter of 2003 from $235 million in the third quarter of 2003. This increase was driven primarily by an

increase in the portion of management and guarantee income representing the amortization of deferred fees.

The change in amortization recognition was driven by a return to income amortization after the downward

adjustment made to amortization in the third quarter, together with a decrease in the expected weighted

average lives of mortgages underlying our PCs. The change in the contractual guarantee fee portion of

management and guarantee income reÖected the six percent increase in average outstanding PCs.

In 2002, quarterly changes in management and guarantee income and rates were primarily driven by

declining contractual management and guarantee fee rates and Öuctuations in the rate of revenue recognition

due to the amortization of deferred fees. During 2002, mortgage interest rates Öuctuated and mortgage

prepayments and prepayment expectations increased signiÑcantly in periods of falling rates. Declining

mortgage rates drove high mortgage prepayment levels and resulted in accelerated recognition of deferred fees.

The accelerated amortization of deferred fees was oÅset by the declining contractual guarantee fee component

of management and guarantee fee rates on new business.

Gains (Losses) on Guarantee Asset

Gains (losses) on Guarantee asset for Participation CertiÑcates, at fair value represents the change in fair

value of the guarantee asset.

The change in fair value of the guarantee asset reÖects:

‚ The portion of cash received that is considered return of our recorded investment in the guarantee

asset; and

‚ Changes in the fair value of expected future cash inÖows.

Freddie Mac

56
Factors AÅecting the Fair Value of the Guarantee Asset. With the passage of time, actual cash Öows are

realized and no longer included in the valuation of the guarantee asset. Cash Öows received, which are

recorded in management and guarantee income, represent a reduction of our investment in the guarantee

asset. As depicted in Table 20, cash Öows received on the guarantee asset are allocated between interest

income (imputed income on the asset based on the discount rate used in the calculation of the fair value of the

guarantee asset) and return of investment (the portion of actual cash Öows that represents a reduction of the

guarantee asset receivable). The realization of cash Öows results in a corresponding change in the valuation of

the guarantee asset.

The gain or loss due to changes in the value of future expected cash Öows is the second component of the

change in the fair value of the guarantee asset. The value of expected cash Öows is driven by the estimated

lives of the mortgages underlying the outstanding PCs and other economic factors that inÖuence the amount

and timing of the future cash Öows, such as changes in expected interest rates. Changes in the estimated lives

of the underlying mortgages aÅect the value of the guarantee asset because our right to receive guarantee fees

ceases when the underlying mortgages prepay.

The portion of the gains and losses on the guarantee asset attributable to these two factors is shown in

Table 20 below. See ""Table 29 Ì Changes in Guarantee Asset Balances'' in ""CONSOLIDATED BALANCE SHEETS ANALYSIS Ì Guarantee Asset for Participation CertiÑcates'' for additional information

about the guarantee asset.

Table 20 Ì Attribution of Change in Fair Value Ì Guarantee Asset

2003 2002 2001

(dollars in millions)

Total cash Öows received ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ $ (888) $ (820) $(803)

Portion of cash Öows received related to imputed interest ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 244 259 273

Return of investment in guarantee assets ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ (644) (561) (530)

Change in fair value of future cash Öows ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ (817) (1,615) (259)

Gains (losses) on guarantee asset ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ $(1,461) $(2,176) $(789)

Losses on the guarantee asset decreased $715 million, or 33 percent, to ($1,461) million in 2003

compared to ($2,176) million in 2002 primarily due to a smaller overall decline in mortgage interest rates

which tends to directly aÅect actual and expected prepayments. Declining mortgage interest rates in 2002 and

the Ñrst half of 2003 reduced the expected lives of the mortgages underlying outstanding PCs and the amount

of estimated future guarantee fee cash Öows.

Losses on guarantee assets increased to ($2,176) million in 2002 from ($789) million in 2001 mainly due

to decreases in mortgage interest rates during 2002, which reduced the expected lives of the mortgages

underlying outstanding PCs and the amount of estimated future guarantee fee cash Öows.

Table 21 summarizes the 2003 and 2002 quarterly gains and losses on the guarantee asset.

Table 21 Ì Quarterly Gains (Losses) on Guarantee Asset

1Q 2003 2Q 2003 3Q 2003 4Q 2003

(dollars in millions)

Gains (losses) on guarantee asset ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ $(568) $(1,092) $258 $(59)

1Q 2002 2Q 2002 3Q 2002 4Q 2002

(dollars in millions)

Gains (losses) on guarantee asset ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ $(213) $(658) $(890) $(415)

In 2003 and 2002, quarterly Öuctuations in gains and losses on the guarantee asset were primarily

attributable to changes in the expected lives of the mortgages underlying outstanding PCs, which were driven

by changes in mortgage interest rates and expected prepayments.

Freddie Mac

57
Our guarantee asset primarily relates to our single-family portfolio. Through the Ñrst two quarters of

2003, our average single-family portfolio mortgage coupon rate was signiÑcantly higher than the prevailing

average 30-year mortgage rate, increasing our expectation of prepayments and reducing the value of our

guarantee asset. In the third quarter of 2003, mortgage interest rates increased, slowing the pace of

liquidations and increasing the fair value of the guarantee asset. Mortgage interest rates dropped slightly

during the fourth quarter of 2003, which caused a small decline in the fair value of the guarantee asset.

Mortgage interest rates dropped steadily throughout 2002 resulting in a reduction in the fair value of the

guarantee asset in each quarter.

Income (Expense) on Guarantee Obligation

With the adoption of FIN 45 on January 1, 2003, we changed the way we account for Income

(expense) on Guarantee obligation for Participation CertiÑcates. For 2003, Income (expense) on Guarantee

obligation for Participation CertiÑcates represents a reduction of the guarantee obligation based on amortization using the actual prepayment experience on the underlying mortgage loans, which we refer to as the

Declining Unpaid Principal Balance Method.

For 2002 and 2001, gains and losses on guarantee obligation represented the change in fair value of the

obligation due to:

‚ The portion of guarantee-related cash payments made that cause a reduction of the guarantee

obligation; and

‚ Changes in the fair value of expected future cash outÖows.

Income (expense) on guarantee obligation was $925 million, $592 million and $203 million in 2003, 2002

and 2001, respectively.

For all years presented in Table 22 below, we established the guarantee obligations at their fair value,

which are determined by estimating the amount and timing of cash Öows related to the guarantee obligation.

Factors in determining the fair value of the guarantee obligation include house price appreciation, interest

rates, loan prepayment rates and other economic factors that inÖuence expected credit losses and expected

income earned on mortgage principal and interest payments held in our cash and investments portfolio

pending remittance to PC investors.

Table 22 summarizes the attribution of change to the guarantee obligation for 2003, 2002 and 2001. See

""Table 30 Ì Changes in Guarantee Obligation Balances'' in ""CONSOLIDATED BALANCE SHEETS

ANALYSIS Ì Guarantee Obligation for Participation CertiÑcates'' for additional information about the

guarantee obligation.

Table 22 Ì Attribution of Change Ì Guarantee Obligation

2003(1) 2002 2001

Amortization Fair Value Fair Value

(dollars in millions)

Total cash Öows paid ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ $ Ì $422 $278

Portion of cash Öows paid related to imputed interest ÏÏÏÏÏÏÏÏÏÏÏÏÏÏ Ì (64) (57)

Cash paid representing reduction of guarantee obligations ÏÏÏÏÏÏÏÏÏÏ Ì 358 221

Changes in fair value of future cash ÖowsÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ Ì 234 (18)

Amortization ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 925 Ì Ì

Income (expense) on guarantee obligation ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ $925 $592 $203

(1) As a result of the implementation of FIN 45 on January 1, 2003, we changed the method of recognizing income (expense) on

guarantee obligation.

In 2003, an increase in the balance of guarantee obligation, combined with a 63 percent liquidation rate

on outstanding PCs and Structured Securities, resulted in $925 million of income recognized on the

amortization of our guarantee obligation.

Freddie Mac

58
Income on the guarantee obligation increased in 2002 compared with 2001 due to a number of factors

aÅecting changes in the fair value of the guarantee obligation from period to period. The primary factor in the

change in value during 2002 was the gains on the credit-related components of the guarantee obligation,

partially oÅset by losses on the remittance cycle components of the guarantee obligation. Gains on the creditrelated components of the guarantee obligation were driven by the general credit environment as well as

changes in mortgage rates, which reduced the expected lives of the mortgages underlying outstanding PCs.

Losses on the remittance cycle components of the guarantee obligation were driven by higher prepayment

estimates combined with lower short-term interest rates, which lowered the expected reinvestment yield and

thereby increased the expected net expense associated with amounts due to PC investors.

Table 23 summarizes the 2003 and 2002 quarterly income (expense) on guarantee obligation.

Table 23 Ì Quarterly Income (Expense) on Guarantee Obligation

1Q 2003 2Q 2003 3Q 2003 4Q 2003

(dollars in millions)

Income (expense) on guarantee obligation ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ $235 $265 $301 $124

1Q 2002 2Q 2002 3Q 2002 4Q 2002

(dollars in millions)

Income (expense) on guarantee obligation ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ $146 $156 $62 $228

During the Ñrst three quarters of 2003, the income on guarantee obligations increased as a result of two

factors:

‚ The balance of our guarantee obligation increased throughout 2003, driven by the issuance of PCs

through the Guarantor and MultiLender Programs during the year, and

‚ High liquidation rates for outstanding PCs reduced the unpaid principal balances of the PCs,

increasing the amortization of the liability into income under the declining unpaid principal

balance method.

The liquidation rate of outstanding PCs declined in the fourth quarter of 2003 due to generally higher

rates during the second half of the year. As a result, the unpaid principal balances of PCs did not decline as

quickly as earlier in 2003, reducing the rate of amortization and the amount of income we recognized.

In 2002, changes in gains and losses on the guarantee obligation reported on a quarterly basis were

primarily attributable to changes in the expected lives of the mortgages underlying outstanding PCs, which

were driven by changes in mortgage interest rates. Fluctuations in the guarantee obligation were also driven by

changes in short-term interest rates and in the credit environment, which also aÅect the value of future

estimated cash Öows.

Derivative Gains (Losses)

Derivative gains (losses) represent the change in fair value of derivatives not accounted for in a hedge

accounting relationship because the derivatives did not qualify for, or we did not elect to pursue, hedge

accounting, resulting in fair value changes being recorded to earnings. Although derivatives are an important

aspect of our management of interest-rate risk, they may increase the volatility of reported net income,

particularly when they are not accounted for in hedge accounting relationships.

We generally use interest-rate swaps to mitigate contractual funding mismatches between our assets and

liabilities. A receive-Ñxed swap results in our receipt of a Ñxed interest-rate payment from our counterparty in

exchange for a variable rate payment to the counterparty. Conversely, a pay-Ñxed swap requires us to make a

Ñxed interest-rate payment in exchange for a variable rate payment. Call and put swaptions are options to

enter into receive- and pay-Ñxed interest-rate swaps, respectively. We use swaptions and other option-based

derivatives to adjust the contractual funding of our debt in response to changes in the expected lives of assets

in the Retained portfolio. Mortgage borrowers generally have an option to prepay their mortgages prior to

contractual maturity, and this prepayment option is sensitive to changes in interest rates.

Freddie Mac

59
Interest-rate swaps and swaptions that are not accounted for in hedge accounting relationships generally

increase the volatility of reported net income since they are marked to fair value through earnings without the

oÅsetting change in value of the economically hedged risk also being recognized in earnings. The fair value of

receive- and pay-Ñxed interest-rate swaps is primarily driven by changes in interest rates, with receive-Ñxed

swaps increasing in value and pay-Ñxed swaps decreasing in value when interest rates decrease (and the

opposite being true when interest rates increase). The fair value of purchased call and put swaptions is

sensitive to changes in interest rates in a directionally similar manner to receive- and pay-Ñxed swaps,

respectively. Swaption values are also driven by the market's expectation of potential changes in interest rates

in the future (referred to as ""implied volatility''), with swaptions generally being more valuable as implied

volatility increases and less valuable as implied volatility decreases. Losses on purchased options are limited to

the premium paid to purchase the option plus any unrealized gains previously recorded.

Derivative gains (losses) totaled $39 million, $5,302 million and ($2,313) million in 2003, 2002 and

2001, respectively. These gains and losses were primarily driven by changes in the fair value of certain interestrate swaps and swaptions executed to manage interest-rate risk related to our Retained portfolio as well as

commitments to purchase or sell mortgages and mortgage-related securities. The decline in interest rates

during the Ñrst half of 2003 followed by increases in the third and fourth quarters led to signiÑcant quarterly

volatility. Net derivative gains of $39 million were generated in 2003, as gains of $2.8 billion on pay-Ñxed

interest-rate swaps were oÅset by losses of ($0.6) billion on call swaptions, losses of ($0.3) billion on put

swaptions, losses of ($0.2) billion on receive-Ñxed swaps, ($1.0) billion of costs related to periodic interestrate swap settlements, and ($0.7) billion of losses primarily attributed to commitments to purchase or sell

mortgages and mortgage-related securities.

Derivative gains increased from 2001 to 2002 as interest rates declined and increased option volatility led

to signiÑcant gains on our receive-Ñxed swaps and call swaptions, which were partially oÅset by losses on payÑxed swaps and put swaptions. The notional amounts and related gains and losses for our derivatives not

accounted for in a hedge accounting relationship are described in Table 24 below.

Freddie Mac

60
Table 24 provides a quarterly summary of the period-end notional amounts and gains and losses related to

swaps and swaptions used to manage interest-rate risk but not accounted for in hedge accounting relationships.

Table 24 Ì Derivatives Not in Hedge Accounting Relationships

1Q 2003 2Q 2003 3Q 2003 4Q 2003 2003

Gain Gain Gain Gain Gain

Notional (Loss) Notional (Loss) Notional (Loss) Notional (Loss) (Loss)

(dollars in billions)

Call swaptionsÏÏÏÏÏÏÏÏÏÏÏÏÏ $153.4 $0.3 $167.8 $ 3.1 $173.8 $(3.1) $216.9 $(0.9) $(0.6)

Put swaptions ÏÏÏÏÏÏÏÏÏÏÏÏÏ 134.5 (0.3) 155.6 (0.3) 146.3 0.3 123.1 Ì (0.3)

Receive-Ñxed swaps ÏÏÏÏÏÏÏÏ 52.7 0.2 24.2 0.6 31.6 (0.5) 13.9 (0.5) (0.2)

Pay-Ñxed swaps ÏÏÏÏÏÏÏÏÏÏÏ 28.9 0.2 60.5 (0.4) 57.8 2.1 47.1 0.9 2.8

Subtotal ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 0.4 3.0 (1.2) (0.5) 1.7

Accrual of periodic

settlements ÏÏÏÏÏÏÏÏÏÏÏÏÏ (0.1) (0.2) (0.4) (0.3) (1.0)

Other(1) ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 0.6 0.7 (1.5) (0.5) (0.7)

Total ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ $0.9 $ 3.5 $(3.1) $(1.3) $ Ì

1Q 2002 2Q 2002 3Q 2002 4Q 2002 2002

Gain Gain Gain Gain Gain

Notional (Loss) Notional (Loss) Notional (Loss) Notional (Loss) (Loss)

(dollars in billions)

Call swaptionsÏÏÏÏÏÏÏÏÏÏÏÏÏ $106.6 $(1.0) $129.0 $ 1.7 $120.9 $5.3 $131.4 $(0.6) $5.4

Put swaptions ÏÏÏÏÏÏÏÏÏÏÏÏÏ 91.4 (0.2) 88.4 (1.3) 73.3 (0.5) 129.9 (0.6) (2.6)

Receive-Ñxed swaps ÏÏÏÏÏÏÏÏ 82.3 (0.4) 54.2 2.0 70.2 4.1 65.4 (0.1) 5.6

Pay-Ñxed swaps ÏÏÏÏÏÏÏÏÏÏÏ 63.4 0.9 49.2 (1.9) 55.3 (2.8) 43.4 0.3 (3.5)

Subtotal ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ (0.7) 0.5 6.1 (1.0) 4.9

Accrual of periodic

settlements ÏÏÏÏÏÏÏÏÏÏÏÏÏ (0.2) (0.3) (0.2) (0.1) (0.8)

Other(1) ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ (0.2) 0.4 0.4 0.6 1.2

Total ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ $(1.1) $ 0.6 $6.3 $(0.5) $5.3

(1) Other consists of basis swaps, option-based contracts, futures, foreign-currency swaps, commitments, and other derivatives not

accounted for in hedge accounting relationships, including a prepayment management agreement and credit derivatives.

Derivative gains (losses) Öuctuated signiÑcantly during 2003 due to the decrease in interest rates during

the Ñrst half of 2003 versus an increase in interest rates during the third quarter of 2003. During the second

quarter of 2003, derivative gains of $3.5 billion were primarily driven by a $3.1 billion gain in the value of call

swaptions, which was due to interest rate declines during the quarter. As interest rates increased during the

third quarter of 2003, our call swaptions declined in value by ($3.1) billion and we incurred ($1.4) billion of

losses on commitments to purchase or sell mortgages and mortgage-related securities. These losses were

partially oÅset by $2.1 billion in gains on pay-Ñxed swaps. During 2002, derivative gains (losses) were largest

in the third quarter when the gains totaled $6.3 billion. This third quarter gain in 2002 was driven by a

$4.8 billion gain on call swaptions, net of losses on put swaptions and a $1.3 billion gain on receive-Ñxed swaps,

net of losses on pay-Ñxed swaps. The decrease in interest rates in the third quarter of 2002 increased the fair

value of the interest-rate swaps underlying the call swaptions, which combined with the increase in the implied

volatility of interest rates, resulted in a signiÑcant increase in the value of the call swaptions. While increases

in implied volatility also have a favorable eÅect on the value of put swaptions, the decrease in fair value of the

underlying pay-Ñxed interest-rate swaps due to the decrease in interest rates resulted in a net decrease in the

fair value of these swaptions during 2002.

Freddie Mac

61
Hedge Accounting Gains (Losses)

For those derivatives that are accounted for in a hedge accounting relationship, hedge accounting

ineÅectiveness generally arises when the fair value change of a derivative Ñnancial instrument does not exactly

oÅset the fair value change of the hedged item. Our hedge accounting relationships primarily consist of

derivatives linked to either existing debt in a fair value hedge accounting relationship or the variability of

interest payments on the forecasted issuances of debt securities in a cash Öow hedge accounting relationship.

Hedge accounting gains were $644 million in 2003, compared to hedge accounting gains of $187 million

in 2002 and hedge accounting losses of ($294) million in 2001. Hedge ineÅectiveness in these years related

primarily to our fair value hedge accounting relationships. Hedge accounting gains (losses) will vary from

period to period based on the notional amount of derivatives accounted for in hedge accounting relationships

and the extent to which diÅerences in the characteristics or terms of the derivative and the hedged item result

in fair value or cash Öow changes that are not exactly oÅset. For example, a signiÑcant portion of derivatives in

our fair value hedges are forward starting and valued using forward rates while the hedged debt is valued using

spot rates. Therefore, the diÅerence between the spot rate and the forward rate generally produces

ineÅectiveness in these fair value hedges, which is recognized in this caption.

Gains (Losses) on Investment Activity

Gains (losses) on investment activity include gains and losses on certain assets and liabilities marked to

fair value through earnings. Also included are gains and losses related to sales, impairments and other

valuation adjustments.

Table 25 summarizes the components of Gains (losses) on investment activity.

Table 25 Ì Gains (Losses) on Investment Activity

2003 2002 2001

(dollars in millions)

Gains (losses) on trading securitiesÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ $(2,130) $ 921 $ 144

Gains (losses) on PC residuals ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ (144) (438) (121)

Gains (losses) on sale of mortgage loans and available-for-sale securities ÏÏÏÏ 2,075 1,958 619

Security impairments(1) ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ (736) (650) (350)

Mortgage lower of cost or market value adjustments ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ (179) 8 (101)

Total gains (losses) on investment activityÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ $(1,114) $1,799 $ 191

(1) Includes impairments on securities classiÑed as available for sale and trading.

Gains (Losses) on Trading Securities were ($2,130) million, $921 million and $144 million in 2003,

2002 and 2001, respectively. Gains (losses) on securities we hold that are classiÑed for accounting purposes as

trading represent changes in the fair value of our trading positions, which include trading securities held,

certain forward commitments to purchase or sell trading securities, and Treasury and agency debt security

""short sale'' transactions (also referred to as ""securities sold, not yet purchased'') executed for asset/liability

management purposes. The trading positions consist of securities transactions executed in connection with our

PC and mortgage-related security market-making and support activities and certain securities held in the

Retained portfolio and in the cash and investments portfolio.

Entering 2003, our trading portfolio contained higher coupon mortgage-related securities that were in an

unrealized gain position. The portfolio experienced losses because these higher coupon mortgage-related

securities experienced signiÑcant prepayments during the Ñrst half of 2003 as interest rates fell. The interest

earned on trading assets in the same period is included in net interest income. In addition, during the third and

fourth quarters of 2003 the portfolio experienced losses as rising interest rates decreased the value of

investments.

In 2002 trading gains were positively aÅected by the decline in interest rates during the year. In 2001,

trading gains were negatively aÅected as we transferred approximately $36 billion of securities to the trading

Freddie Mac

62
category on January 1, 2001, in conjunction with the implementation of SFAS 133 resulting in an unrealized

loss of approximately $275 million being recorded to earnings.

Gains (Losses) on PC Residuals were ($144) million, ($438) million and ($121) million in 2003, 2002

and 2001, respectively. PC residuals relate to certain PCs and Structured Securities we hold and represent the

fair value of the future cash Öows of guarantee contracts that speciÑcally correspond to such PCs or Structured

Securities. PC residuals that are classiÑed as trading securities are marked to fair value as a component of

Gains (losses) on investment activity. See ""NOTE 1: SUMMARY OF SIGNIFICANT ACCOUNTING

POLICIES'' to the consolidated Ñnancial statements for more information on PC residuals.

Net cash payments we receive on PC residuals are reported in the consolidated statements of income

(primarily within net interest income as well as through components of non-interest expense that are credit

and administrative related) and not as a direct reduction of the recorded PC residual. In 2003, losses on PC

residuals decreased compared with 2002 due to a smaller overall decline in mortgage interest rates experienced

during the year. In addition, the proportion of PCs and Structured Securities held by us that had a recognized

PC residual associated with them increased to 72 percent in 2003 from 38 percent in 2002 due to the adoption

of FIN 45 together with an increase in the amount of Retained portfolio purchase activity. Realization of cash

Öows and decreases in interest rates, which reduced the expected lives of the associated securities, accounted

for the reported loss in 2002. In 2001, the loss was primarily due to the realization of cash Öows.

Gains (Losses) on Sale of Mortgage Loans and Available-for-Sale Securities were $2,075 million,

$1,958 million and $619 million in 2003, 2002 and 2001, respectively. The increasing gains on the sale of

mortgage loans and available-for-sale securities for 2003, 2002 and 2001 were primarily attributable to the

increasing volume of sales of PCs and Structured Securities in all years, as well as the sales of Treasury and

agency debt securities, originally purchased for asset/liability management purposes during 2003. In 2003, the

increase in gains was also driven by an increase in the volume of transfers of PCs and Structured Securities

that qualiÑed as sales under SFAS 125/140, thereby triggering gains or losses based on diÅerences in newly

recognized guarantee assets and guarantee obligations.

Security Impairments were ($736) million, ($650) million and ($350) million in 2003, 2002 and 2001,

respectively. We record impairment losses on our investment portfolio when we have concluded that a

decrease in the fair value of a security is other than temporary. Impairment losses recognized in 2003, 2002

and 2001 were primarily related to certain investments in mortgage-related interest-only securities and

manufactured housing securities.

The primary source of impairment losses for the years presented was related to mortgage-related interestonly securities. Impairment losses on mortgage-related interest-only securities totaled ($524) million, ($568)

million and ($325) million in 2003, 2002 and 2001, respectively. EITF 99-20 was implemented in the second

quarter of 2001 when it became eÅective. EITF 99-20 requires the cost basis of a mortgage-related interestonly security to be written down to fair value when there is both a decline in fair value below the carrying

amount and an adverse change in expected cash Öows. See ""CUMULATIVE EFFECT OF CHANGE IN

ACCOUNTING PRINCIPLES, NET OF TAXES'' below for more information on the cumulative eÅect to

net income from the adoption of EITF 99-20.

Decreasing interest rates result in a decrease in expected cash Öows from mortgage-related interest-only

securities and a corresponding decrease in the fair value of these securities. During the Ñrst half of 2003,

interest rates continued to decline from 2002 levels resulting in an increase in prepayments and, in turn, a

higher level of impairment losses than in the prior year. In 2003, interest rates decreased sharply during the

Ñrst and second quarters; as a result, 86 percent of the 2003 mortgage-related interest-only securities

impairment losses were recognized in those quarters. As interest rates began to rise in the third and fourth

quarters of 2003, impairment losses recognized were greatly reduced. The increase in mortgage-related

interest-only security impairment losses during 2002 relates to the decline in interest rates as compared to

2001.

SFAS No. 115 ""Accounting for Certain Investments in Debt and Equity Securities,'' or SFAS 115, is the

primary accounting standard applied in determining impairments of non-interest-only securities. Impairments

recorded on non-interest-only securities totaled ($212) million, ($82) million and ($25) million in 2003, 2002

Freddie Mac

63
and 2001, respectively, with impairments on manufactured housing securities totaling ($208) million, ($67)

million and ($23) million during the same periods. See ""LIQUIDITY AND CAPITAL RESOURCES Ì

Liquidity Ì Cash and Investments Portfolio'' for more information about our non-mortgage-related securities.

We recognize an impairment if the decrease in fair value of a security below its carrying value is determined to

be other than temporary. More speciÑcally, we recognize an impairment when a security fails one or more of a

series of objective criteria relative to its fair value compared to its amortized cost, credit ratings or the amount

of time the investment has been in an unrealized loss position, or if we otherwise believe that an unrealized

loss is other than temporary based on qualitative indicators of potential impairment. Impairment losses on

manufactured housing securities exclude the eÅects of separate Ñnancial guarantee contracts that are not

embedded in the securities since the beneÑts of such contracts are not recognized until claims become

probable of recovery under the contracts.

Mortgage lower of cost or market value Adjustments were ($179) million, $8 million and ($101) million

in 2003, 2002 and 2001, respectively. We record mortgage loans classiÑed as held-for-sale in accordance with

SFAS No. 65, ""Accounting for Certain Mortgage Banking Activities,'' or SFAS 65, at the lower of amortized

cost or market value, or lower of cost or market value, with changes in the valuation of our held-for-sale

portfolio recorded to this caption.

Losses related to loans held in the Retained portfolio as held-for-sale are recorded as a reduction to the

cost basis in the Retained portfolio assets and are amortized into income over the estimated life of the assets as

part of Net interest income.

Mortgage lower of cost or market value losses were primarily recognized in the third quarter of 2003,

totaling ($178) million. The sharp decline in mortgage interest rates in the second quarter of 2003 resulted in

an increase in mortgages purchased as the market experienced heavy reÑnancing activity. A sharp increase in

mortgage interest rates during the third quarter of 2003 reduced the value of our held-for-sale mortgage loan

portfolio resulting in lower of cost or market value adjustments.

Gains (Losses) on Debt Retirement

We record gains and losses on debt repurchases that are accounted for as extinguishments of debt based

on the diÅerence between the contractual interest rates on the debt securities repurchased (adjusted for

deferred premiums, discounts, and hedging gains and losses) and current market interest rates, and the writeoÅ of related deferred debt issuance costs. To the extent we issue new debt securities to replace the debt that we

retire, the diÅerence in the debt costs will positively or negatively aÅect net interest income to be reported in

future periods.

We incurred pre-tax losses of ($1,775) million, ($674) million and ($356) million on the repurchase of

approximately $27 billion, $20 billion and $5 billion in principal amount of debt outstanding in 2003, 2002 and

2001, respectively. The most signiÑcant debt repurchases in 2003 occurred in the second quarter when we

repurchased an aggregate of approximately $17 billion of U.S. dollar and Euro-denominated debt securities,

most of which followed the announcement of changes in our senior management. We executed these

particular repurchases in an eÅort to support the liquidity and price performance of these securities. Of the

($1,775) million of pre-tax losses incurred in 2003, ($1,266) million was incurred in the second quarter.

Where we have designated derivatives as accounting hedges of issued debt securities, we recognize any

deferred hedging gains or losses upon the retirement of that debt.

Resecuritization Fees

Resecuritization fees are revenues we earn primarily in connection with the issuance of Structured

Securities with underlying collateral provided by third parties for which we made a REMIC election. These

fees are also generated in connection with the creation of interest-only and principal-only strips as well as

other Structured Securities.

Resecuritization fees totaled $352 million, $276 million and $135 million in 2003, 2002 and 2001,

respectively. Investors' demand for Structured Securities increased signiÑcantly in all three years largely due

to the steepening of the yield curve during these periods. A steep yield curve generally increases the value of

Freddie Mac

64
structured cash Öows, which results in greater value diÅerences between PCs and Structured Securities as well

as a corresponding increase in the volume of new Structured Securities being issued.

Other Income and Certain Prior Year Accounting Error Adjustments

Other income primarily consists of fees associated with servicing and technology-related programs,

including Loan Prospector», various fees related to multifamily loans (including application and other fees)

and various other fees received from mortgage originators and servicers. In 2003, other income also includes

the correction of certain immaterial prior year accounting errors.

Other income totaled $493 million, $321 million and $229 million in 2003, 2002 and 2001, respectively.

In the process of reviewing our accounting policies and practices for 2003, we identiÑed certain immaterial

errors that resulted in the cumulative net understatement of income of approximately $214 million

($139 million after-tax). An adjustment to correct this understatement was recorded in the Ñrst quarter of

2003. This adjustment includes approximately $271 million of income recorded to correct the accounting for

certain swaption transactions that were physically settled (i.e., by actually entering into the underlying swap)

during 2002, but for which the value of the underlying swap on the settlement date was not correctly recorded,

and approximately $27 million of income related to the recognition of loan prepayment fees earned in 2002,

but recorded in 2003. These corrections were partially oÅset by a ($26) million reduction of income to correct

for errors in the calculation of the change in fair value of the hedged risk within certain hedges of foreign

denominated debt and a ($58) million reduction in income to correct the equity-method earnings that were

recorded on certain low income housing tax credit partnerships based on the use of tax-basis Ñnancial

statements when GAAP-basis Ñnancial statements were available. The increase in this category during 2002 is

primarily due to an increase in servicing and transaction fees resulting from increased business volumes and

use of our automated underwriting tools by third parties.

Non-Interest Expense

Credit-Related Expenses

Credit-related expenses include the Provision for credit losses and REO operations income (expense).

The Provision for credit losses includes provisions for losses incurred on (1) mortgage loans held in the

Retained portfolio that are held for investment, (2) outstanding PCs, and (3) that portion of Structured

Securities held by third parties that are backed by non-agency mortgage-related securities. REO operations

income (expense) includes certain costs associated with the acquisition of real estate at the time of foreclosure,

gains and losses on the sale of foreclosed properties we hold, as well as the cost to hold these properties,

including real estate taxes, insurance, repairs and fees incurred to prepare the properties for sale, and provision

for valuation losses occurring between acquisition and disposition.

Table 26 summarizes the components of credit-related expenses (expenses are presented as bracketed

amounts in this table).

Table 26 Ì Credit-Related Expenses

2003 2002 2001

(dollars in millions)

Provision for credit losses ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ $(10) $(128) $(32)

REO operations income (expense) ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 23 13 (7)

Total credit-related income (expenses)ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ $ 13 $(115) $(39)

The Provision for credit losses may be expense or income, depending on whether the loan loss reserve

balances need to be increased or decreased at the end of any given period. Total credit-related expenses

decreased by $128 million in 2003, compared to an increase of $76 million in 2002. The Provision for credit

losses was ($10) million for 2003, compared to ($128) million for 2002 and ($32) million for 2001. We

establish the credit loss reserve based on our periodic assessment of estimated incurred losses. The Provision

for credit losses was lower in 2003 than 2002 primarily due to the 2002 provision reÖecting an increase in

expected losses on multifamily mortgage loans, driven by higher vacancy rates and a decrease in net operating

Freddie Mac

65
income of multifamily properties in certain markets. In addition, in 2003, our single-family loan portfolio

continued to beneÑt from loss mitigation strategies, strong house price appreciation and recoveries.

The increase in total credit-related expenses in 2002 as compared to 2001 primarily reÖects an increase in

estimated incurred losses on multifamily mortgage loans due to higher vacancy rates and a decrease in net

operating income of multifamily properties in certain areas. The increase in 2002 in Provision for credit losses

was partially oÅset by an increase in income from operations related to real estate owned, or REO.

Administrative Expenses and Other Expenses

Salaries and employee beneÑts, professional services, occupancy expense and certain other expenses,

including those related to our remediation eÅorts, are collectively referred to as administrative expenses. These

costs are generally incurred to conduct daily operations although in certain cases, costs related to charitable

contributions and other speciÑc transactions or events are included in this category.

Table 27 summarizes administrative and other expenses (expenses are presented as bracketed amounts in

this table).

Table 27 Ì Administrative Expenses and Other Expenses

2003 2002 2001

(dollars in millions)

Salaries and employee beneÑts ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ $ (624) $ (593) $ (537) 

Occupancy expenseÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ (52) (42) (35)

Other expenses Ì administrative (including professional services) ÏÏÏÏÏÏÏ (578) (373) (344)

Total administrative expenses ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ (1,254) (1,008) (916) 

Other expenses Ì non-administrative:

Amortization of credit enhancements ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ (134) Ì Ì

OFHEO civil money penalty ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ (125) Ì Ì

Select aÅordable housing transaction fees ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ (124) Ì Ì

Loan Prospector»-related expenses ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ (99) (86) (76)

Loss contingency expense(1)ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ (75) Ì Ì

Realized losses on certain guarantees ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ (60) Ì Ì

Charitable contributions ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ (6) (260) (32)

Disposition of certain technology-related assetsÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ Ì (52) Ì

Total administrative and other expensesÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ $(1,877) $(1,406) $(1,024)

(1) See ""NOTE 13: LEGAL CONTINGENCIES'' to the consolidated Ñnancial statements for additional information.

Total administrative and other expenses were ($1,877) million, ($1,406) million and ($1,024) million in

2003, 2002 and 2001, respectively. As shown in Table 27 above, administrative expenses totaled ($1,254) million, ($1,008) million and ($916) million in 2003, 2002 and 2001, respectively. The increase in administrative

expenses for 2003 was primarily driven by additional accounting, auditing and consulting costs of approximately ($124) million and legal costs of approximately ($48) million associated with the restatement and

remediation activities in 2003. The ($124) million comprises approximately ($56) million of added

professional services expenses, ($15) million of added compensation costs and ($53) million of other costs,

principally related to increased audit fees. Salaries and beneÑts also rose in each year as we increased the

number of employees and increased salaries.

Expenses were also higher in 2003 as we paid a ($125) million civil money penalty in connection with the

OFHEO consent order which was accrued in the second quarter of 2003. Additionally, the second quarter of

2003 included a ($75) million expense for a loss contingency reserve related to legal proceedings arising from

the restatement. See ""NOTE 13: LEGAL CONTINGENCIES'' to the consolidated Ñnancial statements for

additional information. Also, during the third and fourth quarters of 2003, we entered into certain aÅordable

housing transactions that contained a number of contractual incentives, including the payment of fees totaling

($124) million.

Freddie Mac

66
Furthermore, we began recognizing amortization of credit enhancements and realized losses related to

certain guarantees in Other expenses in 2003 which totaled ($194) million. As discussed in ""NOTE 1:

SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES'' to the consolidated Ñnancial statements,

in 2003, we changed our accounting for credit enhancements, and guarantee assets and guarantee obligations.

For 2003, credit enhancements are included in Other assets and amortized into Other expenses over time. In

2002, credit enhancements were included in the carrying value of the guarantee asset and changes in their

carrying value were included in Gains (Losses) on guarantee asset for Participation CertiÑcates, at fair value.

Pursuant to the requirements of FIN 45, in 2003, we began recording guarantee assets and guarantee

obligations at fair value on PCs issued through our Guarantor Program. Any excess of the related guarantee

obligation over the guarantee asset and other assets that relate to recognized credit enhancements is

immediately recognized as realized losses on certain guarantees.

Total charitable contributions for 2002 were ($260) million, including a special ($225) million cash

contribution to the Freddie Mac Foundation and corporate giving programs announced in the fourth quarter.

The contribution to the Freddie Mac Foundation is expected to provide operating funds for the Foundation for

six to eight years. In 2002, Other expenses also included a ($52) million loss recognized in the fourth quarter

of 2002 related to the disposition of certain technology-related assets.

Housing Tax Credit Partnerships

Housing tax credit partnerships represent our share of the net operating losses generated from investments

in partnerships that develop or rehabilitate low-income multifamily rental properties. Although these

partnerships generate operating losses, we realize a return on our investment through reductions in Income tax

expense, which result from tax credits and the deductibility of the operating losses.

Our share of net operating losses generated from our investment in Housing tax credit partnerships

totaled ($200) million, ($160) million and ($121) million in 2003, 2002 and 2001, respectively. Also see

""Other Income and Certain Prior Year Accounting Error Adjustments,'' for information concerning

adjustments related to Housing tax credit partnerships recorded in Other income during 2003. The year-overyear increases in this expense primarily reÖect our increased investment in such partnerships. The related tax

beneÑts, which are reported as a reduction in Income tax expense, totaled $302 million, $220 million and

$172 million in 2003, 2002 and 2001, respectively.

Minority Interest in Earnings of Consolidated Subsidiaries

Minority interest in earnings of consolidated subsidiaries represents the earnings due to third party

investors in our consolidated subsidiaries.

Minority interest in earnings of consolidated subsidiaries totaled ($157) million, ($184) million and

($208) million in 2003, 2002 and 2001, respectively. The majority of this amount for each of 2003, 2002 and

2001 relates to dividends on the preferred stock issued by our two majority-owned real estate investment trust,

or REIT, subsidiaries. These amounts will continue to decrease as the recorded amount of the REITs'

preferred stock declines over time. See ""NOTE 18: MINORITY INTEREST'' to our consolidated Ñnancial

statements for more information concerning the REITs.

Income Tax Expense

Income tax expense includes (a) deferred tax expense, which represents the net change in the deferred tax

asset or liability balance during the year plus any change in a valuation allowance, and (b) current tax

expense, which represents the amount of tax currently payable to or receivable from a tax authority plus

amounts accrued for expected tax deÑciencies (including both tax and interest). Income tax expense excludes

the tax eÅects related to adjustments recorded to AOCI.

Income tax expense was ($2,202) million, ($4,713) million and ($1,339) million in 2003, 2002 and 2001,

respectively. The eÅective tax rates for 2003, 2002 and 2001 were 31.4 percent, 31.8 percent and 30.1 percent,

respectively. The decrease in the eÅective tax rate from 2002 to 2003 was due to lower growth in pre-tax

income in relation to tax credits and interest income on tax-exempt securities. These eÅects were partially

Freddie Mac

67
oÅset by a non-tax deductible ($125) million OFHEO civil money penalty and a ($75) million loss

contingency reserve related to legal proceedings arising from the restatement which were recorded in the

second quarter of 2003, as well as a decrease to the tax reserve related to favorable U.S. Tax Court rulings

recorded in the fourth quarter of 2002. See ""NOTE 13: LEGAL CONTINGENCIES'' and

""NOTE 14: INCOME TAXES'' to the consolidated Ñnancial statements for more information.

Cumulative EÅect of Change in Accounting Principles, Net of Taxes

Cumulative eÅect of change in accounting principles includes the eÅects of adopting SFAS 133 on

January 1, 2001 and EITF 99-20 on April 1, 2001.

The after-tax adjustments required by SFAS 133 resulted in a $78 million increase in net income for the

first quarter of 2001. The cumulative effect on earnings from the change in accounting principle is primarily

attributable to an after-tax gain of $52 million resulting from recording certain options at their fair value and an

after-tax gain of $26 million due to cumulative accounting ineffectiveness on hedge accounting relationships

involving receive-fixed swaps previously accounted for under accrual accounting. The adoption of EITF 99-20

resulted in a $35 million decrease to net income in the second quarter of 2001. This after-tax adjustment was

related to impairment losses required under EITF 99-20 on certain interest-only securities held at April 1, 2001.

Freddie Mac

68
CONSOLIDATED BALANCE SHEETS ANALYSIS

Table 28 provides summary consolidated balance sheets as of December 31, 2003 and 2002. This table

should be viewed in conjunction with the complete consolidated balance sheets.

Table 28 Ì Summary Consolidated Balance Sheets

December 31,

2003 2002

(dollars in millions)

Retained portfolio ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ $660,357 $589,722

Cash and investments ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 109,078 135,037

Derivative assets, at fair value ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 16,180 10,393

Guarantee asset for Participation CertiÑcates, at fair value ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 3,686 2,445

Other items included in total assetsÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 14,148 14,652

Total assets ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ $803,449 $752,249

Total debt securities, net ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ $739,613 $665,696

Due to Participation CertiÑcate investors ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 13,205 35,080

Guarantee obligation for Participation CertiÑcates ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 2,904 1,427

Derivative liabilities, at fair valueÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 357 967

Other items included in total liabilities ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 13,954 15,440

Total liabilities ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 770,033 718,610

Minority interest in consolidated subsidiaries ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 1,929 2,309

Total stockholders' equity ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 31,487 31,330

Total liabilities and stockholders' equity ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ $803,449 $752,249

During 2003, our total assets grew $51.2 billion, or 7 percent. This increase was driven by increases in the

Retained portfolio partially oÅset by decreases in cash and investments. During the same period, total

liabilities, plus minority interest in consolidated subsidiaries, increased by $51.0 billion, which was driven by

increases in total debt securities partially oÅset by decreases in the amount due to PC investors. These and

other changes in our consolidated balance sheets are discussed below.

Retained Portfolio

The Retained portfolio includes mortgage loans and mortgage-related securities that we acquire for

investment purposes and primarily consists of Freddie Mac and other agency securities.

The carrying value of the Retained portfolio increased by $70.6 billion, or 12 percent, to $660.4 billion in

2003 from $589.7 billion in 2002 with the largest growth occurring in the third quarter of 2003. The Retained

portfolio unpaid principal balance (which excludes premiums, discounts, deferred fees and other basis

adjustments, the Reserve for losses on mortgages held for investment, unrealized gains or losses on mortgagerelated securities and PC residuals) increased 14 percent during 2003. We generally increase our mortgagerelated investment activity when market conditions provide investment returns that exceed threshold levels.

Such opportunities are more likely to be available when there is less competition for mortgage-related

investments from other investors. Interest rates were extremely low through the Ñrst half of 2003 resulting in

the lowest mortgage rates seen in the last 45 years. These low rates created a large wave of reÑnancing activity

in the mortgage industry, leading to signiÑcant liquidations of mortgage-related securities held in the portfolio.

Despite these liquidations, there was an increase in mortgage-related security supply due to reÑnancing

activity and new purchase money activity. The increase in supply coupled with opportunities to retain selected

cash Öows on structured securitizations generated strong portfolio growth, especially in the third quarter as

residential real estate closings hit record highs.

Freddie Mac

69
Cash and Investments

Cash and investments include investments we acquire to manage recurring cash Öows, provide a source of

liquidity, temporarily deploy capital until the capital can be redeployed into Retained portfolio investments or

credit guarantee business opportunities and manage interest-rate risk exposure. Cash and investments also

include certain mortgage-related securities that are not included in the Retained portfolio since they are

acquired in conjunction with our PC market-making and support activities, conducted primarily through

SS&TG.

The ending balances of our cash and investments portfolio decreased by $26.0 billion, or 19 percent, to

$109.1 billion in 2003 from $135.0 billion in 2002 primarily due to the liquidation of Treasury securities held in

the portfolio during the Ñrst quarter of 2003 after we determined that these transactions did not qualify as

derivatives under GAAP. Accordingly, during 2003, we stopped using such securities to manage our interestrate risk. Additionally, over the course of 2003, we reduced the amount of non-mortgage related asset-backed

securities and corporate debt securities we held while increasing our cash and cash equivalents balances.

Derivative Assets and Liabilities, at Fair Value

All derivatives are reported at fair value with changes in the fair value of derivatives accounted for in

hedge accounting relationships recorded to AOCI (for the eÅective portion of cash Öow hedge only) and/or

Hedge accounting gains (losses). Changes in fair value of derivatives not accounted for in hedge accounting

relationships are recorded to Derivative gains (losses). We use derivatives to manage our interest-rate risk

exposure. However, hedge accounting has not been applied to many derivative transactions since a signiÑcant

number of transactions did not meet hedge accounting requirements or we elected not to pursue hedge

accounting.

The balance of derivatives in a gain position (reported as Derivative assets, at fair value) increased by

$5.8 billion, or 56 percent, to $16.2 billion at December 31, 2003 from $10.4 billion at December 31, 2002,

while the balance of derivatives in a loss position (reported as Derivative liabilities, at fair value) decreased by

$0.6 billion, or 63 percent, to $0.4 billion at December 31, 2003 from $1.0 billion at December 31, 2002.

Derivative assets and liabilities are presented on the consolidated balance sheets at their fair values, which are

aÅected by changes in market conditions such as the level and expected volatility of interest rates. During

2003, pay-Ñxed swaps and foreign-currency swaps increased in fair value by approximately $9.3 billion and

$3.4 billion, respectively, partially oÅset by a decrease in fair value of receive-Ñxed swaps of $5.1 billion. The

increase in the value of pay-Ñxed swaps was driven by the increase in interest rates during the latter part of

2003. The increase in the value of foreign-currency swaps was primarily driven by the increase in the Euro

exchange rate against the U.S. dollar during 2003.

The composition of the derivatives we hold will change from period to period as a result of derivative

purchases, sales and terminations. The carrying value of our derivative assets and liabilities at each

consolidated balance sheet date is equal to the fair value of the derivatives we hold on those dates. As noted

previously, changes in fair values are either recorded in current income or may be deferred in AOCI or as basis

adjustments to the hedged item. As a result, the increases or decreases in fair value by derivative categories

(e.g., pay-Ñxed swaps), described above, will not correspond directly to Derivative gains (losses) or Hedge

accounting gains (losses) on our consolidated statements of income.

Guarantee Asset for Participation CertiÑcates

The Guarantee asset for Participation CertiÑcates represents the fair value of future cash inÖows related

to our guarantee of PCs and Structured Securities transferred to third parties that qualify as sales or that were

subject to the requirements of FIN 45.

Freddie Mac

70
The guarantee asset balances increased by $1.2 billion, or 51 percent, to $3.7 billion in 2003 from

$2.4 billion in 2002. The changes in the guarantee asset balances during 2003 and 2002 are summarized in

Table 29.

Table 29 Ì Changes in Guarantee Asset Balances

2003 2002

(dollars in millions)

Beginning balance ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ $ 2,445 $ 3,156

Adjustment for change in accounting(1)(2) ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ (128) Ì

Additions, net ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 2,823 1,465

Changes in fair value(2) ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ (1,454) (2,176)

Ending balanceÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ $ 3,686 $ 2,445

(1) As of January 1, 2003, the fair value of those credit enhancements that were previously recognized as a component of guarantee

assets were reclassiÑed to Other assets.

(2) Subsequent to the announcement of our 2003 Ñnancial results in our Information Statement Supplement dated June 30, 2004, we

revised the amount of Adjustment for change in accounting and Changes in fair value. The eÅect of the revision was an increase of

$7 million in Adjustment for change in accounting and a decrease of $7 million in Changes in fair value.

The increase in net additions to the guarantee asset balance in 2003 compared to 2002 was primarily due

to the adoption of FIN 45. Additions, net now includes the fair value of the guarantee assets related to both

new PCs created through the Guarantor Program as well as a portion of those PCs and Structured Securities

issued through other similar transactions, and transactions involving PCs and Structured Securities that

qualiÑed as sales. The guarantee asset is presented net of reductions attributable to purchases of PCs and

Structured Securities. Purchases result in a reduction of the associated guarantee asset and re-establishment

of those amounts as PC residuals.

In 2002, additions include the fair value of the guarantee asset related to:

‚ PCs and Structured Securities sold subject to SFAS 125/140 during the period, net of reductions

attributable to purchases of these securities; and

‚ Buy up payments we make in connection with transactions we execute through our Guarantor

Program or other similar mortgage swap transactions.

Total Debt Securities, Net

We issue non-callable and callable short- and long-term debt securities in domestic and global capital

markets in a wide range of maturities to meet our funding needs. The balance of debt securities includes

deferred premiums, discounts and hedging gains and losses.

Total debt securities increased by $73.9 billion, or 11 percent, to $739.6 billion in 2003 from

$665.7 billion in 2002, corresponding to the growth in the Retained portfolio as discussed previously. During

2003, debt due within one year rose by $50.8 billion, while debt due after one year rose by $23.1 billion. As a

result of declining interest rates in the Ñrst half of 2003, the expected lives of assets held in the Retained

portfolio decreased, reducing the need for long-term debt. To shorten the eÅective weighted average lives of

our debt and thereby manage the funding mismatch created by the decline in interest rates, we issued

additional short-term debt, extinguished long-term debt by calling and repurchasing debt and further

shortened the duration of our debt by terminating pay-Ñxed swaps and entering into receive-Ñxed swaps.

Guarantee Obligation for Participation CertiÑcates

The Guarantee obligation for Participation CertiÑcates represents the amortized cost of our obligation to

guarantee the payment of principal and interest of PCs and Structured Securities, initially established at fair

value in transactions that qualify as sales or were subject to the requirements of FIN 45.

Freddie Mac

71
The Guarantee obligation for Participation CertiÑcates increased by $1.5 billion to $2.9 billion in 2003

from $1.4 billion in 2002. The changes in the guarantee obligation balances during 2003 and 2002 are

summarized in Table 30.

Table 30 Ì Changes in Guarantee Obligation Balances

2003 2002

(dollars in millions)

Beginning balance ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ $1,427 $1,155

Adjustment for change in accounting(1) ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ (110) Ì

Additions, net

Fair value of newly issued guarantee obligations(2) ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 1,684 864

Deferred gains on newly executed guarantees(3)ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 847 Ì

Amortization of obligations and deferred gains(4) ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ (925) Ì

Transfer-out during the period(5) ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ (19) Ì

Change in fair value ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ N/A (592)

Ending balanceÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ $2,904 $1,427

(1) On January 1, 2003, that portion of recognized guarantee obligations that was attributable to estimated incurred losses on outstanding

PCs or Structured Securities, of $110 million, was reclassiÑed to Reserve for guarantee losses on Participation CertiÑcates.

(2) Includes the fair value of guarantee obligations that were recognized in connection with transfers of PCs and Structured Securities in

2003 that qualiÑed as sales, as well as the fair value of guarantee obligations recognized in 2003 that related to PCs and Structured

Securities that were issued in Guarantor swaps and other similar transactions subject to FIN 45.

(3) Represents the excess of recognized guarantee assets and other assets (that relate to recognized credit enhancements) over

recognized guarantee obligations that are deferred as a component of recognized guarantee obligations. Such deferred amounts are

adjusted for buy-downs and credit fees received on Guarantor swaps and other similar transactions. Negative diÅerences between

such assets and liabilities are immediately recognized in earnings.

(4) EÅective January 1, 2003, recognized guarantee obligations were no longer subsequently measured on a fair value basis through

earnings. Rather, we began to amortize such liabilities into earnings on a Declining Unpaid Principal Balance Method.

(5) Represents estimated losses that were incurred in 2003 related to PCs and Structured Securities transferred to third parties in 2003.

The increase in the guarantee obligation balance to $2.9 billion in 2003 from $1.4 billion in 2002 was

primarily due to the adoption of FIN 45. In 2003, additions to the guarantee obligation balance include the fair

value of guarantee obligations established on new PCs created through the Guarantor Program and other

similar transactions, as well as transactions involving PCs and Structured Securities that qualiÑed as sales. The

guarantee obligation balance also includes the positive excess of recognized guarantee assets and other assets

that relate to recognized credit enhancements over recognized guarantee obligations, the excess of which we

refer to as Day One DiÅerences.

The guarantee obligations are presented net of reductions attributable to purchases of PCs or Structured

Securities. Purchases result in a reduction of the associated guarantee obligations and re-establishment of

those amounts at their then fair value as a component of the related PC residuals. The fair value of the Day

One DiÅerence is also presented net of reductions attributable to purchases of PCs or Structured Securities.

Purchases also result in the extinguishment of the Day One DiÅerence and a corresponding adjustment to the

cost basis of purchased PCs or Structured Securities.

The guarantee obligation is also reduced to the extent that, upon initial recognition, a portion of such

amounts can be observed to relate to incurred losses on underlying mortgage loans. In this case, that portion of

such amounts that relates to incurred losses on securitized mortgage loans is reclassiÑed to Reserve for

guarantee losses on Participation CertiÑcates. See ""NOTE 1: SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES'' to the consolidated Ñnancial statements for further discussion.

In 2002, additions include the fair value of the obligation related solely to PCs and Structured Securities

sold subject to SFAS 125/140 during the period, net of reductions attributable to purchases of PCs or

Structured Securities.

Factors contributing to the change in the fair value and amortization of the guarantee asset and guarantee

obligation are discussed in ""CONSOLIDATED RESULTS OF OPERATIONS Ì Non-Interest Income

(Loss) Ì Gains (Losses) on Guarantee Asset'' and ""Income (Expense) on Guarantee Obligation.''

Freddie Mac

72
Due to Participation CertiÑcate Investors

Timing diÅerences between our receipt of principal and interest payments from mortgage servicers and

the subsequent pass through to PC investors result in the liability Due to Participation CertiÑcate investors.

Amounts due to PC investors decreased by $21.9 billion, or 62 percent, to $13.2 billion in 2003 from

$35.1 billion in 2002. This decrease was due to the increase in interest rates during the second half of 2003,

which resulted in decreased mortgage prepayments at year-end 2003 compared to year-end 2002. The

liquidation rate on total PCs issued and Structured Securities, including PCs and Structured Securities we

hold, declined to 30 percent (annualized) in the fourth quarter of 2003, down signiÑcantly from the fourth

quarter of 2002.

Total Stockholders' Equity

Total stockholders' equity increased by $0.2 billion to $31.5 billion in 2003 from $31.3 billion in 2002.

Table 31 summarizes the components of stockholders' equity.

Table 31 Ì Total Stockholders' Equity

2003 2002

(dollars in millions)

Preferred stock ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ $ 4,609 $ 4,609

Common stock ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 152 152

Additional paid-in capital ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 814 744

Retained earningsÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 28,837 24,955

AOCI, net of taxes, related to:

Available-for-sale securities ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 6,349 12,217

Cash Öow hedge relationshipsÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ (7,837) (9,877)

Minimum pension liability ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ (10) Ì

Treasury stock ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ (1,427) (1,470)

Total stockholders' equity ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ $31,487 $31,330

The primary drivers of the increase in total stockholders' equity for 2003 were an increase in retained

earnings and lower deferred losses on cash Öow hedge relationships included in AOCI, net of taxes, oÅset by

losses in AOCI, net of taxes, related to Available-for-sale securities. Generally, the fair value of the availablefor-sale portfolio would be expected to move inversely to long-term interest rates. However, despite the decline

in interest rates during the Ñrst and second quarters of 2003, the available-for-sale portfolio declined in value

during 2003 because of the high prepayments experienced at the beginning of 2003 when interest rates were

lower. The rise in interest rates during the third and fourth quarters of 2003 also contributed to the overall

decline in value for 2003.

AVERAGE CONSOLIDATED BALANCE SHEETS AND RATE/VOLUME ANALYSIS

Table 32 reÖects an analysis of net interest income and presents average balances and related yields

earned on assets and rates paid on liabilities. Average balance sheet information is presented because we

believe end-of-period balances may not always be representative of activity throughout the periods presented.

We also believe that the rate/volume analysis may be helpful in understanding how changes in business

volumes and yields inÖuenced our Ñnancial results, particularly net interest income on earning assets. For most

components of the average balances, a daily weighted average balance is calculated for the period. When daily

weighted average balance information is not available, a simple monthly average balance is calculated. In

addition, Net interest income/yield (fully taxable equivalent basis) is presented on this table. Taxable

equivalent adjustments to interest income involve the conversion of tax-exempt sources of interest income to

the equivalent amounts of interest income that would be necessary to derive the same net return if the

investments had been subject to income taxes using our statutory tax rate (35 percent).

Freddie Mac

73
Table 32 Ì Average Consolidated Balance Sheets and Rate/Volume Analysis

Year Ended December 31,

2003 2002 2001

Interest Interest Interest

Average Income/ Average Average Income/ Average Average Income/ Average

Balance(1)(2) Expense Rate(4)(5) Balance(1)(2)(3) Expense Rate(4)(5) Balance(1)(2) Expense Rate(4)(5)

(dollars in millions)

Interest-earning assets:

Mortgage loans(6) ÏÏÏÏÏÏÏÏÏÏÏÏ $ 63,396 $ 4,251 6.70% $ 61,077 $ 4,290 7.02% $ 60,751 $ 4,385 7.22%

Mortgage-related securities in

the Retained portfolio(7)(8) ÏÏÏ 544,396 29,051 5.34 470,450 30,039 6.39 387,839 26,847 6.92

Total Retained portfolio ÏÏÏÏÏÏÏ 607,792 33,302 5.48 531,527 34,329 6.46 448,590 31,232 6.96

Investments(9) ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 94,768 3,246 3.40 91,794 3,693 3.99 63,952 3,419 5.30

Securities purchased under

agreements to resell and

Federal funds sold ÏÏÏÏÏÏÏÏÏÏ 49,085 550 1.12 29,032 454 1.56 21,270 717 3.37

Total interest-earning assets ÏÏÏ $751,645 $ 37,098 4.93 $652,353 $ 38,476 5.89 $533,812 $ 35,368 6.62

Interest-bearing liabilities:

Short-term debt ÏÏÏÏÏÏÏÏÏÏÏÏÏÏ $226,850 $ (2,785) (1.21) $209,551 $ (4,303) (2.03) $211,493 $ (9,056) (4.23)

Long-term debt(10)ÏÏÏÏÏÏÏÏÏÏÏÏ 478,028 (22,083) (4.62) 406,802 (21,337) (5.24) 291,489 (17,494) (6.00)

Total debt securities ÏÏÏÏÏÏÏÏÏÏ 704,878 (24,868) (3.52) 616,353 (25,640) (4.15) 502,982 (26,550) (5.25)

Due to Participation CertiÑcate

investors ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 26,234 (1,641) (6.26) 18,110 (1,236) (6.82) 14,136 (1,027) (7.27)

Total interest-bearing liabilities 731,112 (26,509) (3.62) 634,463 (26,876) (4.23) 517,118 (27,577) (5.31)

Income (expense) related to

derivatives(10)(11)(12) ÏÏÏÏÏÏÏÏÏ (1,091) (0.15) (2,075) (0.32) (343) (0.07)

Impact of net non-interest

bearing funding ÏÏÏÏÏÏÏÏÏÏÏÏ 20,533 0.10 17,890 Ì 0.13 16,694 Ì 0.17

Total funding of interestearning assets ÏÏÏÏÏÏÏÏÏÏÏÏÏ $751,645 $(27,600) (3.67) $652,353 $(28,951) (4.43) $533,812 $(27,920) (5.21)

Net interest income/yield(12) ÏÏÏ $ 9,498 1.27 $ 9,525 1.46 $ 7,448 1.41

Fully taxable equivalent

adjustment(13)ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 227 0.03 252 0.04 237 0.04

Net interest income/yield (fully

taxable equivalent basis)(12) ÏÏÏ $ 9,725 1.30% $ 9,777 1.50% $ 7,685 1.45%

2003 vs. 2002 Variance Due to 2002 vs. 2001 Variance Due to

Total Total

Rate(14) Volume(14) Change Rate(14) Volume(14) Change

(dollars in millions)

Interest-earning assets:

Mortgages loans ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ $ (199) $ 160 $ (39) $ (118) $ 23 $ (95)

Mortgage-related securities in the Retained portfolio ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ (5,330) 4,342 (988) (2,201) 5,393 3,192

Total Retained portfolio ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ (5,529) 4,502 (1,027) (2,319) 5,416 3,097

Investments ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ (563) 116 (447) (980) 1,254 274

Securities purchased under agreements to resell and Federal funds sold ÏÏÏÏÏÏÏÏ (155) 251 96 (468) 205 (263)

Total interest-earning assets ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ $(6,247) $ 4,869 $(1,378) $(3,767) $ 6,875 $ 3,108

Interest-bearing liabilities:

Short-term debt ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ $ 1,849 $ (331) $ 1,518 $ 4,670 $ 83 $ 4,753

Long-term debt ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 2,725 (3,471) (746) 2,416 (6,259) (3,843)

Total debt securities ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 4,574 (3,802) 772 7,086 (6,176) 910

Due to Participation CertiÑcate investors ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 110 (515) (405) 66 (275) (209)

Total interest-bearing liabilities ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 4,684 (4,317) 367 7,152 (6,451) 701

Income (expense) related to derivativesÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 984 Ì 984 (1,732) Ì (1,732)

Total funding of interest-earning assetsÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ $ 5,668 $(4,317) $ 1,351 $ 5,420 $(6,451) $(1,031)

Net interest incomeÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ $ (579) $ 552 $ (27) $ 1,653 $ 424 $ 2,077

Fully taxable equivalent adjustment ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 9 (34) (25) 4 11 15

Net interest income/yield (fully taxable equivalent basis) ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ $ (570) $ 518 $ (52) $ 1,657 $ 435 $ 2,092

(1) Excludes mortgage loans and mortgage-related securities traded, but not yet settled.

(2) For mortgage loans and securities classiÑed as available for sale, we calculate average balances based on their unpaid principal balance plus

their associated deferred fees and costs (e.g., premiums and discounts), but exclude the eÅects of lower of cost or market value adjustments

and other-than-temporary impairments. For securities in the Retained portfolio classiÑed as trading, we calculate average balances

excluding their mark-to-fair-value adjustments. For securities in the cash and investments portfolio classiÑed as trading, we calculate

average balances based on their fair values.

(3) Certain 2002 and 2001 average balances and yields have been adjusted to agree to current year presentation.

(4) May not sum due to rounding.

(5) Average rates for securities classiÑed as available for sale are on the historical cost basis, which is not aÅected by the change in fair value

that is reÖected in the AOCI component of Stockholders' equity.

(6) Non-accrual loans are included in average balances.

Freddie Mac

74
(7) Rates calculated on a fully taxable equivalent basis were 5.37%, 6.43% and 6.97% for the years ended December 31, 2003, 2002 and 2001,

respectively, based upon related income of $29,246 million, $30,253 million and $27,050 million, respectively.

(8) Subsequent to the announcement of our 2003 Ñnancial results in our Information Statement Supplement dated June 30, 2004, we revised

the average balances of Mortgage-related securities in the Retained portfolio to include certain basis adjustments related to these securities.

This revision resulted in a decrease to the Average Balance of Mortgage-related securities in the Retained portfolio of $112 million,

$175 million and $121 million for the years 2003, 2002 and 2001, respectively, as well as an increase of 0.01 percent to the 2002 Average

Rate related to Mortgage-related securities in the Retained portfolio. This revision also resulted in corresponding changes to the related

Rate/Volume Analysis.

(9) Investments consist of Cash and cash equivalents and the Total mortgage-related and non-mortgage-related securities subtotal of

Investments as reported on the consolidated balance sheets.

(10) Includes current portion of long-term debt. In 2003, we reclassiÑed the amortization of net realized gains and losses on closed (i.e.,

terminated or redesignated) cash Öow hedges related to long-term debt from Income (expense) related to derivatives to the long-term debt

expense line item. These reclassiÑcations, which increased Interest expense long-term debt and decreased Income (expense) related to

derivatives, totaled $312 million and $28 million for the years ended December 31, 2002 and 2001, respectively.

(11) Includes amortization of deferred balances related to certain cash Öow hedges and the accrual of periodic cash settlements in accordance

with the contractual terms of all derivatives in qualifying hedge accounting relationships.

(12) In accordance with interpretive guidance published by the OÇce of the Chief Accountant of the SEC, we reclassiÑed the accrual of

periodic cash settlements in accordance with the contractual terms of derivatives not designated in a qualifying hedge accounting

relationship, from Income (expense) related to derivatives, a component of Net interest income, to Derivative gains (losses), a component

of Non-interest income, for all periods presented. These reclassiÑcations, which decreased Derivative gains (losses) and increased Income

(expense) related to derivatives, totaled $639 million and $456 million for the years ended December 31, 2002 and 2001, respectively.

(13) Represents the adjustment necessary to calculate the tax-exempt income and yield on a tax equivalent basis. We analyze Net interest

income, and the related net interest yield, on a taxable-equivalent basis. This basis includes an adjustment that increases GAAP Net

interest income by an amount that would increase interest income on certain tax-exempt securities to a level equivalent to amounts that

would incur tax at the 35 percent statutory tax rate. Analysis on a taxable-equivalent basis allows the comparison of ratios related to taxexempt or tax-advantaged securities to those of fully taxable securities with higher yields.

(14) The combined rate/volume changes are allocated to the individual rate and volume change based on their relative size.

Freddie Mac

75
CONSOLIDATED FAIR VALUE BALANCE SHEETS

The consolidated fair value balance sheets in Table 33 present our estimates of the fair value of our

recorded assets and liabilities and oÅ-balance-sheet Ñnancial instruments as of December 31, 2003 and 2002.

Table 33 Ì Consolidated Fair Value Balance Sheets(1)

December 31,

2003 2002

Carrying Fair Carrying Fair

Amount(2) Value(3)(4) Amount(2) Value(3)

(dollars in billions)

Assets

Mortgage loans ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ $ 60.2 $ 62.5 $ 63.9 $ 67.6

Mortgage-related securities(5)(6) ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 600.2 600.4 525.8 526.1

Retained portfolioÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 660.4 662.9 589.7 593.7

Cash and cash equivalents ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 23.1 23.1 10.8 10.8

Investments(7) ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 65.4 65.4 101.2 101.2

Securities purchased under agreements to resell and

Federal funds sold ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 20.6 20.6 23.0 23.0

Derivative assets ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 16.2 16.2 10.4 10.4

Guarantee asset for Participation CertiÑcates ÏÏÏÏÏÏÏÏÏÏÏ 3.7 4.5 2.4 3.8

Other assets(6)(8)(9)ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 14.0 13.2 14.7 14.4

Total assets(9) ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ $803.4 $805.9 $752.2 $757.3

Liabilities and minority interest

Total debt securities, net ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ $739.6 $749.8 $665.7 $683.6

Guarantee obligation for Participation CertiÑcatesÏÏÏÏÏÏÏ 2.9 2.4 1.4 2.1

Derivative liabilities ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 0.4 0.4 1.0 1.0

Reserve for guarantee losses on Participation CertiÑcates 0.1 Ì 0.1 Ì

Other liabilities(8)(9) ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 27.0 23.9 50.4 45.1

Minority interests in consolidated subsidiaries ÏÏÏÏÏÏÏÏÏÏ 1.9 2.1 2.3 2.6

Total liabilities and minority interest(9) ÏÏÏÏÏÏÏÏÏÏÏÏ 771.9 778.6 720.9 734.4

Net assets attributable to stockholders

Preferred stockholders ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 4.6 4.4 4.6 4.6

Common stockholders ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 26.9 22.9 26.7 18.3

Total net assetsÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 31.5 27.3 31.3 22.9

Total liabilities and net assets(9) ÏÏÏÏÏÏÏÏÏÏÏÏÏÏ $803.4 $805.9 $752.2 $757.3

(1) The consolidated fair value balance sheets do not purport to present our net realizable, liquidation or market value as a whole.

Furthermore, amounts we ultimately realized from disposition of the assets or settlement of liabilities may vary signiÑcantly from the

fair values presented.

(2) Carrying amounts equal the amounts reported on our GAAP consolidated balance sheets.

(3) The valuation of Ñnancial instruments on the consolidated fair value balance sheets is in accordance with GAAP fair value guidelines

prescribed by SFAS 107 and other relevant pronouncements. See ""NOTE 16: FAIR VALUE DISCLOSURES'' to the consolidated

Ñnancial statements for more information.

(4) Methodologies employed to calculate fair values are periodically changed on a prospective basis to reÖect improvements in the

underlying estimation processes. Our estimate of the overall impact of the methodology improvements implemented during 2003 is

that they caused a partial oÅset to the increase in the fair value of net assets during the year.

(5) The fair value of mortgage-related securities reported in this table exceeds the carrying value because the fair value includes PC

residuals related to PCs held in the Retained portfolio that are not recognized under GAAP.

(6) Fair value of $0.2 billion related to the credit enhancement on certain manufactured housing asset-backed securities at December 31,

2002 previously reported as Mortgage related securities has been reclassiÑed to Other assets to conform to the current presentation.

(7) Includes mortgage-related securities held in connection with PC market-making and support activities.

(8) Fair values at December 31, 2003 and 2002 include estimated income taxes on the diÅerence between the consolidated fair value

balance sheets and the consolidated GAAP balance sheets.

(9) Subsequent to the issuance of our 2003 Information Statement Supplement dated June 30, 2004, we revised certain fair value

amounts as of December 31, 2003 related to a correction of the classiÑcation of the estimated income taxes on the diÅerence between

the consolidated fair value balance sheets and the consolidated GAAP balance sheets. This change resulted in a $0.2 billion decrease

to Other assets and Total assets as well as a corresponding $0.2 billion decrease to Other liabilities, Total liabilities and minority

interest, and Total liabilities and net assets.

Freddie Mac

76
The consolidated fair value balance sheets include all items recorded in the consolidated balance sheets

prepared in accordance with GAAP, as well as all oÅ-balance-sheet Ñnancial instruments that represent assets

or liabilities that are not recorded in the GAAP consolidated balance sheets. These oÅ-balance-sheet items

predominantly consist of the unrecognized portion of guarantee contracts associated with PCs issued through

our Guarantor Program as well as commitments to purchase multifamily and single-family mortgage loans

that will be classiÑed as held-for-investment in the GAAP Ñnancial statements and insurance contracts on

manufactured housing investments. See ""NOTE 1: SUMMARY OF SIGNIFICANT ACCOUNTING

POLICIES'' to the consolidated Ñnancial statements for more information.

The valuation of Ñnancial instruments on the consolidated fair value balance sheets is in accordance with

GAAP fair value guidelines prescribed by SFAS 107 and other GAAP guidance related to fair value

measurement. The fair value of a Ñnancial instrument is deÑned in SFAS 107 and other literature as "". . . the

amount at which the instrument could be exchanged in a current transaction between willing parties, other

than in a forced or liquidation sale.'' The assumptions used to determine or estimate fair values reÖect our best

judgment regarding appropriate valuation methods.

Under SFAS 107 and other GAAP guidance, the method used to estimate fair value for each type of

Ñnancial instrument depends on the reliability and availability of relevant market data. For Ñnancial

instruments with active markets and readily available market prices, we may determine fair values based on

price quotations obtained from third-party pricing services, broker-dealers or direct market observations,

where available. Depending on the reliability and availability of alternative methods of pricing, we may

estimate fair values using other appropriate valuation techniques, including estimates of the present value of

expected future cash Öows using a discount rate commensurate with the risks involved and internal valuation

models that incorporate relevant market data inputs obtained from third-party pricing services and brokerdealers. The use of diÅerent pricing models and assumptions could produce materially diÅerent estimates of

fair value. We use the same valuation techniques for preparing the consolidated fair value balance sheets as we

do for those elements of our GAAP consolidated Ñnancial statements which are recorded at fair value, such as

derivatives and securities as well as guarantee assets for a portion of the PC portfolio. See ""NOTE 1:

SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES'' to the consolidated Ñnancial statements

for more information concerning fair value estimates for our GAAP consolidated balance sheets. See

""NOTE 16: FAIR VALUE DISCLOSURES'' to the consolidated Ñnancial statements for more information

about our fair value estimates and the valuation methods and assumptions we use to prepare the consolidated

fair value balance sheets.

The consolidated fair value balance sheets do not capture all elements of value that are implicit in our

operations as a going concern, as they only reÖect the values of the current investment and securitization

portfolios. For example, the consolidated fair value balance sheets do not consider the value of new investment

and securitization business that would likely replace prepayments as they occur. In addition, the consolidated

fair value balance sheets also do not capture the value associated with future growth opportunities in our

investment and securitization portfolios. Thus, the fair value of net assets attributable to stockholders, or fair

value of net assets, presented in the fair value balance sheets does not represent an estimate of the net

realizable, liquidation or market value of Freddie Mac as a whole, nor is this measure comparable to

stockholders' equity in accordance with GAAP. In addition, our Core capital for regulatory purposes is

generally determined by reference to the value of certain components of capital as reÖected on our balance

sheet prepared in accordance with GAAP, not the fair value amounts shown in the table above.

We report assets and liabilities that are not Ñnancial instruments (such as our property, plant and

equipment and deferred taxes), as well as certain Ñnancial instruments that are not covered by the SFAS 107

disclosure requirements (such as pension liabilities), at their GAAP carrying amounts in the consolidated fair

value balance sheets. We believe these items do not have a signiÑcant impact on our overall Ñnancial prospects

or fair value results.

Freddie Mac

77
Key Components of Changes in Fair Value of Net Assets

Changes in the fair value of net assets from period to period result from returns (measured on a fair value

basis) and capital transactions. Changes in fair value are attributable to changes in a number of key

components. The key components of returns on fair value of net assets are as follows:

‚ Core spread income. We deÑne core spread income as the income we expect to earn from the spread

between mortgage-related investments and debt, calculated on an option-adjusted basis. An optionadjusted spread is an estimate of the yield spread between a given security and a benchmark (i.e.,

London Interbank OÅered Rate, or LIBOR, agency, Treasury) yield curve, after consideration of the

security's variability in cash Öows across diÅerent potential future interest rate scenarios, resulting from

any options embedded in the security. Our estimate of core spread income for a given period includes

estimated future costs related to the funding and hedging activities that are likely to be required to

achieve our risk management objectives for the Retained portfolio.

‚ Fee-based income. This includes the guarantee income from our single-family and multifamily

securitization businesses, adjusted to account for estimated default costs, remittance cycle costs and

general and administrative costs. Fee-based income also includes delivery fees on some mortgage

purchases, fees collected through our automated underwriting service and fee income associated with

resecuritization activities.

‚ Return on market risk positions. Our interest-rate risk positions and other risk positions, such as

basis risk and volatility risk, produce year-to-year fair value gains or losses that are reÖected in fair

value of net assets. We monitor the fair value returns associated with these risk positions and reÖect our

duration and convexity risk positions in our PMVS and duration gap risk estimates. See ""RISK

MANAGEMENT Ì Interest-Rate Risk and Other Market Risks Ì Measurement of Interest-Rate

Risk'' for more information.

‚ Changes in mortgage-to-debt option-adjusted spread. Any change in the relationship between the

option-adjusted yield on a previously acquired mortgage or mortgage-related asset and the optionadjusted yield on previously issued debt will lead to a change in the fair value of net assets. An increase

(widening) in the mortgage-to-debt option-adjusted spread will result in a decrease in the fair value of

our net assets. Conversely, a decline (tightening) in mortgage-to-debt option-adjusted spread will

result in an increase in the fair value of net assets.

Given the size of our retained mortgage portfolio, year-to-year changes in mortgage-to-debt optionadjusted spread could have a signiÑcant impact on annual fair value results. However, because we

generally hold a substantial portion of these assets for the long term and realize core spread income (as

described above) over this time frame, we do not believe period-to-period Öuctuations in fair value

driven by changes in mortgage-to-debt option-adjusted spread will signiÑcantly aÅect the long-term

return on our existing Retained portfolio.

‚ Change in fair value of guarantee portfolio. The fair value of the existing guarantee portfolio

Öuctuates with changes in interest rates and credit expectations. While year-to-year changes in the fair

value of the guarantee portfolio may have a signiÑcant impact on annual fair value results, we believe

that changes in the fair value of our existing guarantee portfolio are not a good indication of long-term

fair value expectations because such changes do not reÖect the strong probability that replacement

business will largely replenish any guarantee fee income lost because of prepayments over time.

Discussion of Fair Value Results

At December 31, 2003, the fair value of net assets (net of tax eÅect) was $27.3 billion, a $4.4 billion, or

19 percent, increase from December 31, 2002. For the same period, the fair value of net assets attributable to

common stockholders (representing the fair value balance sheet total net assets less the fair value of net assets

attributable to preferred stockholders) was $22.9 billion, a $4.6 billion or 25 percent, increase from

December 31, 2002. The diÅerence between the $4.4 billion increase and the $4.6 billion increase relates to

Freddie Mac

78
the change in the fair value of preferred stock. Among the primary contributors to the increase in fair value of

net assets in 2003 were core spread income, guarantee fees on the sold portfolio and other fee income.

In 2003, core spread income beneÑted from Retained portfolio growth of approximately 14 percent.

Guarantee fees beneÑted in 2003 from growth of outstanding PCs held by third parties. Other fee income

beneÑted in 2003 from substantial resecuritization fees related to high demand by investors for REMIC

securities. In 2003, there was a signiÑcant positive impact to the fair value of net assets as a result of tighter

mortgage-to-debt option-adjusted spreads and changes in guarantee portfolio valuation. We believe that while

changes in mortgage-to-debt option-adjusted spreads aÅecting the fair value of the existing Retained portfolio

and fair value changes in the existing guarantee portfolio will Öuctuate from year-to-year, they will not have a

signiÑcant impact on the fair value of net assets over the longer term.

Our increase in fair value of net assets during 2003 demonstrates that our investment and risk

management discipline can foster fair value growth in a year when there was high interest-rate volatility and a

wide range of interest-rate environments. We caution, however, that the strong fair value results achieved in

2003 exceed our long-term expectations for growth in the fair value of net assets.

Freddie Mac

79
VOLUME STATISTICS

Table 34 summarizes our purchase and securitization activity for the periods presented.

Table 34 Ì Volume Statistics(1)

Year Ended December 31,

2003 2002

(dollars in millions)

New business purchases(2)

Mortgage Purchases

Single-family:

30-year Ñxed-rate(3) ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ $377,847 53% $315,375 58%

15-year Ñxed-rate ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 239,684 34 153,346 28

ARMs/Floating-Rate(4)ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 52,556 7 44,917 8

Balloon/Resets ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 29,714 4 18,531 4

FHA/VA(5)ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 1,417 Ì 845 Ì

RHS ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 265 Ì 180 Ì

Total single-family ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 701,483 98 533,194 98

Multifamily:

Conventional ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 15,292 2 10,654 2

Total multifamily ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 15,292 2 10,654 2

Total Mortgage PurchasesÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ $716,775 100% $543,848 100%

Non-Freddie Mac mortgage-related securities purchased for Structured Securities:

Alternative collateral deals(6) ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ $ 3,918 $ 14,507

Structured Securities backed by Ginnie Mae CertiÑcatesÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 539 265

Non-Freddie Mac mortgage-related securities purchased into the Retained

portfolio:

Fannie MaeÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ $ 47,806 $ 45,798

Ginnie MaeÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 166 820

Total agency mortgage-related securitiesÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 47,972 46,618

Single-family and other mortgage-related securities ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 54,109 36,004

Commercial mortgage backed securities ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 10,588 8,282

Mortgage revenue bonds ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 963 863

Manufactured housing ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ Ì 318

Total non-agency mortgage-related securities ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 65,660 45,467

Total Non-Freddie Mac mortgage-related securities purchased into the

Retained portfolioÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ $113,632 $ 92,085

Total new business purchases(7) ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ $834,864 $650,705

Credit-enhanced portion of mortgage purchases(8)(9) ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 16% 20%

Percentage of reÑnance mortgage purchases(10) ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 81 74

Average loan-to-value of purchases:(10)

ReÑnance mortgages ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 66 67

Purchase money mortgages ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 79 79

Total purchasesÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 68 70

Mortgage liquidations(7)(11) ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ $719,321 $464,669

Mortgage liquidation rate(7)(11) ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 55% 40%

Securities Settlements:(9)

Single-family PCs ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ $704,912 $543,451

Multifamily PCsÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 8,337 3,596

Total ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ $713,249 $547,047

Structured Securitizations(12) ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ $298,118 $331,672

Freddie Mac securities repurchased into the Retained portfolio(7)(13) ÏÏÏÏÏÏÏÏÏÏÏÏÏÏ $266,989 $192,817

(1) Based on unpaid principal balances.

(2) Based on our total mortgage portfolio.

(3) Also includes 20-year Ñxed-rate mortgages.

(4) Includes ARMs with 1-, 3-, 5-, 7- and 10-year initial Ñxed-rate periods.

(5) Excludes FHA/VA loans that may be collateral for alternative collateral deals.

(6) Includes Structured Securities backed by non-agency securities, which are primarily backed by subprime mortgage loans. To a lesser extent, these

securities are backed by FHA/VA loans and home equity mortgage loans.

(7) For the year ended December 31, 2002, total new business purchases, mortgage liquidations and Freddie Mac securities repurchased into the Retained

portfolio have been revised for a $8,360 million reduction, $3,660 million increase and $7,626 million increase, respectively. These revisions are

attributable to (a) the addition of activity related to Structured Securities backed by Ginnie Mae CertiÑcates, and (b) corrections primarily

attributable to misclassiÑcations of certain securities between Freddie Mac mortgage-related securities and non-Freddie Mac mortgage-related

securities.

(8) Credit enhancements include loans for which the lender or a third party has retained primary default risk by pledging collateral or agreeing to accept

losses on loans that default. In some cases, the lender's or the third party's risk is limited to a speciÑc level of losses at the time the credit enhancement

becomes eÅective.

(9) Excludes Structured Securities backed by Ginnie Mae CertiÑcates.

(10) Amounts exclude alternative collateral deals and Structured Securities.

(11) Excludes sales of non-Freddie Mac mortgage-related securities.

(12) Includes activity related to multi-class Structured Securities, primarily REMICs as well as principal-only strips and other Structured Securities. These

amounts exclude resecuritizations of PCs into single-class securities.

(13) Excludes Freddie Mac securities purchased in connection with PC market making and support activities, which are reÖected in the ""Investments''

caption on the consolidated balance sheets.

Freddie Mac

80
Our 2003 business volume was the highest in our history. Interest rates for Ñxed-rate mortgages declined

during 2002 and through the Ñrst half of 2003, resulting in a surge of mortgage reÑnancing activity during both

years. As a result of these market trends, purchase volume increased by nearly 30 percent from 2002 to 2003.

ReÑnanced mortgages represented 81 percent of our total 2003 purchases, up from 74 percent in 2002.

Mortgage lenders tend to deliver more Ñxed-rate residential mortgages to the GSEs as compared to

ARM/Öoating-rate products. Fixed-rate mortgages represented 87 percent of our mortgage purchases for

2003, up from 86 percent in 2002. Fixed-rate 15-year mortgage loan volume rose in 2002 and 2003, as

declining interest rates increased the number of borrowers that qualiÑed for and chose this mortgage product,

while the 30-year Ñxed-rate portion of our volume activity declined from 58 percent in 2002 to 53 percent in

2003.

The liquidation rate on the total mortgage portfolio increased to 55 percent for 2003, compared to

40 percent for 2002. The high liquidation rates in 2003 and 2002 reÖect accelerated borrower prepayments due

to low Ñxed rates during 2002 and the Ñrst half of 2003, as evidenced by the high percentage of reÑnance

mortgage purchases in 2003 and 2002.

The percentage of credit-enhanced purchases decreased to 16 percent for 2003 from 20 percent for 2002

due primarily to a decline in the number of loans purchased that are covered by primary mortgage insurance.

The portion of our purchases with primary mortgage insurance declined primarily because primary mortgage

insurance is not required on loans with low loan-to-value ratios. The low loan-to-value ratio on purchases

resulted from the increases in home prices and rise in reÑnance activity in 2003. Our ability and desire to

utilize credit enhancements will depend on our evaluation of the credit quality of new business purchase

opportunities and the future availability of eÅective credit enhancements at prices that permit an attractive

return. See ""RISK MANAGEMENT Ì Credit Risks Ì Mortgage Credit Risk Ì Mortgage Credit Risk

Management Strategies'' for more information.

A signiÑcant portion of our mortgage purchase volume is generated from several key mortgage lenders

that have entered into special business arrangements with us. See ""BUSINESS Ì Mortgage Purchase and

Guarantee Activity'' for more information about these relationships and consequent risks.

Volumes associated with the issuance of Structured Securities, particularly REMICs, vary based on

market conditions that aÅect demand by us and other investors. Our structured securitization activity

(pertaining to REMICs, Structured Securities backed by non-agency securities and interest-only and

principal-only strips) was high in 2003 and 2002 at $298 billion and $332 billion, respectively. The steep yield

curve and signiÑcant reÑnance activity in 2002 and 2003 resulted in continued strong investor demand for

REMIC securities and an increased supply of REMIC collateral.

Freddie Mac

81
Table 35 summarizes the characteristics of the single-family loan purchases (excluding non-Freddie Mac

mortgage-related securities, alternative collateral deals and that portion of Structured Securities that is backed

by Ginnie Mae CertiÑcates) by original loan-to-value ratio range, credit score, loan purpose, property type and

occupancy type. See ""RISK MANAGEMENT Ì Credit Risks Ì Mortgage Credit Risk'' for deÑnitions of

those risk characteristics.

Table 35 Ì Characteristics of Purchases into the Single-Family Mortgage Portfolio(1)

Original Loan-to-Value Ratio Range(2) Year Ended December 31,

2003 2002 2001

0% to 60%ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 29% 25% 18%

Above 60% to 70%ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 19 16 14

Above 70% to 80%ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 40 43 46

Above 80% to 90%ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 7 9 11

Above 90% to 95%ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 4 6 9

Above 95% ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 1 1 2

Total ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 100% 100% 100%

Weighted average original loan-to-value ratio ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 68% 70% 74%

Credit Score(3)

Less than 620 ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 3% 4% 4%

620 to 659ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 8 9 11

660 to 699ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 17 18 19

700 to 739ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 23 24 24

740 and above ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 49 44 41

Not Available ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ Ì 1 1

Total ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 100% 100% 100%

Weighted average credit score ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 729 722 718

Loan Purpose(3)

Purchase ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 19% 26% 38%

Cash-out reÑnance ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 26 29 26

Other reÑnanceÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 55 45 36

Total ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 100% 100% 100%

Property Type(3)

1 unit ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 98% 98% 98%

2-4 units ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 2 2 2

Total ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 100% 100% 100%

Occupancy Type(3)

Primary residenceÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 95% 94% 94%

Second/vacation home ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 3 3 3

Investment ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 2 3 3

Total ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 100% 100% 100%

(1) Based on purchase activity related to the single-family mortgage portfolio (excluding non-Freddie Mac mortgage-related securities,

alternative collateral deals and that portion of Structured Securities that is backed by Ginnie Mae CertiÑcates), which totaled

$701 billion, $533 billion and $384 billion at December 31, 2003, 2002 and 2001, respectively.

(2) Our charter requires that mortgage loans purchased with loan-to-value ratios above 80 percent be covered by mortgage insurance or

other credit protections.

(3) See ""RISK MANAGEMENT Ì Credit Risks Ì Mortgage Credit Risk'' for more information.

Single-family mortgage loans purchased with loan-to-value ratios above 80 percent have decreased from

22 percent at December 31, 2001 to 16 percent and 12 percent at December 31, 2002 and 2003, respectively.

In addition, the weighted average loan-to-value ratio of the mortgage loans purchased has decreased from

74 percent at December 31, 2001 to 70 percent and 68 percent at December 31, 2002 and 2003, respectively.

Freddie Mac

82
The lower loan-to-value ratios in 2002 and 2003 are primarily the result of house-price appreciation combined

with the surge in reÑnance activity in these years.

The proportion of mortgage loans purchased resulting from reÑnancing transactions increased to a total of

81 and 74 percent at December 31, 2003 and 2002, respectively, from 62 percent at December 31, 2001. This

increase in reÑnance activity is a result of the low interest rates experienced in 2002 and the Ñrst half of 2003.

The quality of mortgage loans purchased in 2003 and 2002 continued to be strong. The strong credit

quality of borrowers is evidenced by the high average credit score on mortgage loans purchased of 729, 722

and 718 at December 31, 2003, 2002 and 2001, respectively. The proportion of one-unit properties in our

mortgage loan purchase volume remained the same over the past three years, accounting for 98 percent at

December 31, 2003, 2002 and 2001. The proportion of primary and secondary residences in our mortgage loan

purchase volume remained stable over the past three years, accounting for 98 percent at December 31, 2003

and 97 percent at both December 31, 2001 and 2002.

Freddie Mac

83
LIQUIDITY AND CAPITAL RESOURCES

Liquidity

Our business activities present liquidity demands driven by maturities and repurchases of our debt,

purchases of mortgage loans, mortgage-related securities and other investments, payments of principal and

interest to PC and Structured Securities holders, general operations and the payment of dividends to our

stockholders. Our sources of cash to meet the needs of our business activities and general operations include:

‚ Issuances of long-term and short-term debt;

‚ Receipts of principal and interest on securities we hold or mortgages we have securitized and sold;

‚ Sales of securities we hold, particularly those in the cash and investments portfolio;

‚ Borrowings against mortgage-related securities and other investment securities we hold;

‚ Cash Öows from operating activities; and

‚ Issuances of common and preferred stock.

We measure our cash Öow position on a daily basis, netting uses of cash (principally, the settlement of

mortgage and non-mortgage investment security purchases, principal and interest payments on debt and

mortgage securities, net payments on derivative instruments and other operating cash Öows) with sources of

cash (principally, the settlement of debt borrowings and principal and interest receipts on mortgage and nonmortgage investment securities held in portfolio and mortgages we have securitized and sold). The net cash

position is managed over a rolling forecasted period of 90 days, so that the amount of debt funding needed to

cover expected negative balances does not adversely aÅect our overall funding levels. This daily management

of our liquidity is in accordance with the Liquidity Management and Contingency Planning voluntary

commitment. See ""VOLUNTARY COMMITMENTS'' for further information.

Depending on market conditions and the mix of our derivatives employed in connection with our ongoing

risk management activities, our derivative portfolio can be either a net source of or a net use of cash. For

example, depending on the prevailing interest-rate environment, interest-rate swap agreements could cause us

either to make interest payments to the counterparty or to receive interest payments from the counterparty.

Purchased options require us to pay a premium while written options allow us to receive a premium. Also, the

legal proceedings discussed in ""NOTE 13: LEGAL CONTINGENCIES'' to the consolidated Ñnancial

statements may result in a use of cash.

To reÑnance maturing debt, we depend on the continuing willingness of investors to purchase our debt

securities (for more information regarding the maturity proÑle of our outstanding debt securities, see

""Table 40 Ì Total Capitalization''). Our inability to prepare timely consolidated Ñnancial statements, as

discussed in ""RISK MANAGEMENT Ì Operational Risk,'' or any change in legislative or regulatory

exemptions as described in ""BUSINESS Ì Regulation and Governmental Relationships,'' could adversely

aÅect our access to some debt investors, thereby potentially increasing our debt funding costs. However,

because of our Ñnancial performance and our regular and signiÑcant participation as an issuer in the funding

markets, our sources of liquidity have remained adequate to meet our needs and we anticipate that they will

continue to do so. We will not issue common stock until we have returned to timely Ñnancial reporting. In

addition, our ability to issue preferred stock or subordinated debt may be limited during this period.

Under our charter, the Secretary of the Treasury has discretionary authority to purchase our obligations

up to a maximum of $2.25 billion principal balance outstanding at any one time. However, we do not rely on

this authority as a source of liquidity to meet our obligations. See ""BUSINESS Ì Regulation and

Governmental Relationships'' for more information.

Freddie Mac

84
Debt Securities

We Ñnance our purchases of mortgage loans and mortgage-related securities primarily through the

issuance of both long-term and short-term debt. Table 36 below summarizes the par value of our debt security

issuances based on settlement date during 2003 and 2002.

Table 36 Ì Debt Security Issuances

Year Ended December 31,

Debt Securities Products 2003 2002

(dollars in millions)

Short-term Reference Bills» and discount notes ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ $ 784,614 $1,370,161

Medium-term Notes ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 213,924 201,803

U.S. dollar denominated Reference Notes» ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 54,000 78,743

4Reference Notes» ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 4,347 13,793

Subordinated debt ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ Ì 2,500

Total debt securities issued ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ $1,056,885 $1,667,000

See ""BUSINESS Ì Portfolio Investment Ì Debt Securities'' for more information on our debt

programs.

On an annual basis for the upcoming calendar year, we publish Ñnancing calendars, which are intended to

provide clarity and transparency with regard to the timing of new debt issues and reopening of prior issues, the

anticipated size of individual oÅerings and settlement dates. All Reference Notes» securities, 4Reference

Notes» securities and Reference Bills» securities issued during 2003 and the Ñrst eight months of 2004 were

issued in accordance with our previously announced Ñnancing calendars.

The 2004 Ñnancing calendars underscore our goal of aligning our interests with investors while also

ensuring that we have the Öexibility to oÅer the marketplace securities of the appropriate size and maturity. In

addition, we have supplemented our calendars by publishing the ""Quarterly Funding Announcement &

Summary,'' or QFAS, which promotes additional transparency and predictability by detailing our funding

activity from the previous quarter and outlining expectations for the upcoming quarter. The QFAS is available

on our website www.FreddieMac.com. (We are providing this reference to the QFAS solely for the

information of interested persons. We are not using references to the QFAS here or elsewhere in this

Information Statement to incorporate additional information into this Information Statement.)

By adhering to our Ñnancing calendars, we are able to provide our debt investors with a predictable source

of investment opportunities. However, there is no assurance that we will be able to continue to adhere to our

Ñnancing calendars in the future. In order to continue our debt oÅerings as scheduled and properly manage our

asset/liability mix, we regularly conduct repurchases of outstanding debt securities. Our repurchase operations

support the transparency, liquidity, and predictability of Reference Notes» securities, 4Reference Notes»

securities and callable debt securities. During 2003 and 2002, we repurchased approximately $24.8 billion and

$18.9 billion, respectively, of our outstanding Reference Notes and 4Reference Notes. In addition, primarily

as a response to declining interest rates, we called approximately $153.0 billion and $99.3 billion of our higherrate long-term callable debt during 2003 and 2002, respectively. From time to time, we may also enter into

transactions in which we exchange newly issued debt securities for similar outstanding debt securities held by

investors. These transactions are not accounted for as repurchases, but rather as debt exchanges.

Freddie Mac

85
Our ability to access the capital markets and other sources of funding, as well as our cost of funds, are

highly dependent upon our credit ratings. Table 37 indicates our current credit ratings as of September 1,

2004.

Table 37 Ì Freddie Mac Credit Ratings

Rating Agency

Standard & Poor's Moody's Fitch

Senior long-term debt ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ AAA Aaa AAA

Short-term debt ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ A-1° Prime-1 F-1°

Subordinated debt ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ AA¿ Aa2 AA¿Watch Negative

Preferred stockÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ AA¿ Aa3 AA¿Watch Negative

In addition to the ratings described in Table 37, Standard & Poor's, or S&P provides a ""Risk-To-TheGovernment'' rating that measures our ability to meet our debt obligations and the value of our franchise in

the absence of any implied government support. Our ""Risk-To-The-Government'' rating was AA- at

September 1, 2004. Moody's also provides a ""Bank Financial Strength'' rating that represents Moody's

opinion of our intrinsic safety and soundness and, as such, excludes certain external credit risks and credit

support elements. Ratings under this measure range from A, the highest, to E. ""Our Bank Financial Strength''

rating was A- at September 1, 2004.

Equity Securities

During the Ñrst eight months of 2004 and all of 2003, we did not issue or redeem any equity securities.

During 2002, we redeemed $287 million of 6.125 percent preferred stock, issued in November 1996, and

eÅectively replaced it with a 5.81 percent perpetual non-cumulative preferred stock issuance with a

redemption value of $300 million, raising approximately $13 million in net proceeds. During 2003, we did not

repurchase any common shares. We repurchased approximately 9.1 million common shares during 2002 for

approximately $555 million.

Cash and Investments Portfolio

To protect ourselves against temporary disruptions in our ability to obtain funding for our business

operations, we maintain a cash and investments portfolio. The investments in this portfolio consist of liquid

non-mortgage-related securities and mortgage-related securities that can be sold or Ñnanced to:

‚ Manage recurring cash Öows and meet other cash management needs;

‚ Maintain capital reserves to meet mortgage funding needs;

‚ Provide diverse sources of liquidity; and

‚ Help manage the interest-rate risk inherent in mortgage-related assets.

Through this portfolio, we are also able to strategically utilize our available capital. This portfolio is important

to our Ñnancial management and our ability to provide liquidity and stability to the mortgage market.

The non-mortgage-related securities in the cash and investments portfolio consist principally of assetbacked securities, corporate debt securities, and other marketable assets that can be readily converted to cash.

The non-mortgage investments in this portfolio may expose us to institutional credit risk and the risk that the

investments will decline in value due to market-driven events such as credit downgrades or changes in interest

rates and other market conditions. See ""RISK MANAGEMENT Ì Credit Risks Ì Institutional Credit

Risk'' for more information. The mortgage-related securities in the cash and investments portfolio consist

primarily of assets held by our SS&TG business unit.

Freddie Mac

86
Table 38 summarizes the mortgage-related and non-mortgage-related securities held in the cash and

investments portfolio at December 31, 2003 and 2002. In addition, information regarding maturities and credit

ratings is provided to assist in understanding our credit risk related to the cash and investments portfolio.

Table 38 Ì Mortgage-Related and Non-Mortgage-Related Securities in the Cash and Investments

Portfolio

December 31, 2003 December 31, 2002

Average % of Portfolio A Average % of Portfolio A

Ending Balance Maturity Rated Ending Balance Maturity Rated

at Fair Value (Months) or Better(1) at Fair Value (Months) or Better(1)

(dollars in millions)

Non-mortgage-related securities

Asset-backed securities(2) ÏÏÏÏÏÏÏ $16,596 N/A 100% $ 34,694 N/A 100%

Debt securities issued by the U.S.

Treasury and other government

corporations and agencies ÏÏÏÏÏ Ì Ì Ì 12,493 136 100

Corporate debt securitiesÏÏÏÏÏÏÏÏ 4,924 36 60 10,102 33 64

Obligations of states and

municipalities ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 9,494 323 100 6,641 307 100

Commercial paper ÏÏÏÏÏÏÏÏÏÏÏÏÏ 150 1 100 2,240 1 100

Preferred stock ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 64 55 100 249 19 92

SubtotalÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 31,228 94% 66,419 94%

Other non-mortgage-related

securities held for PC marketmaking and support activities(3) ÏÏ 1,314 2,409

Other mortgage-related securities

held for PC market-making and

support activities(4) ÏÏÏÏÏÏÏÏÏÏÏÏ 32,812 32,374

Total mortgage-related and nonmortgage-related securities in

""Cash and Investments'' per

consolidated balance sheetsÏÏÏÏÏÏ $65,354 $101,202

(1) Credit ratings are designated by at least two nationally recognized rating agencies.

(2) Consists primarily of securities that can be prepaid prior to their contractual maturity without penalty. Maturity information related

to these securities is not included because the contractual maturity does not represent the expected lives of the securities.

(3) See ""BUSINESS Ì PC Market-Making and Support Activities'' for more information.

(4) The majority of these securities are agency mortgage-related securities and thus the disclosures concerning average maturity and

rating are not provided.

For a discussion of the decline in the balance of non-mortgage-related securities during 2003, see

""CONSOLIDATED BALANCE SHEETS ANALYSIS Ì Cash and Investments.''

Contractual Obligations

""Table 39 Ì SpeciÑed Contractual Obligations by Year'' includes aggregated information about our

speciÑed contractual obligations as of December 31, 2003. These contractual obligations aÅect our short- and

long-term liquidity and capital resource needs. ""Table 39 Ì SpeciÑed Contractual Obligations by Year''

includes information about undiscounted future cash payments due under speciÑed contractual obligations,

aggregated by type of contractual obligation, including the contractual maturity proÑle of our consolidated

debt securities and other liabilities reported on our consolidated balance sheets and our operating leases at

December 31, 2003. In addition, our contractual obligations include other purchase obligations that are

enforceable and legally binding. For purposes of ""Table 39 Ì SpeciÑed Contractual Obligations by Year,''

purchase obligations are included through the termination date speciÑed in the respective agreements, even if

the contract is renewable. Many of the purchase agreements for goods or services include clauses that would

allow us to cancel the agreement prior to the expiration of the contract within a speciÑed notice period;

however, the table includes such obligations without regard to such termination clauses (unless actual notice

of our intention to terminate the agreement has been communicated to the counterparty).

Table 39 excludes guarantee obligations, which represent our obligations to stand ready to perform under

our guarantees of the payment of principal and interest of certain PCs and Structured Securities, as the

amount and timing of payments under these arrangements are generally contingent upon the occurrence of

Freddie Mac

87
future events. The liabilities on our consolidated balance sheets associated with our guarantee obligations are

included in the caption Guarantee obligation for Participation CertiÑcates. See ""NOTE 1: SUMMARY OF

SIGNIFICANT ACCOUNTING POLICIES'' to the consolidated Ñnancial statements for additional

information about our guarantee obligations.

The funding policy for our qualiÑed pension plans is generally to contribute the maximum amount

deductible for federal income tax purposes each year. We expect to contribute approximately $12 million to

our qualiÑed pension plans during 2004. This expected contribution is included in the Other liabilities caption

in Table 39. The estimated pension plan contributions are subject to change since contribution decisions are

aÅected by various factors such as market performance, regulatory requirements and management's ability to

change funding policy. For additional information regarding our retirement beneÑt obligations see ""NOTE 15:

EMPLOYEE BENEFITS'' to the consolidated Ñnancial statements.

Table 39 Ì SpeciÑed Contractual Obligations by Year (as of December 31, 2003)

Total 2004 2005 2006 2007 2008 Thereafter

(dollars in millions)

Long-term debt securities(1) ÏÏÏÏÏ $550,875 $ 80,610 $90,840 $73,290 $36,958 $50,675 $218,502

Short-term debt securities(1) ÏÏÏÏÏ 212,035 212,035 ÌÌÌÌ Ì

Operating lease obligations ÏÏÏÏÏÏ 98 11 11 10 10 10 46

Purchase obligations:

Purchase commitments(2)ÏÏÏÏÏÏ 33,923 33,923 ÌÌÌÌ Ì

Other purchase obligations(3)ÏÏÏ 331 223 45 26 20 17 Ì

Other liabilities reÖected on our

consolidated balance sheets:

Due to Participation CertiÑcate

investors ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 13,205 13,205 ÌÌÌÌ Ì

Accrued interest payable ÏÏÏÏÏÏ 7,345 7,345 ÌÌÌÌ Ì

Other liabilities(4) ÏÏÏÏÏÏÏÏÏÏÏÏ 2,663 1,201 585 322 294 78 183

Total speciÑed contractual

obligations ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ $820,475 $348,553 $91,481 $73,648 $37,282 $50,780 $218,731

(1) The amounts presented for long-term debt obligations exclude net discounts of approximately $23 million. Callable debt is included

in the table at its contractual maturity. For additional information about long-term and short-term debt securities see ""NOTE 8:

DEBT SECURITIES AND SUBORDINATED BORROWINGS'' to the consolidated Ñnancial statements.

(2) Purchase commitments represent our obligations to purchase mortgage loans, mortgage-related securities and various debt securities

from third parties.

(3) Other purchase obligations primarily include obligations related to consulting, outsourcing and other costs.

(4) Other liabilities primarily represent obligations to make delayed equity contributions to low-income housing tax credit partnerships

that are unconditional and legally binding. This caption also includes $90 million of other liabilities included in the 2004 column for

which the timing of payments is uncertain.

At December 31, 2003, we used our derivative transactions to manage our exposures to interest-rate

changes and other market risks. Such transactions may require cash settlement in future periods and are not

reÖected on Table 39. See ""Table 49 Ì Derivatives Fair Values and Maturities,'' which describes the notional

amount and fair value for each derivative type and the maturity proÑle of the positions in ""RISK

MANAGEMENT Ì Interest-Rate Risk and Other Market Risks.''

Freddie Mac

88
Capital Resources

We manage our capital resources to provide attractive returns on our common equity, maintain suÇcient

capital to satisfy internal capital adequacy standards as well as regulatory capital requirements, and absorb

unforeseen losses that might arise in fulÑlling our obligations and conducting our business programs.

Table 40 sets forth our capitalization as of the dates presented.

Table 40 Ì Total Capitalization

December 31,

2003 2002

(dollars in millions)

Debt securities:

Due within one year:

Short-term debt securities ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ $212,035 $194,044

Current portion of long-term debt ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 83,227 50,385

Total due within one year ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 295,262 244,429

Due after one year ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 438,738 415,662

Subordinated borrowings due after one year(1) ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 5,613 5,605

Total due after one yearÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 444,351 421,267

Total debt securities, net ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 739,613 665,696

Stockholders' equity ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 31,487 31,330

Total capitalization ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ $771,100 $697,026

(1) The year-over-year increase in the balance of subordinated borrowings results from principal accretion related to zero-coupon

subordinated debt.

See ""NOTE 8: DEBT SECURITIES AND SUBORDINATED BORROWINGS'' and ""NOTE 9:

STOCKHOLDERS' EQUITY'' to the consolidated Ñnancial statements for further information.

We engage in transactions and issue or repurchase debt obligations on an ongoing basis, all of which will

cause our total capitalization to change. Therefore, on any date after December 31, 2003, our total

capitalization will diÅer (perhaps substantially) from the Ñgures contained in this capitalization table.

Table 41 summarizes the components of our Core capital. Core capital excludes AOCI, net of taxes,

consistent with our regulatory capital requirements, which are described under ""Capital Adequacy'' below.

Table 41 Ì Summary of Core Capital

December 31,

2003 2002

(dollars in millions)

Common stock:

Par valueÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ $ 152 $ 152

Additional paid-in capital ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 814 744

Preferred stock (at redemption value) ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 4,609 4,609

Retained earnings ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 28,837 24,955

Treasury stock, at cost ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ (1,427) (1,470)

Core capital ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ $32,985 $28,990

Capital Transactions

During 2003, we added approximately $4.0 billion to Core capital primarily from net income, partially

oÅset by the payment of common and preferred stock dividends. During 2002, we added approximately $8.8

billion to Core capital primarily from net income and one preferred stock issuance, partially oÅset by a

preferred stock redemption, common stock repurchases and payment of common and preferred stock

dividends.

Freddie Mac

89
Our Board of Directors approved a quarterly dividend per common share of $0.30 for the Ñrst, second and

third quarters in 2004, an increase of 15 percent over the $0.26 quarterly dividend paid each quarter

during 2003. We paid a quarterly dividend per common share of $0.22 in 2002. Dividends declared and paid in

any quarter will be determined by our Board of Directors after considering our Ñnancial strength and capital

surpluses, among other factors.

In addition, under the capital monitoring framework established by OFHEO in January 2004, we are

required to obtain prior written approval from the Director of OFHEO before engaging in certain capital

transactions, including the repurchase of any shares of common stock, redemption of any preferred stock or

payment of preferred stock dividends above stated contractual rates. We also must submit a written report to

the Director of OFHEO after the declaration, but before the payment, of any dividend on our common stock.

The report must contain certain information on the amount of the dividend, the rationale for the payment and

the impact on our capital surplus.

In periods of timely Ñnancial reporting, when we are adequately capitalized and attractive investment

opportunities are not available, we will consider returning capital to our stockholders through dividends or

common stock repurchases. In addition, we periodically reissue treasury stock to employees and non-employee

directors as part of our stock-based compensation plans. See ""NOTE 11: STOCK-BASED COMPENSATION'' to the consolidated Ñnancial statements for a description of these plans. The amount of capital

available to distribute to our stockholders will be aÅected primarily by:

‚ Mortgage portfolio growth opportunities;

‚ Our assessment of the adequacy of our capital; and

‚ Regulatory capital standards and supervisory requirements.

All common stock repurchases have been made as part of the stock repurchase plan approved by our

Board of Directors on September 5, 1997. The current plan allows repurchases of common stock not to exceed

5 percent of shares outstanding as of September 5, 1997, which was approximately 34 million shares. At

December 31, 2003, approximately 13 million common shares remained available for repurchase under this

plan. During periods when current consolidated Ñnancial statements are available, the frequency and amount

of repurchases will depend on market conditions. During 2003 and the Ñrst eight months of 2004, we did not

repurchase any common shares. We repurchased approximately 9.1 million shares of common stock during

2002 for approximately $555 million. We do not expect to engage in common share repurchases until after we

resume timely Ñnancial reporting. In addition, we may not be able to issue or redeem preferred stock or

subordinated debt until we resume timely Ñnancial reporting and therefore, changes in Core capital will

generally be limited to net income and dividends. See ""BUSINESS Ì Regulation and Governmental

Relationships Ì Regulatory Matters Ì OFHEO'' for a discussion of the framework established by OFHEO

for monitoring our capital.

Freddie Mac

90
Table 42 details, as of December 31, 2003, our outstanding preferred stock issuances that are redeemable

at our option at December 31, 2003, and redeemable beginning in 2004 or later.

Table 42 Ì Preferred Stock

Annual

Earliest Optional Dividend Redemption

Redemption Dates(1)(2) Rate Value(1)

(dollars in millions)

Issuances redeemable at December 31, 2003

October 27, 1998 ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 5.81% $ 150

October 30, 2000 ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 5.3% 200

June 30, 2001 ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ variable 250

June 30, 2002 ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 6.14% 600

March 31, 2003ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 5.00% 400

March 31, 2003(3)ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ variable 325

March 31, 2003(4)ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ variable 230

June 30, 2003(5) ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ variable 201

September 30, 2003 ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ variable 220

September 30, 2003 ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 5.1% 400

2,976

Issuances redeemable in 2004 or later

March 31, 2004ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 5.1% 150

December 31, 2004(6)ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ variable 288

June 30, 2006 ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 6% 173

December 31, 2006 ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 5.7% 300

March 31, 2007ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 5.81% 300

June 30, 2009 ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 5.79% 250

March 31, 2011ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 5.81% 172

1,633

Total Preferred Stock at Redemption Value(7) ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ $4,609

(1) Optional redemption on or after dates indicated.

(2) As long as the capital monitoring framework established by OFHEO in January 2004 remains in eÅect, any preferred stock

redemptions will require prior approval by OFHEO (see ""BUSINESS Ì Legislative and Regulatory Environment Ì Regulatory

Matters Ì Capital Requirements and Capital Distribution Rules'').

(3) Optional redemption on March 31, 2003 and on March 31 every two years thereafter.

(4) Optional redemption on March 31, 2003 and on March 31 every year thereafter.

(5) Optional redemption on June 30, 2003 and on June 30 every two years thereafter.

(6) Optional redemption on December 31, 2004 and on December 31 every Ñve years thereafter.

(7) No preferred stock was redeemed in 2003 or the Ñrst eight months of 2004.

Capital Adequacy

We regularly assess the adequacy of our capital to conÑrm that we hold capital suÇcient to satisfy all of

our Ñnancial obligations, even if economic circumstances deteriorate unexpectedly and severely.

The GSE Act establishes our capital standards, and OFHEO has issued regulations that set our

minimum, critical and risk-based capital requirements. We operate with the intention that our capital exceeds

all regulatory requirements. See ""NOTE: 10 REGULATORY CAPITAL'' to the consolidated Ñnancial

statements for a discussion of the regulatory risk-based, minimum and critical capital requirements and the

capital monitoring framework mandated by OFHEO.

Freddie Mac

91
""Table 43 Ì Regulatory Capital Requirements'' summarizes our regulatory capital requirements and

surpluses at December 31, 2003 and 2002. Amounts for 2003 are as currently reported to OFHEO.

Table 43 Ì Regulatory Capital Requirements

December 31,

2003 2002

(dollars in millions)

Minimum capital requirement ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ $23,774 $22,339

Core capital(1)(2) ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 32,985 28,990

Minimum capital surplus(1) ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 9,211 6,651

Critical capital requirement ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 12,097 11,369

Core capital(1)(2) ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 32,985 28,990

Critical capital surplus(1)ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 20,888 17,621

Risk-based capital requirement(3)ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 5,426 4,743

Total capital(3)(4) ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 33,436 24,222

Risk-based capital surplus(3)ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 28,010 19,479

(1) For 2003, Core capital and minimum and critical capital surpluses have been amended from amounts previously reported to OFHEO

to incorporate adjustments reÖected in our consolidated Ñnancial statements. The 2003 minimum and critical capital surplus

amounts are estimates and have been revised from amounts included in our Information Statement Supplement dated June 30, 2004

to reÖect a loss contingency reserve related to proceedings arising from our previous restatement. OFHEO is the authoritative source

of the capital calculations that underlie our capital classiÑcation. See ""NOTE 13: LEGAL CONTINGENCIES'' to the

consolidated Ñnancial statements for further information.

(2) Core capital consists of the par value of outstanding common stock (common stock issued less common stock held in treasury), par

value of outstanding perpetual preferred stock, additional paid in capital and retained earnings, as determined in accordance with

GAAP.

(3) Risk-based and Total capital amounts are those calculated by OFHEO prior to the issuance of our 2003 and 2002 Ñnancial results.

OFHEO determined not to recalculate the risk-based capital amounts because the minimum capital requirement remained the

primary factor for our classiÑcation as adequately capitalized.

(4) Total capital includes Core capital and general reserves for mortgage and foreclosure losses.

Freddie Mac

92
OFF-BALANCE SHEET ARRANGEMENTS

OÅ-Balance Sheet Transactions

In the ordinary course of business, we fulÑll our statutory purposes as a GSE of providing stability and

liquidity in the secondary market for residential mortgages, as well as responding appropriately to changes in

the private capital markets, by engaging in various transactions. These transactions enable us to:

‚ Maintain the lowest possible cost of Ñnancing for our mortgage investments;

‚ Bring eÇciency to the mortgage market;

‚ Manage interest-rate risk, credit risks, other business and market risks; and

‚ Enhance our liquidity and capital resources.

Financial instruments created through these transactions may or may not be recorded on our consolidated

balance sheets at their fair value or on a cost basis. A transaction's contractual or notional amount usually does

not equal the related fair value or carrying amount.

As discussed in ""BUSINESS Ì Business Overview,'' our participation in the secondary mortgage

market includes issuing PCs to third party investors through securitization. PCs represent undivided interests

in pools of mortgage loans that are backed by either single-family or multifamily mortgage loans. We also

resecuritize Structured Securities, which represent undivided interests in PCs or other mortgage-related

securities issued by either Ginnie Mae or non-agency issuers. In each case, we provide our credit guarantees

with respect to the payment of principal and interest on issued PCs or Structured Securities. In these

transactions, mortgage-related securities that back PCs and Structured Securities held by third parties are not

reÖected as our assets under GAAP. However, we do retain an obligation to guarantee the payment of

principal and interest on issued PCs and Structured Securities, which usually results in the recognition of a

guarantee asset and guarantee obligation on our consolidated balance sheets.

Most of our credit guarantee activity occurs through the Guarantor Program in the form of mortgage

swap transactions. In a mortgage swap transaction, a mortgage lender delivers mortgages to us in exchange for

our PCs, which represent undivided interests in those same mortgages for which we guarantee the payment of

principal and interest. We do not receive any consideration for the underlying mortgages in a mortgage swap

transaction other than the associated management and guarantee fee and delivery or credit fees for higher-risk

mortgages for our guaranteeing and administering the payment of principal and interest on the PCs.

Most of the remaining credit guarantee activity occurs through the Cash Window Program. In a cash

transaction to purchase mortgage loans, we decide whether to hold the mortgage loans in our Retained

portfolio and Ñnance them by issuing debt and equity securities, or sell them in the secondary market in the

form of issued PCs that carry our guarantee of payment of principal and interest. Those mortgage loans that

are purchased through the Cash Window Program that we do not retain are pooled together with other singlefamily mortgage loans that are received in connection with MultiLender Swap transactions. These PCs are

backed by mortgage loans delivered to us by more than one third party. We may contribute mortgage loans to

MultiLender pools from which PCs are then issued and delivered to third parties. In this case, our

contributions are accounted for as a partial sale, while the remaining portions of such PCs and transfers are

accounted for consistent with the accounting for PCs issued through the Guarantor Program. Issued PCs that

are not delivered to third party lenders through the MultiLender Program are sold through an auction for cash

consideration. We also receive the ongoing management and guarantee fee for PCs issued through these

programs.

In addition to the issuance and transfer of PCs to third parties, we also sell PCs from our portfolio in

resecuritized form. More speciÑcally, we issue single- and multi-class Structured Securities that are backed by

securities held in our portfolio and subsequently transfer such Structured Securities to third parties in

exchange for cash consideration, or in exchange for PCs and other mortgage-related securities that are

delivered to us by third party dealers who sell such Structured Securities to mortgage security investors. We

generally earn resecuritization fees in connection with the creation of Structured Securities and can earn the

ongoing management and guarantee fee for certain Structured Securities issued. Our principal exposure on

Freddie Mac

93
Structured Securities relates only to that portion of resecuritized assets that are represented by non-Freddie

Mac mortgage-related securities.

See ""Table 3 Ì Freddie Mac Single-Class and Multi-Class PCs and Structured Securities Based on

Unpaid Principal Balances'' for our total PCs and Structured Securities outstanding (held by third parties) as

of December 31, 2003 and 2002. As indicated in Table 3, our outstanding PCs and Structured Securities also

include:

‚ Structured Securities backed by Ginnie Mae CertiÑcates;

‚ Tax-exempt multifamily housing revenue bonds that support pass-through certiÑcates issued by

third parties for which we provide our guarantee of the payment of principal and interest;

‚ Multifamily mortgage loans that are originated and held by state and municipal agencies to

support tax-exempt multifamily housing revenue bonds for which we provide our guarantee of the

payment of principal and interest (see ""NOTE 4: FINANCIAL GUARANTEES'' to the

consolidated Ñnancial statements); and

‚ Mortgage loans held by third parties for which we provide a credit guarantee.

For our purchase and securitization activity for 2003 and 2002, see ""Table 34 Ì Volume Statistics.''

The accounting policies we apply to our credit guarantee activities signiÑcantly aÅect the volatility of our

reported earnings through the initial recognition of the fair value of guarantee assets and guarantee obligations

in connection with sales of PCs and Structured Securities, the recognition of subsequent gains or losses from

the change in fair value of guarantee assets and PC residuals generated from such sales and the repurchase

and sale of PCs into and out of our Retained portfolio and our cash and investments portfolio. See

""CONSOLIDATED RESULTS OF OPERATIONS Ì Non-Interest Income (Loss)'' for an analysis of

management and guarantee income and other aÅected consolidated statements of income captions related to

our credit guarantee activities. See ""CONSOLIDATED BALANCE SHEETS ANALYSIS'' for discussion

of our guarantee assets and guarantee obligations. The accounting and Ñnancial results for our securitization

transactions (including gains and losses on transfers of PCs and Structured Securities that are accounted for

as sales and periodic cash Öows on transfers of securitized interests and corresponding retained interests) and

the signiÑcant assumptions used to determine the gains or losses from such transfers that are accounted for as

sales are discussed in ""NOTE 2: TRANSFERS OF SECURITIZED INTERESTS IN MORTGAGERELATED ASSETS'' to the consolidated Ñnancial statements. The maximum potential amount of future

principal payments we could be required to make in connection with the unpaid principal balance of all PCs

and Structured Securities held by third parties totaled $752 billion and $730 billion at December 31, 2003 and

2002, respectively. See ""NOTE 4: FINANCIAL GUARANTEES'' to the consolidated Ñnancial statements

for additional information.

We assume the mortgage credit risk on the mortgages underlying PCs by guaranteeing the payment of

principal and interest to PC holders. We manage this risk carefully, sharing the risk in some cases with third

parties through the use of primary loan-level mortgage insurance, pool insurance and other credit enhancements. ""NOTE 4: FINANCIAL GUARANTEES'' to the consolidated Ñnancial statements provides details

related to credit protections and maximum coverage that we obtained through credit enhancements in our

credit guarantee activities. Also, see ""RISK MANAGEMENT Ì Credit Risks'' for more information.

Our PCs and Structured Securities are an integral part of our mortgage purchase program and any

decline in the price performance of or demand for our PCs or a combination thereof could have a material

adverse eÅect on the proÑtability of our new credit guarantee business. In the second quarter of 2003, the price

of and demand for our PCs weakened relative to comparable Fannie Mae securities. As discussed in

""BUSINESS Ì Mortgage Security Performance and Other Market Support Activities'' and ""EXECUTIVE

SUMMARY Ì 2003 Business Volumes,'' in June 2003, we began taking action to improve our market share

by broadly implementing a pricing feature that adjusts the contract guarantee fee on new business by the

security price execution diÅerence. During the Ñrst eight months of 2004, our PC prices have strengthened

compared to the second half of 2003.

Freddie Mac

94
Other

We extend other guarantees and provide indemniÑcation to counterparties for breaches of standard

representations and warranties in contracts entered into in the normal course of business based on an

assessment that the risk of loss would be remote. See ""NOTE 4: FINANCIAL GUARANTEES'' to the

consolidated Ñnancial statements for additional information.

We are a party to numerous entities that are considered to be variable interest entities under FIN 46-R.

These variable interest entities include low-income multifamily housing tax credit partnerships, certain

Structured Securities trusts (T-Series Trusts or alternative collateral deals), and certain asset-backed

investment entities. Our adoption of the revision of FIN 46, or FIN 46-R, for 2003 year-end reporting had no

eÅect on our consolidated Ñnancial statements. As of December 31, 2003, we were not required to consolidate

any variable interest entities under FIN 46-R. See ""NOTE 3: VARIABLE INTEREST ENTITIES'' to the

consolidated Ñnancial statements for additional information related to our signiÑcant variable interests in these

variable interest entities.

As part of our credit guarantee business, we routinely enter into forward purchase and sale commitments

for mortgage loans, mortgage-related securities and agency debt. Pursuant to SFAS 133, a portion of these

commitments are accounted for as derivatives under GAAP, with their fair value reported as either Derivative

assets, at fair value or Derivative liabilities, at fair value on the consolidated balance sheets. See ""RISK

MANAGEMENT Ì Interest-Rate Risk and Other Market Risks Ì Derivative Tables'' for further information. Non-derivative commitments, excluding commitments to acquire securities that are accounted for in

accordance with EITF No. 96-11, ""Accounting for Forward Contracts and Purchased Options to Acquire

Securities Covered by FASB Statement No. 115,'' or EITF 96-11, discussed in ""NOTE 1: SUMMARY OF

SIGNIFICANT ACCOUNTING POLICIES'' to the consolidated Ñnancial statements, are related to

(1) commitments arising from mortgage swap transactions and (2) commitments to purchase single-family

(2002 only) and multifamily mortgage loans that will be classiÑed as held-for-investment under GAAP.

These non-derivative commitments totaled $178.2 billion and $133.9 billion as of December 31, 2003 and

2002, respectively. Such commitments were not accounted for as derivatives in accordance with SFAS 133

and were not recorded on our consolidated balance sheets at fair value. To generate our single-family mortgage

purchase volume, we individually negotiate arrangements providing for a mortgage lender's commitment to

sell a high proportion of its conforming mortgage origination volume to us. We are exposed to the risk that we

could lose purchase volume to the extent these agreements are terminated or modiÑed without replacement

from other lenders. We actively monitor the lenders' share volume and, if a mortgage lender fails to meet its

contractual commitment, we have a variety of contractual protections, including the assessment of

certain fees.

Freddie Mac

95
RISK MANAGEMENT

We are subject to three main business risks:

‚ operational risk;

‚ interest-rate and other market risks; and

‚ credit risks.

Our strategy for managing these risks is based upon the principle that risk should be understood and

managed directly by the business areas, with oversight by an independent risk function and reporting to senior

management and the Board of Directors, as described below. The level of our eÅectiveness in managing risks

inÖuences both the level and stability of our earnings and long-term value.

In October 2003, we established the Enterprise Risk Oversight group that is led by a Chief Enterprise

Risk OÇcer currently reporting to our Chief Executive OÇcer. Enterprise Risk Oversight oversees our

interest-rate and other market risks as well as credit risks. Prior to October 2003, these oversight

responsibilities were not centralized in one group. The Operational Risk Oversight group is led by an

Operational Risk OÇcer currently reporting to the Chief Financial OÇcer. On a day-to-day basis, business

area risk management and line personnel manage our operational, interest rate and other market risks and

credit risks. Enterprise Risk Oversight and Operational Risk Oversight provide independent oversight of these

business area risk management activities. The Chief Enterprise Risk OÇcer and Operational Risk OÇcer

provide advice to senior management on key risk management issues and provide independent reporting to the

Audit Committee of the Board of Directors.

Operational Risk

Summary

In this discussion of our operational risk, we make numerous statements regarding our expectations

relating to our assessment, evaluation and review of our internal controls and our implementation of related

process improvements. Our ability to implement these improvements, however, will depend on a number of

factors. See ""FORWARD-LOOKING STATEMENTS'' for more information.

We are subject to the risk that Ñnancial loss could result from failures or inadequacies in our operational

processes. We, like most companies, are exposed to operational risk in Ñve major areas: Ñnancial reporting,

people, process, technology and external events.

We have a high level of operational risk with respect to Ñnancial reporting risk. In connection with the

audit of our consolidated 2003 Ñnancial statements, PwC has identiÑed and notiÑed management and the

Audit Committee of the existence of certain ""material weaknesses'' (as deÑned by standards established by

the American Institute of CertiÑed Public Accountants, or AICPA) in processes that support Ñnancial

reporting. We have summarized the material weaknesses, each of which comprises a number of more speciÑc

issues, as follows:

‚ Material weaknesses in the integration of certain Ñnancial processes and systems;

‚ Material weaknesses in monitoring controls over certain accounting and Ñnancial operations; and

‚ Material weaknesses in certain documentation and change management processes.

See ""Sources of Operational Risks Ì Financial Reporting Risk Ì 2003 Material Weaknesses in Internal

Controls'' and ""EXPLANATORY NOTE'' for additional detail. In addition, we have a signiÑcant number of

other internal control weaknesses that meet the deÑnition of ""reportable conditions'' (as deÑned by standards

established by the AICPA) related to our Ñnancial operations and reporting processes. We are still in the

process of conducting a comprehensive assessment of the design of our internal controls over Ñnancial

reporting and we anticipate that we will identify additional internal control weaknesses, some of which may be

material weaknesses.

Previously, in connection with the audit of our Ñnancial statements for the three years ended December 31, 2002, PwC identiÑed and notiÑed management and the Audit Committee of the existence of certain

Freddie Mac

96
material weaknesses in processes that support Ñnancial reporting. We summarized the material weaknesses

into the following categories:

‚ Corporate governance and management oversight;

‚ Financial accounting and reporting expertise and accountability;

‚ Role of Market Risk Oversight; and

‚ Monitoring of controls over valuation of Ñnancial instruments.

See ""Sources of Operational Risks Ì Financial Reporting Risk Ì 2002 Material Weaknesses in Internal

Controls'' for additional detail. In response to these material weaknesses, we implemented a comprehensive

remediation program and, while we have more progress to make, we have substantially remediated many of

the material weaknesses identiÑed as part of the audit of our results for 2002.

Our operational risk related to Ñnancial reporting remained high in 2003, despite our remediation

successes, for a number of reasons. First, while many of the issues that contributed to our 2002 material

weaknesses have been either resolved or mitigated, some issues carried over into 2003. The most notable are

those related to the requirement for signiÑcant systems revisions as a result of our adoption of revised

accounting policies from the 2002 restatement and new accounting rules promulgated for 2003. While we have

made substantial progress, we face continuing challenges because of the prior deÑciencies in our accounting

infrastructure and the operational complexities caused by the enormous volume of revised and new accounting

policies we have adopted. Second, as we conducted in-depth reviews of our controls related to Ñnancial

reporting processes, as well as our line business processes, additional material weaknesses in internal controls

were identiÑed.

Strengthening the control environment and reducing operational risk are top priorities of the company. As

discussed below, we are actively addressing these material weaknesses and reportable conditions. We are

Ñnalizing plans to mitigate our material weaknesses and have reviewed our approach with the Audit

Committee of the Board of Directors. These plans call for remediation or substantive mitigation before our

next earnings release.

Sources of Operational Risks

Financial Reporting Risk. In 2003 and to date in 2004 our most signiÑcant operational risks have been

in the area of controls over Ñnancial reporting. This area includes the risks that Ñnancial information is not

produced on a timely basis or that Ñnancial information is materially misstated. We seek to mitigate these

risks through internal business controls, management oversight and governance controls and appropriate

staÇng.

2003 Material Weaknesses in Internal Controls. PwC communicated to management and the Audit

Committee that material weaknesses existed in our internal controls over Ñnancial reporting during 2003.

Many are interrelated and reÖect the need to redesign our accounting systems and process as well as a number

of business processes in order to provide timely and accurate Ñnancial information. The material weaknesses

are the result of the numerous new and revised accounting policies resulting from the restatement, new

accounting rules promulgated in 2003, and an historical under-investment in infrastructure, both people and

systems, to support Ñnancial reporting. We summarized the material weaknesses into the following categories:

‚ Material weaknesses in the integration of certain Ñnancial processes and systems. These material

weaknesses result primarily from the lack of integration between core operating systems and

accounting systems. The strain on internal controls of implementing new accounting policies is

compounded by weak existing infrastructure in accounting and valuation systems. The accounting

close process is labor-intensive, with certain steps that must be performed sequentially. First,

preliminary results are recorded with existing systems. Second, these results are ""remeasured''

using interim processes, with several dependencies on manual, oÅ-line processes to adjust to

GAAP standards. In addition, valuation and accounting systems also lack integration and rely on

numerous manual processes that prevent us from valuing Ñnancial instruments and verifying those

values within a timeframe needed for timely Ñnancial reporting.

Freddie Mac

97
Material weaknesses in this category are:

‚ SigniÑcant integration issues among numerous core business, accounting, and external

service provider operations and over-reliance on end-user systems for certain major

activities.

‚ Inadequate controls over data input and systems limitations in Ñnancial operations.

These material weaknesses increase the risk of errors caused by hand-oÅ failures and prevent

timely detection of errors.

Though it remains a two-step process, we have implemented a number of improvements to the

2003 process, including the implementation of enhanced systems. To mitigate the risk inherent in

the current two-step process we completed extensive eÅorts to develop appropriate controls,

including signiÑcant back-end data validation and Ñnancial analytics. However, those controls

prevent a timely accounting close and there continues to be a high level of inherent risk because of

the operational complexities. This fact is evidenced by the immaterial errors in our previously

disclosed results for 2002 that we identiÑed and corrected in the course of the 2003 close process.

Integrated plans are being implemented to address systems and process enhancements in 2004

with longer-term eÅorts to signiÑcantly improve our systems and the structure of our internal

controls over Ñnancial reporting. For example, we are improving the pricing process by streamlining and automating the front-end pricing and back-end veriÑcation processes to increase

eÇciency, scope and timeliness. We also implemented a controlled subledger system for our

retained mortgage portfolio that captures all accounting data for our mortgage-related security

investment activities, replacing what had been a much more manual process dependent on enduser systems.

‚ Material weaknesses in monitoring controls over certain accounting and Ñnancial operations.

We rely on a variety of controls for the reliability of our Ñnancial reporting. These range from

preventative controls, such as data quality screens, to detective controls, such as independent

veriÑcation, reviews, or oversight. We need to strengthen certain monitoring controls in our

accounting and Ñnancial operations. Weaknesses in these controls increase the risk that if errors

are made, they will not be detected in a timely manner.

Material weaknesses in this category are:

‚ Inadequate staÇng and systems to support the appropriate scope of independent price

veriÑcation of Ñnancial instruments used in the preparation of Ñnancial statements.

‚ Inadequate supervisory review of journal entries in some processes.

‚ InsuÇcient monitoring controls within Ñnancial operations and related reporting

functions.

Resolution of our systems integration issues will address many of these weaknesses. However this

is a multi-year eÅort. We are taking steps in the interim to substantially mitigate these

weaknesses. We are also actively addressing our staÇng adequacy issues. We continue to add staÅ

and resources to the price veriÑcation process to improve its scope. We have strengthened

segregation of duties and supervisory reviews of the journal entry process and further improvements are planned. We have implemented management information analysis to improve our

monitoring of accounting for Ñnancial transactions. A key focus of our re-engineering eÅort is to

design systems and processes that enable more eÅective monitoring and supervision. We are also

undertaking internal control reviews to validate that supervisory review and monitoring controls

are robust.

‚ Material weaknesses in certain documentation and change management processes. Documentation and change management controls help us evaluate whether changes in models, data,

systems or processes are correct and appropriate. We have material weaknesses in certain

Freddie Mac

98
documentation, oversight and change management controls. See further discussion under ""Technology Risk'' below.

Material weaknesses in this category are:

‚ Technology implementation control deÑciencies, including change management

processes that allow access to production environments by developers.

‚ Access by some business end-users to production databases.

‚ End-user computing solutions with both insuÇcient documentation and change controls.

‚ Lack of formal change management and oversight processes over certain models used to

support Ñnancial reporting.

‚ InsuÇcient documentation controls over certain data correction activities.

Change management weaknesses may result in a failure to prevent material errors in Ñnancial

reporting. They also increase our reliance on manual validation procedures.

To address these weaknesses, a separate systems environment for the 2003 Ñnancial reporting

processes strengthened access and change management controls and mitigated this weakness for

reporting systems. We are conducting a broader review of security controls over business systems

that provide data and information to Ñnancial reporting systems to fully assess this risk. EÅorts are

underway to document a complete inventory of all applications that support Ñnancial reporting and

evaluate and institute appropriate change management controls.

We have moved the end-user systems we have currently identiÑed as those we rely on for Ñnancial

reporting to formal production environments or implemented formal change control environments

for them. We have instituted numerous formal oversight and monitoring controls over models

used to support Ñnancial reporting (see ""2002 Material Weaknesses in Internal Controls''). Plans

for further enhancements are underway. We are also directing signiÑcant attention to identifying

and preventing data quality and input issues and reengineering the operating and Ñnancial systems

to address data issues.

2002 Material Weaknesses in Internal Controls. In our 2002 Information Statement and Annual Report

we noted deÑciencies that PwC identiÑed as material weaknesses. We implemented a comprehensive

remediation program under the direction and oversight of the Governance Committee of the Board of

Directors to address these material weaknesses and have made signiÑcant progress in reducing the severity of

these weaknesses. While some of the speciÑc issues that contributed to the material weaknesses carried over

into 2003, we no longer classify the following as material weaknesses in our internal controls. We summarized

the material weaknesses into the following categories:

‚ Corporate governance and management oversight. Through a variety of actions in 2003 and 2004,

we have remediated issues relating to corporate governance and management oversight, including

hiring a new Chief Executive OÇcer, President and Chief Operating OÇcer, Chief Financial

OÇcer, Executive Vice President Ì Investments, General Counsel and General Auditor. We

have Ñlled the new positions of Chief Enterprise Risk OÇcer and Chief Compliance OÇcer, and

conducted corporate-wide Code of Conduct and Sarbanes-Oxley training. We established formal

policies for the review and approval of new products and for appropriate oversight of unique

transactions. Finally, a review of the Board of Directors committee structure, and increased

frequency of Board of Directors and committee meetings, has strengthened the corporation's

governance structure.

‚ Financial accounting and reporting expertise and accountability. We have made signiÑcant

progress building the staÇng levels and competencies of the Ñnancial reporting staÅ. From

January 2003 and to date in 2004, we have doubled resources within the accounting department

and hired numerous senior level employees. Additional eÅort is needed to adequately train and

manage the increased staÅ.

Freddie Mac

99
‚ Role of Market Risk Oversight. In 2003 and to date in 2004, we created a Chief Enterprise Risk

OÇcer position reporting directly to the Chief Executive OÇcer. We placed the Market Risk

Oversight group within the Enterprise Risk Oversight group and are actively recruiting for a senior

level executive to head it. We also created a model oversight group responsible for independently

assessing the design and adequacy of key models used in accounting and business decisions,

including measuring interest-rate risk, credit risks and valuing Ñnancial instruments that impact

the Ñnancial statements. By placing the Market Risk Oversight group within a central, independent risk function, we believe that we have strengthened our culture of independent oversight.

While we are still recruiting for a head of Market Risk Oversight, we believe the severity of this

weakness is reduced as this role currently is being Ñlled by the Chief Enterprise Risk OÇcer.

‚ Monitoring of controls over valuation of Ñnancial instruments. In 2003 and to date in 2004 we

continue to make signiÑcant improvements to the controls over valuations of Ñnancial instruments.

We formalized, reviewed and documented our pricing methodologies. We created a function

within our Investment and Capital Markets Division to monitor and validate the implementation

of that division's pricing methods. We created an independent valuation veriÑcation group within

Market Risk Oversight that uses an array of independently obtained information to evaluate the

reasonableness of the valuations. Finally, we created a group reporting to the Chief Financial

OÇcer with broad oversight of valuation processes. We also established a senior management

Valuation Committee to provide strong oversight of valuation methodologies, model changes and

processes for Ñnancial instruments that aÅect Ñnancial statements. Collectively, these changes

strengthen our process to identify, review and resolve valuation issues appropriately. While not

complete, we have made substantial progress on strengthening controls over our valuation

processes for Ñnancial instruments. We continue to have certain deÑciencies in the timeliness of

valuation and the timeliness and scope of independent price veriÑcation and the formalization of

management oversight and change management processes over models used to support Ñnancial

statements. See ""Sources of Operational Risks Ì Financial Reporting Risk Ì 2003 Material

Weaknesses in Internal Controls.''

Risk Management Strategies and Other Sources of Operational Risks

During 2003 and to date in 2004, we have signiÑcantly strengthened the number and competencies of the

employees in the business areas dedicated to operational risk management. These employees seek to ensure

that existing operational risk issues are identiÑed and resolved and that new processes, systems and business

activities are designed with sound operational risk and control management practices. We are also strengthening resources in the independent Enterprise Risk Oversight group, the Operational Risk Oversight group and

the Internal Audit group to be able to better identify and evaluate operational risks and prioritize these risks

for mitigation. Finally, we reorganized our management committees and enhanced our procedures for

reporting to our Board of Directors to increase the focus on operational risk management and controls.

To improve our ability to identify and manage operational risk, we have undertaken two major corporate

initiatives. First, we began implementing a new self-assessment process. We expect the new process to be fully

implemented in virtually all business areas by year-end 2004. As part of the new process we deÑned common

operational risks and standard controls, as well as business-speciÑc controls, for each business area to use in

assessing its operational risk. This implementation, and the concurrent reassessment of existing controls, has

improved each business area's understanding of its operational risks and the adequacy of its controls. It has

also facilitated corporate-level analysis and monitoring of key risks, controls and mitigation plans. These

processes have resulted in the identiÑcation of new material control weaknesses and our assessment that

internal controls remain weak.

Freddie Mac

100
Our second initiative is an in-depth review of internal controls over Ñnancial reporting. This review

includes documentation of all current controls and an assessment by an independent reviewer of our design of

internal controls. We have undertaken this internal review to assist us in:

‚ Identifying our control deÑciencies;

‚ Developing remediation plans for any deÑciencies; and

‚ Maintaining an inventory of controls to use as a basis for future eÅectiveness testing.

In 2004, we began identifying and monitoring key operational risk indicators and implementing processes

to collect operational loss event data. We are committed to identifying and monitoring forward-looking

indicators of operational risk and losses in order to improve our operations, reduce risk, and increase

transparency as to the level of operational risk. These eÅorts are in the early stages of development and we

anticipate it will be a multi-year eÅort to fully implement these processes.

People Risk

People risk is a signiÑcant risk for us because of the complexity of our business and the skills needed by

key personnel. The capability of our people and appropriate staÇng levels are critical to us. We manage this

risk with recruiting, training, and retention programs. We are still making extensive use of consultants to

support our remediation activities, which increases our operational risk because we are not building the

capabilities of our own staÅ. We continue aggressive programs to recruit capable staÅ at both the senior

management and staÅ levels to mitigate this risk.

Process Risk

Process risk includes transaction execution risk, model risk, and vendor management risk. Transaction

execution risk is the risk arising from a failure to develop or follow appropriate internal processes for executing

our business transactions. Proper transaction execution depends on quality data and internal operations.

Recent focus on the prior restatement and rebuilding the systems and processes to support Ñnancial reporting

has resulted in a signiÑcant strain on business processes throughout our company. We manage process risk

with development and maintenance of appropriate policies, procedures and delegations, compliance monitoring, and identiÑcation and execution of control procedures such as segregation of duties and data quality

standards. We have made signiÑcant investments in credit and market risk processes to soundly manage these

risks and continue to strengthen these processes. We also have several initiatives underway to better

understand and strengthen the process of attributing the changes in the fair values of our assets and liabilities

to changes in the underlying key components and to ensure appropriate segregation of duties in our attribution

analysis. We expect this attribution process to continue to improve and evolve.

Model risk is the risk that business decisions are made using model results that are incorrect or applied

inappropriately. Model risk is an important area for us because of our signiÑcant use of business and Ñnancial

models. We mitigate model risk by validating inputs and assumptions, model code and theory, and model

outputs. Over the past year, we signiÑcantly enhanced our oversight processes, including establishing a

corporate function to focus on the key models used in management decisions and Ñnancial reporting. We also

continued to enhance our credit and market risk models. See ""Sources of Operational Risks Ì Financial

Reporting Risk Ì 2003 Material Weaknesses in Internal Controls'' above for more information concerning

internal control issues related to models.

Vendor management risk is the risk that we will suÅer an operational loss, a loss of intellectual property, a

breach of conÑdentiality, or other business harm because of our reliance on external parties to perform or

assist us in performing critical business functions and processes. We currently outsource to external parties

certain key functions, including processing functions for trade capture and interest-rate and other market risk

management analytics reporting (Blackrock Financial Management, Inc.), processing functions for mortgage

loan underwriting (Electronic Data Systems Corporation, or EDS) and back oÇce support (Bear Stearns

Securities Corporation). We may enter into similar outsourcing relationships in the same or other business

areas in the future. If one or more of these key external parties were not able to perform their functions for a

period of time or at an acceptable service level as determined by us, there is a risk that our Ñnancial condition

Freddie Mac

101
or results of operations would be adversely aÅected, perhaps materially. We endeavor to mitigate this risk

through detailed vendor requirements, active vendor management, legal contracts, business continuity

planning, monitoring, and oversight.

Technology Risk

Technology risk is the risk of Ñnancial loss caused by inadequate or failed systems, inappropriate systems

implementation, or missing or inadequate system security that allows unauthorized access to computer

systems.

We mitigate systems implementation and security risk by designing and implementing strong standards

for development and implementation, monitoring computer security measures and applications, corporate

information access policies, and periodic access reviews to verify only authorized personnel have access to our

systems. We identiÑed material weaknesses related to system security and change management during our

control reviews. Remediation eÅorts are underway to correct these weaknesses. See also ""Financial Reporting

Risk'' for further discussion of those issues.

External Event Risk

External event risk is the risk that a catastrophic event, such as a terrorist event, natural disaster, breach

of physical security or theft, results in a signiÑcant business disruption and an inability to process transactions

through normal business processes. It also includes the risk that an external party perpetrates a fraud against

us that adversely aÅects our income or asset values.

To mitigate business disruption risk, we maintain and test a comprehensive business continuity plan and

locate backup facilities for critical business processes and systems away from, although in the same

metropolitan area as, our main oÇces. In 2004, we began a multi-year corporate eÅort to establish an alternate

site for critical business processes that has a separate power grid, labor pool and geographic location.

To mitigate fraud risk, we rely on a variety of controls. For example, one of the most important areas of

focus for us related to external fraud is the risk that our sellers or servicers knowingly misrepresent the

mortgages they sell to us or service these mortgages in a manner inconsistent with our servicing guidelines. We

seek to mitigate this risk through quality control reviews, on-site audits and investigations of situations

involving possible fraud. See ""Credit Risks'' for more information.

Freddie Mac

102
Interest-Rate and Other Market Risks

We are exposed to the risk that changes in interest rates or in other market factors will adversely aÅect

our cash Öows, the fair value of net assets and/or future earnings. We actively manage interest-rate risk and

other related market risks and take a disciplined approach to risk management. Our disciplined approach to

risk management and our active deployment of capital are essential to generating fair value growth for

stockholders in a wide range of interest-rate environments. Our interest-rate risk exposure results primarily

from uncertainty related to the amount and timing of mortgage prepayments associated with mortgage loans

and mortgage-related securities held in our Retained portfolio and the potential mismatch in the duration of

our assets and liabilities. To a lesser extent, we are also exposed to interest-rate risk through our credit

guarantee activities.

Our fair value of net assets represents our estimation of the fair value of our existing net assets and does

not capture all elements of value that are implicit in our operations as a going concern. The fair value of our

Ñnancial instruments reÖects an assessment of the present value of expected future cash Öows at a given point

in time. To the extent that market conditions change, the expected future cash Öows may diÅer from our

estimates. As a result, estimates of our fair value of net assets may, over time, be diÅerent than our realized

cash Öows.

Oversight of Interest-Rate Risk and Other Market Risks

The mission of the Market Risk Oversight group is to provide independent oversight of market risk,

including interest-rate risk and liquidity risk, and to enhance our market risk measurement and management

capabilities so that they are consistent with industry best practice. In particular, Market Risk Oversight is

responsible for providing senior management and the Board of Directors with regular, independent evaluations

of whether market risks are eÅectively identiÑed, measured, managed, and controlled. On a daily basis, the

group monitors and reports to senior management on key risk exposure levels relative to internal operating

limits. As noted previously, in 2003 we placed Market Risk Oversight within a new Enterprise Risk Oversight

function, which currently reports directly to the Chief Executive OÇcer. The Models and Methods Oversight

Group, also a part of the Enterprise Risk Oversight function, is responsible for independently assessing the

design and adequacy of all key models, including prepayment models.

Sources of Interest-Rate Risk and Other Market Risks

Retained Portfolio. Our Retained portfolio activities expose us to interest-rate risk and other market

risks. This exposure results primarily from the uncertainty as to when borrowers will pay the outstanding

principal balance of mortgage loans and mortgage-related securities held in the Retained portfolio, known as

prepayment risk, and the resulting potential mismatch in the timing of our receipt of cash Öows on our assets

versus the timing of our obligation to make payments on our liabilities. For the vast majority of our mortgagerelated investments, the mortgage borrower has the option to make unscheduled payments of additional

principal or to completely pay oÅ a mortgage loan at any time before its scheduled maturity date (without

having to pay prepayment penalties) or to hold the mortgage to its stated maturity. The borrower's option

makes the timing and amount of mortgage prepayments (and thus the timing and amount of mortgage cash

Öows received by us) very sensitive to changes in interest rates, among other factors.

The Retained portfolio comprises mortgage investments with a range of diÅerent characteristics,

including diÅerent stated maturities, underlying collateral, principal and interest payment structures and

prepayment patterns. To manage the interest-rate risk associated with this wide range of mortgage-related

investments, we employ a risk management strategy that seeks to substantially match the duration

characteristics of our assets and liabilities. We use various instruments, including short-term debt, callable and

non-callable long-term debt and derivatives, to mitigate the interest-rate risk that mortgage investments may

prepay faster or slower than expected.

Types of Interest-Rate Risk and Other Market Risks. The types of interest-rate risk and other market

risks that we are exposed to through our Retained portfolio are described below.

Freddie Mac

103
‚ Duration and Convexity Risk. The magnitude of our interest-rate risk is directly related to the

net eÅective duration and convexity of our portfolio of assets, liabilities and derivatives. Duration

is a measure of a Ñnancial instrument's price sensitivity to changes in interest rates, while

convexity is a measure of how much duration itself changes as interest rates move. We actively

manage duration and convexity risk through asset selection and structuring (that is, by identifying

or structuring mortgage-related securities with attractive prepayment and other characteristics),

by issuing a broad range of both callable and non-callable debt instruments and by transacting in

both option-based and non-option-based interest-rate derivatives. To mitigate mortgage prepayment risk and therefore interest-rate risk, we maintain a high percentage of callable debt and

option-based derivatives relative to the Ñxed-rate mortgage assets held in the Retained portfolio.

We do not, however, hedge all prepayment option risk that exists at the time a mortgage is

purchased or that arises over its life. For the portion of risk not hedged at the time of purchase, we

undertake frequent rebalancing actions in order to keep our interest-rate risk exposure within

management limits (see ""Interest-Rate Risk Management and Use of Derivatives Ì Use of

Derivatives Ì Adjust Funding Mix'' below). Although duration and convexity risks have been

maintained at relatively low levels as indicated by our PMVS and duration gap estimates (see

""Measurement of Interest-Rate Risk Ì PMVS and Duration Gap''), fair value gains or losses

will generally occur as market conditions change. For example, fair value gains or losses occur

when our duration gap is positive or negative and the level of interest rates or shape of the yield

curve changes. Similarly, because we do not hedge all of the prepayment risk inherent in our

mortgage investment portfolio, fair value gains or losses occur from changes in the relationship

between interest-rate volatility expected at the time a mortgage loan is acquired and the volatility

actually experienced (see ""Volatility Risk'' below for more information).

We monitor duration and convexity risk against limits and reporting thresholds established by

senior management and the Board of Directors. Our interest-rate sensitivity is estimated and

reported through our PMVS and duration gap measures. These measures are estimated on a daily

basis and publicly reported on a monthly basis. See ""Measurement of Interest-Rate Risk'' below.

‚ Yield Curve Risk. Yield curve risk is the risk that non-parallel shifts in the yield curve (such as

a Öattening or steepening) will adversely aÅect our cash Öows, fair value of net assets and/or

future earnings. Changes in the shape, or slope, of the yield curve often arise due to changes in the

market's expectation of future interest rates at diÅerent points along the yield curve. For this

reason, we evaluate our exposure to yield curve risk by examining potential reshaping scenarios at

various points along the yield curve. Our yield curve risk under a speciÑed yield curve scenario is

reÖected in our PMVS-Yield Curve, or PMVS-YC, disclosure.

‚ Volatility Risk. Volatility risk is the risk that changes in the market's expectation of the

magnitude of future variations in interest rates will adversely aÅect our cash Öows, fair value of net

assets and/or future earnings. The market's expectation about the future volatility of interest rates,

or implied volatility, is a key determinant of the value of an interest-rate option. Higher expected

volatility implies a greater likelihood that the expected life of a mortgage asset will either extend

or contract. For example, higher interest-rate volatility implies a higher likelihood that interest

rates will decline to levels that make mortgage prepayments attractive to homeowners, thereby

making their prepayment option more valuable and making our mortgage assets subject to their

prepayment option less valuable. We manage volatility risk through asset selection and by

maintaining a consistently high percentage of option-embedded liabilities (e.g., callable debt) and

option-based derivatives relative to our mortgage assets. We monitor volatility risk by measuring

exposure levels on a daily basis and we maintain internal limits on the amount of volatility risk

exposure. See ""Duration and Convexity Risk'' above for further discussion of implied and realized

volatility.

‚ Basis Risk. Basis risk is the risk that interest rates in diÅerent market sectors will not move in

tandem and will adversely aÅect our cash Öows, fair value of net assets and/or future earnings.

This risk arises principally because we fund and hedge mortgage-related investments with agency

Freddie Mac

104
debt and LIBOR and Treasury-based interest-rate derivatives. The basis risk arising from funding

Retained portfolio investments with agency debt, which we do not actively manage, is discussed

below in ""Mortgage-to-Debt Spread Risk.'' We also incur basis risk when we use LIBOR or

Treasury-based instruments in our risk management activities. We monitor the fair value

Öuctuations associated with these basis risks and manage this exposure by adjusting our mix of

LIBOR and Treasury-based instruments and our debt in response to changes in the expected

interest-rate relationships in these diÅerent markets. We monitor basis risk on a daily basis and

maintain internal limits on the amount of basis risk exposure.

‚ Prepayment Model Risk. Prepayment model risk is the risk that actual mortgage prepayment

behavior will diÅer from the prepayment behaviors we forecast using our proprietary internal

models and will adversely aÅect our cash Öows, fair value of net assets and/or future earnings.

These models are used to determine the estimated duration and convexity of mortgage assets for

PMVS and duration gap measures. To mitigate prepayment model risk, we perform extensive

monthly back testing of actual results against model results and sensitivity analysis to facilitate

informed asset selection and risk management decisions. However, expected returns can be

aÅected by diÅerences between prepayments forecasted by the models and actual prepayments.

‚ Mortgage-to-Debt Option-Adjusted Spread Risk. Mortgage-to-debt option-adjusted spread

risk is the risk that an increase in the spread between the interest rate on mortgage assets and debt

used to Ñnance these investments will, in the short term, adversely aÅect our cash Öows, fair value

of net assets and/or future earnings. Mortgage-to-debt option-adjusted spread risk is inherent to

any mortgage investor that uses debt to Ñnance mortgage purchases, as is the case with our

Retained portfolio and those of other large mortgage investors.

We consider mortgage-to-debt option-adjusted spread risk in our asset purchase activities by

establishing thresholds for expected return on equity for new asset purchases. Once mortgage

assets have been purchased for the Retained portfolio, we generally hold a substantial portion of

these assets for the long-term, with an objective of realizing the expected initial return on equity

on those assets over this time frame. Therefore, we do not take actions attempting to manage or

hedge period-to-period Öuctuations in the fair value of the existing Retained portfolio resulting

from changes in mortgage-to-debt option-adjusted spreads. We do not believe such Öuctuations

will signiÑcantly aÅect the long-term return on our existing Retained portfolio.

‚ Foreign Currency Risk. Foreign currency risk is the risk that Öuctuations in currency exchange

rates (e.g., foreign currencies to the U.S. dollar) will adversely aÅect our cash Öows, fair value of

net assets and/or future earnings. Our exposure to foreign currency risk arises primarily because

we issue debt denominated in currencies other than the U.S. dollar, our functional currency. In

the case of our 4Reference Notes» securities program, we are obligated to make periodic interest

and principal payments in Euros. We mitigate the risk associated with Öuctuations in currency

exchange rates by entering into swap transactions that eÅectively convert foreign-denominated

obligations into U.S. dollar denominated obligations. The exchange rate risk is completely hedged

when the debt's principal and the swap's notional amounts and the timing of the payments are

identical. In some market conditions, we use short-term currency hedges until permanent hedges

are secured. Our exposure to foreign-currency risk is minimal because only a small percentage of

our debt is denominated in foreign currencies (approximately 4 percent as of December 31, 2003)

and because the vast majority of the currency-risk exposure arising from debt issuances is

eliminated when hedges are established for the debt's entire expected maturity. Foreign currency

swaps also expose us to institutional credit risk, which we discuss under ""Credit Risks Ì

Institutional Credit Risk.''

Credit Guarantee Activities. The fair value of the existing credit guarantee portfolio Öuctuates with

changes in interest rates and credit expectations. We do not hedge changes in the fair value of our existing

credit guarantee portfolio, other than the interest-rate exposure related to net buy-ups (upfront payments

made by us which increase the guarantee fee that we will receive in connection with our PC guarantee). We

also hedge expected gains (losses) resulting from our mortgage security program cycles. Timing diÅerences

Freddie Mac

105
caused by mortgage security program cycles can lead to signiÑcant interest expense, particularly in a rapidly

declining interest-rate environment. If the interest rate paid to a PC investor is higher than the reinvestment

rate on payments received from mortgage borrowers, we bear the cost diÅerence, recognized as interest

expense, for the time period between when the borrower pays us and when we reduce the PC balance.

While year-to-year changes in the fair value of the guarantee portfolio may have a signiÑcant impact on

the fair value of net assets, we believe that changes in the fair value of our existing guarantee portfolio are not

a good indication of long-term fair value expectations because such changes do not reÖect the strong

probability that over time replacement business will largely replenish guarantee fee income lost because of

prepayments.

Interest-Rate Risk Management and Use of Derivatives

Our disciplined approach to interest-rate risk management utilizes a variety of asset and liability related

strategies that frequently involve the use of derivative transactions. The primary ways in which we use

derivatives to manage interest-rate risk are discussed below under ""Use of Derivatives.'' Our management of

interest-rate risk also involves asset-related strategies through which we seek to invest in mortgage assets that

are less sensitive to prepayment risk. These strategies include the creation of Structured Securities from assets

held in our Retained portfolio, the sale of some of these securities, and the retention of those classes that are

expected to optimize our risk or return proÑle.

Interest-rate risk management activities can signiÑcantly aÅect the level and timing of our net income

due to a variety of factors. These factors include the amount of prepayment risk hedged at the time mortgage

assets are purchased versus the amount hedged over time through rebalancing actions, the risk tolerances that

management deems advisable at various times and changes in the cost of rebalancing transactions. Although

risk management activities may be highly eÅective when viewed from an economic perspective, they may

contribute to volatility in earnings under GAAP, particularly when derivatives are not in qualifying hedge

accounting relationships.

Summary of Derivative Positions. The net fair value of our derivatives was a net asset balance of

$15,823 million and $9,426 million at December 31, 2003 and December 31, 2002, respectively. This includes

certain commitments to purchase and sell mortgage loans, mortgage-related securities and agency debt that

we treat as derivatives. See ""Types of Derivatives Ì Forward Purchase and Sale Commitments'' for more

information. In our consolidated balance sheets, derivative instruments are presented in Derivative assets, at

fair value and Derivative liabilities, at fair value. Table 44 summarizes our derivative positions at December 31, 2003 and December 31, 2002.

Freddie Mac

106
Table 44 Ì Total Derivative Portfolio

December 31,

2003 2002

Net Asset Net Asset

Notional (Liability) at Notional (Liability) at

Balance Fair Value(1) Balance Fair Value(1)

(dollars in millions)

Interest-rate derivatives(2) ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ $ 978,778 $16,048 $ 969,080 $9,169

Commitments(3) ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 89,320 (230) 191,563 253

Subtotal ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 1,068,098 15,818 1,160,643 9,422

Credit Derivatives(4) ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 15,542 5 17,301 4

Total ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ $1,083,640 $15,823 $1,177,944 $9,426

(1) The fair values of derivatives (netted by counterparty as permitted under GAAP) are presented as Derivative assets, at fair value and

Derivative liabilities, at fair value on our consolidated balance sheets. Collateral was held on approximately 95 percent and 90 percent

of the exposure to derivative counterparty risk for over-the-counter, or OTC, derivative agreements for interest-rate swaps, optionbased derivatives and foreign currency swaps as of December 31, 2003 and 2002, respectively. See ""Table 45 Ì Derivative

Counterparty Credit Exposure'' for more information about our derivative counterparty credit exposure.

(2) Includes a prepayment management agreement entered into during 2002. See ""Types of Derivatives'' for more information

concerning the nature of the prepayment management agreement.

(3) Consists of commitments to purchase and sell mortgage loans, mortgage-related securities and various debt securities that are subject

to the requirements of SFAS 133 and accordingly must be recorded at fair value on the consolidated balance sheets.

(4) Consists of certain credit risk-sharing agreements that are subject to the requirements of SFAS 133 and accordingly must be

recorded at fair value on the consolidated balance sheets. See ""Credit Risks Ì Mortgage Credit Risk Ì Mortgage Credit Risk

Management Strategies'' for more information.

Types of Derivatives. We use derivatives that are common in the Ñnancial markets to conduct our risk

management activities. Substantially all of our derivative positions fall into the following four categories (see

""Table 46 Ì Summary of the EÅect of Derivatives on Selected Consolidated Financial Statement Captions''

for notional balances for each of these derivative types):

‚ LIBOR-based interest-rate swaps;

‚ LIBOR and Treasury-based exchange-traded futures;

‚ LIBOR and Treasury-based options (including swaptions); and

‚ Foreign currency swaps.

In addition to swaps, futures and options, our derivative positions include certain purchase and sale

commitments and other contractual agreements, including credit risk-sharing agreements, as noted above, and

discussed further below.

Forward Purchase and Sale Commitments. We routinely enter into forward purchase and sale

commitments for mortgage loans, mortgage-related securities and agency debt. Some of these commitments

are subject to the requirements of SFAS 133 and accordingly must be recorded at fair value on our

consolidated balance sheets.

Prepayment Management Agreement. Practices of seller/servicers may aÅect prepayment levels on

mortgages that underlie PCs. As a result, mortgages underlying some PCs may be prepaid faster than similar

mortgages underlying other PCs, adversely aÅecting our management and guarantee income and the

performance of our mortgage-related securities. We have taken steps to achieve our corporate objective that

prepayment experience on PCs be consistent with market norms. Beginning in 2002, we required that certain

mortgage pools we considered to pose elevated risk of prepayment be covered by a prepayment management

agreement to partially compensate us for the adverse Ñnancial impacts caused by disproportionately higher

mortgage prepayments. We have also oÅered an incentive through an adjusted guarantee fee level on future

mortgage deliveries when the prepayment experience of the mortgage pools is within deÑned ranges. This type

of agreement is accounted for as a derivative in accordance with SFAS 133 and classiÑed as no hedge

designation with changes in fair value recorded as Derivative gains (losses) on the consolidated statements of

income. This type of agreement is reÖected at fair value on our consolidated balance sheets in the Derivative

asset or Derivative liability caption. At December 31, 2003 and 2002, approximately $152.5 billion and

$117.2 billion, respectively, of the mortgages underlying PCs included in our total mortgage portfolio (see

Freddie Mac

107
""Table 1 Ì Freddie Mac's Total Mortgage Portfolio Based on Unpaid Principal Balances'') were subject to

this type of agreement. Amounts due to us under this type of agreement were reported as a component of our

management and guarantee income.

Use of Derivatives. To manage interest-rate and other market risks, we use derivatives primarily to:

‚ Hedge forecasted issuances of debt and synthetically create callable and non-callable funding;

‚ Hedge foreign-currency exposure associated with certain debt issuances; and

‚ Regularly adjust or rebalance our funding mix in order to more closely match changes in the

interest-rate characteristics of our mortgage assets.

Hedge Forecasted Debt Issuances and Create Synthetic Funding. We typically commit to purchase

mortgage investments on an opportunistic basis for a future settlement date that often ranges from two weeks

to three months after the date of the commitment. To facilitate larger and more predictable debt issuances

that contribute to lower funding costs, we use interest-rate derivatives to hedge the anticipated debt issuances

associated with these periodic mortgage purchases. In doing so, we hedge the interest-rate risk exposure, from

an economic perspective, from the time the mortgage is committed to be purchased to the time the debt is

issued. We typically fund mortgage investments with a combination of callable and non-callable debt of

various maturities in order to better match the cash Öow and optionality characteristics of the mortgage

investments. Through the use of interest-rate derivatives, we can synthetically create the substantive economic

equivalent of these various funding structures. For example, the combination of a series of short-term debt

issuances over a deÑned longer-term period and a pay-Ñxed swap with the same maturity is the substantive

economic equivalent of a long-term debt instrument of comparable maturity. Similarly, the combination of

non-callable debt and a swaption, or option to enter into a receive-Ñxed swap with the same maturity as the

non-callable debt is the substantive economic equivalent of callable debt. The ability to either issue debt or

synthetically create the substantive economic equivalent through derivatives increases funding Öexibility,

allows us to better match asset and liability cash Öows and often reduces the overall funding cost.

Hedge Foreign-Currency Exposure. On a less frequent basis, we also use derivatives to hedge foreign

currency exposure associated with foreign currency denominated debt issuances, such as our 4Reference

Notes» securities program, as discussed above in ""Sources of Interest-Rate Risk and Other Market Risks Ì

Retained portfolio Ì Foreign-Currency Risk.'' Through the use of derivatives, we are able to mitigate nearly

all currency risk at the time of debt issuance.

Adjust Funding Mix. As market conditions dictate, we undertake rebalancing actions in order to keep

our interest-rate risk exposure within management limits. As interest rates decline, mortgage prepayments

tend to increase and the expected life of mortgages tends to decrease. In this environment, we typically enter

into receive-Ñxed swaps or purchase Treasury-based derivatives to adjust the duration of our funding to oÅset

the declining mortgage duration. As interest rates increase, prepayments tend to decrease and lengthen the

expected life of mortgages. In this case, we typically enter into pay-Ñxed swaps or sell Treasury-based

derivatives in order to adjust the duration of our funding to oÅset increasing mortgage duration.

Derivative-Related Risks

Our use of derivatives exposes us to derivative market liquidity risk and counterparty credit risk. We are

subject to derivative market liquidity risk, described below, arising from possible diÇculties in entering into

derivatives to meet our needs. Credit risk arises from the possibility that the counterparty will not be able to

deliver the amount owed.

Derivative Market Liquidity Risk. Derivative market liquidity risk refers to the risk that we may not be

able to enter into derivative transactions at a reasonable cost. A lack of suÇcient capacity or liquidity in the

derivatives market could limit our risk management activities, increasing our exposure to interest-rate risk.

Limited liquidity or capacity in the derivatives market could make derivatives that we need for risk

management purposes either unavailable or prohibitively expensive. To provide continuous access to derivative

markets, we use a variety of products and transact with many diÅerent derivative counterparties. In addition to

Freddie Mac

108
OTC derivatives, we also use exchange-traded derivatives, asset securitization activities, callable debt, and

short-term debt to rebalance our portfolio.

To mitigate the risk that we may be unable to enter into replacement derivatives transactions at

reasonable cost, we limit our duration and convexity exposure to each counterparty. At December 31, 2003,

the largest single notional balance of our 27 OTC counterparties listed in ""Table 45 Ì Derivative

Counterparty Credit Exposure'' was $76,342 million or 11 percent of total notional balances of our OTC

interest-rate swaps, option-based derivatives and foreign currency swaps.

Derivative Counterparty Credit Risk. Exchange-traded derivatives, such as futures contracts, do not

measurably increase our counterparty credit risk because changes in the value of open exchange-traded

contracts are settled daily through a Ñnancial clearinghouse established by each exchange. OTC derivatives,

however, expose us to counterparty credit risk because transactions are executed and settled between us and

the counterparty. When an OTC derivative has a market value above zero at a given date (i.e., an asset

reported as Derivative assets, at fair value on the consolidated balance sheets), then the counterparty could

potentially be obligated to deliver cash, securities or a combination of both having that market value to satisfy

its obligation to us under the derivative.

We actively manage our exposure to counterparty credit risk. We use several tools to manage and

minimize counterparty credit risk including:

‚ Review of external rating analyses;

‚ Strict standards for approving new derivative counterparties;

‚ Ongoing monitoring of our positions with each counterparty by type of derivative;

‚ DiversiÑcation of counterparties (discussed under ""Derivative Market Liquidity Risk'');

‚ Master netting agreements and collateral agreements; and

‚ Stress-testing to evaluate potential exposure under possible adverse market scenarios.

On an ongoing basis, we review the credit fundamentals of all of our derivative counterparties to conÑrm

that they continue to meet internal standards. Internal ratings, credit, capital and trading limits are assigned to

each counterparty based on quantitative and qualitative analysis, which we update and monitor on a regular

basis. Additional reviews are completed when market conditions or events aÅecting an individual counterparty

occur.

Derivative Counterparties. Our standards for entering into OTC interest-rate swaps, option-based

derivatives and foreign-currency swaps include rigorous internal credit and legal reviews. Our derivative

counterparties carry external credit ratings among the highest available from major rating agencies. All of

these counterparties are major Ñnancial institutions and are experienced participants in the OTC derivatives

market.

Master Netting and Collateral Agreements. We use master netting and collateral agreements to reduce

our credit risk exposure to our active OTC derivative counterparties for interest-rate swaps, option-based

derivatives and foreign-currency swaps. Master netting agreements provide for the netting of amounts

receivable and payable from an individual counterparty, which reduces our exposure to a single counterparty in

the event of default. For example, if we have a gain position on one derivative and a loss position on another

derivative with the same counterparty, then the gain can be netted with the loss to determine the amount of

our net exposure to the counterparty. On a daily basis, the market value of each counterparty's derivatives

outstanding is calculated to determine the amount of our net credit exposure, which is equal to derivatives in a

net gain position by counterparty after giving consideration to collateral posting thresholds. Our collateral

agreements require most counterparties to post collateral for the amount of our net exposure to them.

Derivative exposures and collateral amounts are monitored on a daily basis using both internal pricing models

and dealer price quotes. Our derivative counterparties typically transfer collateral within one to three business

days based on the values of the related derivatives. As described further below, this time lag in posting

collateral can aÅect our net uncollateralized exposure to derivative counterparties.

Freddie Mac

109
The collateral posted by counterparties serves to protect us against the risk of counterparty credit losses.

Collateral posted by a derivative counterparty is typically in the form of cash, U.S. Treasury securities, agency

securities or other mortgage-related securities. In the event a counterparty defaults on its obligations under the

derivatives agreement and the default is not remedied in the manner prescribed in the agreement, we have the

right under the agreement to direct the custodian bank to transfer the collateral to us or, in the case of noncash collateral, to sell the collateral and transfer the proceeds to us.

Freddie Mac

110
Table 45 summarizes our exposure to counterparty credit risk in our derivatives. This table is useful in

understanding our credit risk related to our derivative portfolio.

Table 45 Ì Derivative Counterparty Credit Exposure

December 31, 2003

Weighted Avg.

Total Exposure, Contractual

Number of Exposure at Net of Maturity Collateral Posting

Rating(1) Counterparties(2) Notional Fair Value(3) Collateral(4) (in years) Threshold(5)

(dollars in millions)

AAA ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 2 $ 2,825 $ 283 $283 3.6 Mutually agreed upon

AA° ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 1 604 303 5 24.7 $10 million or less

AA ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 4 119,409 1,610 29 4.6 $10 million or less

AA¿ ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 7 237,048 7,091 250 4.1 $10 million or less

A° ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 6 236,944 5,922 133 5.4 $1 million or less

A ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 3 87,001 2,143 95 5.2 $1 million or less

A¿ ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 4 1,018 19 1 3.3 $1 million or less

Subtotal(6) ÏÏÏÏÏÏÏÏÏÏÏÏ 27 684,849 17,371 796 4.8

Other derivatives(7)ÏÏÏÏÏ 141,381 Ì Ì

Prepayment management

agreement(8) ÏÏÏÏÏÏÏÏ 152,548 Ì Ì

Commitments(9) ÏÏÏÏÏÏÏ 89,320 101 101

Credit derivatives(10)ÏÏÏÏ 15,542 7 7

Total derivatives ÏÏÏÏÏÏÏ $1,083,640 $17,479 $904

December 31, 2002

Total Weighted Avg.

Exposure Exposure, Contractual

Number of at Fair Net of Maturity Collateral Posting

Rating(1) Counterparties(2) Notional Value(3) Collateral(4) (in years) Threshold(5)

(dollars in millions)

AAA ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 2 $ 2,438 $ 386 $ 386 4.4 Mutually agreed upon

AA° ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 1 609 299 13 25.5 $10 million or less

AA ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 3 97,229 1,161 104 4.3 $10 million or less

AA¿ ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 9 205,769 3,764 307 4.9 $10 million or less

A° ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 8 214,833 2,922 183 4.6 $1 million or less

A ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 2 83,776 1,559 48 3.7 $1 million or less

A¿ ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 2 1,655 21 3 1.8 $1 million or less

Subtotal(6) ÏÏÏÏÏÏÏÏÏÏÏ 27 606,309 10,112 1,044 4.5

Other derivatives(7) ÏÏÏ 245,552 Ì Ì

Prepayment

management

agreement(8) ÏÏÏÏÏÏÏ 117,219 Ì Ì

Commitments(9) ÏÏÏÏÏÏ 191,563 1,283 1,283

Credit derivatives(10) ÏÏ 17,301 4 4

Total derivatives ÏÏÏÏÏÏ $1,177,944 $11,399 $2,331

(1) We use the lower of S&P and Moody's ratings to manage collateral requirements. In this table, the rating of the legal entity (or the

guarantor of the legal entity) is stated in terms of the S&P equivalent.

(2) Based on legal entities. AÇliated legal entities are reported separately.

(3) For each counterparty, this amount includes derivatives with a net positive fair value (recorded as Derivative assets, at fair value

and Derivative liabilities, at fair value) including the related accrued interest receivable/payable (net) (recorded in Accounts and

other receivables, net and Accrued interest payable).

(4) Total Exposure at Fair Value less collateral held as determined at the counterparty level.

(5) Counterparties are required to post collateral when their exposure exceeds agreed-upon collateral posting thresholds. These

thresholds are typically based on the counterparty's credit rating and are individually negotiated.

(6) Consists of OTC derivative agreements for interest-rate swaps, option-based derivatives and foreign-currency swaps.

(7) Consists primarily of exchange-traded contracts. Exchange-traded derivatives do not measurably increase our exposure to

counterparty credit risk because changes in value of open exchange-traded contracts are settled daily through a Ñnancial

clearinghouse established by each exchange.

(8) Represents an OTC derivative agreement. See ""Interest-Rate Risk Management and Use of Derivatives'' for additional information

concerning the nature of the prepayment management agreement.

(9) Consists of OTC derivative agreements for forward purchase and sale commitments.

(10) Represents OTC derivative agreements. See ""Credit Risks Ì Mortgage Credit Risk Ì Mortgage Credit Risk Management

Strategies'' for additional information about credit derivatives.

Freddie Mac

111
Over time, our exposure to certain counterparties for OTC interest-rate swaps, option-based derivatives

and foreign currency swaps varies depending on changes in period-end interest rates, the implied volatility of

interest rates, foreign-currency exchange rates and the amount of derivatives held. Our uncollateralized

exposure to counterparties for OTC interest-rate swaps, option-based derivatives and foreign-currency swaps,

after applying netting agreements and collateral, decreased to $796 million as of December 31, 2003 from

$1,044 million as of December 31, 2002. This decrease in uncollateralized exposure was due to the following

four factors:

‚ A signiÑcant decrease in uncollateralized exposure to AAA-rated counterparties, which typically

are not required to post collateral given their low risk proÑle;

‚ Decreases in the diÅerences between fair value estimates used by our derivative counterparties in

determining the value of collateral to be posted and the estimates of derivative fair values used in

our Ñnancial reporting;

‚ Market movements during the time period between when a derivative is marked to fair value and

the date we receive the related collateral. Our derivative counterparties typically post collateral

one to three business days after we request collateral; and

‚ Decreases in the exposure below the posting thresholds of our derivative counterparties.

As indicated in Table 45, approximately 95 percent of our counterparty credit exposure for these OTC

derivatives was collateralized at December 31, 2003. In the extremely unlikely event that all of our OTC

derivative counterparties for interest-rate swaps, option-based derivatives and foreign currency swaps were to

have defaulted simultaneously on December 31, 2003, our maximum loss for accounting purposes would have

been approximately $796 million. As discussed below, in ""Derivative Portfolio Stress Testing,'' however, our

economic loss, as measured by our potential additional uncollateralized exposure, may be higher than the

$796 million uncollateralized exposure of our derivatives if we were not able to replace the defaulted

derivatives in a timely fashion.

OTC Forward Purchase and Sale Commitments Treated as Derivatives. Since the typical maturity for our

OTC commitments is less than one year, we do not require master netting and collateral agreements for the

counterparties of these commitments. Therefore, as indicated in Table 45, the exposure to OTC commitments

counterparties of $101 million and $1,283 million as of December 31, 2003 and 2002, respectively, was

uncollateralized. The decrease in uncollateralized exposure was due to the following two factors:

‚ A signiÑcant decrease in the volume of unsettled commitments as of December 31, 2003 which

contributed to the reduction of notional amounts for OTC commitments treated as derivatives;

and

‚ A decrease in interest rates from December 31, 2002 to December 31, 2003, which contributed to

a decrease in positive fair value for these commitments since we were in a net forward sale

position with these commitments.

Similar to counterparties for OTC interest-rate swaps, option-based derivatives and foreign-currency

swaps, we monitor the credit fundamentals of our OTC commitments counterparties on an ongoing basis to

ensure that they continue to meet our internal risk-management standards.

Derivative Portfolio Stress-Testing. Market values of derivatives can change signiÑcantly when market

conditions change. As a result, we monitor the risk that our uncollateralized exposure to each of our OTC

counterparties for interest-rate swaps, option-based derivatives and foreign-currency swaps will increase under

certain adverse market conditions. We regularly perform severe market stress tests to evaluate the potential

additional uncollateralized exposure we have to each of these derivative counterparties. The market stress test

assumes changes in the level, slope and implied volatility of interest rates and changes in foreign-currency

exchange rates over a brief time period. The market stress test also assumes conservative OTC counterparty

default rates coupled with low recovery rates to calculate our potential exposure to each OTC counterparty.

To date, we have not incurred any credit losses on OTC derivative counterparties or set aside speciÑc

reserves for institutional credit risk exposure. We do not believe such reserves are necessary, given our

counterparty policies and collateral requirements.

Freddie Mac

112
Derivative Tables

Table 46 shows the notional amount for each of our hedge accounting categories under SFAS 133 and

the corresponding impact of those positions on our consolidated Ñnancial statements. The application and

eÅectiveness of our hedging strategies can materially aÅect stockholders' equity and the timing of our

recognition of earnings. As Table 46 shows, a signiÑcant portion of our derivatives was not designated in hedge

accounting relationships at December 31, 2003 and 2002. See ""NOTE 12: DERIVATIVES'' to the

consolidated Ñnancial statements for more information concerning our hedging activity.

Table 46 Ì Summary of the Effect of Derivatives on Selected Consolidated Financial Statement Captions

Consolidated Balance Sheets

Description December 31, 2003 December 31, 2002

Notional Fair Value AOCI(2) Notional Fair Value AOCI(2)

Amount (Pre-Tax)(1) (Net of Tax) Amount (Pre-Tax)(1) (Net of Tax)

(dollars in millions)

Fair value hedges ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ $ 145,690 $10,185 $ Ì $ 144,665 $ 9,032 $ Ì

Cash Öow hedges ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 141,903 (2,808) (1,927) 119,999 (8,421) (5,465)

No hedge designation(3)(4) ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 796,047 8,446 Ì 913,280 8,815 Ì

Subtotal of existing derivative positions(2) ÏÏÏÏ 1,083,640 15,823 (1,927) 1,177,944 9,426 (5,465)

Balance related to closed cash Öow hedges(2) Ì Ì (5,910) Ì Ì (4,412)

TotalÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ $1,083,640 $15,823 $(7,837) $1,177,944 $ 9,426 $(9,877)

Consolidated Statements of Income

Year Ended Year Ended Year Ended

Description December 31, 2003 December 31, 2002 December 31, 2001

Hedge Hedge Hedge

Accounting Derivative Accounting Derivative Accounting Derivative

Gains Gains Gains Gains Gains Gains

(Losses)(5) (Losses)(6)(7) (Losses)(5) (Losses)(6)(7)(8) (Losses)(5) (Losses)(6)(7)(8)

(dollars in millions)

Fair value hedges ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ $697 $Ì $241 $ Ì $(280) $ Ì

Cash Öow hedges ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ (53) 29 (54) 116 (14) 46

No hedge designation(3)(4) ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ Ì 10 Ì 5,186 Ì (2,359)

TotalÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ $644 $39 $187 $5,302 $(294) $(2,313)

(1) The fair values of derivatives (netted by counterparty as permitted by GAAP) are presented as Derivative assets, at fair value and

Derivative liabilities, at fair value on our consolidated balance sheets. The fair values for futures are directly derived from quoted

market prices. Fair values of other derivatives are derived primarily from valuation models with incorporation of market-based inputs.

(2) Derivatives that meet speciÑc criteria are accounted for as cash Öow hedges under SFAS 133. Changes in the eÅective portion of the

fair value of these open derivatives contracts are recorded in AOCI, net of taxes. Net deferred gains and losses on closed cash Öow

hedges (i.e., where the derivative is either terminated or redesignated) are also classiÑed in AOCI, net of taxes, until the related

forecasted transaction is determined to be probable of not occurring or aÅects earnings.

(3) A signiÑcant portion of our derivatives is not designated in hedge accounting relationships and is reported as no hedge designation.

For most derivatives not qualifying as an accounting hedge, fair value gains and losses are reported as Derivative gains (losses) on our

consolidated statements of income. For purchase and sale commitments of securities classiÑed as trading under SFAS 115, (with

notional balances of approximately $78 billion, $147 billion and $85 billion at December 31, 2003, 2002 and 2001, respectively), fair

value gains and losses are reported as Gains (losses) in investment activity on our consolidated statements of income and therefore,

those fair value gains and losses are not included above.

(4) Includes credit derivatives. See ""Credit Risks Ì Mortgage Credit Risk Ì Mortgage Credit Risk Management Strategies'' for more

information.

(5) Hedge accounting gains (losses) arise when the fair value change of a derivative does not exactly oÅset the fair value change of the

hedged item. For further information, See ""NOTE 12: DERIVATIVES'' to the consolidated Ñnancial statements.

(6) Includes gains or losses reclassiÑed from AOCI, net of taxes, as a result of the termination of cash Öow hedge designations because

we determined that the related forecasted transaction is probable of not occurring.

(7) In accordance with interpretive guidance published by the OÇce of the Chief Accountant of the SEC, we reclassiÑed the periodic

cash settlements in accordance with the contractual terms of derivatives not designated in a hedging relationship from Income

(expense) related to derivatives, a component of Net interest income, to Derivative gains (losses), a component of Non-interest

income, for all periods presented. These reclassiÑcations, which decreased Derivative gains (losses) and increased Income

(expense) related to derivatives, totaled $639 million and $456 million on a full year basis for 2002 and 2001, respectively.

(8) Subsequent to the issuance of our Information Statement dated February 27, 2004, we revised the Derivative gains (losses) reported

for Cash Öow hedges and No hedge designation for the years ended December 31, 2002 and 2001. The eÅect of this change was an

increase to Derivative gains (losses) reported for Cash Öow hedges and a decrease to Derivative gains (losses) reported for No hedge

designation of $13 million and $4 million for 2002 and 2001, respectively.

EÅect on Consolidated Financial Statements. The funding strategy of hedging the variability of cash

Öows from forecasted issuances of debt with various derivatives is deÑned as a cash Öow hedge under

SFAS 133. To qualify for cash Öow hedge accounting treatment, hedged forecasted transactions must be

considered probable of occurring. In addition, SFAS 133 imposes a variety of operational requirements that

must be met. At December 31, 2003, $141.9 billion notional amount of derivative contracts was designated in

Freddie Mac

113
cash Öow hedge relationships, including $132.0 billion notional amount of pay-Ñxed swaps, $1.5 billion

notional amount of foreign-currency swaps and $8.4 billion notional amount of commitments. The current fair

value of the derivatives included in cash Öow hedge relationships is recorded on the consolidated balance sheet

as Derivative assets, at fair value or Derivative liabilities, at fair value. For derivatives that receive cash Öow

hedge accounting treatment under SFAS 133, the eÅective portion of the change in fair value of the derivative

asset or derivative liability is presented in the stockholders' equity section of our consolidated balance sheets in

AOCI, net of taxes. The eÅective portion of the derivative generally oÅsets, on a cumulative basis, the

cumulative change in the present value of the hedged cash Öows.

As of December 31, 2003, the net cumulative change in the fair value of all derivatives designated in cash

Öow hedge relationships that were still open or for which the forecasted transactions had not occurred since

SFAS 133 was implemented on January 1, 2001 (net of amounts previously reclassiÑed to earnings through

December 31, 2003) was a loss of approximately $7.8 billion on an after-tax basis. This amount was recorded

in AOCI, net of taxes as described above and in Table 46.

The $7.8 billion in hedging losses related to cash Öow hedges was composed of approximately $1.9 billion

in net unrealized derivatives losses on open hedges and approximately $5.9 billion in deferred derivatives net

losses on closed hedges. The $1.9 billion in unrealized fair value losses on existing cash Öow hedges can change

substantially due to future changes in interest rates. For example, a decrease in LIBOR generally will increase

the amount of unrealized losses for pay-Ñxed swaps recorded in AOCI, net of taxes. An increase in LIBOR

generally will decrease unrealized losses or create an unrealized gain to be recorded in AOCI, net of taxes,

depending on the magnitude of the rate movement. The increase in unrealized fair value losses on open hedges

involving pay-Ñxed swaps recorded in AOCI, net of taxes generally should be oÅset by a reduction in future

borrowing costs on related forecasted debt issuances. Conversely, decreases in unrealized losses on pay-Ñxed

swaps generally should be oÅset by a comparable increase in future borrowing costs.

The remaining portion of the $7.8 billion in hedging losses recorded in AOCI, net of taxes at

December 31, 2003 related to $5.9 billion of deferred losses on closed cash Öow hedge relationships. Closed

cash Öow hedges involve derivatives that have been terminated or are no longer designated in cash Öow hedge

relationships. Fluctuations in prevailing market interest rates have no impact on the deferred portion of AOCI,

net of taxes relating to losses on terminated cash Öow hedges. Therefore, the $5.9 billion in deferred losses will

be recognized as a reduction of earnings as the originally hedged forecasted transactions aÅect earnings unless

it becomes probable that the forecasted transaction will not occur. If it is probable that the forecasted

transaction will not occur, then the entire deferred amount associated with the forecasted transaction will be

reclassiÑed into earnings immediately.

Assuming no changes in interest rates or other factors aÅecting derivative valuations, we estimate that

approximately $2.5 billion (net of taxes) of the $7.8 billion of hedging losses (of which $5.9 billion is deferred

and $1.9 billion are unrealized losses) in AOCI, net of taxes, at December 31, 2003 will be reclassiÑed into

earnings in the year ended December 31, 2004. The balance in AOCI, net of taxes, related to unrealized losses

is aÅected by the accrual of periodic cash settlements in accordance with the contractual terms of derivatives

in qualifying cash Öow hedge accounting relationships, as well as changes in interest rates.

Freddie Mac

114
Table 47 summarizes the notional amounts for each type of derivative, including our new contracts,

maturities and terminations during the year. This information indicates the level and type of derivative activity

undertaken by us during the year and reÖects our use of diÅerent derivative products in the execution of our

risk management strategies. The notional amounts of our derivatives are a reference point for counterparties to

determine the payments owed between us and our counterparties under the contract. The notional amount of a

derivative is not an indication of the fair value of the position or of the cash Öows related to the position. In

most market environments, derivatives have fair values that are a small percentage of their notional amount.

Table 47 Ì Changes in Derivative Notional or Contractual Amounts

Year Ended December 31, 2003

Derivative Notional or Contractual Amount(1)

Beginning New Maturities/ Ending

Balance Contracts Terminations Balance

(dollars in millions)

Interest-rate swaps

Pay-Ñxed ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ $135,758 $ 228,727 $ (184,734) $ 179,751

Receive-Ñxed ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 149,397 162,363 (204,343) 107,417

Basis (Öoating to Öoating) ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 4,941 136 (4,653) 424

Option-based ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 289,667 245,010 (173,349) 361,328

Futures ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 228,411 444,830 (542,443) 130,798

Foreign-currency swaps ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 43,687 23,193 (20,368) 46,512

Subtotal ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ $851,861 $1,104,259 $(1,129,890) 826,230

Prepayment management agreement(2) ÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 152,548

Commitments ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 89,320

Credit derivatives(3) ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 15,542

Total ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ $1,083,640

Year Ended December 31, 2002

Derivative Notional or Contractual Amount(1)

Beginning New Maturities/ Ending

Balance Contracts Terminations Balance

(dollars in millions)

Interest-rate swaps

Pay-Ñxed ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ $ 250,461 $ 60,381 $ (175,084) $ 135,758

Receive-Ñxed ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 186,957 136,360 (173,920) 149,397

Basis (Öoating to Öoating) ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 5,353 10,338 (10,750) 4,941

Option-basedÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 408,453 195,927 (314,713) 289,667

Futures ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 162,987 680,174 (614,750) 228,411

Foreign-currency swaps ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 23,995 28,698 (9,006) 43,687

SubtotalÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ $1,038,206 $1,111,878 $(1,298,223) 851,861

Prepayment management agreement(2) ÏÏÏÏÏÏÏ 117,219

Commitments ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 191,563

Credit derivatives(3) ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 17,301

Total ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ $1,177,944

(1) Notional or contractual amounts are used to calculate the periodic amounts to be received and paid and generally do not represent

actual amounts to be exchanged or directly reÖect our exposure to institutional credit risk. Notional or contractual amounts are not

recorded as assets or liabilities in our consolidated balance sheets.

(2) See ""Interest-Rate Risk Management and Use of Derivatives Ì Types of Derivatives'' for additional information concerning the

prepayment management agreement.

(3) See ""Credit Risks Ì Mortgage Credit Risk Ì Mortgage Credit Risk Management Strategies'' for additional information on credit

derivatives.

The total notional amount of our derivatives (excluding the prepayment management agreement,

commitments and credit derivatives) decreased by $25.6 billion from December 31, 2002 to December 31,

2003. This decrease in notional amount was due primarily to the net eÅect of the following two factors:

‚ A reduction in our use of futures; and

‚ An increase in our use of option-based derivatives.

Freddie Mac

115
Table 48 summarizes the change in derivative fair values for the periods presented. See ""Table 49 Ì

Derivative Fair Values and Maturities'' for a breakdown of our derivatives fair value by derivative type. Also

see ""CRITICAL ACCOUNTING POLICIES Ì Fair Value'' for a discussion of how changes in fair values

aÅect our Ñnancial results under GAAP. Further detail on derivative assets, which represent our exposure to

our derivative counterparties, is provided in ""Table 45 Ì Derivative Counterparty Credit Exposure.''

Table 48 Ì Changes in Derivative Fair Values

Year Ended

December 31,

2003 2002

(dollars in millions)

Beginning balance Ì Net asset (liability)ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ $ 9,426 $ (648)

Net change in:

Exchange-traded derivatives(1) ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ (609) 701

Commitments ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ (483) 364

Credit derivatives(2) ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 1 4

Other derivatives:(3)

Changes in fair value(4) ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 6,572 5,051

Fair value of new contracts entered into during the period(5) ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 4,841 2,390

Contracts realized or otherwise settled during the period(4) ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ (3,925) 1,564

Ending balance Ì Net asset (liability) ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ $15,823 $9,426

(1) The fair value changes for exchange-traded derivatives are determined by the individual exchanges and not by us.

(2) See ""Credit Risks Ì Mortgage Credit Risk Ì Mortgage Credit Risk Management Strategies'' for additional information on credit

derivatives.

(3) Includes fair value changes for OTC interest-rate swaps, option-based derivatives and foreign-currency swaps.

(4) Subsequent to the issuance of our 2002 Information Statement dated February 27, 2004, we revised the amounts reported for the

year ended December 31, 2002 to present the eÅect of certain foreign-currency translation gains associated with terminated or

matured foreign-currency swaps. This revision resulted in a $229 million increase to the caption Changes in fair value and an

equivalent decrease to the caption Contracts realized or otherwise settled during the period. Accordingly, the ending balance was not

aÅected by this change.

(5) Consists primarily of cash premiums paid or received on options and the initial value of interest-rate swaps after we have exercised

related swaptions.

Freddie Mac

116
Table 49 shows the notional amount and fair value for each derivative type and the maturity proÑle of the

positions. The fair values of the derivative positions are presented on a product-by-product basis, without

netting by counterparty. This information is useful in understanding how the fair values have changed over

time. The fair value of a longer-term derivative generally will vary more over time than a comparable

derivative with a shorter maturity. A positive fair value in Table 49 for a derivative product category is the

estimated amount, prior to netting by counterparty, that we would be entitled to receive if we terminated those

transactions. A negative fair value is the estimated amount, prior to netting by counterparty, that we would

owe if we terminated the derivatives in that product category.

Table 49 Ì Derivative Fair Values and Maturities

As of December 31, 2003

Fair Value(3)

Greater than

Notional Total Fair Less than 1 to 3 3 and up to In excess

Amount(1) Value(2) 1 year Years 5 Years of 5 years

(dollars in millions)

Interest-rate swaps

Pay-Ñxed ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ $ 179,751 $(3,821) $ (51) $ (423) $ (118) $(3,229)

Receive-ÑxedÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 107,417 1,992 32 459 180 1,321

Basis (Öoating to Öoating)ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 424 2 4 (2) Ì Ì

Option-based ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 361,328 9,294 1,762 4,249 1,553 1,730

FuturesÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 130,798 181 177 4 Ì Ì

Foreign-currency swaps ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 46,512 8,400 1,848 2,889 855 2,808

Prepayment management agreement(4) ÏÏÏÏÏÏÏÏ 152,548 Ì Ì Ì Ì Ì

Commitments ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 89,320 (230) (230) Ì Ì Ì

Subtotal ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 1,068,098 15,818 $3,542 $7,176 $2,470 $ 2,630

Credit derivatives(5) ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 15,542 5

TotalÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ $1,083,640 $15,823

As of December 31, 2002

Fair Value(3)

Greater than Greater

Notional Total Fair Less than 1 to 3 3 and up to than

Amount(1) Value(2) 1 year Years 5 Years 5 years

(dollars in millions)

Interest-rate swaps

Pay-ÑxedÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ $ 135,758 $(13,178) $ (167) $ (522) $(2,359) $(10,130)

Receive-Ñxed ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 149,397 7,097 222 910 1,339 4,626

Basis (Öoating to Öoating) ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 4,941 (10) 1 (18) (1) 8

Option-based ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 289,667 9,416 3,020 3,189 1,901 1,306

Futures ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 228,411 790 707 79 4 Ì

Foreign-currency swapsÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 43,687 5,054 2,439 1,218 330 1,067

Prepayment management agreement(4) ÏÏÏÏÏÏÏ 117,219 Ì Ì Ì Ì Ì

Commitments ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 191,563 253 253 Ì Ì Ì

Subtotal ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 1,160,643 9,422 $6,475 $4,856 $ 1,214 $ (3,123)

Credit derivatives(5)ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 17,301 4

Total ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ $1,177,944 $ 9,426

(1) Notional amounts are used to calculate the periodic amounts to be received and paid and generally do not represent actual amounts

to be exchanged nor directly reÖect our exposure to institutional credit risk. Notional amounts are not recorded as assets or liabilities

in our consolidated balance sheets.

(2) The fair values for futures are directly derived from quoted market prices. Fair values of other derivatives are derived primarily from

valuation models that incorporate relevant market data inputs obtained from third-party pricing services.

(3) Fair value is categorized based on the years from the date presented until the contractual maturity of the derivative.

(4) See ""Interest-Rate Risk Management and Use of Derivatives Ì Types of Derivatives'' for additional information concerning the

nature of the prepayment management agreement.

(5) See ""Credit Risks Ì Mortgage Credit Risk Ì Mortgage Credit Risk Management Strategies'' for more information about our credit

derivatives.

The total fair value of our derivatives increased by $6.4 billion to $15.8 billion as of December 31, 2003

from $9.4 billion as of December 31, 2002. The increase was primarily due to the increase in the fair value of

our pay-Ñxed swaps and foreign-currency swaps, partially oÅset by a decrease in the fair value of our receiveFreddie Mac

117
Ñxed swap position. The increase in fair value of our pay-Ñxed swaps and foreign-currency swaps was a result

of an increase in interest rates during the latter part of 2003 and a signiÑcant appreciation of the Euro relative

to the U.S. dollar in 2003. See ""CONSOLIDATED RESULTS OF OPERATIONS'' and ""CONSOLIDATED BALANCE SHEETS ANALYSIS'' for more information regarding how these changes in fair value

aÅect our Ñnancial results.

Table 50 provides a summary of the contractual terms of our pay-Ñxed and receive-Ñxed swaps. This

table provides information about the eÅect of interest-rate swaps on net interest yield if the derivative is in a

fair value or cash Öow hedge relationship. If the derivative is classiÑed as no hedge designation, the derivative

does not aÅect our net interest yield, but rather is reported in Derivative gain (loss) on our consolidated

statements of income.

Table 50 Ì Contractual Terms of Pay-Fixed and Receive-Fixed Swaps

December 31, 2003

Pay-Fixed/ Receive-Fixed/

Receive-Variable Pay-Variable

Notional Pay Rate Receive Rate(1) Notional Pay Rate(1) Receive Rate

(dollars in millions)

Swaps

Maturity less than 1 yearÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ $ 4,900 5.76% 1.18% $ 21,106 1.40% 2.38%

Maturity 1 to 3 years ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 31,073 2.69 1.17 18,247 1.73 3.88

Maturity greater than 3 and up to 5 yearsÏÏÏ 15,967 3.63 1.17 11,249 1.99 3.99

Maturity in excess of 5 years ÏÏÏÏÏÏÏÏÏÏÏÏÏ 65,395 4.91 1.17 24,202 1.66 5.64

Subtotal ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 117,335 74,804

Forward-starting swaps(2)

Maturity 1 to 3 years ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ Ì Ì Ì 8,520 Ì 2.83

Maturity greater than 3 and up to 5 yearsÏÏÏ 220 4.49 Ì 3,260 Ì 3.21

Maturity in excess of 5 years ÏÏÏÏÏÏÏÏÏÏÏÏÏ 62,196 6.11 Ì 20,833 Ì 5.07

Subtotal ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 62,416 32,613

TotalÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ $179,751 $107,417

December 31, 2002

Pay-Fixed/ Receive-Fixed/

Receive-Variable Pay-Variable

Notional Pay Rate Receive Rate(1) Notional Pay Rate(1) Receive Rate

(dollars in millions)

Swaps

Maturity less than 1 yearÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ $ 19,950 4.95% 1.52% $ 18,116 1.45% 2.69%

Maturity 1 to 3 years ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 7,566 6.21 1.52 29,104 2.10 4.08

Maturity greater than 3 and up to 5 yearsÏÏÏ 27,075 5.22 1.58 20,278 2.38 4.81

Maturity in excess of 5 years ÏÏÏÏÏÏÏÏÏÏÏÏÏ 38,153 6.40 1.50 41,680 2.04 5.51

Subtotal ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 92,744 109,178

Forward-starting swaps(2)

Maturity 1 to 3 years ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ Ì Ì Ì 2,646 Ì 2.65

Maturity greater than 3 and up to 5 yearsÏÏÏ 54 4.15 Ì 2,533 Ì 5.69

Maturity in excess of 5 years ÏÏÏÏÏÏÏÏÏÏÏÏÏ 42,960 6.63 Ì 35,040 Ì 5.43

Subtotal ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 43,014 40,219

TotalÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ $135,758 $ 149,397

(1) The weighted-average rate payable and receivable is as of the date indicated. Because the rates of the swaps are Öoating, these rates may

change as prevailing interest rates change. The variable legs of these swaps are generally based on LIBOR or Euro Interbank OÅered Rate, or

EURIBOR.

(2) Represents interest-rate swap agreements scheduled to begin on a future date. Generally, the interest rate associated with the variable leg of

the swap is set when the Ñrst payment cycle begins and is periodically reset thereafter.

As of December 31, 2003, the notional amount of our pay-Ñxed swaps was moderately higher than the

notional amount of receive-Ñxed swaps. The notional amount of our net pay-Ñxed swap position was

$72.3 billion, representing approximately $179.8 billion of pay-Ñxed swaps less approximately $107.4 billion of

receive-Ñxed swaps. As shown in Table 50, the net pay-Ñxed swap position eÅectively results in payments at

rates similar to long-term debt.

Freddie Mac

118
Measurement of Interest-Rate Risk

We actively manage interest-rate risk and other related market risks and take a disciplined approach to

risk management. Throughout 2003 our interest-rate risk remained low.

PMVS and Duration Gap. Our interest-rate sensitivity disclosures provide a set of management

estimates that convey a useful assessment of the amount of our interest-rate risk at a given point in time. This

section describes our primary interest-rate risk measures: PMVS and duration gap. PMVS is measured in two

ways, one measuring the estimated sensitivity of our portfolio market value (as deÑned below) to parallel

moves in interest rates (PMVS-L) and the other to nonparallel movements (PMVS-YC). The LIBOR yield

curve is used to estimate PMVS.

‚ PMVS-L shows the estimated loss in pre-tax portfolio market value, expressed as a percentage of our

after-tax fair value of net assets attributable to common stockholders (measured as fair value of net

assets less the fair value of preferred stock) from an immediate adverse 50 basis point parallel shift in

the level of LIBOR rates (that is, when the yield at each point on the LIBOR yield curve increases or

decreases by 50 basis points). The periodic disclosure in our Monthly Volume Summary report, which

is available on our website at www.FreddieMac.com, reÖects the average of the daily PMVS-L

estimates for a given reporting period (a month, quarter or year).

We believe the use of an immediate 50 basis point shift in the LIBOR yield curve is a conservative

estimate of interest-rate risk. This estimate does not take into account any rebalancing actions that we

would typically take to reduce risk exposure.

‚ PMVS-YC shows the estimated loss in pre-tax portfolio market value, expressed as a percentage of our

after-tax fair value of net assets attributable to common stockholders, from an immediate adverse 25

basis point change in the slope (up and down) of the LIBOR yield curve. The periodic disclosure in

our Monthly Volume Summary report, which is available on our website at www.FreddieMac.com,

reÖects the average of the daily PMVS-YC estimates for a given reporting period (a month, quarter or

year).

‚ Duration gap estimates the net sensitivity of the fair value of our Ñnancial instruments to movements in

interest rates. Duration gap is presented in units expressed as months. A duration gap of zero implies

that the change in value of assets from an instantaneous rate move will be accompanied by an equal

and oÅsetting move in the value of debt and derivatives thus leaving the net fair value of equity

unchanged. However, because duration does not capture convexity exposure (the amount by which

duration itself changes as rates move), actual changes in fair value from interest-rate changes may

diÅer from those implied by duration gap alone. For that reason, management believes duration gap is

most useful when used in conjunction with PMVS. The periodic duration gap disclosure in our

Monthly Volume Summary report, which is available on our website at www.FreddieMac.com, reÖects

the average of the daily duration gap estimates for a given reporting period (a month, quarter or year).

Freddie Mac

119
In measuring the expected loss in portfolio market value, which is the numerator in the fraction used to

calculate the PMVS percentages, we estimate the sensitivity to changes in interest rates of the fair value of all

interest-bearing assets and liabilities, including short-term interest-bearing assets and liabilities and all

derivatives on a pre-tax basis. When we calculate the expected loss in portfolio market value and duration gap,

we also take into account the cash Öows related to certain credit guarantee-related items, including net buyups (upfront payments made by us which increase the guarantee fee that we will receive in connection with

our PC guarantee) and expected gains or losses due to net interest from security program cycles. In

calculating the expected loss in portfolio market value and duration gap, we do not consider the sensitivity to

interest-rate changes of the following assets and liabilities:

‚ Guarantee fee portfolio. Except for the guarantee-related items mentioned above (i.e., net buy-ups

and net interest from security program cycles), the sensitivity of the fair value of the guarantee fee

portfolio to changes in interest rates is not included in calculating the expected loss in portfolio market

value or duration gap because we believe the expected beneÑts from replacement business provide an

adequate hedge against interest-rate changes.

‚ Other assets with minimal interest-rate sensitivity. Other assets, primarily including non-Ñnancial

instruments such as Ñxed assets and REO, are not included in the calculation of the expected loss in

portfolio market value or duration gap because of the minimal impact they would have on both PMVS

and duration gap.

The fair value of the guarantee fee portfolio and certain other assets with minimal interest-rate risk sensitivity

is included in the estimate of the fair value of net assets attributable to common stockholders, which is the

denominator of the fraction used to calculate the PMVS-L and PMVS-YC percentages.

While PMVS and duration gap estimate the exposure of the fair value of net assets attributable to

common stockholders to changes in interest rates, they do not capture the potential impact of certain other

market risks, such as changes in volatility, basis, prepayment model, mortgage-to-debt spread and foreign

currency risk. The impact of these other market risks can be signiÑcant. See ""Sources of Interest-Rate Risk

and Other Market Risks'' for further information.

Our PMVS and duration gap measures provide useful estimates of key interest-rate risk exposures. These

estimates are determined using models that involve interest-rate and prepayment assumptions made in our

best judgment. In addition, in the case of PMVS, daily calculations are based on an estimate of the fair value

of our net assets attributable to common stockholders since a complete fair value balance sheet is currently

produced only on an annual basis. Accordingly, while we believe that PMVS and duration gap are useful risk

management tools, they should be understood as estimates rather than precise measurements. We expect to

provide quarterly consolidated fair value balance sheets as part of our 2004 Ñnancial statements and thereafter

along with our quarterly Ñnancial reports.

Calculation of PMVS Measures. We calculate PMVS-L and PMVS-YC every business day. The 25

basis point change in slope for the PMVS-YC measure is obtained by shifting the two-year and ten-year

LIBOR rates by an equal amount (12.5 basis points), but in opposite directions. LIBOR rate shifts between

the two-year and ten-year points are interpolated. For each of PMVS-L and PMVS-YC, the more adverse loss

on a pre-tax basis under both scenarios is then expressed as a percentage of the after-tax fair value of net assets

attributable to common stockholders. These percentages represent the PMVS-L and PMVS-YC data points

for the day. Neither PMVS-L nor PMVS-YC includes the eÅect on fair value of any rebalancing actions,

despite the fact that we undertake frequent rebalancing actions that would reduce our exposure to loss in fair

value relative to the potential losses the PMVS measure estimates.

Table 51 provides estimated point-in-time PMVS-L and PMVS-YC results as of December 31, 2003 and

December 31, 2002. To supplement the PMVS-L results based on an assumed 50 basis point shift in the

LIBOR yield curve, Table 51 also provides year-end PMVS-L estimates assuming an immediate 100 basis

point shift in the LIBOR yield curve. Because we do not hedge all prepayment option risk, the duration of our

mortgage assets changes more rapidly as changes in interest rates increase. Accordingly, as shown in Table 51,

the PMVS-L results based on a 100 basis point shift in the LIBOR curve are disproportionately higher than

Freddie Mac

120
the PMVS-L results based on a 50 basis point shift in the LIBOR curve. We disclose the average daily,

quarterly and annual PMVS-L and PMVS-YC results in our Monthly Volume Summary report.

Table 51 Ì Portfolio Market Value Sensitivity Assuming Shifts of the LIBOR Yield Curve

Potential Dollar Loss in

Portfolio Market Value Sensitivity Portfolio Market Value (millions)

PMVS-YC PMVS-L PMVS-YC PMVS-L

25 bp 50 bp 100 bp 25 bp 50 bp 100 bp

As of:

December 31, 2003 ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 0% 2% 9% $ 20 $559 $2,171

December 31, 2002 ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 2% 1% 4% $356 $236 $ 764

Derivatives have enabled us to keep our interest-rate risk exposure at consistently low levels in a widerange of interest-rate environments. By keeping PMVS-L and PMVS-YC low, we have been able to reduce

the exposure of the fair value of our stockholders' equity to adverse changes in interest rates.

Table 52 shows that the low PMVS-L average risk levels for the periods presented would generally have

been substantially higher if we had not used derivatives to manage our interest-rate risk exposure.

As discussed above, PMVS-YC is determined by shifting the slope of the LIBOR yield curve between

the two-year and ten-year points. We use derivatives across the entire yield curve in hedging our exposure to

interest-rate risk. As liquidity and market conditions change, particularly in the ten-year sector, our use of

derivatives may, from time to time, result in an increase in PMVS-YC. For example, our use of derivatives

resulted in a signiÑcant decrease in overall interest-rate risk as measured by PMVS-L, but also caused a small

increase in PMVS-YC as of December 31, 2002.

Table 52 Ì Derivative Impact on PMVS

EÅect of

Derivatives

Before After Increase

Derivatives Derivatives (Decrease)

As of December 31, 2003

PMVS-L (50bp) ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 6% 2% (4)%

PMVS-YC (25bp) ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 0% 0% 0%

As of December 31, 2002

PMVS-L (50bp) ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 19% 1% (18)%

PMVS-YC (25bp) ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 1% 2% 1%

Calculation of Duration Gap Measure. On a daily basis, we estimate the fair value and eÅective

duration of our Ñnancial assets and liabilities, including derivatives. The fair value of each instrument is

multiplied by its duration to determine the instrument's duration dollars. Duration dollars are then aggregated

to estimate the portfolio's net duration dollar exposure. To calculate duration gap, the net duration dollar

exposure is divided by the fair value of total interest-bearing assets and expressed in months. We disclose the

average daily, quarterly and annual duration gap in our Monthly Volume Summary report.

Table 53 Ì Duration Gap

Average for the Month of December, Duration Gap

(in months)

2003 ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 0

2002 ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 0

Freddie Mac

121
Credit Risks

Our total mortgage portfolio is subject to credit risks. See ""Table 1 Ì Freddie Mac's Total Mortgage

Portfolio Based on Unpaid Principal Balances'' for more information on the composition of our total mortgage

portfolio. We are subject to two types of credit risk Ì mortgage credit risk and institutional credit risk.

Mortgage credit risk is the risk that a borrower will fail to make timely payments on a mortgage owned or

guaranteed by us. Institutional credit risk is the risk that a counterparty that has entered into a business

contract or arrangement with us will fail to meet its obligations.

Oversight of Credit Risks

The mission of the Credit Risk Oversight function is to provide independent oversight of the corporatewide credit risk management functions, including asset selection, portfolio management, loss mitigation, and

institutional counterparty risk. In particular, Credit Risk Oversight is responsible for providing senior

management and the Board of Directions with regular, independent evaluations of whether credit risks are

eÅectively identiÑed, measured, managed, and controlled. As noted previously, in 2003 we placed Credit Risk

Oversight within a new Enterprise Risk Oversight function, which reports directly to the Chief Executive

OÇcer. The Models and Methods Oversight Group, also a part of the Credit Risk Oversight function, is

responsible for independently assessing the design and adequacy of all key credit risk models.

Mortgage Credit Risk

Mortgage credit risk is the risk that we will not receive timely payments of principal and interest due from

mortgage borrowers because of borrower defaults. This could result in losses if we are unable to collect

amounts due through the sale of the underlying property, restructuring of the mortgage loan or the use of other

loss mitigation activities. The discussion below describes our mortgage credit risk management strategies and

summarizes our credit performance.

Mortgage Credit Risk Management Strategies. Our strategies for managing mortgage credit risk

consist of four primary activities:

‚ Establishing and enforcing sound underwriting and quality control standards to evaluate the credit

quality of the mortgage loans we securitize and purchase;

‚ Obtaining credit enhancements on higher-risk mortgages to secure partial protection against the

risk of credit losses;

‚ Monitoring and managing portfolio diversiÑcation; and

‚ Executing loss mitigation activities to resolve non-performing loans and reduce our overall

exposure to credit losses.

Underwriting and Quality Control Standards. We seek to ensure that the mortgages we securitize and

purchase are protected by the borrower's willingness and ability to repay the mortgage obligation and by

adequate equity in the underlying property. Automated underwriting software tools, such as Loan Prospector»,

and other quantitative credit risk management tools are used to evaluate and monitor mortgage credit risk for

single-family mortgages. Loan Prospector» combines loan-to-value ratios, credit scores and other mortgage

and borrower characteristics to generate credit risk classiÑcations. These statistically based risk assessments

increase our ability, and the ability of mortgage lenders, to distinguish among single-family loans based on

their likelihood of default.

For 2003 and 2002, Loan Prospector» was used to evaluate approximately 64 percent and 60 percent,

respectively, of our single-family purchase volume prior to purchase. As part of our post-purchase quality

control review process, we use Loan Prospector» to evaluate the credit quality of virtually all single-family

mortgages that were not evaluated by Loan Prospector» prior to purchase. We also manage the quality of our

single-family mortgage purchases by monitoring mortgage seller/servicers' compliance with our underwriting

standards through quality control reviews, on-site audits and investigations of situations involving possible

fraud. Particular focus is placed on performing quality control reviews of mortgage loans identiÑed as highFreddie Mac

122
risk. Mortgage seller/servicers represent and warrant to us that mortgages are originated in compliance with

our underwriting standards. We may require the seller/servicer to repurchase or accept losses on certain loans

that do not comply with our underwriting standards.

For multifamily mortgage loans, unless the mortgage loans have signiÑcant credit enhancements, we use

an intensive pre-purchase underwriting process for the mortgages we purchase. Our underwriting process

includes assessments of the local market, the borrower, the property manager, the property's historical and

projected Ñnancial performance and the property's physical condition, which may include physical inspections

of the properties. In addition to our own inspections, we utilize third-party appraisals and environmental and

engineering reports.

Credit Enhancements. For most of the mortgage loans in our total mortgage portfolio (other than nonFreddie Mac mortgage-related securities and that portion of issued Structured Securities that is backed by

Ginnie Mae CertiÑcates), we retain the primary risk of loss in the event of default by the borrower on the

underlying mortgage. Our charter requires that, to be eligible for purchase, single-family mortgages with loanto-value ratios above 80 percent at the time of purchase be covered by (a) primary mortgage insurance or

(b) certain other credit protections. In addition, for some mortgage loans, we elect to share the default risk by

transferring a portion of that risk to various third parties through a variety of other credit enhancement

vehicles. Mortgage loans covered by primary mortgage insurance and these other credit protections are

referred to as credit-enhanced mortgages. Proceeds received from these credit enhancements are applied to

oÅset credit losses and to Net interest income for that portion that represents forgone interest not previously

recognized related to individual mortgage loans that default.

Table 54 shows the credit-enhanced portion of our total mortgage portfolio (excluding non-Freddie Mac

mortgage-related securities and Structured Securities issued by us that are backed by Ginnie Mae

CertiÑcates).

Table 54 Ì Credit-Enhanced Percentage of the Total Mortgage Portfolio(1)

December 31,

2003 2002 2001

Credit-enhanced(2) ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 21% 27% 35%

(1) Based on the total mortgage portfolio excluding non-Freddie Mac mortgage-related securities and that portion of issued Structured

Securities that is backed by Ginnie Mae CertiÑcates. Non-Freddie Mac mortgage-related securities are excluded from this table

because they expose us primarily to institutional credit risk. That portion of Structured Securities backed by Ginnie Mae CertiÑcates

is excluded because the incremental credit risk to which it exposes us is considered de minimus. See ""Table 69 Ì Credit

Characteristics of Non-Freddie Mac Mortgage-Related Securities'' for additional information about our non-Freddie Mac mortgagerelated securities.

(2) Credit enhancements include loans covered by primary mortgage insurance or for which the lender or a third party has retained

primary default risk by pledging collateral or agreeing to accept losses on loans that default. In many cases, the lender's or third

party's risk is limited to a speciÑc level of losses at the time the credit enhancement becomes eÅective.

The percentage of our total mortgage portfolio (excluding Structured Securities backed by Ginnie Mae

CertiÑcates and non-Freddie Mac mortgage-related securities held by us) that was credit-enhanced decreased

from 2001 to 2003. This decrease was primarily due to a high level of reÑnance loans acquired in 2003, which

tend to have lower loan-to-value ratios and therefore do not require credit enhancements. Our ability and

desire to expand the credit-enhanced portion of our total mortgage portfolio will depend on our evaluation of

the credit quality of new business purchase opportunities and the future availability of eÅective credit

enhancements at prices that permit an attractive return on credit-enhanced business.

Primary loan-level mortgage insurance, or primary mortgage insurance, is the most prevalent type of

credit enhancement protecting our total mortgage portfolio and is obtained and paid for by borrowers on a loan

level basis for single-family mortgages. Primary mortgage insurance transfers a signiÑcant portion of the credit

risk associated with the mortgage to the insurer. Mortgage loans covered by primary mortgage insurance are

included in our credit-enhanced portfolio.

After primary mortgage insurance, pool insurance is the next most prevalent type of credit enhancement

protecting our total mortgage portfolio (excluding non-Freddie Mac mortgage-related securities and that

portion of issued Structured Securities that is backed by Ginnie Mae CertiÑcates). With pool insurance, a

Freddie Mac

123
mortgage insurer provides insurance on a pool of loans up to a stated aggregate loss limit. Our pool insurance

contracts typically cover losses ranging between about 0.70 percent and 1.85 percent of the aggregate unpaid

principal balance of the pooled loans at the time of purchase. In addition to a pool-level loss coverage limit,

some pool insurance contracts may have limits on coverage at the loan level. For pool insurance contracts that

expire before the completion of the contractual term of the mortgage loan, we seek to ensure that the contracts

cover the period of time during which we believe the mortgage loans are most likely to default.

Other forms of credit enhancements on single-family mortgage loans include reinsurance (an indemnity

arrangement in which we pass all or a portion of the mortgage credit risk to another insurer), collateral

(including cash or high-quality marketable securities) pledged by a lender, government guarantees, and

recourse agreements (under which we may require a lender to repurchase loans that default).

For multifamily mortgages, we occasionally utilize credit enhancements to mitigate risk. The types of

credit enhancements used for multifamily mortgage loans include recourse, third-party guarantees or letters of

credit, purchases of senior participations in mortgage loans or structured pools, and cross-default and crosscollateralization provisions. With a cross-default provision, if the loan on a property goes into default, we have

the right to declare speciÑed other mortgage loans of the same borrower or its aÇliates to be in default and to

foreclose those other mortgages. With a cross-collateralization provision, we have the additional right to apply

excess proceeds from the foreclosure of one mortgage to amounts owed to us by the same borrower relating to

other multifamily mortgage loans we own. For information about our maximum coverage in regards to these

credit enhancements, see ""NOTE 4: FINANCIAL GUARANTEES'' to the consolidated Ñnancial

statements.

In 2003, the portion of the multifamily mortgage portfolio that was credit-enhanced increased as

compared to 2002 and 2001. This was primarily the result of certain aÅordable housing transactions, where we

acquired multifamily mortgage loans, which totaled approximately $7.5 billion at December 31, 2003, under

agreements giving us recourse against the selling lender for any mortgage defaults.

While the use of credit enhancements reduces our exposure to mortgage credit risk, it increases our

exposure to institutional credit risk. See ""Institutional Credit Risk'' for more information.

Portfolio DiversiÑcation. As part of our credit risk management practices, we monitor certain mortgage

loan characteristics such as product mix, loan-to-value ratios and geographic concentration, which may aÅect

the default experience on our mortgage portfolio.

Freddie Mac

124
Product Mix. Table 55 presents the distribution of underlying mortgage assets for total PCs issued and

Structured Securities.

Table 55 Ì Freddie Mac Issued and Outstanding PCs and Structured Securities(1)

December 31, 2003

Total Issued PCs Outstanding PCs

and Structured and Structured

Securities Securities(2)

(dollars in millions)

Freddie Mac issued PCs and Structured Securities

Single-family:

Conventional:

30-year Ñxed-rate(3) ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ $ 649,719 $449,281

15-year Ñxed-rateÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 355,800 197,677

ARMs/Öoating-rate(4) ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 81,184 39,868

Seconds(5) ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 2 2

FHA/VA ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 2,098 2,058

RHS and other federal guarantee loans ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 164 164

Alternative collateral deals(6) ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 17,486 11,478

Balloons/resets(7) ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 34,788 31,818

Structured Securities backed by Ginnie Mae CertiÑcates(8) ÏÏÏÏÏÏÏÏÏÏÏÏÏ 4,729 4,059

Total single-familyÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 1,145,970 736,405

Multifamily:

Conventional ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 16,098 15,759

Total ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ $1,162,068 $752,164

December 31, 2002

Total Issued PCs Outstanding PCs

and Structured and Structured

Securities Securities(2)

(dollars in millions)

Freddie Mac issued PCs and Structured Securities

Single-family:

Conventional:

30-year Ñxed-rate(3) ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ $ 695,177 $489,058

15-year Ñxed-rateÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 262,583 154,338

ARMs/Öoating-rate(4) ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 66,626 34,708

Seconds(5) ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 5 5

FHA/VA ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 1,513 1,427

RHS and other federal guarantee loans ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 134 134

Alternative collateral deals(6) ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 24,454 13,502

Balloons/resets(7) ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 22,499 20,457

Structured Securities backed by Ginnie Mae CertiÑcates(8) ÏÏÏÏÏÏÏÏÏÏÏÏÏ 8,561 7,450

Total single-familyÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 1,081,552 721,079

Multifamily:

Conventional ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 9,072 8,730

Total ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ $1,090,624 $729,809

(1) Excludes mortgage loans and mortgage-related securities traded, but not yet settled.

(2) Represents PCs and Structured Securities held by third parties.

(3) Also includes 20-year Ñxed-rate mortgages.

(4) Includes ARMs with 1-, 3-, 5-, 7- and 10-year initial Ñxed-rate periods.

(5) Represents mortgage loans on properties that are subordinate to the superior mortgage lien.

(6) Includes Structured Securities backed by non-agency mortgage-related securities, which are primarily backed by subprime mortgage

loans, but also include some FHA/VA loans, home equity and other mortgage loans. The alternative collateral deal portion of

outstanding PCs and Structured Securities consists of $2,577 million and $4,073 million of Ñxed-rate, $2,723 million and

$5,945 million of ARMs/Öoating rate, $6,040 million and $3,484 million of FHA/VA and, $138 million and $-0- of seconds at

December 31, 2003 and 2002, respectively.

(7) Mortgages whose terms require lump sum principal payments on contractually determined future dates unless the borrower qualiÑes

for and elects an extension of the maturity date at an adjusted interest rate.

(8) The Ginnie Mae CertiÑcates which underlie the Structured Securities are backed by FHA/VA loans.

Freddie Mac

125
Table 56 presents the distribution of unsecuritized whole mortgage loans held in our Retained portfolio.

Table 56 Ì Mortgage Loans Held in the Retained Portfolio(1)

December 31,

2003 2002

(dollars in millions)

Single-family:

Conventional

Fixed-rate ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ $25,276 $33,192

Adjustable-rate ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 871 1,321

Seconds ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 1 3

Total ConventionalÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 26,148 34,516

FHA/VA Ì Fixed-rate ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 513 705

RHS and other federal guarantee loans ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 613 629

Single-family ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ $27,274 $35,850

Multifamily Mortgages:

ConventionalÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ $32,993 $28,033

FHA/RHS ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 3 3

Total MultifamilyÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 32,996 28,036

Total Mortgages ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ $60,270 $63,886

(1) Based on unpaid principal balances. Excludes mortgage loans traded, but not yet settled.

Product mix aÅects the credit risk proÑle of our total mortgage portfolio. In general, 15-year Ñxed-rate

mortgages exhibit the lowest default rate among the types of single-family mortgage loans we securitize and

purchase, due to the accelerated rate of principal amortization on these mortgages and the credit proÑles of

borrowers who seek and qualify for them. The next lowest rate of default is associated with 30-year Ñxed-rate

mortgages. Balloon/reset mortgages and ARMs typically default at a higher rate than Ñxed-rate mortgages,

although default rates for diÅerent types of ARMs may vary. While ARMs are typically originated with

interest rates that are initially lower than those available for Ñxed-rate mortgages, their interest rates also

change over time based on changes in an index or reference interest rate. As a result, the borrower's payments

may rise or fall, within limits, as interest rates change. As payment amounts increase, the risk of default also

increases. In the low interest rate environment experienced during 2002 and 2003, this trend was reversed with

ARMs exhibiting lower default rates than Ñxed-rate mortgages.

The subprime segment of the mortgage market primarily serves borrowers with lower quality credit

payment histories. These mortgages typically carry a higher risk of default. Our participation in this market

helps to increase the availability of mortgage credit and reduce the costs of homeownership for a broader

spectrum of borrowers.

We participate in the subprime market segment in two ways. First, our Retained portfolio makes

investments in non-Freddie Mac mortgage-related securities that were originated in this market segment.

Substantially all of these securities were rated ""AAA'' by one or more rating agencies at the time of purchase.

These investments are included in the Single-family and other mortgage-related securities portion of our nonFreddie Mac mortgage-related securities portfolio shown in Table 69 Ì Credit Characteristics of NonFreddie Mac Mortgage-Related Securities. Second, we guarantee securities backed by subprime mortgages.

(These securities comprise a portion of our ""alternative collateral deals.'') These securities have previously

been signiÑcantly credit enhanced and we obtain ""shadow ratings'' on these securities, which assess the risks

of the securities without regard to the beneÑts of our guarantee. At the time of our purchase these securities

were rated at least ""BBB'' (based on the S&P rating scale) by at least one nationally recognized credit rating

agency. In addition to the non-Freddie Mac mortgage-related securities discussed above, our Retained

portfolio makes investments in some of the Structured Securities issued in these transactions. In addition to

our use of credit enhancements to manage our risk exposure to this segment of the market, we have

established sophisticated monitoring techniques to continually evaluate our subprime exposure.

The distribution of the single-family loans underlying our total mortgage portfolio (excluding nonFreddie Mac mortgage-related securities, alternative collateral deals and that portion of Structured Securities

Freddie Mac

126
that is backed by Ginnie Mae CertiÑcates) by original and estimated current loan-to-value ratio ranges, credit

scores, loan purpose, property type and occupancy type is shown in Table 57.

Table 57 Ì Characteristics of Single-Family Mortgage Loan Portfolio(1)

December 31,

Original LTV Ratio Range(2) 2003 2002 2001

Less than 60% ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 26% 21% 18%

Above 60% to 70% ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 17 15 15

Above 70% to 80% ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 41 43 43

Above 80% to 90% ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 9 11 13

Above 90% to 95% ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 6 8 10

Above 95%ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 1 2 1

Total ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 100% 100% 100%

Weighted average original loan-to-value ratio ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 70% 72% 74%

Estimated Current LTV Ratio Range(3)

Less than 60% ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 44% 45% 46%

Above 60% to 70% ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 20 19 19

Above 70% to 80% ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 23 22 21

Above 80% to 90% ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 9 9 9

Above 90% to 95% ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 3 3 3

Above 95%ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 1 2 2

Total ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 100% 100% 100%

Weighted average estimated current LTV ratio ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 61% 61% 61%

Credit Score

Less than 620 ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 4% 4% 4%

620 to 659 ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 9 10 10

660 to 699 ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 17 18 17

700 to 739 ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 23 23 23

740 and above ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 44 39 36

Not Available ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 3 6 10

Total ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 100% 100% 100%

Weighted average credit scoreÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 723 718 717

Loan Purpose

PurchaseÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 25% 34% 43%

Cash-out reÑnance ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 26 25 21

Other reÑnance ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 49 41 36

Total ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 100% 100% 100%

Property Type

1 unit ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 97% 97% 98%

2-4 unitsÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 3 3 2

Total ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 100% 100% 100%

Occupancy Type

Primary residence ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 94% 94% 94%

Second/vacation home ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 3 3 3

Investment ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 3 3 3

Total ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 100% 100% 100%

(1) Based on the single-family mortgage portfolio (excluding non-Freddie Mac mortgage-related securities, alternative collateral deals

and that portion of Structured Securities that is backed by Ginnie Mae CertiÑcates), which totaled $1,151 billion, $1,084 billion and

$964 billion at December 31, 2003, 2002 and 2001, respectively.

(2) Our charter requires that mortgage loans purchased with loan-to-value ratios above 80 percent be covered by mortgage insurance or

other credit enhancements.

(3) Current market values are estimated by adjusting the value of the property at origination based on changes in the market value of

house prices since origination.

Freddie Mac

127
Loan-to-Value Ratios. Our principal safeguard against credit losses for mortgage loans in our singlefamily, non-credit-enhanced portfolio is provided by the borrowers' equity in the underlying properties.

Mortgage loans with higher loan-to-value ratios (and therefore lower levels of borrower equity) at the time of

purchase are also protected by credit enhancements, since our charter requires that loans with loan-to-value

ratios above 80 percent at the time of purchase be covered by mortgage insurance or certain other credit

protections.

The likelihood of single-family mortgage default depends not only on the initial credit quality of the loan,

but also on events that occur after origination. Accordingly, we monitor the loan-to-value ratio at the date of

mortgage origination and the estimated current loan-to-value ratio, which compares the current unpaid

principal balance of the mortgage to the estimated current market value of the property underlying the

mortgage. Historical experience has shown that defaults are less likely to occur on mortgages with lower

estimated current loan-to-value ratios. Furthermore, in the event of a default, higher levels of borrower equity

in a property reduce the total amount of loss, thereby mitigating credit losses.

Credit Score. Credit scores are a useful measure for assuring the credit quality of a borrower. Credit

scores are computer-generated numbers reported by the credit repositories, based on statistical models, that

summarize an individual's credit record and predict the likelihood that a borrower will repay future obligations

as expected. FICO» scores, or FICO, developed by Fair, Isaac and Co., Inc., are the most commonly used

credit scores today. According to FICO, the various factors used to calculate credit scores can be grouped into

Ñve primary areas:

‚ Payment history;

‚ Outstanding debt;

‚ Length of credit history;

‚ Pursuit of new credit; and

‚ Types of credit in use.

FICO scores are ranked on a scale of approximately 300 to 850 points. Statistically, consumers with

higher credit scores are more likely to repay their debts as expected than those with lower scores. The

weighted average credit score for the total mortgage portfolio remained high at 723 at December 31, 2003, a

slight increase from 718 at December 31, 2002 and 717 at December 31, 2001, indicating strong credit quality

borrowers. In particular, the percentage of the mortgage loans with an available FICO score greater than 740

in the total mortgage portfolio has increased to 44 percent at December 31, 2003, from 39 percent at

December 31, 2002 and 36 percent at December 31, 2001.

Loan Purpose. Mortgage loan purpose indicates how the borrower intends to use the funds from a

mortgage loan. The three general categories are: purchase, cash-out reÑnance, or other reÑnance. In a

purchase transaction, funds are used to acquire a property. In a cash-out reÑnance transaction, in addition to

paying oÅ an existing Ñrst mortgage lien, the borrowers obtain additional funds that may be used for other

purposes including paying oÅ subordinate mortgage liens and providing unrestricted cash proceeds to the

borrower. In other reÑnance transactions, the funds are used to pay oÅ an existing Ñrst mortgage lien and may

be used in limited amounts for certain speciÑed purposes; such reÑnances are generally referred to as ""no

cash-out'' or ""rate and term'' reÑnances. Other reÑnance transactions also include reÑnance mortgages with

respect to which the delivery data provided was not suÇcient to determine that the mortgage was a cash-out or

a no cash-out reÑnance transaction. The increase in reÑnance activity resulting from a reduction in interest

rates increased the proportion of reÑnance mortgage loans in the total mortgage portfolio to a total of

75 percent, 66 percent and 57 percent at December 31, 2003, 2002 and 2001, respectively.

Property Type. Single-family mortgage loans are deÑned as mortgages secured by housing with up to

four living units. Mortgages on one-unit properties tend to have lower credit risk than mortgage loans on

multiple-unit properties. The proportion of one-unit properties in the total mortgage portfolio remained stable

over the past three years, accounting for 97 percent, 97 percent and 98 percent at December 31, 2003, 2002

and 2001, respectively.

Freddie Mac

128
Occupancy Type. Borrowers may purchase a home as a primary residence, second/vacation home or

investment property that is typically a rental property. Mortgage loans on properties occupied by the borrower

as a primary or second residence tend to have a lower credit risk than mortgages on investment properties. The

proportion of primary and secondary residences in the total mortgage portfolio remained the same over the

past three years, accounting for 97 percent at December 31, 2003, 2002 and 2001.

Geographic Concentration. Due to our business model that involves purchasing mortgages from every

geographic region in the U.S., we maintain a geographically diverse mortgage portfolio. This diversiÑcation

provides protection from changing local and economic conditions. Table 58 shows the distribution of our total

mortgage portfolio (excluding non-Freddie Mac mortgage-related securities and that portion of Structured

Securities that is backed by Ginnie Mae CertiÑcates) by geographic region. Our total mortgage portfolio's

geographic distribution was relatively stable from 2002 to 2003, and remains broadly diversiÑed across these

Ñve regions.

Table 58 Ì Geographic Concentration of the Total Mortgage Portfolio(1)

December 31,

2003 2002

Total % of Total Total % of Total

Mortgage Mortgage Mortgage Mortgage

Portfolio Portfolio Portfolio Portfolio

(Dollars in (Dollars in

Millions) Millions)

By Region(2)

WestÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ $ 295,349 24% $ 294,681 26%

NortheastÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 285,789 24 264,843 23

North central ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 271,339 22 244,509 21

Southeast ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 213,646 18 200,476 18

Southwest ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 151,486 12 141,440 12

TotalÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ $1,217,609 100% $1,145,949 100%

(1) Based on the total mortgage portfolio, excluding non-Freddie Mac mortgage-related securities and that portion of Structured

Securities that is backed by Ginnie Mae CertiÑcates.

(2) See ""NOTE 17: CONCENTRATION OF CREDIT AND OTHER RISKS'' to the consolidated Ñnancial statements for a

description of these regions.

Loss Mitigation Activities. Despite our rigorous underwriting standards, some mortgage loans will

become non-performing due to changes in general economic conditions, changes in the Ñnancial status of

individual borrowers or other factors.

Freddie Mac

129
Table 59 summarizes our non-performing assets. The increase in our non-performing assets from 2000

through 2003 was primarily driven by higher delinquencies associated with our alternative collateral deals

(credit enhanced securities backed by subprime mortgages). While these delinquencies result in higher levels

of non-performing assets, we have limited loss exposure due to the credit enhancements associated with these

securities.

Table 59 Ì Non-Performing Assets(1)

December 31,

2003 2002 2001 2000

(dollars in millions)

Troubled debt restructurings, or TDRs(2)(3) ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ $ 2,370 $2,164 $ 1,617 $1,389

Serious delinquencies(3)(4) ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 7,470 6,830 5,070 3,546

Non-accrual loans(5) ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 21 47 44 9

Subtotal(6) ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 9,861 9,041 6,731 4,944

REO, net(7)ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 795 594 447 358

Total ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ $10,656 $9,635 $ 7,178 $5,302

(1) Information as of December 31, 1999 is omitted because we did not restate our consolidated Ñnancial statements for periods prior to

2000.

(2) Includes previously delinquent loans whose terms have been modiÑed. Some of these loans may be performing as a result of the

modiÑed terms. TDRs are considered part of our impaired loan population. Figures presented are based on unpaid principal balances

of mortgage loans. See ""NOTE 6: LOAN LOSS RESERVES'' to the consolidated Ñnancial statements for additional information

on impaired loans.

(3) Subsequent to the issuance of our Information Statement dated February 27, 2004, we revised the amount of our serious

delinquencies. The eÅect on serious delinquencies was a decrease of $401 million, $282 million and $208 million for the years ended

December 31, 2002, 2001 and 2000, respectively.

(4) Includes single-family loans 90 days or more delinquent. For multifamily loans, the population includes all loans 60 days or more

delinquent, but less than 90 days delinquent. Also included within this population are multifamily loans greater than 90 days past due

but where principal and interest are being paid to us under the terms of a credit enhancement agreement. It also includes seriously

delinquent loans in alternative collateral deals which totaled $2,793 million, $2,290 million, $1,052 million and $529 million at

December 31, 2003, 2002, 2001 and 2000, respectively. See the discussion related to alternative collateral deal delinquencies

following ""Table 61 Ì Delinquency Performance.''

(5) Non-accrual mortgage loans are loans for which interest income is recognized only on a cash basis and only includes multifamily

loans that are 90 days or more delinquent. Balance represents 2, 3, 5 and 10 properties at December 31, 2003, 2002, 2001 and 2000,

respectively. No single-family mortgage loans are classiÑed as non-accrual. For single-family mortgages we recognize interest income

on an accrual basis for all such loans, regardless of delinquency. We establish reserves for uncollectible interest that are estimated

using statistical models, which quantify accrued but unpaid interest at the consolidated balance sheet date. Mortgage loans placed on

non-accrual status are considered part of our impaired loan population.

(6) For the year ended December 31, 2003, $507 million was included in net interest income and management and guarantee income

related to these mortgage loans (excluding interest income related to alternative collateral deals). The amount of forgone net interest

income and additional management and guarantee income that we would have recorded had these loans been current is $42 million

for the year ended December 31, 2003.

(7) For more information about REO balances, see ""NOTE 1: SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES'' and

""NOTE 7: REAL ESTATE OWNED.''

Loss mitigation activities are a key component of our strategy for managing and resolving troubled assets

and lowering credit losses. Our loss mitigation strategy emphasizes early intervention in delinquent mortgages

and alternatives to foreclosure. Foreclosure alternatives are intended to reduce the number of delinquent

mortgages proceeding to foreclosure and, ultimately, mitigate our total credit losses by eliminating a portion of

Freddie Mac

130
the costs related to foreclosed properties. Table 60 summarizes the number of loans involved in diÅerent types

of single-family foreclosure alternatives.

Table 60 Ì Single-Family Foreclosure Alternatives(1)

December 31,

2003 2002 2001

(number of loans)

Foreclosure Alternatives(2)

Repayment plansÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 34,458 32,672 28,956

Loan modiÑcations ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 8,508 7,951 5,107

Forbearance agreements ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 2,226 2,798 3,103

Pre-foreclosure sales(3) ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 1,755 1,531 1,222

Foreclosure alternatives ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 46,947 44,952 38,388

(1) Based on the single-family total mortgage portfolio, excluding non-Freddie Mac mortgage-related securities, alternative collateral

deals and that portion of Structured Securities that is backed by non-Freddie Mac mortgage-related securities.

(2) Some mortgage loans may go through a foreclosure alternative more than once or may go through more than one type of foreclosure

alternative.

(3) This amount includes third party sales and other foreclosure alternatives.

The increase in foreclosure alternatives from 2000 through 2003 was primarily driven by the increase in

single-family delinquencies and an enhanced eÅort by us and servicers to pursue loss mitigation for

homeownership preservation. Repayment plans, the most common type of foreclosure alternative, mitigate our

credit losses because they assist borrowers in returning to compliance with the original terms of their

mortgages. Loan modiÑcations, the second most common type of foreclosure alternative, involve changing the

terms of a mortgage and therefore are a more favorable alternative to the borrower during a declining interestrate environment, such as we experienced during 2001, 2002 and the Ñrst half of 2003. Forbearance

agreements, the third most common type of foreclosure alternative, provide a temporary suspension of the

foreclosure process to allow additional time for the borrower to return to compliance with the original terms of

the borrower's mortgage or to implement another foreclosure alternative.

Other single-family loss mitigation activities include additional default management tools designed to

help single-family servicers manage non-performing loans more eÅectively. These tools include Early

Indicator», a system that estimates the probability that delinquent loans will be resolved or advanced through

to a loss-producing state. In addition, we use Servicer Performance ProÑle reports to evaluate the performance

of our mortgage servicers based on their management of performing and non-performing loans.

We typically require multifamily servicers to closely manage mortgage loans they have sold us in order to

mitigate potential losses. Once a year, for loans over $1 million, servicers must generally submit an assessment

of the mortgaged property to us based on an inspection of the property and a review of the property's Ñnancial

statements. We also evaluate these assessments internally and may direct the servicer to take speciÑc actions

to reduce the likelihood of delinquency or default. If a loan defaults despite this intervention, we then

determine whether it is in our best interest to oÅer a reasonable foreclosure alternative to the borrower. For

example, we may modify the terms of a multifamily mortgage loan which gives the borrower an opportunity to

bring the loan current and allows the borrower to retain ownership of the property. Since mortgage

seller/servicers are an important part of our loss mitigation process, we rate their performance regularly and

conduct on-site reviews of their servicing operations to conÑrm compliance with our standards.

Other Credit Risk Management Activities. We also participate in other activities such as risk-based

pricing (which is a method of pricing mortgages based on credit risk factors such as the mortgage product

type, loan purpose, loan-to-value ratio, and other loan attributes), Ñnancial incentives and credit derivatives, as

described below, in situations where we believe they will beneÑt our credit risk management strategy. These

arrangements are intended to reduce our credit-related expenses and to help us manage purchase quality,

thereby ensuring adequate returns.

In accordance with our Single-Family Seller/Servicer Guide or as otherwise agreed with seller/servicers,

certain mortgages are subject to risk-based pricing such as delivery fees in addition to periodic management

and guarantee fees (through the Guarantor Program) or stated price (through the Cash Window Program).

Freddie Mac

131
These fees represent up-front pricing terms based on credit risk factors including the mortgage product type,

loan purpose and other attributes.

In some cases, we also provide Ñnancial incentives in the form of lump sum payments to selected

seller/servicers if they deliver a speciÑed volume or share of mortgage loans meeting speciÑed credit risk

standards over a deÑned period of time. This Ñnancial incentive could also be in the form of a fee payable by

the seller if the mortgages delivered to us do not meet certain credit standards.

We have also entered into risk-sharing agreements that are accounted for as derivatives in accordance

with GAAP. Partially because the agreements may result in us making payments to the seller/servicer

(depending upon actual default experience over the lives of the mortgages), they are considered credit

derivatives, rather than Ñnancial guarantees under GAAP. Under these agreements, default losses on speciÑc

mortgage loans delivered by sellers are compared to default losses on reference pools of mortgage loans with

similar characteristics. Based upon the results of that comparison, we remit or receive payments based upon

the default performance of the speciÑed mortgage loans. These payments are recorded in Management and

guarantee income on the consolidated statements of income. The total notional amount of mortgage loans

subject to these agreements was approximately $15.5 billion and $17.3 billion at December 31, 2003 and 2002,

respectively. These risk-sharing agreements are classiÑed as no hedge designation for purposes of applying

SFAS 133, with changes in fair value recorded as Derivative gains (losses) on the consolidated statements of

income. The fair value of these risk-sharing agreements is recorded in the Derivative assets, at fair value and

Derivative liabilities, at fair value captions on the consolidated balance sheets, with net amounts of $5 million

and $4 million in assets at December 31, 2003 and 2002, respectively.

Although these arrangements are part of our overall credit risk management strategy, they are not

considered to be credit enhancements for purposes of describing our total mortgage portfolio characteristics

because the Ñnancial incentive and credit derivative agreements may result in us making payments to the

seller/servicer.

Credit Performance. The eÅectiveness of our credit risk management activities is reÖected, in part, in

the level of credit losses relative to our total mortgage portfolio (excluding non-Freddie Mac mortgage-related

securities and that portion of Structured Securities that is backed by Ginnie Mae CertiÑcates). To the extent

we take on riskier assets, such as A- mortgages, and charge higher guarantee fees, credit losses may rise

despite eÅective credit risk management activities. Therefore, while credit losses are a useful indicator of

management activities, they must ultimately be considered relative to the revenue received for assuming the

underlying credit risk. We may incur a credit loss when a borrower fails to make a mortgage payment, or is

delinquent, and we either institute a foreclosure alternative or foreclose on the property. See ""Mortgage Credit

Risk Management Strategies Ì Loss Mitigation Activities'' for more information. Credit losses are oÅset, in

some cases, by payments received from credit enhancements and from income received on sale of foreclosed

properties. Several key statistics that aÅect our credit losses are detailed in the tables below.

Delinquencies. Table 61 summarizes the delinquency performance of our single-family and multifamily

mortgage portfolios. ""Table 62 Ì Single-Family Ì Non-Credit-Enhanced Delinquencies Ì By Region'' and

""Table 63 Ì Single-Family Ì Mortgage Portfolio and Non-Credit-Enhanced Delinquencies Ì By Year of

Freddie Mac

132
Origination'' provide a more detailed analysis of single-family delinquencies, by geographic region and year of

origination.

Table 61 Ì Delinquency Performance(1)

December 31,

2003 2002 2001

Single-family(2)

Non-credit-enhanced portfolio

Delinquency rate(3) ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 0.27% 0.28% 0.29%

Total number of delinquent loans(3) ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 21,063 20,946 19,612

Credit-enhanced portfolio(4)

Delinquency rate(3) ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 2.96% 2.07% 1.30%

Total number of delinquent loans ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 66,283 58,768 41,970

Total portfolio(4)

Delinquency rate ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 0.86% 0.77% 0.62%

Total number of delinquent loans ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 87,346 79,714 61,582

Multifamily(5)

Total portfolio

Delinquency rate ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 0.05% 0.13% 0.15%

Net carrying value of delinquent loans (in millions) ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ $ 24 $ 49 $ 44

(1) Based on the total mortgage portfolio, excluding both non-Freddie Mac mortgage-related securities and that portion of Structured

Securities that is backed by Ginnie Mae CertiÑcates.

(2) Based on the number of mortgages 90 days or more delinquent or in foreclosure.

(3) Subsequent to the issuance of our 2003 and prior years results announced in our Information Statement Supplement dated June 30,

2004 and our Information Statement dated February 27, 2004, we revised our delinquency rates. The eÅect of this change on noncredit-enhanced delinquency rates was a decrease of 0.01 percent for each of the years ended December 31, 2002 and 2001, and no

impact for the year ended December 31, 2003. The eÅect of this change on credit-enhanced delinquency rates was an increase of 0.01

percent for each of the years ended December 31, 2003, 2002 and 2001. The eÅect of this change on the total number of delinquent

loans in the non-credit-enhanced portfolio was a decrease of 508, 480 and 521 for the years ended December 31, 2003, 2002 and

2001, respectively, and a corresponding increase in the total number of delinquent loans in the credit-enhanced portfolio of 508, 480

and 521 for the years ended December 31, 2003, 2002 and 2001, respectively.

(4) Includes alternative collateral deals.

(5) Based on net carrying value of mortgages 60 days or more delinquent or in foreclosure.

The single-family total portfolio delinquency rate increased by 9 basis points from December 31, 2002 to

0.86 percent at December 31, 2003. This increase was driven by the single-family credit-enhanced delinquency rate, which increased by 89 basis points from year-end 2002 to 2.96 percent at December 31, 2003.

The increase in the credit-enhanced delinquency rate was primarily due to rising delinquencies associated with

alternative collateral deals. The subprime mortgage loans associated with alternative collateral deals typically

experience delinquency rates that are signiÑcantly higher than prime conventional mortgage loans, but the

securities that we guarantee in these deals are signiÑcantly credit-enhanced. The single-family total portfolio

delinquency rate, excluding these alternative collateral deals, was 0.56 percent, 0.53 percent and 0.50 percent

for the years ended December 31, 2003, 2002 and 2001, respectively. The multifamily delinquency rate was

0.05 percent at December 31, 2003, down from 0.13 percent at December 31, 2002. Multifamily delinquencies

include mortgage loans where the borrowers are not paying as agreed, but principal and interest are being paid

to us under the terms of a credit enhancement agreement.

Freddie Mac

133
Table 62 presents delinquency rates for the non-credit-enhanced portion of the single-family loans

underlying our total mortgage portfolio (excluding non-Freddie Mac mortgage-related securities and that

portion of Structured Securities that is backed by Ginnie Mae CertiÑcates) by geographic region.

Table 62 Ì Single-Family Ì Non-Credit-Enhanced Delinquencies Ì By Region(1)(2)

December 31,

2003 2002 2001

Northeast ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 0.28% 0.30% 0.37%

Southeast(3)ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 0.32 0.34 0.30

North central(3) ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 0.27 0.27 0.25

Southwest ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 0.28 0.28 0.25

West(3)ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 0.19 0.23 0.28

Total all regions(3) ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 0.27% 0.28% 0.29%

(1) Based on the number of mortgages 90 days or more delinquent or in foreclosure.

(2) See ""NOTE 17: CONCENTRATION OF CREDIT RISK AND OTHER RISKS'' to the consolidated Ñnancial statements for a

description of these regions.

(3) Subsequent to our Information Statement dated February 27, 2004, we revised the results for non-credit-enhanced delinquencies by

region. The impact of this change on rates reported for Southeast, North central and Total all regions was a decrease of 0.01% for

each of the years ended December 31, 2002 and 2001. The impact also decreased West rates by 0.01% for the year ended

December 31, 2001.

The total non-credit-enhanced delinquency rate at December 31, 2003 decreased slightly as compared to

December 31, 2002. Regional delinquency trends varied in 2003. The northeast, southeast and west had

declining delinquency rates, while the north central and southwest regions' delinquency rates remained

unchanged.

Freddie Mac

134
Table 63 presents the distribution of the single-family loans underlying our total mortgage portfolio

(excluding non-Freddie Mac mortgage-related securities and that portion of Structured Securities that is

backed by Ginnie Mae CertiÑcates) and non-credit-enhanced delinquency rates by year of origination.

Table 63 Ì Single-Family Ì Mortgage Portfolio and Non-Credit-Enhanced Delinquencies Ì By Year of

Origination

December 31,

2003 2002 2001

Percent of Non-Credit- Percent of Non-Credit- Percent of Non-CreditSingle- Enhanced Single- Enhanced Single- Enhanced

Family Delinquency Family Delinquency Family Delinquency

Year of Origination Balance(1) Rate Balance(1) Rate(2) Balance(1) Rate(2)

Pre-1996 ÏÏÏÏÏÏÏÏÏÏÏÏ 5% 0.65% 9% 0.52% 16% 0.50%

1996 ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 1 0.90 2 0.70 4 0.60

1997 ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 1 0.82 3 0.51 5 0.35

1998 ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 4 0.45 11 0.26 19 0.18

1999 ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 3 0.73 8 0.44 15 0.27

2000 ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 1 1.78 3 0.91 8 0.40

2001 ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 10 0.48 26 0.19 33 0.04

2002 ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 24 0.18 38 0.05 Ì Ì

2003 ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 51 0.01 Ì Ì Ì Ì

Total ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 100% 0.27% 100% 0.28% 100% 0.29%

(1) Single-family total mortgage portfolio, excluding non-Freddie Mac mortgage-related securities and that portion of Structured

Securities that is backed by Ginnie Mae CertiÑcates.

(2) Subsequent to our Information Statement dated February 27, 2004, we revised the results for our non-credit-enhanced delinquencies

by year of origination for 2002 and 2001. The overall impact on the total non-credit-enhanced delinquency rate was a decrease of 0.01

percent for each of the years ended December 31, 2002 and 2001.

Our single-family portfolio distribution by origination year was aÅected by heavy reÑnance volumes in

recent years. As of December 31, 2003, 85 percent of our single-family mortgage portfolio consisted of

mortgage loans originated in 2001, 2002 or 2003. Mortgage loans originated in 2000 and earlier, which

represent only approximately 15 percent of our single-family mortgage portfolio, have delinquency rates that

are generally higher than the overall portfolio delinquency rate due primarily to the weaker credit quality of

these loans. For instance, mortgage loans originated in 2000 were generally for purchase transactions, which

are typically of weaker credit quality, as opposed to reÑnancing transactions. As a result, we have experienced

higher than average early defaults and delinquency rates on these mortgage loans originated in 2000, but they

represent only one percent of the single-family total mortgage portfolio (excluding non-Freddie Mac

mortgage-related securities and that portion of Structured Securities that is backed by Ginnie Mae

CertiÑcates).

Freddie Mac

135
Credit Loss Performance. Some of the loans that are delinquent or in foreclosure result in credit losses.

Table 64 provides detail on our credit loss performance, including REO activity, charge-oÅs and credit losses.

Table 64 Ì Credit Loss Performance

Year Ended December 31,

2003 2002 2001

(dollars in millions)

REO

REO balances:

Single-family ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ $ 758 $ 593 $ 446

Multifamily ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 37 1 1

Total ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ $ 795 $ 594 $ 447

REO activity (number of properties):(1)

Beginning property inventory ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 7,222 5,713 4,564

Properties acquired ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 17,750 13,520 10,091

Properties disposed ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ (15,802) (12,011) (8,942)

Ending property inventory ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 9,170 7,222 5,713

Average holding period (in days)(2) ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 174 185 186

REO operations income (expense): Single-family ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ $ 26 $ 13 $ (6)

Multifamily ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ (3) Ì (1)

Total ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ $ 23 $ 13 $ (7)

CHARGE-OFFS

Single-family:

Foreclosure alternatives, gross ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ $ (40) $ (46) $ (33)

Recoveries(3) ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 17 17 12

Foreclosure alternatives, netÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ (23) (29) (21)

REO acquisitions, gross ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ (176) (124) (95)

Recoveries(3) ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 101 65 77

REO acquisitions, net ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ (75) (59) (18)

Single-family totals:

Charge-oÅs, gross ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ (216) (170) (128)

Recoveries(3) ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 118 82 89

Single-family charge-oÅs, net ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ (98) (88) (39)

Multifamily:

Charge-oÅs, gross ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ (8) (1) (1)

Recoveries(3) ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 1 2 3

Multifamily charge-oÅs, net ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ (7) 1 2

Total Charge-oÅs:

Charge-oÅs, gross ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ (224) (171) (129)

Recoveries:

Related to primary mortgage insurance ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 94 61 74

Not related to primary mortgage insurance ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 25 23 18

Total recoveries(3) ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 119 84 92

Charge-oÅs, netÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ $ (105) $ (87) $ (37)

CREDIT GAINS (LOSSES)(4)

Single-family ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ $ (72) $ (75) $ (45)

Multifamily ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ (10) 1 1

TotalÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ $ (82) $ (74) $ (44)

In basis points:(5)

Single-family ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 0.6 0.7 0.5

Multifamily ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 0.1 Ì Ì

TotalÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 0.7 0.7 0.5

(1) Includes single-family and multifamily REO properties.

(2) Represents weighted average holding period for single-family and multifamily based on number of REO properties disposed.

Subsequent to our Information Statement dated February 27, 2004, we revised our method for calculating weighted average holding

period. The impact of this change was a decrease of 1 day each for the years ended December 31, 2002 and 2001.

(3) Includes recoveries of charge-oÅs primarily resulting from foreclosure alternatives and REO acquisitions on loans where the primary

default risk has been assumed by servicers, mortgage insurers, or other third parties through credit enhancements. Recoveries of

charge-oÅs through credit enhancements are limited in many instances to amounts less than the full amount of the loss.

(4) Equal to REO operations income (expense) plus Charge-oÅs, net.

(5) Calculated as credit gains (losses) divided by the average total mortgage portfolio, excluding non-Freddie Mac mortgage-related

securities and that portion of Structured Securities that is backed by Ginnie Mae CertiÑcates.

Freddie Mac

136
Overall, we continued to demonstrate very strong credit performance during 2003, driven by eÅective risk

management and the sustained strength of the single-family housing market. The following discussion

provides additional analysis on key credit loss-related statistics and results.

When we foreclose on a property, it may become part of our REO inventory. REO operations income

(expense), a component of credit losses, includes the expenses incurred to foreclose, acquire, maintain and sell

a property. REO inventory levels increased in 2003, both in terms of dollar amount and number of properties

held. The single-family REO balance was $758 million at December 31, 2003, up from $593 million and

$446 million at December 31, 2002 and 2001, respectively. The increase in the single-family REO balance

during 2002 and 2003 is consistent with rising delinquency rates and general softening in the economy.

Although REO inventories increased, single-family REO income (expense) improved to an income of

$26 million and $13 million in 2003 and 2002, respectively, from an expense of $6 million in 2001 largely due

to house-price growth, recoveries from credit enhancements and reimbursements from seller/servicers. REO

income arises when the fair market value of the acquired asset exceeds the carrying value of the mortgage loan

or when we are able to sell the REO at amounts in excess of its carrying value.

Charge-oÅs, another component of credit losses, include losses and recoveries on mortgages that are

transferred to REO or involved in a foreclosure alternative. Single-family charge-oÅs, net of recoveries,

increased from $39 million in 2001 to $88 million and $98 million in 2002 and 2003, respectively, largely due

to increased REO acquisitions as described above. Charge-oÅs, net are reÖected on our consolidated balance

sheets as a reduction in loan loss reserves. See ""Table 67 Ì Loan Loss Reserves Activity'' for more

information.

Credit losses remained relatively low in 2003 for both single-family and multifamily mortgage portfolios.

Single-family credit losses totaled $72 million, or 0.6 basis points of the average total mortgage portfolio, in

2003. This represents a slight increase from the historically low levels of single-family credit losses

experienced in 2001 ($45 million or 0.5 basis points) and a slight decrease from single-family credit losses

experienced in 2002 ($75 million or 0.7 basis points). In the multifamily business, we experienced a credit loss

of $10 million in 2003, and gains of $1 million in both 2001 and 2002. The 2003 increase in the credit losses in

the multifamily business is primarily driven by the foreclosure of one property in 2003. The multifamily

market has weakened in recent years due to the softening economy. Although this has resulted in higher

vacancies and declines in rent growth, property values generally have remained stable. As a result, despite the

weakening multifamily market, our multifamily delinquencies have remained low (see ""Table 61 Ì Delinquency Performance'') and multifamily credit losses have remained relatively low in 2003.

Freddie Mac

137
Table 65 and Table 66 provide detail by region for two key credit performance statistics, REO activity

and charge-oÅs. Regional REO acquisition and charge-oÅ trends follow a pattern that is similar to that of

regional delinquency trends. The southeast, north central and southwest regions experienced the largest

increases in REO acquisitions in 2003 compared to 2002, caused by the particularly severe impact of the

economic recession in 2001 and 2002 on employment rates in those regions, while the northeast and west

regions experienced slight declines.

Table 65 Ì REO Activity Ì By Region(1)

Year Ended December 31,

2003 2002 2001

(number of properties)

REO Inventory

Beginning property inventory ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 7,222 5,713 4,564

Properties acquired by region:

Northeast ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 1,600 1,683 1,784

Southeast ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 5,378 3,533 2,398

North central ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 4,643 3,180 1,959

Southwest ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 3,503 2,435 1,513

West ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 2,626 2,689 2,437

Total properties acquired ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 17,750 13,520 10,091

Properties disposed by region:

Northeast ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ (1,674) (1,798) (1,959)

Southeast ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ (4,476) (3,012) (1,895)

North central ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ (3,908) (2,420) (1,577)

Southwest ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ (3,018) (2,019) (1,150)

West ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ (2,726) (2,762) (2,361)

Total properties disposedÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ (15,802) (12,011) (8,942)

Ending property inventoryÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 9,170 7,222 5,713

(1) See ""NOTE 17: CONCENTRATION OF CREDIT AND OTHER RISKS'' to the consolidated Ñnancial statements for a

description of these regions.

Freddie Mac

138
Table 66 Ì Single-Family Charge-oÅs and Recoveries By Region(1)(2)

Year Ended December 31,

2003 2002 2001

(dollars in millions)

Northeast

Charge-oÅs ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ $ 21 $ 27 $ 25

RecoveriesÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ (8) (10) (6)

Charge-oÅs, net ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 13 17 19

Southeast

Charge-oÅs ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 62 42 20

RecoveriesÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ (35) (19) (16)

Charge-oÅs, net ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 27 23 4

North central

Charge-oÅs ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 54 31 12

RecoveriesÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ (29) (18) (14)

Charge-oÅs, net ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 25 13 (2)

Southwest

Charge-oÅs ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 43 28 41

RecoveriesÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ (26) (14) (39)

Charge-oÅs, net ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 17 14 2

West

Charge-oÅs ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 36 42 30

RecoveriesÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ (20) (21) (14)

Charge-oÅs, net ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 16 21 16

Total

Charge-oÅs ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 216 170 128

RecoveriesÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ (118) (82) (89)

Charge-oÅs, net ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ $ 98 $ 88 $ 39

(1) See ""NOTE 17: CONCENTRATION OF CREDIT AND OTHER RISKS'' to the consolidated Ñnancial statements for a

description of these regions.

(2) Includes recoveries of charge-oÅs primarily resulting from foreclosure alternatives and REO acquisitions on loans where the primary

default risk has been assumed by servicers, mortgage insurers, or other third parties through credit enhancements. Recoveries of

charge-oÅs through credit enhancements are limited in many instances to amounts less than the full amount of the loss.

Freddie Mac

139
Table 67 summarizes our loan loss reserves activity.

Table 67 Ì Loan Loss Reserves Activity(1)

Year Ended December 31,

2003 2002 2001 2000

(dollars in millions)

Total loan loss reserves(2):

Beginning balance ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ $ 265 $ 224 $ 229 $ 217

Provision for credit losses ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 10 128 32 79

Charge-oÅs ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ (224) (171) (129) (124)

Recoveries(3)ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 119 84 92 57

Charge-oÅs, net ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ (105) (87) (37) (67)

Adjustment for change in accounting(4) ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 110 Ì Ì Ì

Transfers-in during the period(5) ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 19ÌÌÌ

Ending balanceÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ $ 299 $ 265 $ 224 $ 229

Charge-oÅs, net to total mortgage portfolio(6) ÏÏÏÏÏÏÏÏÏÏÏ 0.9bp 0.8bp 0.4bp 0.8bp

Coverage ratio (reserves to charge-oÅs, net) ÏÏÏÏÏÏÏÏÏÏÏÏ 2.8 3.0 6.1 3.4

(1) Information for the year ended December 31, 1999 is omitted because we did not restate our consolidated Ñnancial statements for

periods prior to 2000.

(2) Includes Reserves for loans held for investment in the Retained portfolio and Reserves for guarantee losses on Participation

CertiÑcates. See ""NOTE 6: LOAN LOSS RESERVES'' to the consolidated Ñnancial statements for more details.

(3) Includes recoveries of charge-oÅs primarily resulting from foreclosure alternatives and REO acquisitions on loans where the primary

default risk has been assumed by servicers, mortgage insurers, or third parties through credit enhancements. Recoveries of chargeoÅs through credit enhancements are limited in many instances to amounts less than the full amount of the loss.

(4) On January 1, 2003, that portion of recognized guarantee obligations that was attributable to estimated incurred losses on outstanding

PCs or Structured Securities, of $110 million, was reclassiÑed to Reserve for guarantee losses on Participation CertiÑcates.

(5) Represents estimated losses that were incurred in 2003 related to PCs and Structured Securities transferred to third parties in 2003.

(6) Calculated using the average total mortgage portfolio, excluding non-Freddie Mac mortgage-related securities and that portion of

Structured Securities that is backed by Ginnie Mae CertiÑcates.

We maintain our two loan loss reserves Ì Reserve for losses on mortgage loans held for investment and

Reserve for guarantee losses on Participation CertiÑcates Ì at levels we deem adequate to absorb probable

losses on mortgage loans held for investment in the Retained portfolio and certain mortgages underlying PCs

held by third parties. In certain circumstances, incurred losses related to PCs we hold are captured in our PC

residuals, which represent the fair value of the PCs related to guarantee asset and guarantee obligation. See

""CRITICAL ACCOUNTING POLICIES Ì Loan Loss Reserves'' and ""NOTE 1: SUMMARY OF

SIGNIFICANT ACCOUNTING POLICIES'' to the consolidated Ñnancial statements for further

information.

Loan loss reserves are increased through periodic charges to the provision for credit losses and decreased

by charges-oÅs, net of recoveries. We record charge-oÅs to the loan loss reserves when the loss is speciÑcally

identiÑable and virtually certain. For mortgages that are transferred to REO or involved in a pre-foreclosure

sale, we record losses at the time of transfer or sale. For loans that have been modiÑed, losses are recorded at

the time of modiÑcation if the modiÑcation is a troubled debt restructuring.

As shown in ""Table 67 Ì Loan Loss Reserves Activity,'' total loan loss reserves increased in 2003. This

increase was primarily due to the transfer-in of $129 million as a result of the reclassiÑcation of incurred losses

previously included in the ""Guarantee obligation for Participation CertiÑcates'' in conjunction with the

implementation of FIN 45 and the ongoing recognition of the portion of the guarantee obligation that

represents incurred losses for PCs initially established at fair value, oÅset by higher net charge-oÅs recorded

during 2003.

Credit Risk Sensitivity. As a part of our voluntary disclosure commitments made in October 2000, we

provide public disclosure of credit risk sensitivity results on a quarterly basis. The credit risk sensitivity analysis

assesses the assumed increase in the present value of expected single-family mortgage portfolio losses over

10 years as the result of an estimated instantaneous 5 percent decline in house prices nationwide, followed by a

return to more normal growth in house prices based on historical experience. An internally developed Monte

Carlo simulation-based model is used to generate our credit risk sensitivity analyses. The Monte Carlo model

uses an interest rate simulation program to generate numerous interest rate paths that, in conjunction with a

Freddie Mac

140
prepayment model, are used to estimate mortgage cash Öows along each path. We use this same model to

calculate the expected default cost component of the ""Guarantee obligation on Participation CertiÑcates'' and

to estimate expected future default costs of mortgage loans and mortgage-related securities. In this analysis,

we adjust the house-price assumption used in the base case to estimate the level and sensitivity of potential

credit costs resulting from a sudden decline in housing prices. See ""NOTE 2: TRANSFERS OF SECURITIZED INTERESTS IN MORTGAGE-RELATED ASSETS'' to the consolidated Ñnancial statements for

more information.

The credit risk sensitivity results are shown in Table 68. The credit-risk sensitivity results show an

estimated increase of $84 million in the net present value of the increase in credit losses of $533 million after

receipt of credit enhancements as of December 31, 2003 compared to December 31, 2002. Credit risk

sensitivity results as of the end of each quarter in 2003 and the Ñrst two quarters of 2004 are presented in

""VOLUNTARY COMMITMENTS.''

Table 68 Ì Credit Risk Sensitivity Ì Estimated Net Present Value (NPV) of Increase in Credit Losses(1)

Before Receipt of Credit After Receipt of Credit

Enhancements(2) Enhancements(3)

NPV NPV Ratio(4) NPV NPV Ratio(4)

(dollars in millions, except ratios)

As of:

December 31, 2003 ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ $926 7.9bps $533 4.6bps

December 31, 2002 ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ $948 8.5bps $449 4.0bps

(1) Based on single-family total mortgage portfolio, excluding non-Freddie Mac mortgage-related securities and that portion of

Structured Securities that is backed by Ginnie Mae CertiÑcates.

(2) Assumes that none of the credit enhancements currently covering our mortgages has any mitigating impact on our credit losses.

(3) Assumes we collect amounts due from credit enhancement providers after giving eÅect to certain assumptions about counterparty

default rates.

(4) Calculated as the ratio of net present value of increase in credit losses to the single-family total mortgage portfolio, excluding nonFreddie Mac mortgage-related securities and that portion of Structured Securities that is backed by Ginnie Mae CertiÑcates.

Institutional Credit Risk

We are subject to credit risk from institutional counterparties to the extent they do not fulÑll their

obligations to us under the terms of speciÑc contracts or agreements. Our primary institutional credit risk

exposure, other than counterparty credit risk exposure relating to derivatives (which is discussed in ""InterestRate Risk and Other Market Risks Ì Derivative-Related Risks Ì Derivative Counterparty Credit Risk''),

arises from agreements with the following entities:

‚ Mortgage seller/servicers;

‚ Mortgage insurers;

‚ Issuers or guarantors of, or third party providers of credit enhancements on, non-Freddie Mac

mortgage-related securities held in our Retained portfolio;

‚ Mortgage investors and originators; and

‚ Issuers, guarantors and insurers of investments held in our cash and investments portfolio.

Mortgage Seller/Servicers. We are exposed to institutional credit risk arising from the insolvency of

mortgage seller/servicers that remit to us monthly principal and interest payments on mortgages, provide

credit enhancements such as recourse or collateral and represent and warrant that mortgages were originated

in compliance with our standards (see ""Mortgage Credit Risk Ì Mortgage Credit Risk Management

Strategies Ì Credit Enhancements'' for more information). Our exposure includes mortgage seller/servicers

who have agreed to repurchase or accept losses on certain loans that default or do not comply with our

standards. To protect us against this risk, we require servicers to meet minimum net worth, insurance and

other eligibility requirements, and we institute remedial actions against mortgage seller/servicers that fail to

comply with our standards. These actions may include transferring mortgage servicing to other qualiÑed

servicers or terminating our relationship with the mortgage seller/servicer. Due to the large number of Ñrms

competing in the mortgage servicing market, we have not experienced diÇculty in Ñnding replacement

Freddie Mac

141
servicers to accept transfers of servicing on mortgages owned by us when servicers are unable or unwilling to

meet our standards of performance.

We manage the credit quality of our multifamily mortgage purchases by establishing strict institutional

eligibility requirements for mortgage seller/servicers that participate in our multifamily programs. These

seller/servicers must also meet our standards for originating and servicing multifamily loans. We conduct

regular quality control reviews of our multifamily mortgage seller/servicers to determine whether they remain

in compliance with our standards.

Mortgage Loan Insurers. We bear institutional credit risk relating to the non-performance of mortgage

insurers that insure purchased or guaranteed mortgages (see ""Mortgage Credit Risk Ì Mortgage Credit Risk

Management Strategies Ì Credit Enhancements'' for more information). We manage this risk by regularly

monitoring our exposure to individual mortgage insurers. We monitor the mortgage insurers' credit ratings, as

provided by nationally recognized credit rating agencies. In addition, we periodically review the methods used

by the credit rating agencies. We also perform periodic on-site audits of mortgage insurers to conÑrm

compliance with our eligibility requirements and to evaluate their management and control practices. In

addition, state insurance authorities regulate mortgage insurers. Substantially all mortgage insurers providing

primary mortgage insurance and pool insurance coverage on single-family mortgages purchased during 2003

were rated ""AA'' or better by S&P. At December 31, 2003, there were 6 mortgage insurers, the largest being

Mortgage Guarantee Insurance Corporation, that each provided more than 5 percent of our total mortgage

insurance coverage (including primary mortgage insurance and pool insurance) and together accounted for

approximately 95 percent of our overall coverage.

Non-Freddie Mac Mortgage-Related Securities. Investments for our Retained portfolio expose us to

institutional credit risk on non-Freddie Mac mortgage-related securities to the extent that issuers or

guarantors, or third parties providing credit enhancements, become insolvent. Table 69 summarizes the credit

characteristics of our non-Freddie Mac mortgage-related securities.

Table 69 Ì Credit Characteristics of Non-Freddie Mac Mortgage-Related Securities(1)

December 31,

2003 2002

Dollars in % AAA Dollars in % AAA

Millions Rated(2) Millions Rated(2)

Agency mortgage-related securities:

Fannie MaeÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ $ 74,529 100% $ 78,829 100%

Ginnie Mae ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 2,760 100 4,878 100

Total agency mortgage-related securitiesÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 77,289 100 83,707 100

Non-agency mortgage-related securities:

Single-family and other mortgage-related securities(3)ÏÏÏÏÏ 72,161 100 43,799 99

Commercial mortgage backed securities(4) ÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 33,055 99 24,559 99

Mortgage revenue bonds(5) ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 7,772 77 7,640 81

Manufactured housing(6) ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 1,784 42 2,394 48

Total non-agency mortgage-related securities ÏÏÏÏÏÏÏÏÏÏ 114,772 97 78,392 96

Total non-Freddie Mac mortgage-related securities ÏÏÏÏÏÏÏÏÏ $192,061 98 $162,099 98

(1) See ""Table 1 Ì Freddie Mac's Total Mortgage Portfolio Based on Unpaid Principal Balances'' for more information.

(2) Includes percentage of non-Freddie Mac mortgage-related securities rated ""AAA'' or equivalent. Agency mortgage-related securities

are generally not separately rated by credit rating agencies, but are viewed as having a level of credit quality at least equivalent to

non-agency mortgage securities rated AAA. Credit rating of non-agency mortgage-related securities is designated by at least two

nationally recognized credit rating agencies.

(3) Among other categories of securities, includes securities backed by subprime home equity loans, which are typically Ñrst-lien

mortgages made to borrowers with a higher risk of default.

(4) Consists of commercial mortgage securities backed by pools of loans including signiÑcant amounts of multifamily mortgages.

(5) Consists of obligations of state and political subdivisions.

(6) 84 percent and 100 percent of mortgage-related securities backed by manufactured housing were rated BBB or above at

December 31, 2003 and 2002, respectively. For the same periods, 90 percent and 84 percent of these securities were credit-enhanced.

See ""NOTE 1: SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES'' to the consolidated Ñnancial statements for our

impairment policies.

Our non-Freddie Mac mortgage-related securities portfolio consists of both agency and non-agency

mortgage securities. Agency mortgage-related securities, which are securities issued, guaranteed, or both

Freddie Mac

142
issued and guaranteed by Fannie Mae and Ginnie Mae, present minimal institutional credit risk exposure to us

due to the high credit quality of the issuers and guarantors. Agency mortgage-related securities are generally

not separately rated by credit rating agencies, but are viewed as having a level of credit quality at least

equivalent to non-agency mortgage securities rated AAA (based on the S&P rating scale or an equivalent

rating from other nationally recognized rating agencies). At December 31, 2003, we held approximately

$77 billion of agency securities, representing approximately 6 percent of our total mortgage portfolio (see

""Table 1 Ì Freddie Mac's Total Mortgage Portfolio Based on Unpaid Principal Balances'' for more

information about our total mortgage portfolio).

Non-agency mortgage securities expose us to some institutional credit risk, which is mitigated through

credit enhancements such as bond insurance. Substantially all of the bond insurers providing coverage for nonagency mortgage securities held by us were rated AAA or equivalent by at least one nationally recognized

credit rating agency. At December 31, 2003, we held approximately $115 billion of non-agency mortgage

securities, representing approximately 8 percent of our total mortgage portfolio. Of this amount, 97 percent

were rated AAA or equivalent.

We manage institutional credit risk on non-Freddie Mac mortgage-related securities by only purchasing

securities that meet our stringent investment guidelines and performing ongoing analysis to evaluate the

creditworthiness of the issuers and servicers of these securities and the bond insurers that guarantee them. To

assess the creditworthiness of non-agency securities, we may perform additional analysis, including on-site

visits, veriÑcation of loan documentation, review of underwriting or servicing processes and similar due

diligence measures. In addition, management regularly evaluates these investments to determine if any

impairment in fair value requires an impairment loss recognition in earnings, warrants divestiture, or a

combination of both. See ""NOTE 1: SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES'' to

the consolidated Ñnancial statements for more information on impairments.

Mortgage Investors and Originators. We are exposed to pre-settlement risk through the purchase, sale

and Ñnancing of mortgage loans and mortgage-related securities with mortgage investors and originators,

primarily in our SS&TG business unit. Pre-settlement risk is the risk that a counterparty will not perform

under the terms of a transaction due to adverse changes in market value between trade date and settlement

date. The probability of such a default is generally remote over the short time horizon between the trade and

settlement date. We manage this risk by evaluating the creditworthiness of our counterparties and monitoring

and managing our exposures. In some instances, we may require these counterparties to post collateral.

Cash and Investments Portfolio. Institutional credit risk also arises from the insolvency of issuers or

guarantors of investments held in our cash and investments portfolio. This portfolio is used to meet both

anticipated and unanticipated liquidity and working capital requirements (See ""LIQUIDITY AND CAPITAL RESOURCES Ì Liquidity'' for more information). Instruments in this portfolio are investment grade

at the time of purchase and primarily short-term in nature, thereby signiÑcantly mitigating institutional credit

risk in this portfolio. We regularly evaluate these investments to determine if any impairment in fair value

requires an impairment loss recognition in earnings, warrants divestiture, or a combination of both. See

""LIQUIDITY AND CAPITAL RESOURCES Ì Table 38 Ì Mortgage-Related and Non MortgageRelated Securities in the Cash and Investment Portfolio'' for credit ratings of the mortgage-related and nonmortgage-related securities in the cash and investments portfolio.

Freddie Mac

143
QUARTERLY SELECTED FINANCIAL DATA

2003

1Q 2Q 3Q 4Q Full-Year

(dollars in millions)

Net interest income ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ $2,421 $2,185 $2,442 $2,450 $ 9,498

Non-interest income (loss) ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 1,243 1,827 (2,299) (1,030) (259)

Non-interest expense ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ (406) (610) (557) (648) (2,221)

Income tax (expense) beneÑt ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ (991) (1,096) 126 (241) (2,202)

Net income (loss) ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ $2,267 $2,306 $ (288) $ 531 $ 4,816

Basic earnings (loss) per common share(2) ÏÏÏÏÏÏÏÏÏÏÏ $ 3.22 $ 3.28 $(0.49) $ 0.70 $ 6.69

Diluted earnings (loss) per common share(2) ÏÏÏÏÏÏÏÏÏ $ 3.21 $ 3.27 $(0.49) $ 0.69 $ 6.68

2002

1Q 2Q 3Q 4Q Full-Year

(dollars in millions)

Net interest income(1) ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ $2,544 $2,352 $2,231 $2,398 $ 9,525

Non-interest income (loss)(1) ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ (780) 983 6,543 397 7,143

Non-interest expense ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ (354) (401) (333) (777) (1,865)

Income tax (expense) beneÑt ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ (463) (963) (2,779) (508) (4,713)

Net income (loss) ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ $ 947 $1,971 $5,662 $1,510 $10,090

Basic earnings (loss) per common share

(as previously reported)(2)(3) ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ $ 1.28 $ 2.76 $ 8.08 $ 2.11 $ 14.23

Basic earnings (loss) per common share 

(as restated)(2)(3) ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ $ 1.27 $ 2.76 $ 8.08 $ 2.11 $ 14.22

Diluted earnings (loss) per common share

(as previously reported)(2)(3) ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ $ 1.27 $ 2.74 $ 8.06 $ 2.10 $ 14.18

Diluted earnings (loss) per common share 

(as restated)(2)(3) ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ $ 1.26 $ 2.74 $ 8.06 $ 2.10 $ 14.17

(1) In accordance with interpretive guidance published by the OÇce of the Chief Accountant of the SEC, we reclassiÑed the accrual of

periodic cash settlements in accordance with the contractual terms of derivatives not designated in a qualifying hedge accounting

relationship, from Income (expense) related to derivatives, a component of Net interest income, to Derivative gains (losses), a

component of Non-interest income, for all periods presented. These reclassiÑcations, which decreased Derivative gains (losses) and

increased Income (expense) related to derivatives, totaled $130 million, $229 million, $152 million and $128 million for Ñrst, second,

third and fourth quarters of 2002, respectively, or $639 million on a full-year 2002 basis.

(2) Earnings per share is computed independently for each of the quarters presented. Due to the use of weighted-average common shares

outstanding when calculating earnings per share, the sum of the four quarters may not equal the full-year amount. Earnings per share

amounts may not recalculate due to rounding.

(3) In accordance with the requirements of EITF D-42, we restated the 2002 amount of ""Preferred stock dividends and issuance costs on

redeemed preferred stock'' reported on our consolidated statements of income. For the year ended December 31, 2002 and for the

Ñrst quarter of 2002, the restatement increased by $5 million the amount representing issuance costs on redeemed preferred stock and

therefore reduced net income available to common stockholders by $5 million. This caused a reduction in both basic and diluted

earnings per share for the same periods of $0.01 per share. See ""NOTE 1: SUMMARY OF SIGNIFICANT ACCOUNTING

POLICIES'' to the consolidated Ñnancial statements for additional information.

Freddie Mac

144
SUBSEQUENT ACCOUNTING REVISIONS

Subsequent to the announcement of our 2003 Ñnancial results in our Information Statement Supplement

dated June 30, 2004 we made the following revisions:

‚ We recorded an expense of $75 million to establish a reserve for legal proceedings arising from the

restatement. This reserve was recorded in the second quarter of 2003, the period in which many of

the legal proceedings were initiated. For additional information see ""NOTE 13: LEGAL

CONTINGENCIES'' to the consolidated Ñnancial statements;

‚ We changed the period in which we reported the $125 million OFHEO civil money penalty. This

amount is now reported in the second quarter of 2003, the period in which OFHEO commenced

its special investigation, and was previously reported in the fourth quarter of 2003. For additional

information see ""NOTE: 13: LEGAL CONTINGENCIES'' to the consolidated Ñnancial

statements; and

‚ We decreased the balance of our Accounts and other receivables, net and increased Other assets

by $306 million on the consolidated balance sheets as of December 31, 2003.

Additionally, in accordance with the requirements of EITF D-42, we restated the 2002 amount of

Preferred stock dividends and issuance costs on redeemed preferred stock reported on our consolidated

statements of income. For the year ended December 31, 2002 and for the Ñrst quarter of 2002, the restatement

increased by $5 million the amount representing issuance costs on redeemed preferred stock and therefore

reduced net income available to common stockholders by $5 million. This caused a reduction in both basic

and diluted earnings per share for the same periods of $0.01 per share. See ""NOTE 1: SUMMARY OF

SIGNIFICANT ACCOUNTING POLICIES'' in the consolidated Ñnancial statements for additional

information.

Freddie Mac

145
VOLUNTARY COMMITMENTS

The following provides updated information on the Voluntary Commitments we made in October 2000.

Additional information about our Voluntary Commitments is available on our website

(www.FreddieMac.com/investors).

Description Comments Status

1. Periodic Issuance of Subordinated

Debt:

‚ We will issue publicly traded and ‚ We did not issue any Freddie SUBS in

externally rated Freddie SUBS on a 2003. As a result of not having timely

semi-annual basis. consolidated Ñnancial statements, our

ability to issue subordinated debt may

be limited.

‚ Freddie SUBS will be issued in an ‚ At December 31, 2003, the ratio of ‚ As of December 31, 2003, we met this

amount such that ""Voluntary Voluntary Commitments' capital less commitment.

Commitments' capital'' less 0.45 percent of Outstanding PCs and

0.45 percent of Outstanding PCs and Structured Securities held by third

Structured Securities held by third parties to total assets, was 4.4 percent.

parties will equal or exceed 4 percent

of on-balance sheet assets by October

2003. Voluntary Commitments' capital

is deÑned as the sum of Core capital

(eÅectively equal to Stockholders'

equity less AOCI, net of taxes), loan

loss reserves and Freddie SUBS

outstanding.

‚ We cannot determine this ratio as of ‚ We plan to update our disclosure for

the end of any period in 2004 with this commitment following the release

speciÑcity until we release the of our 2004 consolidated Ñnancial

consolidated Ñnancial statements for statements.

the relevant period.

Freddie Mac

146
VOLUNTARY COMMITMENTS (continued)

Description Comments Status

2. Liquidity Management and

Contingency Planning:

‚ We will comply with principles of ‚ For purposes of this commitment, we ‚ As of December 31, 2003, we met this

sound liquidity management set forth will maintain liquidity needed to meet commitment.

by the Basel Committee on Banking our obligations to pay principal and

Supervision and will maintain more interest related to our outstanding debt

than three months' worth of liquidity maturities, to pay PC investors the

(based on internal forecasts) assuming amounts due to them, to purchase

we have no access to new issue public mortgage loans and mortgage-related

debt markets. securities that we have committed to

purchase as well as to fund operating

expenditures. To fund these obligations

in the event of market disruption, we

could sell securities from our Retained

portfolio, and liquidate non-mortgage

investments or liquidate mortgagerelated investments held by SS&TG,

both of which are a component of Cash

and Investments as reported on our

consolidated balance sheet. In

addition, we could borrow against

mortgage-related securities that are a

component of our Retained portfolio

by executing transactions in the

repurchase agreement market. (Our

ability to execute these and other

strategies may be adversely aÅected by

market conditions, operational

constraints and other factors.)

‚ In implementing this commitment, we ‚ Assets that meet this deÑnition include ‚ As of December 31, 2003, we met this

will maintain at least 5 percent of on- cash and cash equivalents (excluding commitment.

balance sheet assets in liquid, operating cash accounts, cash posted as

marketable, non-mortgage securities. collateral by derivative counterparties

We will also maintain additional, liquid and certain other balances), various

mortgage securities for use as collateral non-mortgage investments such as

in short-term borrowings from dealer municipal bonds, corporate bonds,

counterparties. asset-backed securities, commercial

paper and certain securities purchased

under agreements to resell (reverse

repos). These assets do not include

investments or reverse repos held by

SS&TG or as part of our external

money manager program.

‚ We cannot determine the percentage ‚ We plan to update our disclosures for

of on-balance sheet assets in liquid, this commitment following the release

marketable, non-mortgage securities as of our 2004 consolidated Ñnancial

of the end of any period in 2004 with statements.

speciÑcity until we release the

consolidated Ñnancial statements for

the relevant period.

3. Interest-Rate Risk Disclosures

We will provide public disclosure of The monthly average PMVS-L and

interest-rate risk sensitivity results on a PMVS-YC for December 2003 was 3

monthly basis. SpeciÑcally, we will and 0 percent, respectively. 2004's

disclose the PMVS-L, which shows the monthly average PMVS results and

expected impact on our portfolio market related disclosures are provided in our

value from an immediate, adverse 50 Monthly Volume Summary, which is

basis point parallel shift in the yield available on our website,

curve. We will also disclose the PMVS- www.FreddieMac.com/investor.

YC, which shows the same impact from

an immediate, adverse 25 basis point

change in the slope of the yield curve.

Freddie Mac

147
VOLUNTARY COMMITMENTS (continued)

Description Comments Status

4. Credit Risk Disclosures:

We will provide public disclosure of An internally developed Monte Our quarterly credit risk sensitivity

credit risk sensitivity results on a Carlo simulation-based model is estimates are as follows:

quarterly basis. Compared to a base used to generate our credit risk

case in which house prices on sensitivity analyses. We use this

average rise at rates consistent with same model to calculate the

long-term trends, these disclosures expected default cost component of

show the increase in the present the Guarantee obligation on

value of expected single-family Participation CertiÑcates and to

credit losses to Freddie Mac over a estimate expected future default

10-year period assuming an costs of mortgage loans and

immediate 5 percent decline in mortgage-related securities. In this

house prices followed by a analysis, we adjust the house-price

resumption of the same long-term assumption used in the base case to

trend in house-price appreciation as estimate the level and sensitivity of

in the base case. potential credit costs associated with

our existing single-family mortgage

portfolio. See ""NOTE 2:

TRANSFERS OF SECURITIZED

INTERESTS IN MORTGAGERELATED ASSETS'' to the

consolidated Ñnancial statements for

more information.

Before Receipt After Receipt of Credit of Credit Enhancements(1)(2) Enhancements(1)(3)

NPV NPV

NPV Ratio(4) NPV Ratio(4)

(dollars in (dollars in

millions) millions)

As of:

06/30/04(5)$873 7.3 bps $522 4.4 bps

03/31/04(5) 872 7.4 bps 503 4.3 bps

12/31/03 926 7.9 bps 533 4.6 bps

09/30/03 947 8.5 bps 537 4.8 bps

06/30/03 931 8.6 bps 493 4.6 bps

03/31/03 933 8.5 bps 493 4.5 bps

12/31/02 948 8.5 bps 449 4.0 bps

(1) Based on single-family total mortgage portfolio,

excluding non-Freddie Mac mortgage-related

securities and that portion of Structured Securities that is backed by Ginnie Mae CertiÑcates.

(2) Assumes that none of the credit enhancements

currently covering our mortgages has any mitigating impact on our credit losses.

(3) Assumes we collect amounts due from credit

enhancement providers after giving eÅect to

certain assumptions about counterparty default

rates.

(4) Calculated as the ratio of net present value of

increase in credit losses to the total mortgage

portfolio.

(5) 2004 information is based on preliminary portfolio balances as reported in the Monthly

Volume Summary available at our website,

www.FreddieMac.com/investors.

5. Public Disclosure of Annual

Rating:

We will obtain an annual credit rat- We have a ""risk-to-the-government'' As of May 6, 2004, S&P aÇrmed its

ing assessing risk to the government credit rating of ""AA¿'' from S&P. rating of ""AA-'' for risk-to-the-govor independent Ñnancial strength Moody's has assigned us a Bank Fi- ernment and as of June 30, 2004

from a nationally recognized statisti- nancial Strength Rating of ""A¿.'' Moody's conÑrmed its ""A-'' Bank

cal rating organization and will dis- Both of these ratings are maintained Financial Strength Rating. A comclose this rating to the public. on a surveillance basis, which means parable rating from Fitch has not yet

that the rating agencies are commit- been disclosed publicly.

ted to notify the public if the rating

is ever aÅected by a change in our

Ñnancial condition.

Freddie Mac

148
CONSOLIDATED FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA

Freddie Mac

149
REPORT OF INDEPENDENT AUDITORS

To the Board of Directors and Stockholders of Freddie Mac:

In our opinion, the accompanying consolidated balance sheets and the related consolidated statements of

income, of cash Öows, and of stockholders' equity present fairly, in all material respects, the Ñnancial position

of Freddie Mac, a stockholder-owned government-sponsored enterprise (the ""company''), and its subsidiaries

at December 31, 2003 and 2002, and the results of their operations and their cash Öows for each of the three

years in the period ended December 31, 2003, in conformity with accounting principles generally accepted in

the United States of America. These Ñnancial statements are the responsibility of the company's management.

Our responsibility is to express an opinion on these Ñnancial statements based on our audits. We conducted

our audits of these statements in accordance with auditing standards generally accepted in the United States

of America. Those standards require that we plan and perform the audit to obtain reasonable assurance about

whether the Ñnancial statements are free of material misstatement. An audit includes examining, on a test

basis, evidence supporting the amounts and disclosures in the Ñnancial statements, assessing the accounting

principles used and signiÑcant estimates made by management, and evaluating the overall Ñnancial statement

presentation. We believe that our audits provide a reasonable basis for our opinion.

We have also audited in accordance with auditing standards generally accepted in the United States of

America the supplemental consolidated fair value balance sheets of the company as of December 31, 2003 and

2002. As described in ""Note 16: Fair Value Disclosures'', the supplemental consolidated fair value balance

sheets have been prepared by management to present relevant Ñnancial information that is not provided by the

historical-cost consolidated balance sheets and is not intended to be a presentation in conformity with

generally accepted accounting principles. In addition, the supplemental consolidated fair value balance sheets

do not purport to present the net realizable, liquidation, or market value of the company as a whole.

Furthermore, amounts ultimately realized by the company from the disposal of assets or amounts required to

settle obligations may vary signiÑcantly from the fair values presented. In our opinion, the supplemental

consolidated fair value balance sheets referred to above present fairly, in all material respects, the information

set forth therein as described in ""Note 16: Fair Value Disclosures.''

As discussed in ""Note 1: Summary of SigniÑcant Accounting Policies'', the company adopted the

provisions of FASB Interpretation No. 45, ""Guarantor's Accounting and Disclosure Requirements for

Guarantees, Including Indirect Guarantees of Indebtedness of Others'' and FASB StaÅ Position 45-2

""Whether FASB Interpretation No. 45, "Guarantor's Accounting and Disclosure Requirements for Guarantees, Including Indirect Guarantees of Indebtedness of Others,' Provides Support for Subsequently Accounting for a Guarantor's Liability at Fair Value,'' as of January 1, 2003. As discussed in the same note, the

company adopted the provisions of Statement of Financial Accounting Standards No. 133, ""Accounting for

Derivative Instruments and Hedging Activities'' and the provisions of Emerging Issues Task Force No. 99-20

""Recognition of Interest Income and Impairment on Purchased and Retained BeneÑcial Interests in

Securitized Financial Assets,'' as of January 1, 2001 and April 1, 2001, respectively.

McLean, Virginia

September 9, 2004

Freddie Mac

150
FREDDIE MAC

CONSOLIDATED STATEMENTS OF INCOME

Year Ended December 31,

2003 2002 2001

(dollars in millions, except sharerelated amounts)

Interest income

Mortgage loans ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ $ 4,251 $ 4,290 $ 4,385

Mortgage-related securities in the Retained portfolio ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 29,051 30,039 26,847

Cash and investments ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 3,796 4,147 4,136

Total interest income ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 37,098 38,476 35,368

Interest expense

Short-term debt ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ (2,785) (4,303) (9,056)

Long-term debtÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ (22,083) (21,337) (17,494)

Total interest expense on debt securities ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ (24,868) (25,640) (26,550)

Due to Participation CertiÑcate investors ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ (1,641) (1,236) (1,027)

Total interest expense ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ (26,509) (26,876) (27,577)

Income (expense) related to derivatives ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ (1,091) (2,075) (343)

Net interest incomeÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 9,498 9,525 7,448

Non-interest income

Management and guarantee income (includes interest on Guarantee asset for

Participation CertiÑcates of $244, $242 and $252) ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 1,638 1,516 1,392

Gains (losses) on ""Guarantee asset for Participation CertiÑcates, at fair value''ÏÏÏÏÏÏÏ (1,461) (2,176) (789)

Income (expense) on ""Guarantee obligation for Participation CertiÑcates''ÏÏÏÏÏÏÏÏÏÏÏ 925 592 203

Derivative gains (losses) ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 39 5,302 (2,313)

Hedge accounting gains (losses) ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 644 187 (294)

Gains (losses) on investment activity ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ (1,114) 1,799 191

Gains (losses) on debt retirement ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ (1,775) (674) (356)

Resecuritization fees ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 352 276 135

Other income ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 493 321 229

Non-interest income (loss) ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ (259) 7,143 (1,602)

Non-interest expense

Provision for credit losses ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ (10) (128) (32)

REO operations income (expense) ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 23 13 (7)

Salaries and employee beneÑts ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ (624) (593) (537)

Occupancy expense ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ (52) (42) (35)

Housing tax credit partnerships ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ (200) (160) (121)

Minority interests in earnings of consolidated subsidiaries ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ (157) (184) (208)

Other expenses ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ (1,201) (771) (452)

Non-interest expense ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ (2,221) (1,865) (1,392)

Income before income tax expense and cumulative eÅect of change in accounting

principles ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 7,018 14,803 4,454

Income tax expense ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ (2,202) (4,713) (1,339)

Income before cumulative eÅect of change in accounting principles, net of taxes ÏÏÏÏÏÏÏÏ 4,816 10,090 3,115

Cumulative eÅect of change in accounting principles, net of taxes of $24 ÏÏÏÏÏÏÏÏÏÏÏÏÏÏ Ì Ì 43

Net income ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ $ 4,816 $ 10,090 $ 3,158

Preferred stock dividends and issuance costs on redeemed preferred stock (including

$Ì, $5 and $Ì of issuance costs on redeemed preferred stock)ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ (216) (239) (217)

Net income available to common stockholders ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ $ 4,600 $ 9,851 $ 2,941

Basic earnings per common share before cumulative eÅect of change in accounting

principles, net of taxes ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ $ 6.69 $ 14.22 $ 4.19

Cumulative eÅect of change in accounting principles, net of taxes ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ Ì Ì 0.06

Basic earnings per common share after cumulative eÅect of change in accounting

principles, net of taxes ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ $ 6.69 $ 14.22 $ 4.25

Diluted earnings per common share before cumulative eÅect of change in accounting

principles, net of taxes ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ $ 6.68 $ 14.17 $ 4.17

Cumulative eÅect of change in accounting principles, net of taxes ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ Ì Ì 0.06

Diluted earnings per common share after cumulative eÅect of change in accounting

principles, net of taxes ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ $ 6.68 $ 14.17 $ 4.23

Weighted average common shares outstanding (thousands)

Basic ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 687,094 692,727 692,603

DilutedÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 688,675 695,116 695,973

Dividends per common share ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ $ 1.04 $ 0.88 $ 0.80

The accompanying notes are an integral part of these Ñnancial statements.

Freddie Mac

151
FREDDIE MAC

CONSOLIDATED BALANCE SHEETS

December 31, December 31,

2003 2002

(dollars in millions)

Assets

Retained portfolio Mortgage loans:

Held for investment, at amortized cost ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ $ 57,804 $ 57,483

Reserve for losses on mortgage loans held for investment ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ (174) (177)

Held for sale, at lower of cost or market value ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 2,530 6,635

Mortgage loans, net of reserve ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 60,160 63,941

Mortgage-related securities:

Available for sale, at fair value (includes $282 and $367 pledged as collateral that may be

repledged) ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 581,326 496,265

Trading, at fair value (includes $32 and $89 pledged as collateral that may be repledged) ÏÏÏÏÏ 18,200 29,104

Participation CertiÑcate residuals, at fair valueÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 671 412

Total mortgage-related securities ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 600,197 525,781

Retained portfolio ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 660,357 589,722

Cash and investments

Cash and cash equivalents ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 23,142 10,792

Investments:

Mortgage-related securities:

Trading, at fair value (includes $6 and $2 pledged as collateral that may be repledged) ÏÏÏÏÏÏÏ 32,817 32,366

Participation CertiÑcate residuals, at fair valueÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ (5) 8

Non-mortgage-related securities:

Available for sale, at fair value (includes $Ì and $350 pledged as collateral that may be

repledged) ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 31,228 66,419

Trading, at fair value (includes $23 and $62 pledged as collateral that may be repledged) ÏÏÏÏÏ 1,314 2,409

Total non-mortgage-related securitiesÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 32,542 68,828

Total mortgage-related and non-mortgage-related securities ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 65,354 101,202

Securities purchased under agreements to resell and Federal funds sold ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 20,582 23,043

Cash and investments ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 109,078 135,037

Accounts and other receivables, net ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 8,067 10,611

Derivative assets, at fair value ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 16,180 10,393

Guarantee asset for Participation CertiÑcates, at fair value ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 3,686 2,445

Real estate owned, net ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 795 594

Other assets ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 5,286 3,447

Total assetsÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ $803,449 $752,249

Liabilities and stockholders' equity

Debt securities, net

Senior debt:

Due within one year ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ $295,262 $244,429

Due after one year ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 438,738 415,662

Subordinated debt, due after one year ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 5,613 5,605

Total debt securities, net ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 739,613 665,696

Due to Participation CertiÑcate investorsÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 13,205 35,080

Accrued interest payable ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 7,345 7,286

Guarantee obligation for Participation CertiÑcates ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 2,904 1,427

Derivative liabilities, at fair value ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 357 967

Reserve for guarantee losses on Participation CertiÑcates ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 125 88

Other liabilities ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 6,484 8,066

Total liabilities ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 770,033 718,610

Commitments and contingencies

Minority interests in consolidated subsidiaries ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 1,929 2,309

Stockholders' equity

Preferred stock, at redemption value ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 4,609 4,609

Common stock, $0.21 par value, 726,000,000 shares authorized, 725,882,280 shares issued and

688,573,911 shares and 687,375,999 shares outstanding, respectively ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 152 152

Additional paid-in capitalÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 814 744

Retained earnings ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 28,837 24,955

Accumulated other comprehensive income (loss), (AOCI) net of taxes, related to:

Available-for-sale securities ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 6,349 12,217

Cash Öow hedge relationships ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ (7,837) (9,877)

Minimum pension liability ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ (10) Ì

Total accumulated other comprehensive income (loss), net of taxes ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ (1,498) 2,340

Treasury stock, at cost, 37,308,369 shares and 38,506,281 shares, respectively ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ (1,427) (1,470)

Total stockholders' equity ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 31,487 31,330

Total liabilities and stockholders' equityÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ $803,449 $752,249

The accompanying notes are an integral part of these Ñnancial statements.

Freddie Mac

152
FREDDIE MAC

CONSOLIDATED STATEMENTS OF STOCKHOLDERS' EQUITY

Year Ended December 31,

2003 2002 2001

Shares Amount Shares Amount Shares Amount

(dollars and shares in millions)

Preferred stock, at redemption value

Balance, beginning of yearÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 92 $ 4,609 92 $ 4,596 64 $ 3,195

Preferred stock issuances ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ Ì Ì 6 300 28 1,401

Preferred stock redemptions ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ Ì Ì (6) (287) Ì Ì

Preferred stock, end of yearÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 92 4,609 92 4,609 92 4,596

Common stock, par value

Balance, beginning of yearÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 726 152 726 152 726 152

Common stock, end of year ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 726 152 726 152 726 152

Additional paid-in capital

Balance, beginning of yearÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 744 671 624

Stock-based compensation, before tax eÅect of $23, $23

and $21 ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 64 65 60

Income tax beneÑt from employee stock option exercises ÏÏ 16 16 30

Preferred stock issuance costs ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ Ì (2) (13)

Common stock issuances ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ (10) (6) (30)

Additional paid-in capital, end of year ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 814 744 671

Retained earnings

Balance, beginning of yearÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 24,955 15,710 13,326

Net income ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 4,816 10,090 3,158

Preferred stock dividends declared ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ (216) (234) (217)

Common stock dividends declared ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ (718) (611) (557)

Retained earnings, end of year ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 28,837 24,955 15,710

AOCI, net of taxes

Balance, beginning of yearÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 2,340 (557) 1,084

Changes in unrealized gains (losses) related to availablefor-sale securities, net of reclassiÑcation adjustmentsÏÏÏÏ (5,868) 8,017 3,116

Changes in unrealized gains (losses)related to cash Öow

hedge relationships, net of reclassiÑcation adjustments ÏÏ 2,040 (5,120) (2,117)

Change in minimum pension liability ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ (10) Ì Ì

Cumulative eÅect of change in accounting principle ÏÏÏÏÏÏ Ì Ì (2,640)

AOCI, net of taxes, end of year ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ (1,498) 2,340 (557)

Treasury stock, at cost

Balance, beginning of yearÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 39 (1,470) 31 (948) 33 (1,024)

Common stock issuances ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ (2) 43 (1) 33 (2) 76

Common stock repurchasesÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ Ì Ì 9 (555) Ì Ì

Treasury stock, end of yearÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 37 (1,427) 39 (1,470) 31 (948)

Total stockholders' equity ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ $31,487 $31,330 $19,624

Comprehensive income

Net income ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ $ 4,816 $10,090 $ 3,158

Changes in AOCI, net of taxes, net of reclassiÑcation

adjustments ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ (3,838) 2,897 (1,641)

Total comprehensive income ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ $ 978 $12,987 $ 1,517

The accompanying notes are an integral part of these Ñnancial statements.

Freddie Mac

153
FREDDIE MAC

CONSOLIDATED STATEMENTS OF CASH FLOWS

Year Ended December 31,

2003 2002 2001

(dollars in millions)

Cash Öows from operating activities

Net incomeÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ $ 4,816 $ 10,090 $ 3,158

Adjustments to reconcile net income to net cash provided by operating activities:

Cumulative eÅect of change in accounting principles (pre-tax) ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ Ì Ì (67)

Hedge accounting (gains) losses ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ (644) (187) 294

Unrealized (gains) losses on derivatives not in hedge accounting relationships, net ÏÏÏ (1,079) (5,941) 1,857

Asset amortization Ì premiums, discounts and hedging basis adjustments ÏÏÏÏÏÏÏÏÏÏ 995 (404) (645)

Debt amortization Ì premiums and discounts on long-term debt and hedging basis

adjustments ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 2,458 1,272 547

Losses on debt retirementÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 1,775 674 356

Provision for credit losses ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 10 128 32

(Gains) losses on investment activity ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 2,625 (1,784) (231)

(Decrease) increase in deferred income taxes ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 737 2,690 (245)

Purchases of held-for-sale mortgages ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ (82,074) (55,275) (24,837)

Sales of held-for-sale mortgages ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 84,329 49,035 20,362

Repayments of held-for-sale mortgages ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 390 1,097 262

Net decrease in trading securities ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 8,935 7,170 2,535

Change in accounts and other receivables, netÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 4,206 1,678 1,345

Change in amounts due to Participation CertiÑcate investors, net ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ (21,875) 7,705 20,879

Change in accrued interest payable ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ (40) 344 1,237

Change in income taxes payable ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ (1,090) (484) 601

Change in Guarantee asset for Participation CertiÑcates, at fair valueÏÏÏÏÏÏÏÏÏÏÏÏÏÏ (1,362) 711 (381)

Change in Guarantee obligation for Participation CertiÑcates ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 1,606 272 378

Change in Participation CertiÑcate residuals, at fair valueÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ (389) 326 (9)

Other, net ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 153 2,647 (2,639)

Net cash provided by operating activities ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 4,482 21,764 24,789

Cash Öows from investing activities

Purchases of available-for-sale securities ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ (446,036) (451,510) (387,561)

Proceeds from sales of available-for-sale securities ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 142,167 172,964 102,771

Proceeds from maturities of available-for-sale securitiesÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 243,390 182,955 141,699

Purchases of held-for-investment mortgages ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ (18,602) (13,656) (13,735)

Repayments of held-for-investment mortgages ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 15,841 13,372 13,197

Proceeds from sales of REO ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 1,369 980 771

Net decrease (increase) in securities purchased under agreements to resell and

Federal funds sold ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 2,461 10,457 (24,084)

Derivative premiums and terminations, net ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 3,333 (4,062) (2,202)

Investments in housing tax credit partnerships ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ (32) (65) (77)

Net cash used for investing activitiesÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ (56,109) (88,565) (169,221)

Cash Öows from Ñnancing activities

Proceeds from issuance of short-term debtÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 900,073 2,048,131 2,455,070

Repayments of short-term debt ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ (882,000) (2,100,103) (2,362,620)

Proceeds from issuance of long-term debt ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 258,371 269,386 205,213

Repayments of long-term debtÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ (210,841) (141,257) (150,316)

Repayments of minority interest in consolidated subsidiariesÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ (376) (350) (325)

Proceeds from issuance of preferred stock, net of issuance costsÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ Ì 298 1,388

Redemption of preferred stockÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ Ì (287) Ì

Proceeds from issuance of common stock ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 33 27 46

Repurchases of common stockÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ Ì (555) Ì

Payment of cash dividends on preferred stock and common stock ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ (934) (845) (774)

Repayments of housing tax credit partnerships notes payable ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ (349) (316) (186)

Net cash provided by Ñnancing activities ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 63,977 74,129 147,496

Net increase (decrease) in cash and cash equivalents ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 12,350 7,328 3,064

Cash and cash equivalents at beginning of period ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 10,792 3,464 400

Cash and cash equivalents at end of period ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ $ 23,142 $ 10,792 $ 3,464

Supplemental cash Öow information

Cash paid for:

Interest ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ $ 22,852 $ 21,994 $ 18,324

Derivative interest carry ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 578 3,239 244

Income taxes ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 2,538 2,491 977

Non-cash investing and Ñnancing activities:

Securitized and retained available-for-sale securities formed from prior period

purchases of held-for-sale mortgagesÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 1,681 2,910 362

Transfers from mortgage loans to REO ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 1,663 1,197 910

Investments in housing tax credit partnerships Ñnanced by notes payable ÏÏÏÏÏÏÏÏÏÏÏ 702 896 427

Transfers from available-for-sale securities to trading securities in conjunction with

the implementation of SFAS 133 ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ Ì Ì 36,336

Transfers from held-for-sale mortgages to held-for-investment mortgages ÏÏÏÏÏÏÏÏÏÏÏ 179 209 411

The accompanying notes are an integral part of these Ñnancial statements.

Freddie Mac

154
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

NOTE 1: SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES

Freddie Mac (the ""company'') is a stockholder-owned, government-sponsored enterprise (""GSE'')

established by Congress in 1970 to provide a continuous Öow of funds for residential mortgages. Freddie Mac's

obligations are the company's alone and not insured or guaranteed by the United States (""U.S.'') or any other

agency or instrumentality of the U.S.

Freddie Mac plays a fundamental role in the American housing Ñnance system, linking the domestic

mortgage market and the global capital markets. Freddie Mac's participation in the secondary mortgage

market includes providing its credit guarantee for residential mortgages originated by mortgage lenders and

investing in mortgage loans and mortgage-related securities held in Freddie Mac's Retained portfolio.

Through credit guarantee activities, Freddie Mac securitizes mortgage loans by issuing Participation

CertiÑcates (""PCs'') to third party investors. Freddie Mac also resecuritizes mortgage-related securities that

are issued by Freddie Mac, the Federal National Mortgage Association (""Fannie Mae'') or the Government

National Mortgage Association (""Ginnie Mae''), as well as nonagency entities. Securities issued through

Freddie Mac's resecuritization activities are referred to as ""Structured Securities.'' Freddie Mac also

guarantees multifamily mortgage loans that support housing revenue bonds issued by third parties and it

guarantees other mortgage loans held by third parties, which are included in the deÑnition of PCs and

Structured Securities. In each case, under generally accepted accounting principles (""GAAP''), securitized

mortgage-related assets that back PCs and Structured Securities that are held by third parties are not reÖected

as assets of Freddie Mac. However, Freddie Mac does retain an obligation to guarantee the payment of

principal and interest on issued PCs and Structured Securities, which usually results in the recognition of a

guarantee asset and guarantee obligation on the company's consolidated balance sheets.

Freddie Mac's Ñnancial reporting and accounting policies conform to GAAP. Certain amounts in prior

periods have been reclassiÑed to conform to the current presentation.

Estimates

The preparation of Ñnancial statements in conformity with GAAP requires management to make

estimates and assumptions that aÅect (a) the reported amounts of assets and liabilities and disclosure of

contingent assets and liabilities at the date of the Ñnancial statements and (b) the reported amounts of

revenues and expenses during the reporting period. Actual results could diÅer from those estimates. The use of

certain estimates in preparation of the Ñnancial statements is described below.

A signiÑcant estimate that is pervasive in the company's Ñnancial statements is the estimation of fair

value for Ñnancial instruments required to be recorded at fair value under GAAP. The measurement of fair

value is fundamental to the presentation of Freddie Mac's Ñnancial condition and results of operations and, in

many instances, requires management to make complex judgments. In general, Freddie Mac records Ñnancial

instruments at an estimate of the amount at which the instrument could be bought and sold between willing

parties, in an active market and not in a forced or liquidation sale. Fair value is generally based on quoted

prices or market parameters obtained from third-party dealers or pricing services in active markets or derived

from such prices or parameters, where available. If quoted prices or market parameters are not available, fair

value is based on internal valuation models using market data inputs or internally developed assumptions,

where appropriate. The use of diÅerent pricing models and assumptions could produce materially diÅerent

estimates of fair value. See ""NOTE 16: FAIR VALUE DISCLOSURES'' for further discussion of fair value

estimates.

Estimates are also used to determine the expected future cash Öows (including the timing and amounts of

prepayments) of mortgage-related assets in the Retained portfolio, to assess the reserves for credit losses on

mortgage loans and guarantee losses on PCs, to assess Freddie Mac's legal and tax contingencies, to estimate

the expected timing and amounts of future redemptions of callable debt, and to determine other matters that

aÅect the reported amounts and disclosure of contingencies in the Ñnancial statements. In accordance with

Statement of Financial Accounting Standards (""SFAS'') No. 5 ""Accounting for Contingencies''

(""SFAS 5''), contingencies that might result in gains are not recorded prior to realization; whereas,

contingencies that result in losses are accrued currently if it is probable a liability has been incurred and the

Freddie Mac

155
amount is reasonably estimable. Loss contingencies that are considered reasonably possible are not accrued,

but are required to be disclosed. Loss contingencies that are considered to have a remote probability of

occurrence are not required to be accrued or disclosed in accordance with SFAS 5.

Consolidation

The consolidated Ñnancial statements include the accounts of the company and its subsidiaries. All

material intercompany transactions have been eliminated in consolidation. For each entity with which Freddie

Mac is involved, the company makes a determination as to whether the entity should be considered a

subsidiary of the company and included in the company's consolidated Ñnancial statements. Freddie Mac

consolidates all subsidiaries in which it holds more than 50 percent of the voting rights and has the ability to

exercise control over the entity. The company uses the equity method of accounting for companies over which

it has the ability to exercise signiÑcant inÖuence but not control. Under the equity method of accounting,

Freddie Mac reports its recorded investment as an asset on the consolidated balance sheets and recognizes its

share of the entity's net income or losses in the consolidated statements of income with an oÅset to the

recorded investment on the consolidated balance sheets. Losses are recognized up to the amount of investment

recorded.

In addition to voting interests in an entity, a controlling Ñnancial interest may also exist in entities through

arrangements that do not involve voting interests. The company evaluates entities deemed to be variable

interest entities to determine if the company is the ""primary beneÑciary'' under Financial Accounting

Standards Board (""FASB'') Interpretation No. 46, ""Consolidation of Variable Interest Entities'' (""FIN 46'').

The company implemented the revision of FIN 46, or FIN 46-R, in 2003 and adopted FIN 46-R for 2003

year-end reporting. FIN 46-R provides guidance for determining when a company must consolidate the assets,

liabilities and activities of a variable interest entity. If an entity is a variable interest entity, the company must

determine if its variable interest is signiÑcant and whether the company is the primary beneÑciary. Under

FIN 46-R, a company is considered the primary beneÑciary and must consolidate a variable interest entity

when it absorbs a majority of expected losses or expected residual returns, or both. All other entities are

evaluated for consolidation under SFAS No. 94, ""Consolidation of All Majority-Owned Subsidiaries''

(""SFAS 94''). In 2003, no variable interest entities were consolidated in accordance with FIN 46-R. The

company has signiÑcant variable interests in certain variable interest entities that are not consolidated because

the company is not the primary beneÑciary. These include certain structured Ñnance transactions, investments

in low-income housing tax credit partnerships, and asset backed securitization trusts.

The company consolidates its two majority-owned Real Estate Investment Trusts (""REITs''), Home

Ownership Funding Corporation I and Home Ownership Funding Corporation II, and certain other special

purpose entity structures. Generally, the company does not use special purpose entities in its credit

enhancement and resecuritization transactions. The company also consolidates the accounts of majorityowned West*Mac Associates Limited Partnership, the owner and developer of Freddie Mac's company

headquarters, and wholly-owned Ignition Mortgage Technology Solutions, Inc. The equity and net earnings

attributable to the minority shareholder interests which relate to the company's consolidated subsidiaries are

reported separately in the consolidated balance sheets as Minority interest in consolidated subsidiaries and in

the consolidated statements of income as Minority interest in earnings of consolidated subsidiaries,

respectively.

The company regularly invests as a limited partner in qualiÑed low-income housing tax credit partnerships that are eligible for federal tax credits. These tax credits are reported as reductions in the company's

provision for income taxes pursuant to Emerging Issues Task Force (""EITF'') Issue 94-1, ""Accounting for

Tax BeneÑts Resulting from Investments in AÅordable Housing Projects'' (""EITF 94-1''). Freddie Mac

consolidates those investments over which it has the ability to exercise control and accounts for the nonconsolidated investments using the equity method of accounting, in accordance with Statement of Position

No. 78-9, ""Accounting for Investments in Real Estate Ventures'' (""SOP 78-9''). Low-income housing tax

credit partnerships created on or after February 1, 2003 were evaluated under FIN 46-R and there was no

impact to the consolidated Ñnancial statements. Under the transition provisions of FIN 46-R, those

partnerships created prior to February 1, 2003 will be evaluated in 2004 and any impact to the consolidated

Ñnancial statements is not expected to be material. For partnerships accounted for under the equity method,

Freddie Mac's recorded investment is reported as part of Other assets and its share of partnership income or

Freddie Mac

156
loss is reported in the consolidated statements of income as Non-interest expense Ì Housing tax credit

partnerships. The company's obligations to make delayed equity contributions that are unconditional and

legally binding are recorded at their present value in Other liabilities. To the extent the company's cost basis in

qualiÑed low income housing tax credit partnerships is diÅerent than the book basis reÖected at the

partnership level, the basis diÅerence is amortized over the life of the tax credits and included in the

company's share of earnings (losses) from housing tax credit partnerships. Freddie Mac periodically reviews

these investments for impairment and adjusts them to fair value when a decline in market value below the

recorded investment is deemed to be ""other than temporary'' under GAAP. Impairment losses are included in

the consolidated statements of income as part of Non-interest expense Ì Housing tax credit partnerships.

Cash and Cash Equivalents and Statements of Cash Flows

Freddie Mac accounts for highly liquid investment securities with an original maturity of three months or

less and used for cash management purposes as cash equivalents. Cash collateral obtained from counterparties

to derivative contracts in an unrealized gain position is recorded as Cash and cash equivalents.

In the statements of cash Öows, cash Öows related to the acquisition and termination of derivatives other

than forward commitments are generally classiÑed in investing activities, without regard to whether they are

designated as a hedge of another item. Cash Öows from commitments accounted for as derivatives under

SFAS No. 133, ""Accounting for Derivative Instruments and Hedging Activities'' (""SFAS 133'') that result in

the acquisition or sale of mortgage securities or mortgage loans are classiÑed in either (a) investing activities

for available-for-sale securities or mortgage loans held for investment or (b) operating activities for trading

securities or mortgage loans held for sale. The periodic cash Öows on certain derivatives, which are recorded in

the consolidated statements of income on an accrual basis either in Income (expense) related to derivatives or

in Derivative gains (losses), are reported in operating activities. Cash Öows related to guarantee fees, including

buy-up payments and buy-down payments, are classiÑed as operating activities, along with the cash Öows

related to the collection and distribution of payments on the mortgage loans underlying PCs. Cash Öows

related to mortgage loans classiÑed as held for sale are classiÑed in operating activities unless the loans have

been securitized and retained as available-for-sale PCs within the same reporting period, in which case they

are classiÑed as investing activities. Cash Öows related to the repayment of the original issue discount on shortterm, zero-coupon debt are reported as operating activities.

Freddie Mac revised certain amounts from those previously reported on the consolidated statements of

cash Öows for the years ended December 31, 2002 and 2001. One such revision was made to properly reÖect

activity related to the Multilender Program (as deÑned in ""Multilender Swap-Based Issuances of PCs''

below) which decreased the amounts Freddie Mac previously reported as cash outÖows related to the

Purchases of held-for-sale mortgages by $81,570 million and $59,962 million for the years ended December 31, 2002 and 2001, respectively, with corresponding decreases in cash inÖows related to the Sales of heldfor-sale mortgages for those periods. Another revision was made to properly reÖect the timing of cash

payments between loan servicers and Freddie Mac, which decreased the amounts Freddie Mac previously

reported as Proceeds from sales of available-for-sale securities by $3,964 million and $2,195 million for the

years ended December 31, 2002 and 2001, respectively, with corresponding increases in Change in accounts

and other receivables, net. Also, Freddie Mac revised the amount previously reported as Cash paid for

derivative interest carry in 2002 to include $1,127 million related to foreign-currency denominated swaps.

Similar amounts related to foreign-currency denominated swaps are included in Cash paid for interest

for 2001.

Freddie Mac often retains Structured Securities created through resecuritizations of mortgage-related

securities held by the company. The new Structured Securities the company acquires in these transactions are

classiÑed as available-for-sale or trading based upon the predominant classiÑcation of the mortgage-related

security collateral the company contributed. In 2003, there were $322 million of non-cash net transfers to the

available-for-sale classiÑcation from the trading classiÑcation related to resecuritization transactions.

Freddie Mac

157
Transfers of Financial Assets that Qualify as Purchases or Sales

Freddie Mac accounts for transfers of Ñnancial assets pursuant to the requirements of SFAS No. 140

""Accounting for Transfers and Servicing of Financial Assets and Extinguishments of Liabilities''

(""SFAS 140''), and, prior to April 1, 2001, SFAS No. 125 ""Accounting for Transfers and Servicing of

Financial Assets and Extinguishments of Liabilities'' (""SFAS 125''), collectively referred to as

""SFAS 125/140.'' If Freddie Mac determines that it surrenders control over assets that it transfers to a third

party, Freddie Mac accounts for such transfers as sales to the extent its counterparty provides consideration

other than beneÑcial interests in the transferred assets (e.g., cash). Likewise, if Freddie Mac determines that

it obtains control over assets that were transferred to it, it accounts for such transfers as purchases to the extent

Freddie Mac provides consideration other than beneÑcial interests in exchange for the transferred assets.

Freddie Mac accounts for cash-based transfers of Ñnancial assets that do not qualify as sales as secured

borrowings.

If a transfer of Ñnancial assets qualiÑes as a sale, Freddie Mac continues to carry on its consolidated

balance sheets any retained interests in Ñnancial assets that were securitized and/or resecuritized. Such

retained interests generally take one of two forms. First, in connection with its right to receive guarantee

payments (as further discussed below), Freddie Mac recognizes a retained interest that is classiÑed on its

consolidated balance sheets as Guarantee asset for Participation CertiÑcates, at fair value. (This retained

interest is referred to below as a GA.) Second, Freddie Mac recognizes PCs (or Structured Securities issued

by the company using PCs held in its portfolio) that are not transferred to third parties upon the completion of

a securitization of mortgage loans (or, in the case of Structured Securities, upon the resecuritization of PCs

held in portfolio). PCs and Structured Securities that are held in portfolio are accounted for pursuant to the

requirements of SFAS No. 115 ""Accounting for Certain Investments in Debt and Equity Securities''

(""SFAS 115''). The carrying amounts of all of such retained interests are determined by allocating the

previous carrying amount of the transferred assets between assets sold and the retained interests based upon

their relative fair values at the date of transfer.

Upon completion of a transfer of Ñnancial assets that qualiÑes as a sale, Freddie Mac also de-recognizes

all assets sold and recognizes all assets obtained and liabilities incurred. In this regard, Freddie Mac recognizes

the fair value of its recourse obligation to guarantee the payment of principal and interest of PCs and

Structured Securities transferred in sale transactions. The initial fair value of such recourse obligations is

intended to reÖect the estimated amount that Freddie Mac would be required to pay to a third party to be

relieved of Freddie Mac's obligations under the guarantee contract. That portion of such recourse obligations

that relates to Freddie Mac's non-contingent obligation to stand ready to perform under its guarantee is

recognized as Guarantee obligation for Participation CertiÑcates (or as a ""GO''), while that portion of such

recourse obligations that relates to incurred losses on securitized assets is recognized for consolidated balance

sheet purposes as Reserve for guarantee losses on Participation CertiÑcates. Such recourse obligations serve as

a reduction of proceeds in the calculation of the corresponding gain (loss) on the sale of transferred PCs and

Structured Securities. The fair value of a recognized recourse obligation is estimated using an expected cash

Öow approach consistent with Statement of Financial Accounting Concepts No. 7, ""Using Cash Flow

Information and Present Value in Accounting Measurements'' (""CON 7''). Such liabilities are valued

independently of corresponding GAs. The resulting gain (loss) on sale of transferred PCs and Structured

Securities is reÖected in Freddie Mac's consolidated statements of income as a component of Gains (losses)

on investment activity.

Subsequent Measurement of Recognized GAs Ì Freddie Mac views recognized GAs as Ñnancial assets

that can be prepaid or otherwise settled in a manner that may prevent Freddie Mac from recovering

substantially all of its recorded investment. As a result, Freddie Mac accounts for GAs like debt instruments

classiÑed as trading under SFAS 115. All changes in the fair value of recognized GAs are reÖected in earnings

as a component of Gains (losses) on ""Guarantee asset for Participation CertiÑcates, at fair value.'' All

guarantee-related compensation that is received in cash is reÖected in earnings as a component of

Management and guarantee income. See ""NOTE 2: TRANSFERS OF SECURITIZED INTEREST IN

MORTGAGE-RELATED ASSETS'' for a discussion of the attribution of GA-related cash Öows.

Subsequent Measurement of Recognized GOs Ì With respect to the subsequent measurement of

recognized GOs for the years ended December 31, 2001 and December 31, 2002, Freddie Mac accounts for

Freddie Mac

158
recognized GOs at fair value. All changes in fair value are reÖected in Freddie Mac's consolidated Ñnancial

statements of income as a component of Income (expense) on ""Guarantee obligation for Participation

CertiÑcates.''

With respect to the subsequent measurement of recognized GOs for the year ended December 31, 2003,

Freddie Mac subsequently measures such liabilities using a systematic and rational method of amortization.

More speciÑcally, Freddie Mac amortizes recognized GOs into earnings in proportion to the rate of unpaid

principal balance decline of securitized mortgage loans. Periodic amortization of recognized GOs is reÖected

in earnings as a component of ""Income (expense) on Guarantee obligation for Participation CertiÑcates.''

Freddie Mac subsequently measures its contingent obligation to make guarantee payments pursuant to the

provisions of SFAS 5. See discussion below in ""Recently Adopted Accounting Standards and Accounting

Changes'' for further discussion concerning the change in methods used by Freddie Mac to subsequently

measure recognized GOs.

Guarantor Swap Transactions Executed Prior to January 1, 2003

Guarantor Swaps represent transactions in which third party institutions transfer mortgage loans to

Freddie Mac in exchange for issued PCs that are backed by such mortgage loans. In return for providing its

guarantee on such issued PCs, and similar to PCs described above in ""Transfers of Financial Assets that

Qualify as Purchases or Sales,'' Freddie Mac earns a management and guarantee fee (""Required G-Fee'')

that is paid to Freddie Mac over the life of an issued PC. It is also common for buy-up or buy-down payments

(""Buy-Ups'' or ""Buy-Downs,'' respectively) to be exchanged between Freddie Mac and its counterparties

upon the issuance of a PC. Buy-Ups represent upfront payments that are made by Freddie Mac, which

increase the Required G-Fee that Freddie Mac will receive over the life of the PC in connection with its

guarantee. Buy-Downs represent upfront payments that are made to Freddie Mac, which decrease (i.e.,

partially prepay) the Required G-Fee that Freddie Mac will receive over the life of the PC in connection with

its guarantee. Moreover, Freddie Mac occasionally receives upfront, cash-based payments as additional

compensation for its guarantee of mortgage loans with certain credit risk related characteristics (""Credit

Fees''). Finally, and as additional consideration received on such exchanges, Freddie Mac receives various

types of seller-provided credit enhancements that correspond to securitized mortgage loans. The accounting

for the primary components of Guarantor Swaps executed prior to January 1, 2003 follows.

Accounting For Guarantee Fees, Buy-Up, Buy Down and Credit Fees Ì Required G-Fees (as adjusted

for Buy-Down payments received) are recognized as Management and guarantee income on an accrual basis

over the corresponding guarantee period in accordance with the provisions of EITF Issue No. 85-20,

""Recognition of Fees for Guaranteeing a Loan.''

Buy-Up amounts paid at PC issuance are recognized on the consolidated balance sheets as a GA if the

corresponding PCs are held by third parties and are accounted for like a debt security that is classiÑed as

trading under SFAS 115. If a Buy-Up was paid in connection with PCs that Freddie Mac holds, the Buy-Up is

recognized as a component of Participation CertiÑcate Residual (discussed further below).

Buy-Down and Credit Fee amounts that are received at PC issuance are deferred on Freddie Mac's

consolidated balance sheets as an adjustment of Other liabilities. These amounts are amortized into

Management and guarantee income pursuant to the requirements of SFAS No. 91. ""Accounting for

Nonrefundable Fees and Costs Associated with Originating or Acquiring Loans and Initial Direct Costs of

Leases'' (""SFAS 91'').

If Freddie Mac were to purchase and then subsequently sell for GAAP purposes a PC that was issued

prior to January 1, 2003 as part of a Guarantor Swap (and for which a GA and GO were never previously

recognized), it would recognize as a GA the fair value of its contractual right to receive guarantee fees, and

would also recognize as a GO the fair value of its obligation to guarantee the payment of principal and interest

on such securities. Such assets and liabilities would be subsequently measured in a manner that is consistent

with principles described above in ""Transfers of Financial Assets that Qualify as Purchases or Sales.''

Accounting For Guarantee Obligations Ì Freddie Mac measures its contingent obligation to make

guarantee payments pursuant to the provisions of SFAS 5.

Freddie Mac

159
Accounting For Credit Enhancements Ì Premium payments on purchased pool insurance are recognized

as Other Assets, which are amortized into non-interest expenses (a) on a straight-line basis over three-month

periods to the extent that premiums paid were quarterly-based, and (b) on a level yield basis to the extent that

Freddie Mac paid related pool insurance premiums upfront and in full. Otherwise, credit enhancements do not

receive recognition at the inception of executed Guarantor Swap transactions.

To the extent that related PCs that correspond to received credit enhancements (and for which a GA

and GO were never previously recognized) are purchased and then subsequently sold for GAAP purposes by

Freddie Mac, the fair value of received pool insurance or recourse is recognized as a component of GAs, while

the fair value of primary mortgage insurance (""PMI'') is recognized as a component of GOs. Such amounts

are subsequently measured in a manner that is consistent with principles described above in ""Transfers of

Financial Assets that Qualify as Purchases or Sales.''

Guarantor Swap Transactions Executed on or after January 1, 2003

Freddie Mac accounts for Guarantor Swaps that were executed on or after January 1, 2003 pursuant to

the requirements of FASB Interpretation No. 45, ""Guarantor's Accounting and Disclosure Requirements for

Guarantees, Including Indirect Guarantees of Indebtedness of Others'' (""FIN 45''). As exchange transactions, executed Guarantor Swap transactions are recognized by Freddie Mac at the inception of such

transactions on a fair value basis. The accounting for each of the components of Guarantor Swap transactions

executed on or after January 1, 2003 follows.

Accounting For Guarantee Fees Ì As consideration received in connection with a guarantee-related

exchange transaction, Freddie Mac recognizes the fair value of its contractual right to receive guarantee fees

as a GA at the inception of an executed guarantee. Consistent with principles described above, such assets,

which are classiÑed as Guarantee asset for Participation CertiÑcates, at fair value, are subsequently measured

on a fair value basis. All changes in the fair value of recognized GAs are reÖected in earnings as a component

of Gains (losses) on ""Guarantee asset for Participation CertiÑcates, at fair value.'' All guarantee-related

compensation that is received in cash is reÖected in earnings as a component of Management and guarantee

income.

Accounting For Guarantee Obligations Ì GOs are initially measured as the greater of (a) fair value or

(b) the contingent liability amount required by SFAS 5 to be recognized at inception of an executed

guarantee. The fair value of a recognized GO is estimated using an expected cash Öow approach consistent

with CON 7. Such liabilities are valued independently of corresponding GAs that are recognized in

connection with such transactions. That portion of Freddie Mac's estimated guarantee liability that relates to

its non-contingent obligation to stand ready to perform under a PC guarantee is recognized as Guarantee

obligation for Participation CertiÑcates, while that portion of its estimated guarantee liability that relates to its

contingent obligation to make payments under its guarantee is recognized for balance sheet purposes as

""Reserve for guarantee losses on Participation CertiÑcates.''

Freddie Mac subsequently measures recognized GOs by amortizing such liabilities into earnings in

proportion to the rate of the unpaid principal balance decline of securitized mortgage loans. Periodic

amortization of recognized GOs is reÖected in earnings as a component of Income (expense) on ""Guarantee

obligation for Participation CertiÑcates.'' Freddie Mac subsequently measures its contingent obligation to

make guarantee payments pursuant to the provisions of SFAS 5.

Accounting For Credit Enhancements Ì With respect to those credit enhancements that are received in

connection with Guarantor Swaps and other similar exchange transactions of PCs:

‚ Pool insurance is recognized as an Other asset at its fair value;

‚ Recourse and/or indemniÑcations that are provided by counterparties to Guarantor Swap

transactions are recognized at fair value as Other assets; and

‚ PMI is recognized at inception at fair value as a component of recognized GOs.

Credit enhancements that are separately recognized as Other assets are amortized into earnings as Noninterest expense. Such assets are speciÑcally amortized over related contract terms at the greater of results

calculated by amortizing recognized credit enhancements (a) in proportion to the rate of unpaid principal

Freddie Mac

160
balance decline of covered mortgage loans or (b) on a straight-line basis over a credit enhancement's contract

term.

Accounting For Inception DiÅerences Between Consideration Received and Guarantee Obligations

Incurred Ì Because GAs, GOs and credit enhancement-related assets that are recognized at the inception of

an executed Guarantor Swap are valued independently of each other, net diÅerences between such recognized

assets and liabilities may exist at inception. Net positive diÅerences between such amounts, which are

hereinafter referred to as ""Day One DiÅerences,'' are deferred on Freddie Mac's consolidated balance sheet as

a component of Guarantee obligation for Participation CertiÑcates. Net negative diÅerences between GAs,

GOs and credit enhancement-related assets that are recognized at the inception of executed Ñnancial

guarantees are expensed immediately to earnings as a component of Other expenses.

Day One DiÅerences are amortized into earnings at a rate that is commensurate with the observed

decline in the unpaid principal balance of securitized mortgage loans. Period amortization of recognized Day

One DiÅerences is reÖected in earnings as a component of Income (expense) on ""Guarantee obligation for

Participation CertiÑcates.''

Accounting For Buy-Ups, Buy-Downs and Credit Fees Ì Cash payments that are made or received in

connection with Buy-Ups and Buy-Downs are recognized as adjustments of recognized Day One DiÅerences.

Likewise, Credit Fees that are received at inception are also recognized as adjustments of recognized Day One

DiÅerences.

MultiLender Swap-Based Issuances of PCs

Freddie Mac issues PCs through its MultiLender Program that are backed by mortgage loans delivered to

Freddie Mac by more than one third party. Freddie Mac may itself contribute mortgage loans to Multilender

pools from which PCs are then issued and delivered to third parties (and to Freddie Mac, to the extent that it

contributed mortgage loans to a Multilender pool). Freddie Mac accounts for its contributions of mortgage

loans to a Multilender pool as partial sales of those assets, the sold portion of which is dependent upon the

contribution of collateral made by Freddie Mac relative to third parties. The portion of a MultiLender Swap

transaction that qualiÑes as a sale is accounted for in the same manner as transfers described above that are

accounted for as sales. The remaining portion of such PC issuances and transfers are accounted for in a

manner consistent with the accounting for PCs issued through the Guarantor Program (as described above).

PC-for-Structured Security Swap Transactions

Freddie Mac issues and transfers Structured Securities to third parties in exchange for PCs and nonFreddie Mac mortgage-related securities. Freddie Mac cannot freely pledge or exchange the securities that are

delivered to it by third parties in these exchanges. As a result, Freddie Mac does not view such exchanges as

triggering sale accounting recognition under SFAS 125/140. Additionally, Freddie Mac does not account for

such exchanges pursuant to the requirements of FIN 45. As a result, Freddie Mac does not recognize any

incremental GAs or GOs on such transactions. Rather, Freddie Mac defers and amortizes into income on a

straight-line basis that portion of the transaction fee that Freddie Mac receives on such transactions, that

relates to the estimated fair value of the company's future administrative responsibilities for issued Structured

Securities. In cases where Freddie Mac retains portions of the Structured Securities, a portion of this fee is

deferred under the requirements of SFAS 91. The balance of transaction fees received, which relates to

compensation earned in connection with structuring-related services rendered by Freddie Mac to third parties,

is recognized immediately into ""Resecuritization fees.''

Purchases of PCs or Structured Securities for Which Recognized GAs and GOs Exist

The purchase of a PC or Structured Security prompts the extinguishment of a corresponding, recognized

GO. Likewise, and where applicable, the purchase of such securities also prompts the extinguishment of the

unamortized balance of deferred Day One DiÅerences, Buy Downs and Credit Fees.

Freddie Mac records the de-recognition of an extinguished GO against earnings as a component of Gains

(losses) on investment activity. Correspondingly, recognized GAs are reduced by an amount equal to the-then

fair value of an extinguished GO, an adjustment of which is also reÖected in earnings as a component of Gains

Freddie Mac

161
(losses) on investment activity. All recognized GAs in this case are then reclassiÑed on Freddie Mac's

consolidated balance sheets as a component of ""Participation CertiÑcate residuals, at fair value.''

The unamortized balance of deferred Day One DiÅerences, Buy-Downs and Credit Fees received are

extinguished as a basis adjustment to the recognized value of purchased PCs. Like purchase discounts, such

basis adjustments are subsequently amortized into earnings as Interest income pursuant to the requirements of

SFAS 91.

PC Residuals

PC residuals relate to certain PCs or Structured Securities held by Freddie Mac and represent the fair

value of the expected future cash Öows associated with the guarantee contracts that are inherent within such

securities.

A PC residual is recognized by Freddie Mac in connection with PCs or Structured Securities held by

Freddie Mac that (a) were previously transferred to third parties as part of transactions that were accounted

for either as sales pursuant to the provisions of SFAS 125/140 sale or as guarantee transactions that are

subject to the provisions of FIN 45 (such that a GA and GO was previously-established for held PCs or

Structured Securities), (b) were formed from Cash Window Purchases and that were never transferred to

third parties, (c) were purchased by Freddie Mac from third parties in contemplation of the related issuance

of such PCs through the Guarantor Program and (d) relate to buy-ups paid in connection with purchased PCs

that had not previously been included as part of a transfer that was accounted for as a sale under

SFAS 125/140 or as part of a guarantee transaction that was subject to the provisions of FIN 45.

Like a recognized GA, a PC residual is accounted for like a debt security and is classiÑed as either

available for sale or trading under SFAS 115. PC residuals relating to PCs or Structured Securities that

previously went through either a SFAS 125/140 sale or were accounted for pursuant to FIN 45 are classiÑed

as trading under SFAS 115. PC residuals relating to PCs held in portfolio that were formed from Cash

Window Purchases and that were never transferred to third parties are accounted for like debt investments and

generally are classiÑed as available for sale under SFAS 115. The same treatment applies to PC residuals that

correspond to PCs purchased by Freddie Mac from third parties in contemplation of their issuance through

the Guarantor Program, except that any portions of these PC residuals that relate to Buy-Ups paid by Freddie

Mac are accounted for as trading investments. 

All changes in the fair value of PC residuals that are designated as trading are reÖected in earnings as a

component of Gains (losses) on investment activity. All changes in the fair value of PC residuals that are

accounted for as available-for-sale are reÖected as a component of Accumulated other comprehensive income

(loss), net of taxes (""AOCI'').

Recognized PC residuals consist of a variety of cash Öows that are primarily recorded through interest

income. See ""NOTE 2: TRANSFERS OF SECURITIZED INTERESTS IN MORTGAGE-RELATED

ASSETS'' for a discussion of the attribution of GA and PC residual-related cash Öows.

Due to Participation CertiÑcate Investors

Timing diÅerences between Freddie Mac's receipt of scheduled and unscheduled principal and interest

payments from seller/servicers on mortgages underlying PCs and the subsequent pass through of those

payments on PCs owned by third party investors results in the liability Due to Participation CertiÑcate

investors. In those cases, payments from seller/servicers are generally received in a given month, yet the PC

balance is not reduced for payments of principal until the Ñrst day of the next month, and Freddie Mac

releases the cash (principal and interest) to the PC investor on the Ñfteenth day of that next month. The

company generally invests these principal and interest amounts received in short-term investments from the

time Freddie Mac receives the amounts until the time Freddie Mac pays the PC investor. Interest income

resulting from investment of principal and interest payments from seller/servicers is reported in interest

income over the period earned.

For unscheduled principal prepayment amounts, these timing diÅerences result in an expense accrual

upon prepayment of the mortgage as the related PCs continue to bear interest to the PC investor at the PC

coupon rate from the date of prepayment until the date the PC security balance is reduced, while generally no

Freddie Mac

162
interest is received from the mortgage on that prepayment amount during that same time period. The expense

recognized upon prepayment is reported in Interest expense Ì Due to Participation CertiÑcate investors.

Freddie Mac reports PC coupon interest amounts relating to its investment in PCs consistent with the

accounting practices generally applied by third party investors in PCs. Accordingly, the PC coupon interest on

prepayments of a mortgage pending remittance on PCs held by Freddie Mac is reported as both Interest

Income-Mortgage-related securities in the Retained portfolio and Interest expense Ì Due to Participation

CertiÑcate investors. Scheduled and unscheduled principal payments received by Freddie Mac that relate to

its investment in PCs are reported as a reduction to its investment in PCs on the consolidated balance sheets.

Mortgage Loans

Mortgage loans that management may sell are classiÑed as held for sale. When the decision is made to

retain the loan, the loans are transferred to the ""held-for-investment'' portfolio. Loans transferred to the heldfor-investment portfolio are transferred at lower of cost or market value. Lower of cost or market value

adjustments, in this case, are treated as basis adjustments of such mortgage loans and are subsequently

amortized into interest income over the period held.

Held-for-sale mortgages are included in the Retained portfolio and reported at lower of cost or market

value, on a portfolio basis, with losses reported in Gains (losses) on investment activity. Consistent with SFAS

No. 65, ""Accounting for Certain Mortgage Banking Activities'' (""SFAS 65''), premiums and discounts on

loans classiÑed as held for sale are not amortized as interest revenue during the period that such loans are

classiÑed as held for sale.

Freddie Mac determines the fair value of held-for-sale mortgage loans based on comparisons to actively

traded mortgage-backed securities with similar characteristics, with an adjustment for credit and liquidity, as

discussed below, related to an implied guarantee fee. SpeciÑcally, Freddie Mac aggregates mortgage loans into

pools by product type, coupon and maturity and then converts the pools into notional mortgage-backed

securities based on their speciÑc characteristics. Freddie Mac then calculates fair values for these notional

mortgage-backed securities using the process that is described in ""Securities'' below. The fair value of the

whole loans also includes an adjustment representing the additional cash Öows on the mortgage coupon of the

whole loan in excess of the coupon expected on the notional mortgage-backed securities. This adjustment is

net of the related credit and other guarantee obligation components.

Mortgage loans that management has the ability and intent to hold for the foreseeable future or to

maturity are classiÑed as held for investment. These mortgage loans are reported at their outstanding principal

balances, net of deferred fees and costs (including premiums and discounts). These deferred items are

amortized into interest income over the estimated lives of the mortgages using the eÅective interest method.

The company uses actual prepayment experience and estimates of future prepayments to determine the

constant yield needed to apply the eÅective interest method. For purposes of estimating future prepayments,

the mortgages are aggregated by similar characteristics such as origination date, coupon and maturity.

The company recognizes interest income on mortgage loans on an accrual basis, except when management believes the collection of principal or interest is doubtful.

Reserves for Losses on Mortgage Loans Held for Investment and Losses on PCs

Freddie Mac maintains a Reserve for losses on mortgage loans held for investment to provide for credit

losses inherent in that portfolio. The Reserve for losses on mortgage loans held for investment is determined

pursuant to the provisions of SFAS 5 and SFAS No. 114, ""Accounting by Creditors for Impairment of a

Loan Ì an Amendment of FASB Statements No. 5 and 15'' (""SFAS 114'') as more fully described below.

Freddie Mac also maintains a Reserve for guarantee losses on Participation CertiÑcates to provide for losses

incurred on mortgages underlying PCs or Structured Securities held by third parties. The Reserve for

guarantee losses on Participation CertiÑcates is determined pursuant to the provisions of SFAS 5. The Reserve

for losses on mortgage loans held for investment and Reserve for guarantee losses on Participation CertiÑcates

are, for the purpose of this NOTE 1 to the Ñnancial statements, collectively referred to as loan loss reserves.

Increases in loan loss reserves are reÖected in earnings as a component of the Provision for credit losses.

Decreases in loan loss reserves are reÖected through either (a) charging-oÅ such balances (net of recoveries)

where realized losses are recorded or (b) a reduction in the Provision for credit losses.

Freddie Mac

163
Loan loss reserves are also increased upon the sale of PCs and Structured Securities for which Freddie

Mac incurred losses on the underlying mortgage loans while such securities were held by Freddie Mac. From

an earnings perspective, such incurred losses are classiÑed as a component of Gains (losses) on investment

activity. In this regard, and upon the sale of such PCs or Structured Securities, incurred losses are classiÑed on

the consolidated balance sheets as Reserve for guarantee losses on Participation CertiÑcates.

Single-family loan portfolio

In accordance with SFAS 5, Freddie Mac estimates incurred credit losses on homogeneous pools of

single-family loans using statistically-based models that evaluate a variety of factors, resulting in a range of

probable losses related to impaired single-family loans at the balance sheet date. The homogeneous pools of

single-family loans are determined based on common underlying characteristics including book year, loan-tovalue ratio and geographic region. The factors used to estimate incurred losses as of period-end include: actual

and estimated loss severity trends for similar loans; actual and estimated default experience; actual and

estimated proceeds from private mortgage insurance and other credit enhancements; actual and estimated preforeclosure real estate taxes and insurance; the year of the loan origination; geographic location; and estimated

selling costs should the underlying property ultimately be foreclosed upon and sold. Freddie Mac frequently

validates and updates the models and factors to capture changes in actual loss experience, as well as changes in

underwriting practices and in its loss mitigation strategies.

In determining the loan loss reserves for single-family loans, Freddie Mac establishes a range of probable

losses and determines the point within the range that represents the best estimate of incurred losses. Freddie

Mac also considers macroeconomic factors, including regional housing trends, applicable home price indices,

unemployment and employment dislocation trends, consumer credit statistics, recent changes in credit

underwriting practices, extent of third party insurance, and other measurable factors that inÖuence the quality

of the portfolio at the balance sheet date. Favorable trends in these macroeconomic factors produce a reserve

requirement toward the lower end of the range; adverse trends in these macroeconomic factors produce a

reserve requirement toward the higher end of the range. Management then adjusts the level of loan loss

reserves to the level required based on its best assessment of these macroeconomic factors.

Multifamily loan portfolio

Freddie Mac also estimates a range of incurred credit losses on the multifamily loan portfolio. Factors

considered in determining this range include: adequacy of third party credit enhancements and an evaluation

of the repayment prospects of, and value of collateral underlying, individual loans. The review of the

repayment prospects and value of collateral underlying individual loans occurs within the context of propertyspeciÑc and market-level risk characteristics including apartment vacancy rates, apartment rental rates, and

property sales information, under several scenarios. Management reviews the range of probable losses and

selects the point within the range that represents the best estimate of incurred losses. Loans individually

evaluated for impairment include loans that become 60 days past due for principal and interest, certain loans

with observable collateral deÑciencies, and loans whose contractual terms were modiÑed due to credit

concerns. When loan loss reserves for individual loans are established, consideration is given to all available

evidence such as present value of discounted expected future cash Öows, fair value of collateral and credit

enhancements.

Non-performing Loans

Non-performing loans are comprised of (a) loans that were previously delinquent whose terms have been

modiÑed (""troubled debt restructurings'' or ""TDRs''), (b) serious delinquencies, and (c) nonaccrual loans.

Serious delinquencies are those single-family loans that are 90 days or more past due, and multifamily loans

that are more than 60 days but less than 90 days past due. Also included in this category are multifamily loans

greater than 90 days past due but where principal and interest are being paid to us under the terms of a credit

enhancement agreement. Non-performing loans generally accrue interest in accordance with their contractual

terms unless they are in nonaccrual status. Nonaccrual loans are loans where interest income is recognized on

a cash basis, and only includes multifamily loans greater than 90 days past due. For nonaccrual loans any

existing accruals are reversed against interest income unless they are both well secured and in the process of

collection. For single-family loans greater than 90 days past due interest income is accrued; however, reserves

Freddie Mac

164
for uncollectible interest on single-family loans are estimated using statistical models, which quantify accrued

but uncollectible interest at the consolidated balance sheet date. Freddie Mac reports this reserve as a

reduction to the accrued loan interest balance in Accounts and other receivables, net.

Impaired loans include single-family loans, both performing and non-performing, that are TDRs.

Multifamily impaired loans are deÑned as performing and non-performing TDRs, loans 60 days or more past

due unless credit enhanced, and certain mortgage loans with real estate collateral values less than the

outstanding unpaid principal balances. See ""Table 6.2 Ì Impaired Loans'' in ""NOTE 6: LOAN LOSS

RESERVES'' for further discussion.

Freddie Mac has the option to purchase mortgage loans out of PC pools under certain circumstances,

such as to resolve an existing or impending delinquency or default. Freddie Mac's general practice is to

purchase the mortgage loans out of pools when the loans are 120 days delinquent. These repurchased loans are

recorded on Freddie Mac's consolidated balance sheets at their purchase price (i.e., the mortgage loan's

unpaid principal balance), as adjusted for the eÅects of (a) the related amount of recognized GAs, PC

residuals and security premiums and discounts (where applicable), and (b) the extinguishment of a

proportionally related amount of recognized Buy-Downs, Credit Fees, GOs and Day One DiÅerences (where

applicable). Additionally, that portion of amounts classiÑed in Reserve for guarantee losses on Participation

CertiÑcates that relates to a purchased loan is reclassiÑed to Reserve for losses on mortgage loans held for

investment.

Charge-OÅs

Amounts are charged-oÅ when a loss is speciÑcally identiÑed and is virtually certain of occurring. For

both single-family and multifamily mortgages where the original terms of the agreement are modiÑed for

economic or legal reasons related to the borrower's Ñnancial diÇculties, losses are recorded at the time of

modiÑcation in accordance with SFAS 114 and the loans are accounted for as TDRs. For mortgages that are

foreclosed upon and thus transferred to Real estate owned, net or involved in a pre-foreclosure sale, losses at

the time of transfer or pre-foreclosure sale are charged-oÅ against Reserve for losses on mortgage loans held

for investment. In the case of real estate owned (""REO'') transfers, losses arise when the carrying basis of the

loan (including accrued interest) exceeds the fair value of the foreclosed property (after deduction for

estimated selling costs and consideration of third party insurance or other credit enhancements). REO gains

arise when the fair market value of the acquired asset (after deduction for estimated disposition costs and

consideration of third party insurance or other credit enhancements) exceeds the carrying value of the

mortgage (including accrued interest). REO gains and losses are included in REO operations income

(expense).

Securities

The company classiÑes mortgage-related securities and non-mortgage securities as available for sale or

trading, as deÑned in SFAS 115. The company was not permitted to classify securities as held to maturity, as

deÑned in SFAS 115, due to inappropriate sales in 2001. The company is currently evaluating whether it will

classify securities as held to maturity in the future. Securities classiÑed as available for sale and trading are

reported at fair value with changes in fair value included in AOCI and Gains (losses) on investment activity,

respectively. Mortgage-related securities are recorded as part of the Retained portfolio except when they are

purchased to support Freddie Mac's PC market-making and support activities, in which case they are recorded

as part of Investments.

The fair value of securities with readily available third-party market prices is generally based on market

prices obtained from brokers and dealers, reliable third-party pricing service providers or direct market

observations. Fair value may be estimated by using third-party quotes for similar instruments, adjusted for

diÅerences in contractual terms. For other securities, a market option-adjusted spread approach is used to

estimate fair value. This option-adjusted spread approach uses a model developed from market data and

management judgment. Option-adjusted spreads for certain securities are estimated by deriving the optionadjusted spread for the most closely comparable security with an available market price, using interest-rate

and prepayment models. If necessary, management judgment is applied to estimate the impact of diÅerences

in prepayment uncertainty or other unique cash Öow characteristics related to that particular security. Fair

values for these securities are then estimated by using the estimated option-adjusted spread as an input to the

Freddie Mac

165
interest-rate and prepayment models, and estimating the net present value of the projected cash Öows. The

remaining instruments are priced using other modeling techniques or by using other securities as proxies.

EÅective January 1, 2002, Freddie Mac began recognizing the Ñnancial statement eÅects of nonderivative

forward purchases and sales of securities on a trade date basis. Such accounting is required under SOP

No. 01-6, ""Accounting by Certain Entities (Including Entities with Trade Receivables) That Lend to or

Finance the Activities of Others'' (""SOP 01-6''), when the purchase and sale commitments are not accounted

for as derivatives. Under trade date accounting, forward purchases and sales are recorded as an increase or

decrease to the security account on the trade date, with a corresponding increase to Other liabilities or

Accounts and other receivables, net, respectively. In the case of sales, the gain or loss is also recognized on the

trade date. Prior to January 1, 2002, Freddie Mac recorded all security transactions on the settlement date. For

non-derivative forward purchase commitments, accounting between trade date and settlement date was

recorded pursuant to EITF No. 96-11, ""Accounting for Forward Contracts and Purchased Options to Acquire

Securities Covered by FASB Statement No. 115'' (""EITF 96-11''). EITF 96-11 requires that changes in the

fair value of commitments to acquire available-for-sale securities be recorded through AOCI, net of taxes and

changes in the fair value of commitments to acquire trading securities be recorded through earnings. The

cumulative eÅect of transitioning from settlement date to trade date accounting was not material to the

Ñnancial statements.

For most of the company's investments in securities, interest income is recognized using the retrospective

eÅective interest method in accordance with SFAS 91. Deferred items, including premiums, discounts and

other basis adjustments, are amortized into interest income over the estimated lives of the securities. The

company uses actual prepayment experience and estimates of future prepayments to determine the constant

yield needed to apply the eÅective interest method. In estimating future prepayments and cash Öows, the

company aggregates securities with similar characteristics of their underlying collateral such as origination

date, coupon and maturity. For Structured Securities, estimates of future prepayments and cash Öows also

consider the characteristics of other security classes within the same structure. The company recalculates the

constant eÅective yield based on changes in estimated prepayments as a result of changes in interest rates and

other factors and actual prepayments versus anticipated prepayments. When the constant eÅective yield

changes, an adjustment to interest income is made for the amount of premium and discount amortization that

would have been recorded if the new eÅective yield had been applied since the mortgage assets were acquired.

For certain of the company's investments in securities, interest income is recognized using the prospective

eÅective interest method in accordance with EITF No. 99-20 ""Recognition of Interest Income and

Impairment on Purchased and Retained BeneÑcial Interests in Securitized Financial Assets''

(""EITF 99-20''). The company speciÑcally applies such guidance to beneÑcial interests (including undivided

interests which are similar to beneÑcial interests) in securitized Ñnancial assets that (a) can contractually be

prepaid or otherwise settled in such a way that the company may not recover substantially all of its recorded

investment (such as interest-only strips) or (b) are not of high credit quality at the acquisition date. EITF 99-

20 requires that the company recognize as interest income (throughout the life of a retained interest) the

excess of all estimated cash Öows attributable to these interests over its principal amount using the eÅective

yield method. The company updates its estimates of expected cash Öows periodically and recognizes changes

in calculated eÅective yield on a prospective basis. Prior to the company's implementation of EITF 99-20 on

April 1, 2001, the company recognized interest income for interest-only strips on the prospective eÅective

interest method in accordance with EITF No. 89-4, ""Accounting for a Purchased Investment in a

Collateralized Mortgage Obligation Instrument or in a Mortgage-Backed Interest-Only CertiÑcate''

(""EITF 89-4'').

Freddie Mac reviews securities for other-than-temporary impairment when a security meets one or more

of a series of objective criteria relative to its fair value compared to its amortized cost, credit ratings, the

amount of time the investment has been in an unrealized loss position, or if the company otherwise believes

that an unrealized loss is other than temporary based on qualitative indicators of potential impairment.

Impairment losses on manufactured housing securities exclude the eÅects of separate Ñnancial guarantee

contracts that are not embedded in the securities since the beneÑts of such contracts are not recognized until

claims become probable of recovery under the contracts. When a security is deemed to be impaired, the cost

Freddie Mac

166
basis of the security is written down to fair value, with the loss recorded to Gains (losses) on investment

activity. The security cost basis is not changed for subsequent recoveries in fair value.

For securities within the scope of EITF 99-20, as described above, other-than-temporary impairments are

deÑned as occurring whenever there is an adverse change in estimated cash Öows coupled with a decline in fair

value below the amortized cost basis. Prior to the company's implementation of EITF 99-20, other-than

temporary impairment for such securities was deÑned under SFAS 115 or EITF No. 93-18, ""Recognition of

Impairment for an Investment in a Collateralized Mortgage Obligation Investment or in a Mortgage-Backed

Interest-Only CertiÑcate'' (""EITF 93-18''), as applicable.

Gains and losses on the sale of securities are included in Gains (losses) on investment activity. The

company uses the speciÑc identiÑcation method for determining the cost of a security in computing the gain or

loss.

Repurchase and Resale Agreements

Freddie Mac enters into repurchase and resale agreements primarily as an investor or to Ñnance its

security positions. Freddie Mac also enters into (a) ""dollar roll'' transactions, which consist of simultaneous

agreements with the same counterparty to sell a security and purchase similar securities at a future date at an

agreed-upon price and (b) ""reverse dollar roll'' transactions, which consist of simultaneous agreements with

the same counterparty to purchase a security and sell similar securities at a future date at an agreed-upon

price. These transactions are accounted for as Ñnancings when the sale criteria of SFAS 125/140 are not

satisÑed. Freddie Mac's policy is to take possession of securities purchased under agreements to resell and

reverse dollar roll transactions. The amount of mortgage-related and non-mortgage-related securities pledged

(that may be repledged) under repurchase agreements and dollar roll transactions is presented parenthetically

in the relevant securities captions in the consolidated balance sheets.

Debt Securities

Debt securities are classiÑed as either Due within one year or Due after one year based on their remaining

contractual maturity. The classiÑcation of interest expense on debt securities as either short-term or long-term

is based on the original contractual maturity of the debt security. Deferred items, including premiums,

discounts, issuance costs and hedging-related basis adjustments, are amortized and reported through interest

expense using the eÅective interest method over the period during which the related indebtedness is

outstanding or, for callable debt, over the period during which the related indebtedness is expected to be

outstanding. For callable debt, changes in the expected call date are reÖected prospectively as an adjustment

to the eÅective yield on the debt. Amortization of hedging-related basis adjustments is initiated upon the

termination of the related hedge relationship whereas amortization of premiums, discounts and issuance costs

begins at the time of debt issuance. Deferred items, including premiums, discounts and hedging-related basis

adjustments are reported as a component of Debt securities, net whereas issuance costs are reported as a

component of Other assets. Debt securities denominated in a foreign currency are translated into U.S. dollars

using foreign exchange spot rates as of the balance sheet date. The company uses foreign currency swaps to

hedge against the risk of changes in foreign currency exchange rates.

Contemporaneous exchanges of cash between the company and a creditor in connection with the issuance

of a new debt obligation and satisfaction of an existing debt obligation are accounted for as extinguishments if

the debt instruments have substantially diÅerent terms, as deÑned by EITF Issue No. 96-19, ""Debtor's

Accounting for a ModiÑcation or Exchange of Debt Instruments.'' If the debt instruments do not have

substantially diÅerent terms, the transaction is accounted for as an exchange rather than an extinguishment

and the fees associated with the new debt obligation, along with the existing unamortized premium or discount

on the existing debt obligation, are considered a basis adjustment on the new debt obligation and are

amortized as an adjustment of interest expense over the remaining term of the new debt obligation.

Derivatives

Generally, derivatives are Ñnancial instruments with little or no initial net investment in comparison to

their notional amount and whose value is based upon an underlying asset, index, reference rate or other

variable. Over-the-counter derivatives are privately negotiated contractual agreements that can be customized

to meet speciÑc needs. This includes certain commitments to purchase and sell mortgage loans, mortgageFreddie Mac

167
related securities, and debt securities. Exchange-traded derivatives are standardized contracts executed

through organized exchanges. The fair value of derivatives is generally reported net by counterparty, provided

that a legally enforceable master netting agreement exists. Derivatives in a net asset position are reported as

""Derivative assets, at fair value.'' Similarly, derivatives in a net liability position are reported as ""Derivative

liabilities, at fair value.''

A signiÑcant portion of the company's derivative portfolio is not designated in hedge accounting

relationships. For those derivatives not qualifying as an accounting hedge, fair value gains and losses are

reported as ""Derivative gains (losses)'' in the consolidated statements of income. For purchase and sale

commitments of securities classiÑed as trading under SFAS 115, fair value gains and losses are reported as

""Gains (losses) on investment activity'' in the consolidated statements of income.

Subject to certain qualifying conditions, Freddie Mac may designate a derivative as either a hedge of the

cash Öows of a variable-rate instrument or forecasted transaction (""cash Öow hedge''), a hedge of the fair

value of a Ñxed-rate instrument (""fair value hedge''), or a foreign-currency fair value or cash Öow hedge

(""foreign currency hedge''). In order to be designated as an accounting hedge, the derivative must be highly

eÅective in oÅsetting the changes in cash Öows or fair value of the hedged item resulting from the hedged risk.

In addition, the documentation of the hedging designation must include identiÑcation of the hedged item, the

hedging instrument, the risk exposure and corresponding risk management objective and how eÅectiveness

will be assessed.

For a derivative qualifying as a cash Öow hedge, Freddie Mac reports changes in the fair value of these

instruments in a separate component of AOCI to the extent the hedge is eÅective. The remaining ineÅective

portion, calculated using the hypothetical derivative method, is reported as Hedge accounting gains (losses).

This method requires us to develop a hypothetical derivative whose terms match those of the hedged item and

compare those of the hedged item and compare estimated changes in it to changes in the hedging derivative.

Freddie Mac recognizes the eÅective portion of the cumulative changes in fair value as Income (expense) related to derivatives during the period(s) in which the hedged item aÅects earnings, unless

(a) occurrence of the forecasted transaction is probable of not occurring, in which case the amount in AOCI

is reclassiÑed to earnings immediately, (b) Freddie Mac expects at any time that continued reporting of a net

loss in AOCI would lead to recognizing a net loss on the combination of a hedging instrument and the hedged

transaction (and related asset acquired or liability incurred) in one or more future periods, in which case a loss

shall be reclassiÑed immediately into earnings for the amount that is not expected to be recovered, or (c) the

occurrence of the forecasted transaction was the issuance of long-term debt; in which case, Freddie Mac

recognizes the eÅective portion of the cumulative changes in fair value as Long-term debt interest expense.

The eÅective portion of the cumulative changes in fair value associated with purchase and sale commitments

that are accounted for as derivatives in cash Öow hedge relationships is recognized as interest income for assets

held and Gains (losses) on investment activity for assets sold. For a derivative qualifying as a fair value hedge,

Freddie Mac reports changes in the fair value of the derivative as Hedge accounting gains (losses) along with

the changes in the fair value of the hedged item attributable to the risk being hedged. When the hedge is

terminated or redesignated, the fair value adjustment to the carrying amount of the hedged asset or liability is

amortized to earnings as a component of the hedged item's interest income or expense over the remaining life

of the hedged item using the eÅective yield method.

If a derivative no longer qualiÑes as a cash Öow or fair value hedge, the company discontinues hedge

accounting prospectively. Freddie Mac continues to carry the derivative on the consolidated balance sheets at

fair value and records further fair value gains and losses in the consolidated statements of income as

""Derivative gains (losses)'' until the derivative is terminated or redesignated.

For any component of a derivative that is excluded from hedge eÅectiveness assessment, Freddie Mac

reports fair value gains and losses as Income (expense) related to derivatives. The periodic interest cash Öows

related to derivatives contracts currently accrued, which is derived primarily from interest-rate swap contracts,

is classiÑed as Income (expense) related to derivatives for derivatives in hedge relationships and as Derivative

gains (losses) for derivatives not in hedge accounting relationships. In September 2003, the OÇce of the

Chief Accountant of the Securities and Exchange Commission (""SEC'') published interpretive guidance on

SFAS 133. The SEC view requires the income statement eÅects of derivatives not currently designated in

hedge accounting relationships under SFAS 133 to be reported in a single line item. Freddie Mac includes

Freddie Mac

168
these income statement eÅects in Derivative gains (losses) for all periods presented. Prior to 2003, the accrual

for periodic cash settlements in accordance with the contractual terms of derivatives not in hedge accounting

relationships was recorded in net interest income as a component of Income (expense) related to derivatives.

Therefore, for periods prior to 2003, the impact of the accrual for these periodic derivative cash settlements

has been reclassiÑed from Income (expense) related to derivatives to Derivative gains (losses). The eÅect of

this reclassiÑcation on Freddie Mac's consolidated statements of income was to increase Net interest income

by $639 million and $456 million for 2002 and 2001, respectively, and decrease Non-interest income by the

same amounts.

Inception gains or losses associated with commitments to purchase mortgage loans are deferred. With

respect to those purchase commitments that have been designated as cash Öow hedges, inception gains or

losses are considered together with that portion of the cumulative change in fair value of such derivative

instruments that are recognized in AOCI for the purpose of determining whether a net deferred loss exists

that, as described above, should be reclassiÑed to earnings. Additionally, and similar to derivative-related gains

that are recognized as a component of AOCI, deferred inception-based gains on mortgage purchase

commitments will be reclassiÑed into earnings in the same period or periods during which acquired mortgage

loans aÅect earnings. SpeciÑcally, inception gains or losses are:

‚ Recognized as a component of the gain or loss on sale of corresponding mortgage loans (either in

whole loan or securitized form); or

‚ Recognized as interest income over the life of the corresponding mortgage loans at the point that,

where applicable, such mortgage loans are reclassiÑed as held-for-investment.

Real Estate Owned (""REO'')

Real estate owned is carried at the lower of cost or fair value (after deduction for estimated disposition

costs). Amounts expected to be received from third party insurance or other credit enhancements are reported

when the claim is Ñled and are recorded as a component of Accounts and other receivables, net in the

consolidated balance sheets. Material development and improvement costs relating to REO are capitalized.

Operating expenses on the properties, net of any rental or other income, are included in REO operations

income (expense). Estimated declines in REO fair value that result from ongoing valuation of the properties

are provided for and charged to REO operations income (expense) when identiÑed. The resulting valuation

allowance is treated as a lower of cost or fair value adjustment to the basis of the properties. Any gains and

losses on REO dispositions are included in REO operations income (expense).

Income Taxes

Freddie Mac uses the asset and liability method of accounting for income taxes pursuant to SFAS

No. 109, ""Accounting for Income Taxes'' (""SFAS 109''). Under the asset and liability method, deferred tax

assets and liabilities are recognized based upon the expected future tax consequences of existing temporary

diÅerences between the Ñnancial reporting and the tax reporting basis of assets and liabilities using enacted

statutory tax rates. To the extent tax laws change, deferred tax assets and liabilities are adjusted, when

necessary, in the period that the tax change is enacted. Valuation allowances are recorded to reduce deferred

tax assets when it is more likely than not that a tax beneÑt will not be realized. For all periods presented, no

such valuation allowance was deemed necessary by management. Reserves are recorded for income tax and

contingent interest where the potential for loss is probable and reasonably estimable in accordance with

SFAS 5.

""Income tax expense'' includes (a) deferred tax expense, which represents the net change in the deferred

tax asset or liability balance during the year plus any change in a valuation allowance, and (b) current tax

expense, which represents the amount of tax currently payable to or receivable from a tax authority plus

amounts accrued for expected tax deÑciencies (including both tax and interest). Income tax expense excludes

the tax eÅects related to adjustments recorded to AOCI.

Stock-Based Compensation

In December 2002, FASB issued SFAS No. 148, ""Accounting for Stock-Based Compensation Ì

Transition and Disclosure Ì An Amendment of FASB Statement No. 123'' (""SFAS 148''). This statement

Freddie Mac

169
provides alternative methods of transition for a voluntary change to the fair value expense recognition method

of accounting for stock-based employee compensation under SFAS No. 123 ""Accounting for Stock-Based

Compensation'' (""SFAS 123''). The annual disclosure provisions of SFAS 148 are eÅective for Ñscal years

ending after December 15, 2002, and the interim disclosure provisions are eÅective for interim periods

beginning after December 15, 2002.

Freddie Mac initially adopted the fair value compensation expense provisions of SFAS 123 prospectively

for awards granted, modiÑed, or settled on or after January 1, 2002, in accordance with SFAS 123's original

transition provision. However, Freddie Mac has elected to adopt SFAS 123 retroactively to January 1, 1995 as

permitted by SFAS 148. Accordingly, Freddie Mac records compensation expense equal to the estimated fair

value of the stock-based compensation on the grant date, amortized on a straight-line basis over the vesting

period, which is generally three to Ñve years for options, restricted stock and restricted stock units and, starting

in 2003, three months for the Employee Stock Purchase Plan (""ESPP''). The oÅset to the recorded

compensation expense is an adjustment to ""Additional paid-in capital'' in Freddie Mac's consolidated balance

sheets.

The fair value of stock-based options to purchase shares of Freddie Mac common stock, including options

issued pursuant to the ESPP, is estimated using a Black-Scholes option pricing model, taking into account the

exercise price and expected life of the option, the market value of the underlying stock and its expected

volatility, expected dividends on the stock, and the risk-free interest rate for the expected term of the option.

The fair value of restricted stock and restricted stock unit awards is based on the grant-date fair value of

Freddie Mac's common stock.

For stock-based compensation granted prior to 1995, Freddie Mac continues to apply the provisions of

APB Opinion No. 25, ""Accounting for Stock Issued to Employees'' (""APB 25''). Under APB 25, typically no

compensation expense is recorded if the option exercise price is equal to the market price of the stock on the

date of grant. Freddie Mac recognized compensation expense for restricted stock grants and dividend rights

associated with stock options. No compensation expense was recognized for the ESPP since it is a qualifying

plan under tax regulations.

Earnings Per Common Share

Basic earnings per common share is computed as net income available to common stockholders divided

by the weighted average common shares outstanding for the period. Diluted earnings per common share is

determined using the weighted average number of common shares during the period, adjusted for the dilutive

eÅect of common stock equivalents. Dilutive common stock equivalents reÖect the assumed issuance of

additional common shares pursuant to certain of the company's stock-based compensation plans that could

potentially reduce or ""dilute'' earnings per share, based on the treasury stock method as deÑned in SFAS

No. 128, ""Earnings per Share'' (""SFAS 128'').

Comprehensive Income

Comprehensive income, as deÑned in SFAS No. 130, ""Reporting Comprehensive Income''

(""SFAS 130''), is the change in equity, on a net of tax basis, resulting from transactions and other events and

circumstances from non-owner sources during a period. It includes all changes in equity during a period,

except those resulting from investments by owners and distributions to owners. For Freddie Mac, comprehensive income is comprised of net income plus changes in the unrealized gains and losses on available-for-sale

securities, the eÅective portion of derivatives accounted for as cash Öow hedge relationships, and changes in

the minimum pension liability.

Recently Adopted Accounting Standards and Accounting Changes

Consolidation of Variable Interest Entities Ì In January 2003, the FASB issued FIN 46. FIN 46

provides guidance for determining when a company must consolidate the assets, liabilities and activities of a

variable interest entity. A variable interest entity is an entity (a) that has a total equity investment at risk that

is not suÇcient to Ñnance its activities without additional subordinated Ñnancial support from other entities, or

(b) where the group of equity holders does not have the ability to make signiÑcant decisions about the entity's

Freddie Mac

170
activities, or the obligation to absorb the entity's expected losses or the right to receive the entity's expected

residual returns, or both. If an entity is a variable interest entity, the company must determine if its variable

interest is signiÑcant and whether the company is the ""primary beneÑciary.'' Under FIN 46, a company is

considered the ""primary beneÑciary'' and must consolidate a variable interest entity when it absorbs a majority

of expected losses or expected residual returns, or both. In addition, various disclosures are required about

variable interest entities when an entity is not the primary beneÑciary but holds a ""signiÑcant variable interest''

in a variable interest entity. In this case, signiÑcant variable interests are those in which Freddie Mac may be

exposed to a signiÑcant portion of a variable interest entity's expected losses or expected residual returns, or

both, which FIN 46 deÑnes as a variability around the entity's expected returns or cash Öows.

In December 2003, the FASB released FIN 46-R. The revision captured much of the guidance to date

that had been provided by the FASB for implementation of FIN 46, clariÑed FIN 46 and revised certain

eÅective dates for implementation. Freddie Mac adopted FIN 46-R for 2003. The implementation had no

eÅect on the company's consolidated Ñnancial statements; however, the company has signiÑcant variable

interests in certain variable interest entities that are not consolidated because the company is not the primary

beneÑciary. See ""NOTE 3: VARIABLE INTEREST ENTITIES'' for more information concerning variable

interest entities.

Accounting For Financial Guarantees Ì EÅective January 1, 2003, Freddie Mac adopted FIN 45 and

FASB StaÅ Position 45-2, ""Whether FASB Interpretation No. 45, "Guarantor's Accounting and Disclosure

Requirements for Guarantees, Including Indirect Guarantees of Indebtedness of Others,' Provides Support for

Subsequently Accounting for a Guarantor's Liability at Fair Value'' (""FSP FIN 45-2''). FIN 45 requires that

Freddie Mac recognizes the fair value of the company's obligation to guarantee the payment of principal and

interest on PCs and other mortgage pass-through certiÑcates that are issued by the company that are

transferred to third parties. Such guidance also requires that the company recognizes the fair value of any

consideration received in connection with the execution of such guarantees, which primarily includes the

company's contractual right to receive guarantee fees. In consideration of FSP FIN 45-2, and eÅective

January 1, 2003, Freddie Mac subsequently measures that portion of recognized guarantee obligations that

relates to the company's non-contingent obligation to stand ready to perform using a systematic and rational

method of amortization, while the company's contingent obligation to make payments under executed

guarantees are accounted for pursuant to the requirements of SFAS 5. The implementation of FIN 45 and

other such accounting changes in 2003 had a signiÑcant impact on our accounting for PC guarantees.

Additionally, on January 1, 2003, Freddie Mac reclassiÑed $110 million to Reserve for guarantee losses on

Participation CertiÑcates representing that portion of recognized guarantee obligations that was attributable to

estimated incurred losses on outstanding PCs or Structured Securities on that date.

Accounting For Credit Enhancements Ì EÅective January 1, 2003, Freddie Mac no longer subsequently

measured recognized credit enhancements on a fair value basis. Such a change was made in conjunction with

the change in the method by which recognized guarantee obligations are subsequently measured for

consolidated Ñnancial statement purposes. This change necessitated a corresponding modiÑcation in the

balance sheet classiÑcation of those credit enhancements that were previously recognized as a component of

GAs and PC residuals since recognized GAs and PC residuals are subsequently measured on a fair value basis.

In this regard, and eÅective January 1, 2003, $189 million related to credit enhancements was reclassiÑed to

Other assets ($128 million from the GA and $61 million from PC residuals) and, correspondingly, is

amortized into earnings as a component of ""Other expenses'' at the greater of amounts calculated by

amortizing recognized credit enhancements (a) in proportion to the rate of unpaid principal balance decline of

covered mortgage loans or (b) on a straight-line basis over a credit enhancement contract term. The

implementation of FIN 45 also resulted in a change in when credit enhancements were recognized for

consolidated Ñnancial statement purposes. Based upon the view expressed in FIN 45 that guarantee

transactions constitute exchange transactions, Freddie Mac now recognizes the fair value of credit enhancements as consideration received in connection with Guarantor and MultiLender Swap transactions (and other,

similar transactions) as of the issuance date of those PCs that were issued on or after January 1, 2003. Prior to

January 1, 2003, Freddie Mac did not recognize credit enhancements for consolidated balance sheet purposes

until a PC or Structured Security to which such credit enhancements related was included in a transfer that

qualiÑed as a sale under SFAS 125/140.

Freddie Mac

171
Derivative Instruments and Hedging Activities Ì On January 1, 2001, Freddie Mac adopted SFAS 133,

which required Freddie Mac to recognize all derivatives as either assets or liabilities on the consolidated

balance sheets at fair value on a trade date basis. Freddie Mac's adoption of SFAS 133 on January 1, 2001,

resulted in a cumulative $78 million after-tax increase to net income and a $2.6 billion after-tax reduction to

AOCI, net of taxes. On July 1, 2003, Freddie Mac adopted SFAS No. 149 ""Amendment of Statement 133 on

Derivative Instruments and Hedging Activities'' (""SFAS 149''). SFAS 149 amended and clariÑed the

Ñnancial accounting and reporting for derivatives to incorporate decisions made by the FASB and the FASB's

Derivative Implementation Group subsequent to the original issuance of SFAS 133 and in connection with

other FASB projects. Under SFAS 149, purchase commitments for certain loans to be classiÑed as held for

investment must be accounted for as derivatives. The implementation of SFAS 149 did not have a material

eÅect on the consolidated Ñnancial statements.

In September 2003, the OÇce of the Chief Accountant of the SEC published interpretive guidance on

SFAS 133. To be consistent with the SEC guidance published at that time, Freddie Mac is reporting the

income statement eÅects of derivatives not currently designated in hedge accounting relationships under

SFAS 133 in a single line item on the company's consolidated statements of income, Derivative gains (losses),

for all periods presented. Prior to 2003, the accrual for periodic cash settlements in accordance with the

contractual terms of derivatives not in hedge accounting relationships was recorded in net interest income as a

component of Income (expense) related to derivatives. Therefore, for periods prior to 2003, the impact of the

accrual for these periodic derivative cash settlements has been reclassiÑed from Income (expense) related to

derivatives to Derivative gains (losses). The eÅect of this reclassiÑcation on the company's consolidated

statements of income was to increase Net interest income by $639 million and $456 million for 2002 and 2001,

respectively, and decrease Non-interest income by the same amounts. These reclassiÑcations had no eÅect on

net income.

BeneÑcial Interests: Interest Income Recognition and Impairment Ì Freddie Mac adopted EITF 99-20,

on April 1, 2001. EITF 99-20 requires that the company recognize as interest income (throughout the life of a

retained interest) the excess of all estimated cash Öows attributable to retained interests over its principal

amount using the eÅective yield method. The company updates its estimates of expected cash Öows

periodically and recognizes changes in calculated eÅective yield on a prospective basis. Prior to the company's

implementation of EITF 99-20, the company recognized interest income for interest-only strips on the

prospective eÅective interest method in accordance with EITF 89-4. Prior to the company's implementation of

EITF 99-20, other-than-temporary impairment for such securities was deÑned under SFAS 115 or

EITF 93-18, as applicable. Freddie Mac's adoption of EITF 99-20 on April 1, 2001, resulted in a cumulative

$35 million after-tax decrease to net income.

Certain Financial Instruments with Characteristics of Both Liabilities and Equity Ì In May 2003, the

FASB issued SFAS No. 150, ""Accounting for Certain Financial Instruments with Characteristics of Both

Liabilities and Equity'' (""SFAS 150''). SFAS 150 changes the accounting for certain Ñnancial instruments

that, under previous guidance, issuers could account for as equity. SFAS 150 requires that those instruments

be classiÑed as liabilities (or assets in some circumstances). SFAS 150 requires issuers to classify as liabilities

the following three types of freestanding Ñnancial instruments: (a) mandatory redeemable Ñnancial instruments; (b) obligations to repurchase the issuer's equity shares by transferring assets; and (c) certain

obligations to issue a variable number of shares. The adoption of SFAS 150 did not have an impact on the

company's consolidated financial statements.

Accounting for the Impairment or Disposal of Long-Lived Assets Ì FASB StaÅ Position No. 144-1,

""Determination of Cost Basis for Foreclosed Assets under FASB Statement No. 15, Accounting by Debtors

and Creditors for Troubled Debt Restructurings, and the Measurement of Cumulative Losses Previously

Recognized under Paragraph 37 of FASB Statement No. 144, Accounting for the Impairment or Disposal of

Long-Lived Assets''(""FSP 144-1'') became eÅective during 2003. FSP 144-1 prohibits the carrying over of

loan loss allowances to the cost basis of foreclosed assets. Assets received in full satisfaction of a receivable are

carried at fair value less cost to sell. In addition, FSP 144-1 limits gain recognition on foreclosed property to

cumulative losses previously recognized in connection with the asset.

Freddie Mac

172
Disclosures about Pensions and Other Post-retirement BeneÑts Ì In December 2003, the FASB issued

SFAS No. 132 (Revised 2003), ""Employers' Disclosures about Pensions and Other Post-retirement BeneÑts''

(""SFAS 132-R''), which retains the disclosure requirements contained in SFAS 132 and requires additional

disclosure in Ñnancial statements about the assets, obligations, cash Öows and net periodic beneÑt cost of

deÑned beneÑt pension plans and other deÑned beneÑt post-retirement plans for periods ending after

December 15, 2003, except for the disclosure of expected future beneÑt payments, which must be disclosed for

Ñscal years ending after June 15, 2004. Certain disclosures required by this statement are eÅective for interim

periods beginning after December 15, 2003. Accordingly, the new annual disclosures are included in

""NOTE 15: EMPLOYEE BENEFITS.''

EÅect on the Calculation of Earnings per Share for the Redemption or Induced Conversion of Preferred

Stock Ì Freddie Mac accounts for the EPS eÅects of preferred stock redemptions in accordance with EITF

Topic No. D-42, ""The EÅect on the Calculation of Earnings per Share for the Redemption or Induced

Conversion of Preferred Stock'' (""EITF D-42''). EITF D-42 states that when there is a redemption or

induced conversion of preferred stock, the excess of the fair value of the consideration transferred to preferred

stockholders over the carrying amount of the preferred stock must be subtracted from net income to determine

net income available to common stockholders in the calculation of earnings per share. The SEC Observer, a

representative from the SEC's Chief Accountant's OÇce, issued clarifying guidance to companies in July

2003 that aÅected Freddie Mac's EPS calculation. This clariÑcation of EITF D-42 was required to be

reÖected retroactively in consolidated Ñnancial statements for reporting periods ending after September 15,

2003 by restating the consolidated Ñnancial statements of prior periods. The SEC Observer commented that,

for the purposes of calculating the excess of the fair value of the consideration transferred to the holders of the

preferred stock over the carrying amount of the preferred stock, the carrying amount of the preferred stock

should be reduced by the issuance costs of the preferred stock regardless of where in the stockholders' equity

section those costs were initially classiÑed upon issuance. Freddie Mac did not redeem preferred stock in 2001

or 2003. For 2002 Freddie Mac's earnings per share calculation was restated to include issuance costs in

determining the carrying amount of the preferred stock that was redeemed in 2002, in response to this

clariÑcation. For the year ended December 31, 2002, the restatement increased by $5 million the amount

representing issuance costs on redeemed preferred stock and therefore reduced ""Net income available to

common stockholders'' by $5 million. This caused a reduction in both basic and diluted earnings per share for

the same year by $0.01 per share.

Recently Issued Accounting Standards

Certain Loans or Debt Securities Acquired in a Transfer Ì In December 2003, the Accounting Standards

Executive Committee of the AICPA issued Statement of Position No. 03-3, ""Accounting for Certain Loans

or Debt Securities Acquired in a Transfer'' (""SOP 03-3''). SOP 03-3 addresses the accounting for diÅerences

between the contractual cash Öows and the cash Öows expected to be collected from purchased loans or debt

securities if those diÅerences are attributable, in part, to credit quality. The scope of SOP 03-3 is limited to

purchased loans or debt securities with evidence of deterioration of credit quality since origination acquired by

completion of a transfer for which it is probable, at acquisition, that the investor will be unable to collect all

contractually required payments receivable. SOP 03-3 requires purchased loans and debt securities to be

recorded initially at fair value based on the present value of the cash Öows expected to be collected with no

carryover of any valuation allowance previously recognized by the seller. Interest income should be recognized

based on the eÅective yield from the cash Öows expected to be collected. To the extent that the purchased

loans or securities experience subsequent deterioration in credit quality, a valuation allowance or impairment

charge would be recognized for any additional cash Öows that are not expected to be received. However, if

more cash Öows subsequently are expected to be received than originally estimated, the eÅective yield would

be adjusted on a prospective basis. SOP 03-3 will be eÅective for certain loans and debt securities acquired

after December 31, 2004. The company is evaluating the future impact of SOP 03-3 on its Ñnancial position

and results of operations.

Other than Temporary Impairment Ì In November 2003, the FASB's Emerging Issues Task Force

(""EITF'') reached a consensus requiring certain disclosures for impaired securities as described in EITF Issue

No. 03-1, ""The Meaning of Other-Than-Temporary Impairment and Its Application to Certain Investments.''

Freddie Mac

173
The new disclosures apply to debt and equity investments as deÑned under SFAS 115, and are eÅective for

Ñscal years ending after December 15, 2003. The guidance requires disclosures about unrealized losses that

have not been recognized as other-than-temporary impairments. The EITF also reached consensus in March

2004 concerning the applicability of the disclosure requirements to a wider variety of investments. (See

""NOTE 5: RETAINED PORTFOLIO AND CASH AND INVESTMENTS PORTFOLIO''). Also, in

March 2004, the EITF reached measurement consensus, which is eÅective beginning in the third quarter of

2004. The FASB is now deliberating the issuance of two FASB StaÅ Positions (""FSPs'') that may defer the

eÅective date of and modify the measurement guidance contained in EITF 03-1. The measurement consensus

provides guidance regarding when an investment is considered impaired, whether that impairment is other

than temporary, and the measurement of an impairment loss. It also includes accounting considerations

subsequent to the recognition of an other-than-temporary impairment. The company is evaluating the future

impact of the measurement consensus in EITF 03-1 and, while the company is not yet able to estimate the

impact, it could be material to our Ñnancial position and results of operations.

The Medicare Prescription Drug, Improvement and Modernization Act of 2003 Ì The Medicare

Prescription Drug, Improvement and Modernization Act of 2003 (the ""Act'') was signed into law on

December 8, 2003. As permitted under FASB StaÅ Positions (""FSPs'') 106-1 and 106-2, ""Accounting and

Disclosure Requirements Related to the Medicare Prescription Drug, Improvement and Modernization Act of

2003,'' Freddie Mac elected to defer accounting for certain of the eÅects of the Act pending issuance of Ñnal

guidance and transition rules. Freddie Mac is currently reviewing the Act and the potential impact on its postretirement medical plan with the assistance of its actuary. Accordingly, the accumulated post-retirement

beneÑt obligation and net periodic beneÑt costs related to this plan do not reÖect the eÅects of the Act.

FSP 106-2 requires a determination as to whether the eÅect of the Medicare legislation will be signiÑcant to

Freddie Mac. FSP 106-2 provides for alternative methods of adoption depending upon whether Freddie Mac's

Plan is considered ""actuarially equivalent'' to Medicare and whether the eÅects of the Act are signiÑcant to

Freddie Mac. Freddie Mac is working with its actuary to assess the signiÑcance of the Act's eÅects, and

adoption implications.

Freddie Mac

174
NOTE 2: TRANSFERS OF SECURITIZED INTERESTS IN MORTGAGE-RELATED ASSETS

Types of Securitization Transactions Executed By Freddie Mac

Freddie Mac issues two types of mortgage-related securities: Mortgage Participation CertiÑcates (or

""PCs'') and Structured Securities. PCs represent undivided interests in pools of mortgage loans that are

secured by either single-family or multifamily loans. Similarly, Structured Securities represent undivided

interests in PCs or other mortgage-related securities that are issued by either Ginnie Mae or non-agency

issuers. Freddie Mac guarantees the payment of principal and interest on all issued PCs and Structured

Securities.

Freddie Mac issues PCs in several diÅerent contexts:

‚ Single-family mortgage loans that are purchased by Freddie Mac through its Cash Window are

either retained by Freddie Mac in its Retained portfolio or are sold through auction in the form of

issued PCs. Certain of those single-family mortgage loans that are retained by Freddie Mac in its

Retained portfolio are securitized and, therefore, are held as investments in the form of PCs.

Those mortgage loans that are purchased through the Cash Window that are not retained by

Freddie Mac are pooled together with other single-family mortgage loans that are received in

connection with PC swap-based transactions that it executes with various lenders (and which are

commonly referred to as ""MultiLender Swaps''). Issued PCs in this case that are not delivered to

third party lenders in connection with MultiLender Swap transactions are then sold by Freddie

Mac for cash consideration through an auction.

‚ Freddie Mac also commonly issues PCs to third parties through PC-swap-based transactions

where either single-family or multifamily mortgage loans are delivered to Freddie Mac in

exchange for PCs backed by such pools of mortgage loans. In this regard, and unlike MultiLender

Swap transactions, the pools of mortgage loans formed in this case relate exclusively to mortgage

loans that are delivered to Freddie Mac by a single lender.

Freddie Mac also sells PCs that are held in portfolio in resecuritized form as Structured Securities. More

speciÑcally, Freddie Mac issues single and multiple class-based Structured Securities that are backed by PCs

and other mortgage-related securities held in portfolio and subsequently transfers such Structured Securities

to third parties in exchange for cash consideration. Freddie Mac also commonly issues Structured Securities in

exchange for PCs and other mortgage-related securities that are delivered to it by third party dealers who, in

turn, sell such Structured Securities to retail and institutional investors.

Retained Interests Created Through The Securitization Process

Freddie Mac's retained interests in securitized and resecuritized mortgage-related assets include the

following:

‚ PCs retained by Freddie Mac that are backed by conforming single-family mortgage loans and

multifamily mortgage loans for which Freddie Mac paid cash consideration.

‚ Structured Securities retained by Freddie Mac in connection with the resecuritization of PCs and

Ginnie Mae CertiÑcates.

‚ Freddie Mac's contractual right to receive a negotiated fraction of the interest-related cash Öows

of securitized mortgage loans which relates to compensation due Freddie Mac in connection with

its guarantee and administration of payments of principal and interest on issued PCs. This

retained, undivided interest is referred to as a GA.

‚ PC residuals, which relate to certain PCs and Structured Securities held by Freddie Mac and

represent the fair value of the expected future cash Öows of guarantee and bond administration

cash Öows that are contractually distinct from that of such corresponding PCs or Structured

Securities.

Freddie Mac

175
Unpaid Principal Balances of Issued PCs and Structured Securities

Table 2.1 below presents the unpaid principal balances of PCs issued and Structured Securities as of

December 31, 2003 and December 31, 2002.

Table 2.1 Ì Issued PCs and Structured Securities Based on Unpaid Principal Balances(1)(2)

December 31,

2003 2002

(dollars in millions)

PCs and Structured Securities

Held by third parties(3) ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ $ 752,164 $ 729,809

Held by Freddie Mac in the:

Retained portfolio(4)ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 393,135 341,287

Cash and investments portfolio(3)(5)ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 16,769 19,528

Total issued PCs and Structured Securities(6)(7) ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ $1,162,068 $1,090,624

(1) Excludes mortgage loans and mortgage-related securities traded, but not yet settled.

(2) Due to the nature of security program remittance cycles of issued PCs and Structured Securities, the unpaid principal balances of the

underlying mortgage loans do not equal the unpaid principal balances of issued PCs and Structured Securities. See

""NOTE 1: SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES Ì Due to Participation CertiÑcate Investors'' for more

information.

(3) Subsequent to the release of Freddie Mac's Information Statement dated February 27, 2004, the company revised the balance of PCs

and Structured Securities in the Cash and investments portfolio due to a calculation error. The eÅect of this change was a

$584 million decrease in PCs and Structured Securities in the Cash and investments portfolio at December 31, 2002 and a

corresponding increase in PCs and Structured Securities Ó Held by third parties. The consolidated Ñnancial statements were not

aÅected by this revision.

(4) With respect to mortgage loans purchased through Freddie Mac's Cash Window that were internally securitized as PCs and held as

available-for-sale investments by the Retained portfolio, the company recognized losses of $178 million and $22 million for the years

ended December 31, 2003 and 2002, respectively, that correspond to permanent lower of cost or market value adjustments that were

recognized in connection with such mortgage loans. Such lower of cost or market value adjustments were treated as basis

adjustments to such issued PCs and, as such, are amortized into interest income over the holding period of such securities.

(5) Represents PCs and Structured Securities held by Freddie Mac in connection with PC market-making and support activities, which

are reÖected in Investments on the consolidated balance sheets.

(6) As further discussed in ""NOTE 4: FINANCIAL GUARANTEES,'' these amounts include:

‚ $4,729 million and $8,561 million of Structured Securities backed by Ginnie Mae CertiÑcates at December 31, 2003 and 2002,

respectively.

‚ $5,044 million and $4,643 million at December 31, 2003 and 2002, respectively, that pertain to our guarantee of the payment of

principal and interest on (a) tax-exempt multifamily housing revenue bonds that support pass-through certiÑcates issued by third

parties and (b) multifamily mortgage loans that are originated and held by state and municipal agencies to support tax-exempt

multifamily housing revenue bonds.

‚ $2,278 million and $Ó0Ó at December 31, 2003 and 2002, respectively, of single-family mortgage loans held by third parties for

which we provided a credit guarantee.

(7) PCs and Structured Securities exclude $637,491 million and $752,671 million at December 31, 2003 and 2002, respectively, of

Structured Securities where Freddie Mac has resecuritized PCs and other previously issued Structured Securities. These excluded

Structured Securities do not increase Freddie Mac's credit related exposure and consist of single-class Structured Securities backed

by PCs, Real Estate Mortgage Investment Conduits, or REMICs and principal-only strips. The notional balance of interest-only

strips of $91,192 million and $113,654 million at December 31, 2003 and 2002, respectively, is excluded because this table is based

on unpaid principal balances. Also excluded are modiÑable and combinable REMIC tranches and interest and principal classes,

which collectively total $988,600 million and $1,301,666 million at December 31, 2003 and 2002, respectively, where the holder has

the option to exchange the security tranches for other pre-deÑned security tranches.

At December 31, 2003 and 2002, approximately 78 percent and 49 percent, respectively, of issued PCs

and Structured Securities (excluding securities issued by Freddie Mac and backed by Ginnie Mae CertiÑcates

or non-agency mortgage-related securities and other securities guaranteed by Freddie Mac) had corresponding GAs, GOs or PC residuals recognized on Freddie Mac's consolidated balance sheets. In comparison, as of

December 31, 2003 and 2002, 81 percent and 54 percent, respectively, of PCs and Structured Securities held

by third parties had a related guarantee asset and guarantee obligation established. At December 31, 2003,

30 percent of these PCs and Structured Securities had corresponding GAs, GOs or PC residuals recognized on

Freddie Mac's consolidated balance sheets due to the adoption of FIN 45 accounting on January 1, 2003.

Gains and Losses on Transfers of PCs and Structured Securities that are Accounted for as Sales

Freddie Mac recognized pre-tax gains of approximately $711 million, $874 million and $311 million for

the years ended December 31, 2003, 2002 and 2001, respectively, on transfers of PCs and Structured

Securities that were accounted for as sales under SFAS 125/140. (Subsequent to the issuance of our 2002

Information Statement dated February 27, 2004, Freddie Mac revised the amounts reported as gain on sale for

the years ended December 31, 2002 and 2001, respectively, to conform such previously reported amounts with

Freddie Mac

176
methods used in 2003 to quantify gains on sales. Such methods are described below). In connection with the

derivation of such gains (losses), the following can be observed:

‚ Such amounts are exclusive of gains (losses) on transfers of PCs and Structured Securities for

which all underlying mortgage-related assets were identiÑed as having been previously sold for

GAAP purposes;

‚ With respect to the sale of PCs and Structured Securities (a) that were classiÑed as trading for

investment accounting purposes and (b) for which no GAs and GOs were previously recognized,

such gains (losses) were calculated based upon the settlement date (of the sale) diÅerences

between recognized GAs and GOs; and

‚ With respect to the sale of PCs and Structured Securities (a) that were classiÑed as trading for

investment accounting purposes and (b) for which a corresponding PC residual balance was

recognized and classiÑed as trading, no related gain (loss) was included in such amounts given

that, through the point of sale, all related gains (losses) on such securities would have already

been recognized in earnings.

Key Valuation Assumptions Associated with Recognized GAs, GOs, Credit Enhancements and PC

Residuals that Correspond to PCs or Structured Securities Backed by Single-Family Mortgages

Freddie Mac recognizes GAs and GOs for PCs backed by residential mortgage loans and multifamily

mortgage loans in conjunction with transfers accounted for as sales under SFAS 125/140 as well as, beginning

on January 1, 2003, transactions that do not qualify as sales, but are accounted for as guarantees pursuant to

the requirements of FIN 45. At December 31, 2003, GAs totaled $3,686 million on Freddie Mac's

consolidated balance sheet and of that amount, approximately $24 million (or less than 1 percent), relates to

guarantees of multifamily mortgage loans. Consequently, the following discussion of key valuation assumptions and corresponding sensitivity analysis of recognized GAs, GOs, credit enhancements and PC residuals

focuses solely on PCs and Structured Securities backed by single-family mortgage loans.

Recognized GAs

Fair values of recognized GAs were calculated using an expected cash Öow approach. SpeciÑcally, Monte

Carlo simulations were used to project monthly prepayment and default rates across 300 housing price and

interest rate scenarios. For the years ended December 31, 2002 and 2001, Monte Carlo simulations were also

used to project monthly loss severity rates given that recognized GAs considered the fair value of pool

insurance, recourse and indemniÑcations. As discussed above in NOTE 1: SUMMARY OF SIGNIFICANT

ACCOUNTING POLICIES, Freddie Mac discontinued the inclusion of the referenced types of credit

enhancements as component parts of recognized GAs eÅective January 1, 2003. Therefore, eÅective

January 1, 2003, monthly loss severity rates were no longer included as part of Monte Carlo simulations that

were executed in connection with the projection of future cash Öows associated with GAs. In all cases, such

projections were used to forecast GA-related future cash Öows associated with approximately 300,000, 200,000

and 200,000 groups of mortgage loans for 2003, 2002 and 2001, respectively, that are distinguished based upon

diÅering combinations of various loan attributes (these groups of loans are referred to as ""Loan Groups'').

Freddie Mac then discounted the forecasted cash Öows using factors that were derived from modeled forward

interest rates (for each scenario path) and to which Freddie Mac applied an option-adjusted spread that was

implied from comparable agency interest-only securities.

For periods prior to March 31, 2001, Freddie Mac applied an option-adjusted spread of 150 basis points in

deriving appropriate discount rates, an adjustment management concluded was an appropriate premium based

on available interest-only security price information from the referenced periods (to which the option-adjusted

spread was applied). For periods subsequent to March 31, 2001, as additional option-adjusted spread data

became available, Freddie Mac improved this estimate by beginning to apply a trailing average optionadjusted spread of up to eight quarters that was derived from spot interest-only security prices (the trailing

average option-adjusted spreads ranged from 250 to 770 basis points between March 31, 2002 and

December 31, 2003).

Freddie Mac

177
Based upon the foregoing, Freddie Mac recognized the average of the present value of the GA-related

cash Öow generated for each Loan Group for each of the referenced scenarios as GAs. EÅective January 1,

2003, Freddie Mac modiÑed the composition of GA-related cash Öows used to derive fair value as a result of

changes to the accounting policies (changes of which are further described in ""NOTE 1: SUMMARY OF

SIGNIFICANT ACCOUNTING POLICIES''):

‚ Through December 31, 2002, the derived fair values of recognized GAs include the estimated

beneÑt of pool insurance and third party-provided recourse less the associated estimated premium

payments (where applicable) Freddie Mac would be required to make under the terms of these

credit enhancements. In 2003, Freddie Mac excluded the estimated beneÑts (net of related

estimated payment obligations) of such credit enhancements as a component of its recognized

GAs.

‚ Through December 31, 2002, and with respect to PCs issued to third parties in swap-based

transactions that were not accounted for as sales under SFAS 125/140, GA-related cash Öows

that were used for valuation purposes included only that portion of contractual guarantee fees that

corresponded to Buy Ups paid by Freddie Mac. However, with respect to those PCs that were

issued through such programs on or after January 1, 2003, GA-related cash Öows that were used

for valuation purposes included all contractual guarantee fees.

Recognized GOs

GOs are recognized at fair value at the inception of an executed guarantee and the fair value of a GO

constitutes a component part of the valuation of a PC residual (where recognized PC residual is eÅectively

equivalent to the net fair value of the underlying GA and GO). In this regard, and like the cash Öows

associated with recognized GAs, GO-related future cash Öows associated with each referenced Loan Group

were estimated using Monte Carlo simulation. The components of estimated future cash Öows associated with

GOs include: (a) estimates of expected future credit losses using statistically based models that evaluate a

variety of factors (such as default experience and loss severity trends) as well as an estimated risk premium for

the uncertainty in expected credit losses that would be required to be paid to a third party with a credit

standing, capital structure and regulatory oversight similar to those of Freddie Mac; (b) estimates of those

costs to administer the collection and distribution of payments on the mortgage loans underlying a PC; and

(c) expected net cash Öows due to security program cycles. When deriving the present value of GO-related

cash Öows for each scenario for each Loan Group, Freddie Mac used a convention that is similar to the

methodology described above to discount GA-related future cash Öows, except that a risk-free rate was used to

discount such cash Öows. Additionally, projected credit related costs that were factored into the GO related

cash Öows were benchmarked to the non-conforming loan securitization market.

Like recognized GAs, Freddie Mac recognized as GOs the average of the present value of the GOrelated cash Öows generated for each Loan Group for each of the scenarios.

Recognized PC residuals

PC residuals relate to certain PCs and Structured Securities held by Freddie Mac in its Retained

portfolio and Cash and investments portfolio and represent the fair value of the future cash Öows of guarantee

contracts that speciÑcally correspond to such PCs. Since the future cash Öows associated with such guarantee

contracts are represented by those that deÑne a PC's corresponding GA and GO, the fair value of a recognized

PC residual is eÅectively equivalent to the fair value of a GA less that of a corresponding GO. Accordingly,

the fair value of recognized PC residuals is determined in a manner that is reÖective of the methodologies

described above for recognized GAs and GOs.

Recognized Credit Enhancements

Many of the credit enhancements that Freddie Mac employs in connection with securitized mortgage

loans are recognized at fair value at the inception of each contract. In this regard, credit enhancements-related

future cash Öows associated with each referenced Loan Group were estimated using a Monte Carlo

simulation. More speciÑcally, and based upon the terms of a credit-enhancement contract, that portion of the

Freddie Mac

178
total estimated expected and unexpected credit loss components of GO-related future cash Öows that were

estimated for each Loan Group that would be reimbursed to Freddie Mac by a third party (e.g., a mortgage

insurer) are identiÑed as the estimated future cash inÖows due Freddie Mac on each of such contracts.

Projected cash inÖows in this case were then discounted using a risk free rate.

Freddie Mac recognized as an Other asset the average of the present value of the credit-enhancementrelated cash Öows generated for each Loan Group for each of the scenarios related to pool insurance, recourse

and indemniÑcations, while the average of the present value of the credit enhancements-related cash Öows

generated for each Loan Group for each of the scenarios related to primary mortgage insurance is recognized

at inception at fair value as a reduction of recognized GOs.

Credit enhancements that were recognized as Other assets had a carrying value of approximately

$195 million at December 31, 2003.

Other Retained Interests

Other Retained Interests (as deÑned in footnote 3 to Table 2.3 below) are valued based upon observed

market or matrix-based prices (for the latter, prices for comparable securities, as adjusted for product-speciÑc

attributes, are used as a basis to value such interests). Because these interests are not model-valued,

corresponding valuation assumptions are not provided in Table 2.2 below.

Freddie Mac

179
Table 2.2 summarizes the key assumptions Freddie Mac used in fair value measurements of recognized

GAs, GOs and PC residuals.

Table 2.2 Ì Key Assumptions Utilized in Fair Value Measurements(1)

2003 2002 2001

GA, GO and PC residual GA, GO and PC residual GA, GO and PC residual

Assumptions Range(6) Mean(7) Range(6) Mean(7) Range(6) Mean(7)

Internal rates of return(2)

GA ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 4.5%-15.1% 9.4% 5.9% - 15.7% 9.4% 5.3%-17.5% 9.6%

GO ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 1.9%-9.5% 5.6% 3.8% - 8.2% 6.0% 4.8%-8.1% 6.6%

PC residual ÏÏÏÏÏÏÏÏÏÏÏÏÏ 4.0%-12.2% 7.6% 5.1% - 11.8% 7.4% 5.1%-12.5% 7.9%

Prepayment rates(3)ÏÏÏÏÏÏÏÏÏ 7.5%-62.9% 22.6% 8.8% - 54.6% 22.5% 9.7%-53.7% 21.3%

Default rates(4) ÏÏÏÏÏÏÏÏÏÏÏÏ 0.1%-8.5% 1.2% 0.1% - 8.1% 1.2% 0.0%-8.1% 1.2%

Loss severity rates(5) ÏÏÏÏÏÏÏÏ 4.0%-46.0% 24.6% 3.6% - 48.4% 22.9% 3.7%-48.4% 22.6%

(1) The assumptions included in this table relate to those used to measure the fair value of GAs, GOs and PC residuals at the time of

securitization, which occurred throughout each of the years presented. Additionally, the range of assumptions used to facilitate the

valuation of recognized credit enhancements was consistent with those provided above for recognized GOs.

(2) The internal rates of return (""IRR'') reported above represent a duration weighted average of the discount rates used to value

recognized GAs and GOs. Such rates were derived by determining a single rate that equated (a) the simple average of future cash

Öows (for all 300 scenario paths described above) of the GA and GO for each Loan Group with that of (b) the calculated fair value

of the GA and GO for each loan group. With respect to PC residuals, IRRs reported above represent the weighted average of the

derived IRR values for corresponding GAs and GOs (where weightings are based upon the fair values of corresponding GAs and

GOs).

(3) Scenario average Prepayment rates are simulated on a monthly frequency, although rates reported above represent an unpaid

principal balance weighted average of annualized values of such Prepayment rates. With respect to GAs related to PCs backed by

multifamily mortgage loans.

(4) Default rates are simulated on a monthly frequency, although Default rates reported above represent simple averages of cumulative

default rates determined for each of the 300 scenarios for each Loan Group.

(5) Loss severity rates reported above represent the ratio of (a) the simple average of cumulative credit losses generated for each

scenario to (b) defaulted unpaid principal balance for each Loan Group.

(6) The lowest value in each presented range represents the smallest Ñrst percentile IRRs, prepayment rates, default rates, and loss

severity rates throughout 2003 and 2002. Likewise, the highest value in each range represents the highest of the 99th percentile

IRRs, prepayment rates, default rates, and loss severity rates throughout 2003 and 2002.

(7) Reported values represent the weighted average value of all IRRs, prepayment rates, default rates, and loss severity rates throughout

the 2003, 2002 and 2001 periods.

Weighted average lives of GAs and PC residuals during 2003, 2002 and 2001 ranged between 1.0 Ó

8.6 years, 1.5 Ó 7.8 years and 1.5 Ó 8.1 years, respectively, while the average, derived weighted average lives of

GAs and PC residuals for the same periods was 4.8, 5.0 and 4.9 years, respectively. Such derived weighted

average lives are reÖective of prepayment speed assumptions cited in Table 2.2 above.

A sensitivity analysis is provided in Table 2.3 below that illustrates estimated changes in the fair value as

of December 31, 2003 of recognized GAs, PC residuals and other retained interests (which are further

described below) based upon:

‚ 100 basis point and 200 basis point increases and decreases in discount rate assumptions.

‚ 10% and 20% increases and decreases in prepayment rate assumptions.

‚ 10% and 20% increases in default rate assumptions.

‚ 10% and 20% increases in loss severity rate assumptions.

GOs are not included in the sensitivity analysis in Table 2.3 since such items are not subsequently

measured on a fair value basis in the consolidated balance sheets.

Freddie Mac

180
Table 2.3 Ì Sensitivity Analysis

As of December 31, 2003

Other

Retained

PC residual(1) GA(2) Interests(3)

(dollars in millions)

Fair valueÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ $ 666 $3,686 $1,537(4)

Weighted average IRR assumptions: ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 6.5% 7.5% 8.8%

Impact on fair value of 100 bps upward change ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ $ (18) $ (134) $ (47)

Impact on fair value of 200 bps upward change ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ $ (35) $ (259) $ (96)

Impact on fair value of 100 bps downward changeÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ $ 17 $ 132 $ 63

Impact on fair value of 200 bps downward changeÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ $ 32 $ 256 $ 125

Weighted average prepayment rate assumptions: ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 17.6% 19.1% 12.9%

Impact on fair value of 10% upward change ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ $ (10) $ (165) $ (25)

Impact on fair value of 20% upward change ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ $ (21) $ (314) $ (53)

Impact on fair value of 10% downward changeÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ $ 9 $ 183 $ 40

Impact on fair value of 20% downward changeÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ $ 18 $ 389 $ 80

Weighted average default rate assumptions: ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 1.1% 1.2% N/A(5)

Impact on fair value of 10% upward change ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ $ (75) $ (3) N/A(5)

Impact on fair value of 20% upward change ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ $ (149) $ (6) N/A(5)

Weighted average loss severity rate assumptions: ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 27.0% N/A(6) N/A(5)

Impact on fair value of 10% upward change ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ $ (99) N/A(6) N/A(5)

Impact on fair value of 20% upward change ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ $ (200) N/A(6) N/A(5)

(1) At December 31, 2003 and 2002, approximately $47 million and $55 million, respectively, of recognized PC residuals were classiÑed

as available for sale and which, as a function of the unpaid principal balances of related PCs or Structured Securities, represented

approximately 19 percent of recognized PC residuals. Therefore, approximately 81 percent of the future change in fair value of

recognized PC residuals would be recognized in earnings, while the balance of such future changes in fair value would be reÖected in

AOCI, net of taxes.''

(2) At December 31, 2003, GAs totaled $3,686 million on Freddie Mac's consolidated balance sheet and of that amount, approximately

$24 million (or less than 1 percent), relates to PCs backed by multifamily mortgage loans. The sensitivity analysis presented in

Table 2.3 relates solely to GAs associated with PCs backed by single-family mortgage loans.

(3) Includes interest-only securities that were issued by Freddie Mac as part of a resecuritization transaction for which sale accounting

treatment was applied, Freddie Mac securities that were (a) purchased at a premium (to par) of 10 percent or greater and

(b) associated with either a securitization or resecuritization transaction for which sale accounting treatment was applied. Also

included are Freddie Mac securities held by the company for which securitized / resecuritized mortgage-related assets were (a) not

of high credit quality and (b) associated with either a securitization or resecuritization transaction for which sale accounting

treatment was applied.

(4) Includes accrued interest.

(5) Sensitivities of reported fair value to changes in default and loss severity rates associated with Other retained interests for which a

recognized PC residual exists are captured in the corresponding column entitled PC residual. Otherwise, with respect to Other

Retained Interests for which a PC residual was not recognized, such securities are valued for consolidated Ñnancial statement

purposes at the observed market price for such securities, prices of which reÖect inherent credit protection provided by Freddie Mac.

In this case, changes in the reported fair value of such securities would not be aÅected by variations in default and loss severity

assumptions and, as a result, a corresponding sensitivity analysis was not prepared.

(6) Severity of loss has no impact on the underlying cash Öows of the guarantee asset or the resultant fair values.

The sensitivity analysis in the preceding table is hypothetical. Each of the calculated eÅects summarized

above was determined by adjusting only one assumption at a time, as opposed to having determined a

hypothetical eÅect on fair value based upon assumed, correlating changes in more than one assumption

(where, in reality, a change in one assumption would generally result in changes to one or more of the other

speciÑed assumptions). Additionally, corresponding hedge transactions that were executed by Freddie Mac

were not considered in determining the hypothetical eÅects summarized above. Results provided above should

not be extrapolated to either (a) other sensitivity analyses in which changes in other assumptions are made or

(b) to other securities held by Freddie Mac.

Freddie Mac

181
Periodic Cash Flows on Transfers of Securitized Interests and Corresponding Retained Interests

Table 2.4 below summarizes:

‚ Cash Öows received by Freddie Mac in connection with transfers of all PCs and Structured

Securities to third parties that were accounted for as sales where retained interests related to

guarantee activities are initially recognized or resulted from a resecuritization transaction;

‚ Contractual guarantee-related cash Öows received by Freddie Mac in connection with recognized

GAs (as further discussed below);

‚ Contractual guarantee-related cash Öows received by Freddie Mac in connection with recognized

PC residuals (as further discussed below);

‚ Receipts of payments of principal and interest on Other Retained Interests; and

‚ Amounts paid by Freddie Mac in connection with the process to repurchase delinquent mortgage

loans that back PCs and Structured Securities.

Table 2.4 Ì Details of Cash Flows

Year Ended

December 31,

2003 2002(1) 2001(1)

(dollars in millions)

Cash Öows from:

Transfers of Freddie Mac securities that were accounted for as sales $347,874 $241,214 $158,166

Cash Öows received on retained interests:

GAs(2) ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 888 771 751

PC residuals(2)ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 439 325 263

Other Retained Interests ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 810 654 366

Purchases of delinquent or foreclosed loans(3) ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ (6,295) (5,126) (3,745)

(1) Certain cash Öow amounts previously reported for the years ended December 31, 2002 and 2001 have been revised to reÖect current

year quantiÑcation methods.

(2) Amounts speciÑcally correspond to guarantee fee-related cash Öows of recognized GAs and PC residuals, and do not reÖect cash

Öows received in connection with certain credit enhancements whose fair value in 2002 and 2001 was also reported as GAs or PC

residuals or certain GO-related cash Öows whose value was reported as a component of recognized PC residuals. Total cash Öows

received on recognized GAs during 2003, 2002 and 2001 were $888 million, $820 million and $803 million, respectively. Total net

cash Öows received on recognized PC residuals during 2003, 2002 and 2001 were $130 million, $169 million and $191 million,

respectively. Total GA cash Öows and total (net) cash Öows or PC residuals in 2003 are exclusive of proceeds received in connection

with credit enhancements.

(3) Represents delinquent mortgage loans purchased out of securitized pools that back issued PCs or Structured Securities.

Attribution of GA- and PC Residual-Related Cash Flows

As previously discussed, GAs and PC residuals are Ñnancial assets accounted for on a fair value basis.

Similar to other Ñnancial assets, cash Öows received in connection with GAs and PC residuals represent both a

return on such assets (i.e., imputed interest) as well as a return of such assets (i.e., return of principal).

Freddie Mac receives cash Öows on these assets related to contractual guarantee fees. Additionally, Freddie

Mac receives or pays other cash Öows associated with PC residuals that relate to the PC guarantee contract,

such as credit-related expenses and administrative expenses.

Rather than recording a portion of the cash Öows associated with GAs and PC residuals as a reduction of

their respective recorded amounts, similar to a return of principal, the related income and expense amounts

are recorded directly to the consolidated statements of income based on the nature of such cash Öows. For

example, guarantee-related cash inÖows are recorded as Management and guarantee income. As these cash

Öows are received, the remaining cash Öows (and the related GA and PC residual fair values) also decrease.

These decreases related to the GA and PC residuals are reÖected in the Gains (losses) on Guarantee asset for

Participation CertiÑcates, at fair value and Gains (losses) on investment activity, respectively.

Freddie Mac

182
Recognized GAs Ì Guarantee Fee-Related Cash Flows

Freddie Mac recorded $888 million, $771 million and $751 million of income associated with guaranteerelated cash Öows received during 2003, 2002 and 2001, respectively. These amounts were recorded to

Management and guarantee income. Of such amounts, approximately $244 million, $242 million and $252

million, respectively, related to imputed interest. The remaining portion related to return of principal, which

totaled $644 million, $529 million and $499 million for 2003, 2002 and 2001, respectively.

Recognized GAs Ì All Cash Flows

As noted above, Freddie Mac discontinued the inclusion of credit enhancements as a component part of

recognized GAs eÅective January 1, 2003. As a result, imputed interest amounts reported above for 2003 do

not consider cash Öows received that relate to credit enhancements that were previously recorded as a

component of recognized GAs. With respect to amounts reported in 2002 and 2001, Freddie Mac recorded

total income of $820 million and $803 million, respectively, associated with recognized GAs. Approximately

$259 million and $273 million of such amounts constitute imputed interest for 2002 and 2001, respectively,

while the remaining portions, which totaled $561 million and $530 million, related to return of principal for

2002 and 2001, respectively.

Recognized PC residuals

Freddie Mac recorded $439 million, $325 million and $263 million of income associated with guaranteerelated cash Öows received (in connection with the GA component of recognized PC residuals) during 2003,

2002 and 2001, respectively. These amounts were recorded to interest income. Of these amounts, approximately $109 million, $96 million and $93 million during 2003, 2002 and 2001, respectively, related to imputed

interest. The remaining portion related to return of principal, which totaled $330 million, $229 million and

$170 million during 2003, 2002 and 2001, respectively.

Considering all cash Öows related to recognized PC residuals (i.e., related to both the GA and GO

components of recognized PC residuals), the amount of imputed interest on PC residuals was approximately

$66 million, $73 million and $76 million during 2003, 2002 and 2001, respectively. Consistent with the

description above, however, cash Öows used to derive the referenced, imputed interest for 2003 were exclusive

of proceeds received in connection with credit enhancements.

Freddie Mac

183
NOTE 3: VARIABLE INTEREST ENTITIES

The company is a party to numerous entities that may be considered to be variable interest entities under

FIN 46-R. These variable interest entities include low-income multifamily housing tax credit partnerships,

certain Structured Securities trusts, and certain asset-backed investment entities. In addition, Freddie Mac

buys the highly-rated senior securities in certain mortgage securitization trusts that are variable interest

entities. Highly rated senior securities issued by these securitization trusts are not designed to absorb a

signiÑcant portion of the variability created by the assets/collateral in the trusts. Freddie Mac's investments in

these securities do not represent a signiÑcant variable interest in the securitization trusts. Further, Freddie

Mac invests in securitization entities that are qualifying special purpose entities (""QSPEs'') as described in

SFAS 125/140. Interests in QSPEs are exempt from FIN 46-R unless a company has the unilateral ability to

liquidate or change the QSPE.

The company implemented FIN 46-R in 2003 and adopted FIN 46-R for 2003 year-end reporting. The

implementation had no eÅect on Freddie Mac's consolidated Ñnancial statements. However, the company had

signiÑcant variable interests in certain variable interest entities (that are not consolidated because the

company is not the primary beneÑciary) as described below. SigniÑcant variable interests are those in which

Freddie Mac may be exposed to a signiÑcant portion of a variable interest entity's expected losses or expected

residual returns, which FIN 46-R deÑnes as variability around the variable interest entity's expected returns or

cash Öows. See ""NOTE 1: SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES Ì Consolidation of Variable Interest Entities'' for information concerning FIN 46.

Low Income Housing Tax Credit Partnerships

Freddie Mac invests as a limited partner in low-income housing tax credit partnerships formed for the

purpose of providing funding for aÅordable multifamily rental properties. These low-income housing tax credit

partnerships invest directly in limited partnerships that develop or rehabilitate multifamily rental properties.

Completed properties are rented to qualiÑed low-income tenants, allowing the properties to be eligible for

federal tax credits. A general partner operates the partnership, identifying investments and obtaining debt

Ñnancing as needed to Ñnance partnership activities. Although these partnerships generate operating losses,

Freddie Mac realizes a return on its investment through reductions in income tax expense that result from tax

credits and the deductibility of the operating losses. The partnership agreements are typically structured to

meet a required 15-year period of occupancy by qualiÑed low-income tenants. These investments were made

between 1989 and 2003. At December 31, 2003, Freddie Mac did not guarantee any obligations of these

partnerships and Freddie Mac's exposure is limited to the amount of its investments.

As of December 31, 2003, the company had unconsolidated investments in 130 housing tax credit

partnerships in which it is reasonably possible that Freddie Mac has a signiÑcant variable interest. The size of

these partnerships at December 31, 2003, as measured in total assets, was approximately $5.9 billion. These

partnerships are accounted for using the equity method, as described in ""NOTE 1: SUMMARY OF

SIGNIFICANT ACCOUNTING POLICIES.''

As a limited partner, Freddie Mac's maximum exposure to loss equals the book value of its equity

investment. As of December 31, 2003, Freddie Mac's maximum exposure to loss on unconsolidated housing

tax credit partnerships, in which it is reasonably possible that Freddie Mac has a signiÑcant variable interest,

was approximately $2.2 billion. Low-income housing tax credit partnerships created on or after February 1,

2003 were evaluated under FIN 46-R and there was no impact to the consolidated Ñnancial statements. Under

the transition provisions of FIN 46-R, those partnerships created prior to February 1, 2003 will be evaluated in

2004 and any impact to the consolidated Ñnancial statements is not expected to be material.

Asset-backed Investment Trusts

Freddie Mac invests in a variety of non-mortgage-related asset-backed investment trusts. These

investments represent interests in trusts consisting of a pool of receivables or other Ñnancial assets, typically

credit card receivables, auto loans or student loans. The trusts act as vehicles to allow originators to securitize

assets. The originators of the Ñnancial assets or the underwriters of the deal create the trusts and typically own

the residual interest in the trust assets.

Freddie Mac

184
Securities are structured from the underlying pool of assets to provide for varying degrees of risk. Primary

risks include potential loss from the credit risk and interest rate risk of the underlying pool. Freddie Mac

invests in these securities to manage its cash Öows, create a diverse source of liquidity and achieve proÑtable

investment returns. These investments were made between 2000 and 2003.

At December 31, 2003, the company had investments in 15 trusts related to asset-backed securities in

which Freddie Mac has a signiÑcant variable interest. The size of these non-mortgage asset-backed trusts at

December 31, 2003, as measured by total assets, was approximately $7.9 billion.

As an investor, Freddie Mac's maximum exposure to loss consists of the book value of its investment. As

of December 31, 2003, Freddie Mac's maximum exposure to loss on non-mortgage asset-backed trusts in

which Freddie Mac has a signiÑcant variable interest was approximately $1.8 billion. These investments are

typically senior interests rated AA Ó AAA.

Structured Securities Ì T-Series Trusts

In T-Series transactions (or alternative collateral deals), a seller or sellers of mortgage loans transfers

mortgage loans to a trust speciÑcally for the purpose of issuing securities collateralized by the mortgage loans.

The trust issues various senior and subordinated interests. Freddie Mac guarantees and purchases certain

senior interests issued by the trust. The subordinated interests of the trust are generally either held by the

seller or other party or sold in the capital markets. Simultaneous with the guarantee and purchase of certain

senior interests issued by the trust, Freddie Mac issues Structured Securities, which Freddie Mac guarantees.

These Structured Securities represent an interest in the senior interests issued by the trust.

At December 31, 2003, the company had investments or guarantees related to two T-Series trusts, in

which Freddie Mac has a signiÑcant variable interest. Freddie Mac's involvement in the trusts began in 1996

and 2002, respectively. The size of these trusts at December 31, 2003, as measured in total assets, was

approximately $367 million.

As of December 31, 2003, Freddie Mac's maximum exposure to loss on T-Series transactions, in which

Freddie Mac has a signiÑcant variable interest, was approximately $339 million, consisting of the book value

of our investments plus incremental guarantees of the senior interests issued by the trusts that are held by third

parties.

Freddie Mac

185
NOTE 4: FINANCIAL GUARANTEES

Freddie Mac executes a variety of Ñnancial guarantees. Each of the principal types of such guarantees,

including relevant qualitative and quantitative information associated with such items, is further discussed

below.

Principal and Interest Guarantees of PCs and Structured Securities

As is further discussed in ""NOTE 2: TRANSFERS OF SECURITIZED INTERESTS IN MORTGAGE-RELATED ASSETS,'' Freddie Mac issues two types of mortgage-related securities: PCs and

Structured Securities. PCs represent undivided interests in pools of mortgage loans that are secured by either

single-family or multifamily mortgage loans. Similarly, Structured Securities represent undivided interests in

PCs or other mortgage-related securities that are issued by either Ginnie Mae or non-agency issuers. Freddie

Mac guarantees the payment of principal and interest on all issued PCs and Structured Securities. Freddie

Mac's guarantees related to Structured Securities include its guarantees on PCs or any non-Freddie Mac

mortgage-related securities that underlie these Structured Securities.

Depending upon the nature by which we transfer PCs or Structured Securities to third parties in 2003, all

such transfers, which totaled $713,249 million, are accounted for pursuant to the requirements of FIN 45 and

SFAS 125/140. In either case, and upon completion of the transfer of PCs or Structured Securities to third

parties, Freddie Mac will recognize the fair value of its obligation to make guarantee payments. Prior to 2003,

all such transfers did not result in the recognition of a guarantee asset or guarantee obligation. The methods by

which Freddie Mac accounts for such guarantees are further discussed in ""NOTE 1: SUMMARY OF

SIGNIFICANT ACCOUNTING POLICIES.''

The maximum potential amount of future principal payments Freddie Mac could be required to make in

connection with the unpaid principal balance of all PCs and Structured Securities held by third parties totaled

$752 billion and $730 billion at December 31, 2003 and 2002, respectively. Included in these amounts are

$5.0 billion and $4.6 billion at December 31, 2003 and 2002, respectively, that pertains to guarantees related to

multifamily housing revenue bonds that come in two principal forms. First, Freddie Mac provides a guarantee

of the payment of principal and interest on tax-exempt multifamily housing revenue bonds that support passthrough certiÑcates. These housing revenue bonds are collateralized by mortgage loans on low- and moderateincome multifamily housing projects. Secondly, Freddie Mac guarantees the payment of principal and interest

related to low- and moderate- income multifamily mortgage loans that are originated and held by state and

municipal agencies to support tax-exempt multifamily housing revenue bonds. Freddie Mac also provides a

guarantee of the availability of funds totaling $4.5 billion and $3.7 billion, at December 31, 2003 and 2002,

respectively, to enable the repurchase by others of tendered tax-exempt pass-through certiÑcates and housing

revenue bonds that are unable to be remarketed. The repurchased securities are then pledged to Freddie Mac

as collateral for this funding until such time as the securities can be remarketed. There have been no payments

made to date by Freddie Mac under this guarantee.

Generally, the contractual terms of Freddie Mac's guarantees on PCs and Structured Securities are 15 to

30 years. However, the actual term of each guarantee may be signiÑcantly less than the contractual terms due

to the prepayment characteristics of the mortgage-related assets that back PCs and Structured Securities.

Maximum potential interest payments Freddie Mac could be required to make associated with these

guarantees are not expected to signiÑcantly exceed 120 days of interest at the certiÑcate rate given that

Freddie Mac generally begins a process to purchase the defaulted mortgages when they have been delinquent

for 120 consecutive days.

In connection with PCs or Structured Securities backed by single-family mortgage loans, Freddie Mac

has maximum coverage totaling $28.9 billion and $33.0 billion in primary mortgage insurance as of

December 31, 2003 and 2002, respectively, $5.2 billion and $4.1 billion in pool insurance and other credit

enhancements as of December 31, 2003 and 2002, respectively, and $5.9 billion in recourse to lenders as of

December 31, 2003 and 2002. In addition, $4.1 billion and $7.5 billion of issued Structured Securities relate to

Ginnie Mae CertiÑcates, which are backed by the full faith and credit of the U.S. government, as of

December 31, 2003 and 2002, respectively. With respect to PCs backed by multifamily mortgage loans,

Freddie Mac

186
Freddie Mac has maximum combined credit enhancements totaling $9.5 billion and $2.3 billion at

December 31, 2003 and 2002, respectively.

At December 31, 2003, Freddie Mac has a recognized Guarantee obligation for Participation CertiÑcates

on the consolidated balance sheets of $2.9 billion, which includes $0.8 billion of Day One DiÅerences. At

December 31, 2002, the Guarantee obligation for Participation CertiÑcates totaled $1.4 billion. In addition,

the company has a Reserve for Guarantee Losses on Participation CertiÑcates that totalled $125 million and

$88 million at December 31, 2003 and 2002, respectively for incurred credit losses that were recognized in

conjunction with PCs and Structured Securities held by third parties.

Guarantees of Stated Final Maturity of Issued Structured Securities

Freddie Mac commonly issues Structured Securities with stated Ñnal maturities that are shorter than the

stated maturity of the underlying mortgage loans. To the extent that assets that back such Structured

Securities have not fully matured as of the stated Ñnal maturity date of such securities, Freddie Mac will

sponsor an auction of the underlying assets to the extent a third party dealer who holds a par-based call option

on such underlying assets does not exercise its option to purchase such underlying assets (an option which, if

exercised, would provide a Ñnal set of redemption-based cash Öows that Freddie Mac would pass through to

investors in such Structured Securities). If an auction does occur, Freddie Mac would pass through proceeds

received to investors of such Structured Securities. To the extent, however, that auction proceeds are

insuÇcient to cover unpaid principal amounts due to investors in such Structured Securities, Freddie Mac is

obligated to fund such principal. With respect to such guarantees of stated Ñnal maturity, Freddie Mac

eÅectively writes a cash-settled put option to investors in such Structured Securities. Such guarantees are

accounted for as derivative instruments pursuant to the requirements of SFAS 133.

As of December 31, 2003 and 2002, the maximum potential amount of payments Freddie Mac could be

required to make under such guarantees was $8.4 billion and $13.3 billion, respectively, which represents the

outstanding unpaid principal balance of the underlying mortgage loans. As of December 31, 2003 and 2002,

the total fair value of recognized liabilities concerning such guarantees was $1.0 million and $5.8 million,

respectively. The longest remaining contractual maturity of any outstanding written put option was 16 years

and 28 years, as of December 31, 2003 and 2002, respectively; however, the actual terms may be signiÑcantly

less than the contractual terms as the amortizing notional balance is linked to prepayable mortgage loans.

IndemniÑcations

In connection with various business transactions, Freddie Mac provides indemniÑcation to counterparties

for breaches of standard representations and warranties in contracts entered into in the normal course of

business, based on an assessment that the risk of loss would be remote. It is diÇcult to estimate Freddie Mac's

maximum exposure under these indemniÑcation agreements since in many cases there are no stated or

notional amounts included in the indemniÑcation clauses. However, the contingencies triggering the obligation

to indemnify have not occurred and are not expected to occur. Such representations and warranties pertain to

hold harmless clauses, adverse changes in tax laws and potential claims from third parties related to items

such as actual or alleged infringement of intellectual property. At December 31, 2003, there are Ñfteen

identiÑed transactions that contain intellectual property related indemniÑcations, as deÑned by FASB StaÅ

Position No. 45-1, ""Accounting for Intellectual Property Infringement IndemniÑcations under FASB

Interpretation No. 45.'' Freddie Mac has not recorded any liabilities related to these indemniÑcations in its

consolidated balance sheets as of December 31, 2003 and 2002.

Other Guarantees

Freddie Mac has guaranteed the performance of interest-rate swap contracts in two circumstances. First,

as part of a resecuritization transaction, Freddie Mac transferred certain swaps and related assets to a third

party. Freddie Mac guaranteed that interest income generated from the assets would be suÇcient to cover the

required payments under the interest-rate swap contracts. In the other circumstance, Freddie Mac guaranteed

that a customer would perform under an interest-rate swap contract linked to the customer's variable rate

mortgage. The maximum remaining terms of any of these guarantees at December 31, 2003 and 2002 was

Freddie Mac

187
27 years and 30 years, respectively; however, the actual terms may be signiÑcantly less than the contractual

terms as the amortizing notional balance of the swaps is linked to prepayable mortgage loans.

Freddie Mac provides guarantees to reimburse servicers for premiums paid to acquire servicing in

situations where Freddie Mac requires the original seller to repurchase the loan and the original seller is

unable to perform under a separate agreement to reimburse the servicer for those servicing premiums. Freddie

Mac's servicing related premium guarantees issued in 2003 all extend through 2008.

Freddie Mac entered into written put options that required the company to purchase certain Öoating-rate

mortgage-related securities on speciÑed dates and at speciÑed interest rate spreads over an interest rate index.

These written options, which eÅectively represent market value guarantees on Ñnancial assets held by Freddie

Mac's counterparty to such options, were accounted for as derivatives and were recorded at fair value in the

consolidated balance sheets. The contracts expired as of December 31, 2003.

Table 4.1 presents information about other guarantees extended by Freddie Mac for the periods

presented.

Table 4.1 Ì Guarantees Extended by Freddie Mac

Year Ended December 31, 2003 Year Ended December 31, 2002

Maximum potential Maximum potential

amount of future amount of future

payments Carrying Value(1) payments Carrying Value(1)

(dollars in millions)

Swap payment guarantees(2)ÏÏÏ $136 $Ì $ 360 $Ì

Servicing released premiums(2) 151 Ì 137 Ì

Written put options on assetbacked securities(3) ÏÏÏÏÏÏÏÏ Ì Ì 564 1

Others(2)(4) ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 1 Ì 2 Ì

Total ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ $288 $Ì $1,063 $ 1

(1) Represents the carrying value of the liability, if any, recorded on Freddie Mac's consolidated balance sheets related to these

guarantees.

(2) Freddie Mac has not established a liability on its consolidated balance sheets at December 31, 2003 and 2002 because it was not

probable that it would be required to make payments under these contractual arrangements on those dates.

(3) Freddie Mac does not have any written put options on asset-backed securities outstanding at December 31, 2003.

(4) Represents a line of credit extended by Freddie Mac, which decreases over the contractual term.

Freddie Mac

188
NOTE 5: RETAINED PORTFOLIO AND CASH AND INVESTMENTS PORTFOLIO

Table 5.1 summarizes amortized cost, estimated fair values and corresponding gross unrealized gains and

losses by major security type for available-for-sale mortgage-related securities held in the Retained portfolio

and available-for-sale non-mortgage-related securities held in the investments portfolio at December 31, 2003,

2002 and 2001, respectively.

Table 5.1 Ì Available-For-Sale Securities

December 31, 2003

Gross Gross

Amortized Unrealized Unrealized

Cost Gains Losses Fair Value

(dollars in millions)

Retained portfolio

Mortgage-related securities issued by:

Freddie Mac ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ $378,956 $ 7,010 $(1,540) $384,426

Fannie MaeÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 75,705 1,524 (385) 76,844

Ginnie MaeÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 2,785 134 (1) 2,918

Other ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 107,522 2,152 (265) 109,409

Obligations of states and political subdivisions ÏÏÏÏÏÏÏÏÏ 7,449 306 (26) 7,729

Total mortgage-related securities ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 572,417 11,126 (2,217) 581,326

Investments

Non-mortgage-related securities:

Asset-backed securities ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 16,209 394 (7) 16,596

Corporate debt securities ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 4,698 230 (4) 4,924

Obligations of states and municipalitiesÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 9,494 Ì Ì 9,494

Commercial paper ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 150 Ì Ì 150

Preferred stock ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 64 Ì Ì 64

Total non-mortgage-related securities ÏÏÏÏÏÏÏÏÏÏÏÏ 30,615 624 (11) 31,228

Total available-for-sale securities ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ $603,032 $11,750 $(2,228) $612,554

December 31, 2002

Gross Gross

Amortized Unrealized Unrealized

Cost Gains Losses Fair Value

(dollars in millions)

Retained portfolio

Mortgage-related securities issued by:

Freddie Mac ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ $316,464 $11,985 $ (454) $327,995

Fannie MaeÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 79,203 2,770 (43) 81,930

Ginnie MaeÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 4,886 293 (4) 5,175

Other ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 71,104 2,755 (361) 73,498

Obligations of states and political subdivisions ÏÏÏÏÏÏÏÏÏ 7,424 337 (94) 7,667

Total mortgage-related securities ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 479,081 18,140 (956) 496,265

Investments

Non-mortgage-related securities:

Asset-backed securities ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 33,988 727 (21) 34,694

Debt securities issued by the U.S. Treasury and other

U.S. government corporations and agencies ÏÏÏÏÏÏÏÏÏ 12,153 344 (4) 12,493

Corporate debt securities ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 9,742 385 (25) 10,102

Obligations of states and municipalitiesÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 6,639 2 Ì 6,641

Commercial paper ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 2,240 Ì Ì 2,240

Preferred stock ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 244 5 Ì 249

Total non-mortgage-related securities ÏÏÏÏÏÏÏÏÏÏÏÏ 65,006 1,463 (50) 66,419

Total available-for-sale securities ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ $544,087 $19,603 $(1,006) $ 562,684

Freddie Mac

189
December 31, 2001

Gross Gross

Amortized Unrealized Unrealized

Cost Gains Losses Fair Value

(dollars in millions)

Retained portfolio

Mortgage-related securities issued by:

Freddie Mac ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ $267,848 $ 5,030 $ (897) $271,981

Fannie MaeÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 70,048 1,311 (264) 71,095

Ginnie MaeÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 5,619 226 (4) 5,841

Other ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 42,447 777 (153) 43,071

Obligations of states and political subdivisions ÏÏÏÏÏÏÏÏÏ 6,993 96 (156) 6,933

Total mortgage-related securities ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 392,955 7,440 (1,474) 398,921

Investments

Non-mortgage-related securities:

Asset-backed securities ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 26,016 288 (29) 26,275

Corporate debt securities ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 9,542 160 (53) 9,649

Debt securities issued by the U.S. Treasury and other

U.S. government corporations and agencies ÏÏÏÏÏÏÏÏÏ 1,783 22 (55) 1,750

Obligations of states and political subdivisions ÏÏÏÏÏÏÏÏÏ 4,284 3 (1) 4,286

Other ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 12,847 3 Ì 12,850

Total non-mortgage-related securities ÏÏÏÏÏÏÏÏÏÏÏÏ 54,472 476 (138) 54,810

Total available-for-sale securities ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ $447,427 $ 7,916 $(1,612) $453,731

In 2003 and 2002, Freddie Mac received proceeds of $142,167 million and $172,964 million, respectively,

from the sale of securities from its available-for-sale portfolio, resulting in gross realized gains of $1,903 million and gross realized losses of $(1,077) million in 2003 and gross realized gains of $1,575 million and gross

realized losses of $257 million in 2002. This information regarding gains and losses was not available prior to

2002 and therefore is presented on a net basis for 2001. In 2001, Freddie Mac received proceeds of

$102,771 million from the sale of securities from its available-for-sale portfolio, resulting in net realized gains

of $176 million.

On January 1, 2001, Freddie Mac transferred $36.3 billion of securities from available for sale to trading

in conjunction with the implementation of SFAS 133, resulting in gross unrealized gains of $105 million and

gross unrealized losses of $384 million being recorded to earnings.

Management has determined that the gross unrealized losses on the company's available-for-sale

mortgage-related and non-mortgage related securities at December 31, 2003 are not other than temporary in

nature. Management conducts periodic reviews to identify and evaluate investments that have indications of

possible impairment. Impairment losses related to investments in debt securities are recognized in earnings if

fair value is less than amortized cost and the decline is considered other than temporary. See ""NOTE 1:

SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES'' for additional information about the

company's impairment accounting policies.

Freddie Mac

190
Table 5.2 below shows the fair value of available-for-sale securities in a gross unrealized loss position at

December 31, 2003:

Table 5.2 Ì Available-For-Sale Securities in an Unrealized Loss Position at December 31, 2003

Less than 12 months 12 months or Greater Total

Gross Gross Gross

Unrealized Unrealized Unrealized

Fair Value Losses Fair Value Losses Fair Value Losses

(dollars in millions)

Retained portfolio

Mortgage-related securities issued by:

Freddie Mac ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ $133,679 $(1,486) $ 7,376 $ (54) $141,055 $(1,540)

Fannie Mae ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 29,011 (372) 407 (13) 29,418 (385)

Ginnie Mae ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 317 (1) 6 Ì 323 (1)

Other ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 34,080 (233) 5,453 (32) 39,533 (265)

Obligations of states and political

subdivisions ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 660 (12) 269 (14) 929 (26)

Total mortgage related-securities ÏÏÏÏÏÏ 197,747 (2,104) 13,511 (113) 211,258 (2,217)

Investments

Non-mortgage related securities:

Asset-backed securities ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 1,569 (6) 406 (1) 1,975 (7)

Corporate debt securities ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 249 (2) 436 (2) 685 (4)

Obligations of states and political

subdivisions ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 402 Ì Ì Ì 402 Ì

Commercial Paper ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 64 Ì Ì Ì 64 Ì

Total non-mortgage related securitiesÏÏÏ 2,284 (8) 842 (3) 3,126 (11)

Total ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ $200,031 $(2,112) $14,353 $(116) $214,384 $(2,228)

The unrealized losses on available-for-sale securities as of December 31, 2003 of $2,228 million noted in

Table 5.1 and Table 5.2, relate to approximately 56 thousand individual lots representing approximately

8 thousand separate securities. Freddie Mac routinely purchases multiple lots of individual securities at

diÅerent points in time and at diÅerent costs. The company determines gross unrealized gains and losses by

speciÑcally identifying investment positions at the lot level and, thus, Freddie Mac often holds several lots of

one security including both unrealized gain and unrealized loss positions, depending upon the amortized cost

of the speciÑc lot.

The following is management's analysis as to why each type of available-for-sale mortgage-related

security in an unrealized loss position is not considered other-than-temporarily impaired:

‚ Freddie Mac securities: The unrealized losses on Freddie Mac securities are primarily a result of

movements in interest rates. The extent and duration of the decline in fair value relative to the

amortized cost has not met the company's criteria that are used to indicate other-than-temporary

impairment as described in ""NOTE 1: SUMMARY OF SIGNIFICANT ACCOUNTING

POLICIES.'' The company reviews the estimated credit exposure of the mortgages that underlie

these securities. As a result of this review, management has determined that these securities are

not other than temporarily impaired. See ""NOTE 2: TRANSFERS OF SECURITIZED

INTERESTS IN MORTGAGE-RELATED ASSETS'' for further information on our estimates

of credit exposure and credit support.

‚ Fannie Mae securities and Obligations of States and Political Subdivisions: The unrealized

losses on Fannie Mae securities and Obligations of States and Political Subdivisions are a result of

movements in interest rates. The extent and duration of the decline in fair value relative to the

amortized cost has not met the company's objective criteria that are used to indicate other-thantemporary impairment. The issuer guarantees related to these securities have led management to

conclude that any credit risk is minimal.

‚ Other securities in the Retained Portfolio: The unrealized losses on the private-label mortgagerelated securities included in Other are principally a result of movements in interest rates. The

extent and duration of the decline in fair value relative to the amortized cost has not met the

company's objective criteria that are used to indicate other-than-temporary impairment. These

securities are all investment grade (i.e., rated BBB or better on a Standard & Poor's (""S&P'')

equivalent scale).

Freddie Mac

191
Table 5.3 summarizes the estimated fair values by major security type for trading securities at

December 31, 2003, 2002 and 2001, respectively.

Table 5.3 Ì Trading Securities

December 31,

2003 2002 2001

Fair Value Fair Value Fair Value

(dollars in millions)

Retained portfolio

Mortgage-related securities issued by:

Freddie Mac ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ $17,590 $28,535 $40,592

Fannie Mae ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 586 519 722

Ginnie Mae ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 24 50 86

Total ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 18,200 29,104 41,400

Investments

Mortgage-related securities issued by:

Freddie Mac ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ $17,266 $20,244 $20,220

Fannie Mae ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 15,052 11,029 6,099

Ginnie Mae ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 490 1,062 875

Other ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 9 31 Ì

Total ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 32,817 32,366 27,194

Non-mortgage-related securities:

Asset-backed securities ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ $ 52 $ 96 $ 22

Debt securities issued by the U.S. Treasury and other U.S.

government corporations and agenciesÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 479 1,004 165

Mutual funds ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ Ì 540 1,194

Commercial paper ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 341 479 158

Corporate debt securities ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 437 229 Ì

Debt securities issued by foreign governments ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 5 4 Ì

Other ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ Ì 57 Ì

Total ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 1,314 2,409 1,539

Total trading securities ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ $52,331 $63,879 $70,133

The portion of Gains (losses) on investment activity that relates to trading securities still held in the

trading portfolio at December 31, 2003, 2002 and 2001 is $(402) million, $1,293 million and $359 million,

respectively.

At December 31, 2003, Freddie Mac held securities in its Retained portfolio and investments portfolio

issued by two highly-rated issuers, Fannie Mae and Ginnie Mae, that individually exceed 10 percent of

Stockholders' equity. Table 5.4 details the aggregate fair value of the securities from each issuer and the

aggregate fair value of the company's holdings of each issuer's securities as a percent of Stockholders' equity.

Table 5.4 Ì Issuers Greater than 10 Percent of Stockholders' Equity

December 31, 2003

Fair Value % Equity

(dollars in millions)

Fannie Mae(1) ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ $92,482 294%

Ginnie Mae(1) ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 3,432 11

TotalÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ $95,914 305%

(1) Represents mortgage-related securities guaranteed by each entity, regardless of whether these securities have been issued through a

separate trust or not.

Freddie Mac

192
Table 5.5 summarizes, by major security type, the remaining contractual maturities of available-for-sale

mortgage-related and non-mortgage-related securities at December 31, 2003.

Table 5.5 Ì Maturities

Due after 1 Due after 5

Due 1 year through 5 through 10 Due after

December 31, 2003 or less years years 10 years Total

(dollars in millions)

AVAILABLE FOR SALE

Retained portfolio

Total mortgage-related securities(1)

Amortized Cost ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ $ 33 $ 6,468 $24,558 $541,358 $572,417

Fair Value ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 33 6,709 25,715 548,869 581,326

Investments

Non-mortgage-related securities

Asset-backed securities(1)

Amortized Cost ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 7 10,363 5,629 210 16,209

Fair Value ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 7 10,566 5,812 211 16,596

Corporate debt securities

Amortized Cost ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 608 3,951 30 109 4,698

Fair Value ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 610 4,161 32 121 4,924

Obligations of states and political subdivisions

Amortized Cost ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 571 92 173 8,658 9,494

Fair Value ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 571 92 173 8,658 9,494

Commercial paper:

Amortized Cost ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 150 Ì Ì Ì 150

Fair Value ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 150 Ì Ì Ì 150

Preferred stock

Amortized Cost ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ Ì 64 Ì Ì 64

Fair Value ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ Ì 64 Ì Ì 64

Total non-mortgage-related securities

Amortized Cost ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 1,336 14,470 5,832 8,977 30,615

Fair Value ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 1,338 14,883 6,017 8,990 31,228

Total available for sale

Amortized Cost ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ $1,369 $20,938 $30,390 $550,335 $603,032

Fair Value ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ $1,371 $21,592 $31,732 $557,859 $612,554

(1) Information provided for mortgage-related securities and other asset-backed securities is based on contractual maturities, which may

not represent their expected lives. Obligations underlying these securities may be prepaid at any time without penalty.

Freddie Mac

193
Table 5.6 presents the changes in AOCI, net of taxes, related to available-for-sale securities. The

Unrealized holding (losses) gains, net of tax (beneÑt) expense line represents the net mark-to-fair value

adjustments recorded on available-for-sale securities throughout the year after the eÅects of the company's

statutory tax rate of 35 percent. The ReclassiÑcation adjustment for realized (gains) losses included in net

income, net of tax (expense) represents the amount of those mark-to-fair value adjustments after the eÅects

of the company's statutory tax rate of 35 percent that have been recognized in earnings due to a sale of an

available-for-sale security or the recognition of an impairment loss.

Table 5.6 Ì AOCI, Net of Taxes, Related to Available-for-Sale Securities

Year Ended December 31,

2003 2002 2001

(dollars in millions)

Beginning balance ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ $12,217 $ 4,200 $1,084

Net unrealized investment gains (losses) during the period:

Unrealized holding (losses) gains, net of tax (beneÑt) expense of

$(3,107), $4,583 and $1,723, respectively ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ (5,770) 8,512 3,200

ReclassiÑcation adjustment for realized (gains) losses included in net

income, net of tax (expense) of $(53), $(267), and $(45),

respectively(1)ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ (98) (495) (84)

Ending balance ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ $ 6,349 $12,217 $4,200

(1) Includes impairment losses on securities where the decline in fair value is considered to be other than temporary of $438 million,

$422 million and $228 million, net of tax for the years ended December 31, 2003, 2002 and 2001, respectively.

Freddie Mac

194
Secured Financing Transactions

Freddie Mac enters into several types of secured Ñnancing transactions, including interest-rate swap

agreements, secured borrowings and secured lendings. Repurchase transactions are treated as secured

borrowings, because Freddie Mac sells securities to a counterparty for cash and will purchase the same

collateral back at a future date. Securities purchased under agreements to resell (reverse repurchase

agreements) are eÅectively collateralized lending transactions in which Freddie Mac purchases a security with

an agreement to sell back the same security at a speciÑed time.

Freddie Mac's counterparties are required to post collateral for reverse repurchase transactions and

interest-rate swap agreements. Even though it is Freddie Mac's practice not to repledge assets held as

collateral, based on master agreements, most of the collateral can be repledged. At December 31, 2003 and

2002, the fair value amount of collateral held by Freddie Mac under secured lending transactions and interestrate swap agreements that was available for repledging was approximately $8.2 billion and $6.5 billion,

respectively.

Freddie Mac is also required to post collateral for margin requirements with some custodians in

connection with secured Ñnancing and daily trade activities. Based on agreements between Freddie Mac and

the custodians, as illustrated in Table 5.7, some collateral may be permitted by contract to be repledged by the

custodian. Freddie Mac has parenthetically disclosed on the consolidated balance sheets the fair value of

assets pledged as collateral with the right to repledge. Table 5.7 summarizes all assets pledged as collateral by

the company including pledged assets that the secured party can repledge and those that cannot be repledged.

Table 5.7 Ì Collateral Pledged

Year Ended

December 31,

2003 2002

(dollars in millions)

Assets pledged with ability for secured party to repledge (parenthetically

disclosed on the consolidated balance sheets)

Available for saleÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ $282 $ 717

Trading ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 61 153

Subtotal ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 343 870

Assets pledged without ability for secured party to repledge

Available for saleÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 558 627

Trading ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 28 8

Subtotal ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 586 635

Total assets pledged ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ $929 $1,505

Cash and Cash Equivalents

Table 5.8 summarizes the components of Cash and cash equivalents for the years ended December 31,

2003 and 2002, respectively.

Table 5.8 Ì Cash and Cash Equivalents

December 31,

2003 2002

(dollars in millions)

Interest-bearing(1) ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ $23,100 $10,729

Non-interest-bearing ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 42 63

Total ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ $23,142 $10,792

(1) Includes collateral that Freddie Mac holds when its exposure to its derivative counterparties exceeds mutually agreed upon limits.

Interest earned on the collateral is paid to the counterparties at the contractual rate, while Freddie Mac retains any interest earned

above the contractual rate.

Freddie Mac

195
NOTE 6: LOAN LOSS RESERVES

Freddie Mac maintains separate loan loss reserves for mortgage loans in the Retained portfolio that it

classiÑes as held for investment and for credit-related losses associated with certain mortgage loans that

underlie PCs held by third parties.

Table 6.1 summarizes loan loss reserve activity during 2003, 2002 and 2001.

Table 6.1 Ì Detail of Loan Loss Reserves Balance

December 31,

2003 2002 2001

Reserves related to: Reserves related to: Reserves related to:

Total Loan Total Loan Total Loan Retained PCs Loss Retained PCs Loss Retained PCs Loss

Mortgages Outstanding Reserves Mortgages Outstanding Reserves Mortgages Outstanding Reserves

(dollars in millions)

Beginning balance ÏÏÏÏÏÏÏÏÏÏÏÏ $ 177 $ 88 $ 265 $ 103 $121 $ 224 $ 100 $129 $ 229

Provision for credit losses(1) ÏÏ 102 (92) 10 161 (33) 128 40 (8) 32

Charge-oÅs(1) ÏÏÏÏÏÏÏÏÏÏÏÏÏÏ (224) Ì (224) (171) Ì (171) (129) Ì (129)

Recoveries(1)ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 119 Ì 119 84 Ì 84 92 Ì 92

Adjustment for change in

accounting(2) ÏÏÏÏÏÏÏÏÏÏÏÏÏ Ì 110 110 Ì Ì Ì Ì Ì Ì

Transfers-in during the

period(3)ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ Ì 19 19 Ì Ì Ì Ì Ì Ì

Ending balanceÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ $ 174 $125 $ 299 $ 177 $ 88 $ 265 $ 103 $121 $ 224

(1) It is Freddie Mac's practice to purchase mortgage loans from the pools that underlie PCs at the point the mortgage loan is identiÑed

as being 120 days past due. Upon repurchase, that portion of amounts classiÑed in Reserve for guarantee losses on Participation

CertiÑcates that relates to a purchased loan is reclassiÑed to Reserve for losses on mortgage loans held for investment. Given that all

credit losses related to oÅ-balance sheet PCs are preceded by the purchase of a delinquent mortgage loan from the PC pool, all

charge-oÅs or recoveries are presented in the Retained Mortgages columns above.

(2) On January 1, 2003, that portion of recognized guarantee obligations that was attributable to estimated incurred losses on outstanding

PCs or Structured Securities, or $110 million, was reclassiÑed to Reserve for guarantee losses on Participation CertiÑcates.

(3) Represents estimated losses that were incurred in 2003 related to PCs and Structured Securities transferred to third parties in 2003.

Impaired Loans

Total loan loss reserves, as presented in Table 6.1, consists of a speciÑc valuation allowance related to

impaired loans, which are presented in Table 6.2, and an additional reserve for other probable losses, which

equaled $289 million, $240 million and $218 million as of December 31, 2003, 2002 and 2001, respectively.

The company's recorded investment in impaired loans and the related valuation allowance are summarized in

Table 6.2.

Table 6.2 Ì Impaired Loans(1)

December 31,

2003 2002 2001

Recorded SpeciÑc Net Recorded SpeciÑc Net Recorded SpeciÑc Net

Investment(2) Reserve Investment Investment(2) Reserve Investment Investment(2) Reserve Investment

(dollars in millions)

Impaired loans having:

Related-valuation allowance $ 60 $ (10) $ 50 $ 169 $(25) $ 144 $ 77 $ (6) $ 71

No-related-valuation

allowanceÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 2,309 Ì 2,309 2,077 Ì 2,077 1,612 Ì 1,612

Total ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ $2,369 $ (10) $2,359 $2,246 $(25) $2,221 $1,689 $ (6) $1,683

(1) Single-family impaired loans include performing and non-performing TDRs. Multifamily impaired loans are deÑned as performing

and non-performing TDR loans, loans 60 days or more delinquent unless credit enhanced, and certain mortgage loans with real estate

collateral values less than the outstanding unpaid principal balances. For more details on multifamily impaired loans, see

""NOTE 1: SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES.''

(2) Recorded Investment includes the unpaid principal balance of mortgage loans plus other basis adjustments, which are modiÑcations

to their carrying value.

For the years ended December 31, 2003, 2002 and 2001, the average recorded investment in impaired

loans was $2,330 million, $2,029 million and $1,577 million, respectively.

Interest income on multifamily impaired loans is recognized on an accrual basis for loans performing

under the original or restructured terms and on a cash basis for non-performing loans, which collectively

totaled approximately $16 million, $22 million and $20 million for the years ended December 31, 2003, 2002

Freddie Mac

196
and 2001, respectively. For single-family performing and non-performing loans, Freddie Mac recognizes

interest income on an accrual basis and establishes reserves for estimated accrued, but uncollectible, interest

for these loans as of the consolidated balance sheet dates. Gross interest income on impaired single-family

loans totaled $160 million, $129 million and $104 million for the years ended December 31, 2003, 2002 and

2001, respectively.

Delinquency Rates

Table 6.3 summarizes the delinquency rates for Freddie Mac's total mortgage portfolio, excluding

non-Freddie Mac mortgage-related securities and that portion of Structured Securities that is backed by

Ginnie Mae CertiÑcates at December 31, 2003, 2002 and 2001.

Table 6.3 Ì Delinquency Performance(1)

December 31,

2003 2002 2001

Delinquencies, end of period

Single-family:(2)

Credit-enhanced portfolio(3) ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 2.96% 2.07% 1.30%

Non-credit-enhanced portfolio ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 0.27% 0.28% 0.29%

Total portfolio(3)ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 0.86% 0.77% 0.62%

Multifamily(4) ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 0.05% 0.13% 0.15%

(1) Based on the total mortgage portfolio, excluding both non-Freddie Mac mortgage-related securities and that portion of Structured

Securities that is backed by Ginnie Mae CertiÑcates.

(2) Based on the number of mortgages 90 days or more delinquent or in foreclosure.

(3) Includes alternative collateral deals.

(4) Based on net carrying value of mortgages 60 days or more delinquent or in foreclosure.

Freddie Mac

197
NOTE 7: REAL ESTATE OWNED

Table 7.1 provides a summary of Freddie Mac's REO activity.

Freddie Mac obtains REO properties when it is the highest bidder at foreclosure sales of properties that

collateralize non-performing single-family and multifamily mortgage loans owned by the company. Upon

acquiring single-family properties, Freddie Mac establishes a marketing plan to sell the property as soon as

practicable by either listing it with a sales broker or by other means, such as arranging a real estate auction.

Upon acquiring multifamily properties, Freddie Mac may operate them with third-party property-management Ñrms for a period to stabilize value and then sell the properties through commercial real estate brokers.

For each of the three years ended December 31, 2003, the weighted average holding period for single-family

disposed properties was less than one year and the weighted average holding period for multifamily disposed

REO properties was about two years.

Table 7.1 Ì Real Estate Owned

REO, Valuation REO,

Gross Allowance Net

(dollars in millions)

Balance, December 31, 2000 ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ $ 393 $ (35) $ 358

AdditionsÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 910 (50) 860

Dispositions and write-downs ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ (798) 27 (771)

Balance, December 31, 2001 ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 505 (58) 447

AdditionsÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 1,197 (70) 1,127

Dispositions and write-downs ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ (1,032) 52 (980)

Balance, December 31, 2002 ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 670 (76) 594

AdditionsÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 1,663 (93) 1,570

Dispositions and write-downs ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ (1,422) 53 (1,369)

Balance, December 31, 2003 ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ $ 911 $(116) $ 795

Freddie Mac recognized gains of $3 million, $22 million and $12 million on REO dispositions for the

years ended December 31, 2003, 2002 and 2001, respectively, which are included in REO operations income

(expense).

Freddie Mac

198
NOTE 8: DEBT SECURITIES AND SUBORDINATED BORROWINGS

Debt securities are classiÑed as either Due within one year or Due after one year based on their remaining

contractual maturity. Table 8.1 summarizes the balances and eÅective interest rates at December 31, 2003 and

2002 for debt securities, as well as subordinated borrowings.

Table 8.1 Ì Total Debt Securities, Net

December 31,

2003 2002

Balance, EÅective Balance, EÅective

Net(2) Rate(3) Net(2) Rate(3)(4)

(dollars in millions)

Senior debt, due within one year:

Short-term debt securities(1) ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ $212,035 1.10% $194,044 1.58%

Current portion of long-term debt ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 83,227 3.61 50,385 4.78

Senior debt, due within one year ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 295,262 1.81 244,429 2.24

Senior debt, due after one year ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 438,738 4.34 415,662 4.94

Subordinated debt, due after one year ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 5,613 6.15 5,605 6.15

Senior and subordinated debt, due after one yearÏÏÏÏÏÏÏÏÏÏÏÏ 444,351 4.36% 421,267 4.96%

Total debt securities, net ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ $739,613 $665,696

(1) See ""Table 8.2 Ì Senior Debt, Due Within One Year'' for further information regarding Freddie Mac's short-term debt securities.

(2) Includes discounts and premiums. Current portion of long-term debt, and senior and subordinated debt, due after one year, also

include hedging-related and other basis adjustments.

(3) Represents the weighted average eÅective rate at the end of the period, which includes the amortization of discounts or premiums

and issuance costs, but excludes the amortization of hedging-related and other basis adjustments.

(4) EÅective rates previously reported for December 31, 2002 have been revised.

Freddie Mac Ñnances the purchase of mortgage loans and mortgage-related securities primarily through

the issuance of Senior debt and Subordinated debt.

Senior Debt, Due Within One Year

As indicated in Table 8.2, a majority of Senior debt, due within one year (excluding current portion of

long-term debt) consisted of discount notes and medium-term notes as of December 31, 2003 and 2002,

respectively. Approximately 97 percent and 99 percent of the unpaid principal balances of these discount notes

and medium-term notes outstanding as of December 31, 2003 and 2002, respectively, have been issued on a

discounted basis, paying only principal at maturity. Discount notes and medium-term notes are unsecured

general obligations. Securities sold under agreements to repurchase are eÅectively collateralized borrowing

transactions where Freddie Mac sells securities with an agreement to repurchase such securities. These

agreements require the underlying securities to be delivered to the dealers who arranged the transactions. See

""NOTE 5: RETAINED PORTFOLIO AND CASH AND INVESTMENTS PORTFOLIO'' for more

information. Federal funds purchased are unsecuritized borrowings from commercial banks that are members

of the Federal Reserve System.

Freddie Mac

199
Table 8.2 provides additional information related to Freddie Mac's debt securities due within one year.

Table 8.2 Ì Senior Debt, Due Within One Year

2003

Average Outstanding

As of December 31, During the Year

Weighted Weighted Maximum Balance

Average Average Outstanding at Any

Balance, Net EÅective Rate(1) Balance EÅective Rate(2) Month End

(dollars in millions)

Discount notes ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ $188,309 1.12% $207,374 1.21% $264,363

Medium-term notesÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 5,300 1.18 1,243 1.32 5,300

Securities sold under agreements to

repurchase and Federal funds purchased 1,611 0.96 1,128 1.20 8,296

Swap collateral borrowings ÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 16,082 0.90 11,694 1.13 16,082

Securities sold, not yet purchased ÏÏÏÏÏÏÏÏ 733

Subtotal ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 212,035

Current portion of long-term debt ÏÏÏÏÏÏÏÏ 83,227

Total debt securities, due within one year $295,262

2002

Average Outstanding

As of December 31, During the Year

Weighted Weighted Maximum Balance

Average Average Outstanding at Any

Balance, Net EÅective Rate(1) Balance EÅective Rate(2) Month End

(dollars in millions)

Discount notes ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ $163,202 1.61% $180,889 2.02% $211,388

Medium-term notesÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 1,015 2.07 5,528 2.39 8,161

Securities sold under agreements to

repurchase and Federal funds purchased 15,262 1.08 13,882 1.39 21,472

Swap collateral borrowings ÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 8,209 0.66 4,630 1.17 8,209

Securities sold, not yet purchased ÏÏÏÏÏÏÏÏ 6,356

Subtotal ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 194,044

Current portion of long-term debt ÏÏÏÏÏÏÏÏ 50,385

Total debt securities, due within one year $244,429

2001

Average Outstanding

As of December 31, During the Year

Weighted Weighted Maximum Balance

Average Average Outstanding at Any

Balance, Net EÅective Rate(1) Balance EÅective Rate(2) Month End

(dollars in millions)

Discount notes ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ $219,656 2.44% $191,478 4.26% $219,656

Medium-term notesÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 6,730 2.91 9,150 4.98 13,638

Securities sold under agreements to

repurchase and Federal funds purchased 4,548 1.52 5,029 3.15 8,096

Swap collateral borrowings ÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 1,932 3.67 1,747 4.06 2,257

Securities sold, not yet purchased ÏÏÏÏÏÏÏÏ 12,856

Subtotal ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 245,722

Current portion of long-term debt ÏÏÏÏÏÏÏÏ 18,505

Total debt securities, due within one year $264,227

(1) Represents the weighted average eÅective rate at the end of the period, which includes the amortization of discounts or premiums

and issuance costs, but excludes the amortization of hedging-related and other basis adjustments.

(2) Represents the approximate weighted average eÅective rate during the period, which includes the amortization of discounts or

premiums and issuance costs, but excludes the amortization of hedging-related and other basis adjustments.

Freddie Mac

200
Senior and Subordinated Debt, Due After One Year

Table 8.3 summarizes Freddie Mac's Senior and Subordinated debt, due after one year at December 31,

2003 and 2002.

Table 8.3 Ì Senior and Subordinated Debt, Due After One Year

December 31,

2003 2002

Contractual Balance Balance

Maturity(1) Outstanding(2) Interest Rate(s) Outstanding(2) Interest Rate(s)

(dollars in millions)

Senior debt, due after one year(3):

Fixed-rate:

Callable(4) ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 2005 Ì 2028 $159,939 1.30% Ì 9.00% $135,923 1.77% Ì 8.29%

Non-callable ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 2005 Ì 2022 6,460 1.00% Ì 8.12% 7,857 1.00% Ì 9.00%

U.S. dollar-denominated Reference Notes»

securities ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 2005 Ì 2032 181,901 1.50% Ì 7.00% 196,454 2.88% Ì 7.00%

4Reference Notes» securities ÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 2005 Ì 2013 24,954 3.50% Ì 5.75% 33,041 4.50% Ì 5.75%

Other ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 2008 Ì 2014 43 12.10% Ì 12.90% 64 7.76% Ì 12.90%

Floating-rate:

Callable(5) ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 2005 Ì 2029 28,412 Various 20,189 Various

Non-callable(6) ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 2005 Ì 2026 16,403 Various 723 Various

Zero-coupon:

Callable(7) ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 2007 Ì 2033 6,608 0% 8,036 0%

Non-callable ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 2005 Ì 2034 1,723 0% 1,715 0%

Total senior debt, due after one year ÏÏÏÏÏÏÏÏÏÏ 426,443 404,002

Subordinated debt, due after one year:(3)

Fixed-rate(8) ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 2011 Ì 2016 5,545 5.25% Ì 8.25% 5,543 5.25% Ì 8.25%

Zero-coupon ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 2019 68 0% 62 0%

Total subordinated debt, due after one year ÏÏÏÏ 5,613 5,605

Foreign-currency-related and hedging-related basis

adjustments ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 12,295 11,660

Total senior and subordinated debt, due after one

year ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ $444,351 $421,267

(1) Represents contractual maturities at December 31, 2003.

(2) Represents unpaid principal balance of long-term debt securities and subordinated borrowings, net of associated discounts or

premiums.

(3) For debt denominated in a currency other than the US dollar, the outstanding balance is based on the exchange rate at the date of the

debt issuance. Subsequent changes in exchange rates are reÖected in Foreign-currency-related and hedging-related basis

adjustments.

(4) Includes callable Estate NotesSM and Freddie NotesSM of $11,041 million and $10,208 million as of December 31, 2003 and 2002,

respectively. These debt instruments represents medium-term notes that permit persons acting on behalf of deceased beneÑcial

owners to require Freddie Mac to repay principal prior to their contractual maturity date.

(5) Includes callable Estate NotesSM and Freddie NotesSM of $4,132 million and $2,214 million as of December 31, 2003 and 2002,

respectively. See related footnote (4) above concerning the nature of these debt instruments.

(6) Includes medium-term notes of $700 million and $300 million as of December 31, 2003 and 2002, respectively, which are repayable

in whole or in part at the option of the beneÑcial owner, acting through the holder, on or after November 22, 2002 and prior to

November 20, 2007 at 100% of the principal amount, plus accrued interest.

(7) Includes callable Estate NotesSM and Freddie NotesSM of $0 million and $21,954 million as of December 31, 2003 and 2002,

respectively. See related footnote (4) above concerning the nature of these debt instruments.

(8) Includes callable subordinated debt of $3,490 million and $3,489 million as of December 31, 2003 and 2002, respectively.

A portion of Freddie Mac's long-term debt is callable. Callable debt gives Freddie Mac the option to

redeem the debt security at either a speciÑed call date or at any time on or after a speciÑed call date. Table 8.4

summarizes the maturities, balances and eÅective interest rates at December 31, 2003 for callable debt

(including current portion of callable debt and callable debt due after one year) by estimated call period.

Freddie Mac

201
Table 8.4 Ì Callable Debt, Due After One Year (including current portion of callable debt)

Contractual Balance EÅective

Estimated Call Period Maturity Outstanding(1) Rate(2)

(dollars in millions)

2004ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 2004 Ì 2018 $ 42,469 3.30%

2005ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 2005 Ì 2018 23,607 2.28

2006ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 2006 Ì 2021 32,171 2.69

2007ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 2007 Ì 2018 13,454 3.35

2008ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 2008 Ì 2017 24,999 3.46

Thereafter ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 2009 Ì 2033 83,285 5.06

Total ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ $219,985 3.79%

(1) Represents unpaid principal balance of callable long-term debt securities and subordinated borrowings. However, callable zerocoupon debt is reÖected on a net basis (i.e., net of associated discounts of $34,054 million).

(2) Represents the weighted-average eÅective rate at the end of the period, which includes the amortization of discounts or premiums

and issuance costs but excludes the amortization of hedging-related and other basis adjustments.

Table 8.5 summarizes the contractual maturities of long-term debt securities (including current portion

of long-term debt) and subordinated borrowings outstanding at December 31, 2003, assuming callable debt is

paid at contractual maturity.

Table 8.5 Ì Senior and Subordinated Debt, Due After One Year (including current portion of

long-term debt)

Contractual

Annual Maturities Maturity(1)(2)

(dollars in millions)

2004ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ $ 80,610

2005ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 90,840

2006ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 73,290

2007ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 36,958

2008ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 50,675

Thereafter ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 218,502

Total(1) ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 550,875

Net premiums, discounts, and foreign-currency-related and hedging-related basis

adjustments(2)(3)ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ (23,297)

Senior and subordinated debt, due after one year, including current portion of longterm debt ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ $527,578

(1) Represents unpaid principal balance of long-term debt securities and subordinated borrowings.

(2) For debt denominated in a currency other than the U.S. dollar, the outstanding balance is based on the exchange rate at the date of

the debt issuance. Subsequent changes in exchange rates are reÖected in Net premiums, discounts, and foreign-currency-related and

hedging-related basis adjustments.

(3) Represents unamortized premiums, discounts, and hedging-related and other basis adjustments. It includes discounts of $37,870 million associated with callable and non-callable zero-coupon debt.

Freddie Mac incurred losses of $1,775 million, $674 million and $356 million on the repurchase of

approximately $27.3 billion, $20.3 billion and $4.7 billion in principal amount of debt outstanding in 2003,

2002 and 2001, respectively.

Freddie Mac

202
NOTE 9: STOCKHOLDERS' EQUITY

Preferred Stock

During 2003, Freddie Mac completed no preferred stock oÅerings (see ""Table 9.1 Ì Preferred Stock''

for more information). All 17 classes of preferred stock outstanding at December 31, 2003 have a par value of

$1 per share, and are redeemable, on speciÑed dates, at the company's option at their redemption price (or

redemption value) plus dividends accrued through the redemption date. In addition, all 17 classes of preferred

stock are perpetual and non-cumulative, and carry no signiÑcant voting rights or rights to purchase additional

Freddie Mac stock or securities. Costs incurred in connection with the issuance of preferred stock are charged

to ""Additional paid-in capital.''

Table 9.1 provides a summary of Freddie Mac's preferred stock outstanding at December 31, 2003.

Table 9.1 Ì Preferred Stock

Total Redemption Total

Shares Shares Par Price per Outstanding Redeemable(10) NYSE

Issue Date Authorized Outstanding Value Share Balance(1) On or After Symbol(2)

(shares and dollars in millions, except redemption price per share)

1996 Variable-rate(3) ÏÏÏ April 26, 1996 5.00 5.00 $ 5.00 $50.00 $ 250 June 30, 2001 FRE.prB

6.14% ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ June 3, 1997 12.00 12.00 12.00 50.00 600 June 30, 2002 FRE.prD

5.81% ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ October 27, 1997 3.00 3.00 3.00 50.00 150 October 27, 1998 (9)

5% ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ March 23, 1998 8.00 8.00 8.00 50.00 400 March 31, 2003 FRE.prF

1998 Variable-rate(4) ÏÏÏ September 23 and 29, 1998 4.40 4.40 4.40 50.00 220 September 30, 2003 FRE.prG

5.1% ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ September 23, 1998 8.00 8.00 8.00 50.00 400 September 30, 2003 FRE.prH

5.3% ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ October 28, 1998 4.00 4.00 4.00 50.00 200 October 30, 2000 (9)

5.1% ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ March 19, 1999 3.00 3.00 3.00 50.00 150 March 31, 2004 (9)

5.79% ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ July 21, 1999 5.00 5.00 5.00 50.00 250 June 30, 2009 FRE.prK

1999 Variable-rate(5) ÏÏÏ November 5, 1999 5.75 5.75 5.75 50.00 288 December 31, 2004 FRE.prL

2001 Variable-rate(6) ÏÏÏ January 26, 2001 6.50 6.50 6.50 50.00 325 March 31, 2003 FRE.prM

2001 Variable-rate(7) ÏÏÏ March 23, 2001 4.60 4.60 4.60 50.00 230 March 31, 2003 FRE.prN

5.81% ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ March 23, 2001 3.45 3.45 3.45 50.00 172 March 31, 2011 FRE.prO

6% ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ May 30, 2001 3.45 3.45 3.45 50.00 173 June 30, 2006 FRE.prP

2001 Variable-rate(8) ÏÏÏ May 30, 2001 4.02 4.02 4.02 50.00 201 June 30, 2003 FRE.prQ

5.7% ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ October 30, 2001 6.00 6.00 6.00 50.00 300 December 31, 2006 FRE.prR

5.81% ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ January 29, 2002 6.00 6.00 6.00 50.00 300 March 31, 2007 (9)

Total ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 92.17 92.17 $92.17 $4,609

(1) Amounts stated at redemption value.

(2) Preferred Stock is listed on the New York Stock Exchange, unless otherwise noted.

(3) The dividend rate resets quarterly and is equal to the sum of the three-month London Interbank OÅered Rate (""LIBOR'') plus one

percent divided by 1.377, and is capped at 9.00 percent.

(4) The dividend rate resets quarterly and is equal to the sum of the three-month LIBOR rate plus one percent divided by 1.377, and is

capped at 7.50 percent.

(5) Initial dividend rate is 5.97 percent per annum through December 31, 2004. Dividend rate resets on January 1, 2005 and on

January 1 every Ñve years thereafter based on a Ñve-year constant maturity Treasury (""CMT'') rate which is capped at

11.00 percent. Optional redemption on December 31, 2004 and on December 31 every Ñve years thereafter.

(6) Dividend rate resets on April 1 every two years after April 1, 2003 based on the 2-year CMT rate plus .10 percent and is capped at

11.00 percent. Optional redemption on March 31, 2003 and on March 31 every two years thereafter.

(7) Dividend rate resets on April 1 every year based on the 12-month LIBOR rate minus .20 percent and is capped at 11.00 percent.

Optional redemption on March 31, 2003 and on March 31 every year thereafter.

(8) Dividend rate resets on July 1 every two years after July 1, 2003 based on the 2-year CMT rate plus .20 percent and is capped at

11.00 percent. Optional redemption on June 30, 2003 and on June 30 every two years thereafter.

(9) Not listed on any exchange.

(10) As long as the capital monitoring framework established by the OÇce of Federal Housing Enterprise Oversight (""OFHEO'') in

January 2004 remains in eÅect, any preferred stock redemption will require prior approval by OFHEO. See ""NOTE 10:

REGULATORY CAPITAL'' to the consolidated Ñnancial statements for more information.

Freddie Mac

203
Dividends Declared

Table 9.2 summarizes the cash dividends declared per share on Freddie Mac's common and preferred

stock.

Table 9.2 Ì Cash Dividends Declared

Year Ended December 31,

2003 2002 2001

Common: ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ $1.04 $0.88 $0.80

Preferred:

1996 Variable-rateÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 0.83 1.07 1.98

6.125%(1) ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ Ì 0.46 3.06

6.14% ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 3.07 3.07 3.07

5.81% (1997 issue) ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 2.91 2.91 2.91

5% ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 2.50 2.50 2.50

1998 Variable-rateÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 0.83 1.07 1.98

5.1% (1998 issue) ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 2.55 2.55 2.55

5.3% ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 2.65 2.65 2.65

5.1% (1999 issue) ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 2.55 2.55 2.55

5.79% ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 2.90 2.90 2.90

1999 Variable-rateÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 2.99 2.99 2.99

January 2001 Variable-rate ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 1.22 2.41 2.23

March 2001 Variable-rate ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 0.79 1.64 1.77

5.81% (2001 issue) ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 2.91 2.91 2.24

6% ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 3.00 3.00 1.75

May 2001 Variable-rate ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 1.52 2.24 1.31

5.7% ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 2.85 2.85 0.48

5.81% (2002 issue) ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 2.91 2.67 Ì

(1) Redeemed at a price of $50.46 per share, which includes the face amount of $50.00 per share plus $0.46 of dividends that were

earned through February 24, 2002, the redemption date.

Common Stock Repurchase Program

In September 1997, Freddie Mac's Board of Directors authorized the company to repurchase up to Ñve

percent, or approximately 34 million shares, of its common stock outstanding as of September 5, 1997. Under

this authorization, Freddie Mac repurchased no outstanding shares in 2003, 9.1 million outstanding shares in

2002 and no outstanding shares in 2001. Common stock repurchases are considered (assuming timely

Ñnancial reporting) when we are adequately capitalized and attractive investment opportunities are not

available. Under OFHEO's January 29, 2004 framework for monitoring Freddie Mac's capital, Freddie Mac is

currently required to obtain prior written approval from the Director of OFHEO before engaging in certain

capital transactions, including the repurchase of any shares of common stock, the redemption of any preferred

stock, or payment of preferred stock dividends above stated contractual rates.

Freddie Mac

204
NOTE 10: REGULATORY CAPITAL

The Federal Housing Enterprises Financial Safety and Soundness Act of 1992 (""GSE Act'') established

risk-based, minimum and critical capital standards for Freddie Mac and Fannie Mae.

The risk-based capital standard determines the amount of capital that Freddie Mac must hold to absorb

projected losses Öowing from future adverse interest-rate and credit-risk conditions speciÑed by the GSE Act,

plus 30 percent mandated by the GSE Act to cover management and operations risk. The risk-based capital

standard is based on stress test results calculated under two interest-rate scenarios prescribed by the GSE Act,

one in which 10-year Treasury yields rise 75 percent (up-rate scenario) and one in which they fall 50 percent

(down-rate scenario). Changes in both scenarios are capped generally at 600 basis points. The risk-based

capital requirement for Freddie Mac is the amount of Total capital that would enable it to absorb the stress

test losses in whichever scenario is more adverse, plus 30 percent of that amount to cover management and

operations risk. Total capital includes Core capital and general reserves for mortgage and foreclosure losses

and any other amounts available to absorb losses that OFHEO includes by regulation. Core capital consists of

the par value of outstanding common stock (common stock issued less common stock held in treasury), the

par value of outstanding perpetual preferred stock, additional paid-in capital and retained earnings as

measured under GAAP.

The minimum capital standard requires Freddie Mac to hold an amount of Core capital that is

approximately the sum of 2.50 percent of aggregate on-balance sheet assets, as measured under GAAP and

0.45 percent of other aggregate oÅ-balance sheet obligations. As discussed below, in 2004 OFHEO

implemented a framework for monitoring our capital adequacy which includes a targeted capital surplus of

30 percent of Freddie Mac's minimum capital requirement.

The critical capital standard requires Freddie Mac to hold an amount of Core capital that is

approximately the sum of 1.25 percent of aggregate on-balance sheet assets, as measured under GAAP, and

0.25 percent of other aggregate oÅ-balance sheet obligations.

OFHEO is required to classify Freddie Mac's capital adequacy not less than quarterly. Prior to the third

quarter of 2002, the company was classiÑed using the minimum and critical capital standards only. In the third

quarter of 2002, OFHEO commenced quarterly classiÑcations using the risk-based, minimum and critical

capital standards.

To be classiÑed as ""adequately capitalized,'' Freddie Mac must meet both the risk-based and minimum

capital standard. If Freddie Mac fails to meet the risk-based capital standard, it cannot be classiÑed higher

than ""undercapitalized.'' Under OFHEO regulations, the company will be deemed ""signiÑcantly undercapitalized'' if it fails to meet the minimum capital requirement but exceeds the critical capital requirement. If

Freddie Mac fails to meet the critical capital standard, Freddie Mac must be classiÑed as ""critically

undercapitalized.'' OFHEO retains discretion to reduce Freddie Mac's capital classiÑcation by one level if

OFHEO determines that Freddie Mac is engaging in conduct not approved by OFHEO that could result in a

rapid depletion of Core capital or that the value of property subject to mortgage loans held or secured by

Freddie Mac has decreased signiÑcantly.

OFHEO has never classiÑed Freddie Mac as other than ""adequately capitalized,'' the highest possible

classiÑcation. When Freddie Mac is classiÑed as adequately capitalized, the company can pay a dividend on its

common or preferred stock without prior OFHEO approval so long as the payment would not decrease Total

capital to an amount less than its risk-based capital level and would not decrease the company's Core capital

to an amount less than the minimum capital level.

If Freddie Mac were classiÑed as undercapitalized, the company would be prohibited from making a

capital distribution (which includes common and preferred dividend payments, common stock repurchases

and preferred stock redemptions) that would decrease its Core capital to an amount less than the minimum

capital level. Freddie Mac also would be required to submit a capital restoration plan for OFHEO approval,

which could adversely aÅect its ability to make capital distributions.

If Freddie Mac were classiÑed as signiÑcantly undercapitalized, the company would be able to make a

capital distribution only if OFHEO determined that the distribution satisÑed certain statutory standards.

Freddie Mac

205
Under these circumstances, Freddie Mac would be prohibited from making any capital distribution that would

decrease its Core capital to less than the critical capital level, and OFHEO also could take action to limit

Freddie Mac's growth, require it to acquire new capital or restrict it from activities that create excessive risk.

Freddie Mac also would be required to submit a capital restoration plan for OFHEO approval, which could

adversely aÅect its ability to make capital distributions.

If Freddie Mac were classiÑed as critically undercapitalized, OFHEO would be required to appoint a

conservator for the company unless OFHEO made a written Ñnding that it should not do so and the Secretary

of the Treasury concurred in that determination.

Factors that may adversely aÅect the adequacy of Freddie Mac's regulatory capital include declines in

GAAP income, increases in the company's risk proÑle, and changes in the economic environment, such as

large interest-rate or implied volatility moves or house price declines. In particular, interest-rate or implied

volatility changes can aÅect the amount of Freddie Mac's Core capital, even if Freddie Mac is economically

well hedged against interest-rate changes, because certain gains or losses are recognized through GAAP

earnings while other oÅsetting gains or losses may not be.

Table 10.1 summarizes the company's regulatory capital requirements and surpluses at December 31,

2003 and 2002. Amounts for 2003 are as reported to OFHEO.

Table 10.1 Ì Regulatory Capital Requirements

December 31,

2003 2002

(dollars in millions)

Minimum capital requirement ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ $23,774 $22,339

Core capital(1)(2) ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 32,985 28,990

Minimum capital surplus(1) ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 9,211 6,651

Critical capital requirement ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 12,097 11,369

Core capital(1)(2) ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 32,985 28,990

Critical capital surplus(1)ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 20,888 17,621

Risk-based capital requirement(3)ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 5,426 4,743

Total capital(3)(4) ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 33,436 24,222

Risk-based capital surplus(3)ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 28,010 19,479

(1) For 2003, Core capital and minimum and critical capital surpluses have been amended from amounts previously reported to OFHEO

to incorporate adjustments reÖected in our consolidated Ñnancial statements. The 2003 minimum and critical surplus amounts are

estimates and have been revised to reÖect a loss contingency reserve related to proceedings arising from the restatement. OFHEO is

the authoritative source of the capital calculations that underlie the company's capital classiÑcations. See ""NOTE 13: LEGAL

CONTINGENCIES'' for further information.

(2) Core capital consists of the par value of outstanding common stock (common stock issued less common stock held in treasury), par

value of outstanding perpetual preferred stock, additional paid in capital and retained earnings, as determined in accordance with

GAAP.

(3) Risk-based and Total capital amounts are those calculated by OFHEO prior to the issuance of our 2003 and 2002 Ñnancial results.

OFHEO determined not to recalculate the risk-based capital amounts given that the minimum capital requirement remained the

determining requirement for Freddie Mac's classiÑcation as adequately capitalized.

(4) Total capital includes Core capital and general reserves for mortgage and foreclosure losses.

On January 29, 2004, OFHEO announced the creation of a framework for monitoring Freddie Mac's

capital due to the temporarily higher operational risk arising from the company's current inability to produce

timely Ñnancial statements in accordance with GAAP. The framework includes a target capital surplus of

30 percent of Freddie Mac's minimum capital requirement, subject to certain conditions and variations;

weekly monitoring; and prior approval of capital transactions, to verify that appropriate levels of capital are

maintained. While OFHEO's framework includes stringent monitoring and imposes restrictions on share

repurchases and other capital activities, Freddie Mac does not expect it to adversely aÅect its disciplined

growth strategy in most scenarios. Had the target capital surplus been in eÅect at December 31, 2003, our

estimated surplus in excess of the target would have been approximately $2.1 billion.

OFHEO's oversight of Freddie Mac's actions is intended to verify that capital used to support growth is

reasonable given market conditions and the company's overall capital position. OFHEO will monitor Freddie

Mac's estimated capital position on a weekly basis. A failure by Freddie Mac to meet the target capital surplus

Freddie Mac

206
would result in discussions between Freddie Mac and OFHEO concerning the reason for such failure. If

OFHEO were to determine, based on these discussions and weekly monitoring, that Freddie Mac had

unreasonably deviated from the framework established by OFHEO, OFHEO would require the company to

submit a remedial plan or to take other remedial steps.

In addition, Freddie Mac is required to obtain prior written approval from the Director of OFHEO before

engaging in certain capital transactions, including the repurchase of any shares of common stock, redemption

of any preferred stock or payment of preferred stock dividends above stated contractual rates. Freddie Mac

also must submit a written report to the Director of OFHEO after the declaration, but before the payment, of

any dividend on its common stock. The report must contain certain information on the amount of the

dividend, the rationale for the payment and the impact on Freddie Mac's capital surplus.

OFHEO indicated that this framework is temporary and will be lifted when the Director of OFHEO

determines that it should expire based on Freddie Mac's resumption of timely Ñnancial reporting that complies

with GAAP and certain other factors.

Management believes that this framework will provide OFHEO with a mechanism to ensure that the

company manages its business with continued prudence and appropriate levels of capital, taking into account

that the company is not currently able to produce timely Ñnancial statements.

Freddie Mac

207
NOTE 11: STOCK-BASED COMPENSATION

Freddie Mac has three stock-based compensation plans under which grants are being made: the

Employee Stock Purchase Plan (""ESPP''), the 1995 Stock Compensation Plan (""1995 Employee Plan'') and

the 1995 Directors' Stock Compensation Plan, as amended and restated in 1998 (""Directors' Plan'').

Common stock delivered under these plans may be shares currently held by Freddie Mac as treasury

stock, shares purchased by Freddie Mac in the open market or newly issued shares.

ESPP: Freddie Mac has established a stockholder-approved ESPP that is qualiÑed under Internal

Revenue Code (""IRC'') Section 423. Under the ESPP, substantially all full-time and part-time employees

may purchase shares of common stock. During 2003, 2002 and 2001, the maximum market value of stock

available for annual purchase is $20,000 per employee as determined on the subscription date. For grants

made through 2003, the purchase price is equal to 85 percent of the average price of the stock on the

subscription (grant) date or the purchase (exercise) date, whichever is lower.

Table 11.1 provides a summary of activity related to the ESPP.

Table 11.1 Ì Summary of ESPP Activity

Year Ended December 31,

2003 2002 2001

Shares pledged(1) ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 145,866 1,000,370 799,654

Fair value on grant date(2) ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ $ 10.72 $ 13.53 $ 18.15

Shares purchased(1) ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 355,485 351,629 914,167

Purchase price(3) ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ $ 41.76 $ 51.74 $ 33.20

(1) In 2003, employees pledged to purchase shares on August 1 and November 1 with the purchase occurring on October 31, 2003 and

January 31, 2004, respectively. During 2002 and 2001, employees pledged to purchase shares on August 1 of each year with the

purchase occurring on July 31 of the following year.

(2) The 2003 amount is the weighted average of the fair value on two separate grant dates. The 2002 and 2001 amounts are the actual

fair values on a single grant date.

(3) The 2003 amount is the weighted average of the purchase prices on two separate purchase dates. The 2002 and 2001 amounts are the

actual purchase prices on a single purchase date.

The maximum number of shares of common stock that may be granted to employees under the ESPP is

12 million shares. At December 31, 2003, approximately 8.5 million shares had been issued under the ESPP

and approximately 3.5 million shares remained available for grant. Grants under the ESPP will cease upon the

earlier of exhausting the authorized share pool, the eÅective date of the approval of the 2004 ESPP by

stockholders at the 2004 annual meeting, or December 31, 2004.

1995 Employee Plan: Under the stockholder-approved 1995 Employee Plan, Freddie Mac is permitted to

grant to employees stock-based awards, including stock options with dividend rights, restricted stock units

(""RSUs'') with dividend rights, restricted stock and stock appreciation rights (""SARs''). Such awards are

generally forfeitable for at least one year after the date of grant, and Freddie Mac has the right to impose

performance conditions with respect to any awards under the 1995 Employee Plan. To date, no SARs have

been granted under the 1995 Employee Plan.

‚ Stock options granted under the 1995 Employee Plan allow for the purchase of Freddie Mac's common

stock at an exercise price equal to the fair value of the common stock on the grant date. Options

generally may be exercised for a period of 10 years from the grant date, subject to a vesting schedule

commencing on the grant date. Dividend rights provide participants with the right to receive, at the

time stock options are exercised or upon expiration, an amount equal to the accumulated dividends

paid on the stock from the date the options were granted.

‚ Each RSU entitles the participant to receive one share of common stock at a speciÑed future date.

RSUs do not have voting rights, but do have dividend rights, which are paid to the RSU holder as

dividends on common stock are declared.

‚ Restricted stock entitles participants to all the rights of a stockholder, including dividends, except that

the shares awarded are subject to a risk of forfeiture and may not be disposed of by the participant until

the end of the restriction period established by Freddie Mac.

Freddie Mac

208
The maximum number of shares of common stock that may be granted to employees under the 1995

Employee Plan is 33.6 million shares. At December 31, 2003, a total of approximately 29.2 million shares had

been issued and approximately 4.4 million shares remained available for grant. Grants under the 1995

Employee Plan will cease upon the earliest of exhausting the authorized share pool, the eÅective date of the

approval of the 2004 Stock Compensation Plan by stockholders at the 2004 annual stockholders' meeting, or

December 31, 2004.

Directors' Plan: Under the stockholder-approved Directors' Plan, Freddie Mac is permitted to grant

stock options with dividend rights, restricted stock and RSUs with dividend rights to non-employee members

of the Board of Directors (""Directors''). The accounting for stock options with dividend rights, restricted

stock, and RSUs granted under the Directors' Plan is identical to that of the 1995 Employee Plan.

Under the Directors' Plan, on the date of the annual meeting, each reelected or reappointed Director is

granted an option to purchase shares of Freddie Mac's common stock with a market value of approximately

$150,000 on the date of the grant. Each such Director also receives restricted stock units relating to common

stock with a market value of approximately $65,000 on the date of the award. On the date of the annual

meeting (or, for new Directors elected by the Board or appointed by the President between annual meetings,

the Ñrst meeting attended after their election or appointment), newly elected and newly appointed Directors

receive an option to purchase shares with a market value of approximately $300,000 and restricted stock units

relating to common stock with a market value on the date of grant of approximately $130,000. Those Directors

are not eligible to receive any additional grants in their second term. The exercise price of an option is equal to

the market value of a share of the company's common stock on the date of the grant. The number of restricted

stock units and shares subject to a stock option are calculated by dividing the dollar amount of the award by

the market value of Freddie Mac's common stock on the date of grant. Vesting with respect to both stock

options and restricted stock units occurs in even increments over Ñve terms on the Board, with 20 percent

vesting at the end of every term of oÇce, unless vesting is accelerated under certain circumstances including

death, disability or retirement from the Board.

For Directors, stock options and restricted stock units have dividend rights that entitle the grantee to

dividend equivalents on each share subject to the grant in the amount of dividends per share payable on

Freddie Mac's outstanding shares of common stock. Dividend equivalents on stock options are accrued and

are payable in cash upon exercise or expiration of the option. Dividend equivalents on restricted stock units are

accrued as additional restricted stock units to be settled at the same time as the underlying restricted stock

units and are not subject to a vesting schedule.

The maximum number of shares of common stock that may be granted to Directors under the Directors'

Plan is 2.4 million shares. At December 31, 2003, a total of approximately 0.7 million shares had been issued

and approximately 1.7 million shares remained available for grant. Grants under the Directors' Plan will cease

upon the earlier of exhausting the authorized share pool or Freddie Mac's Annual Meeting of Stockholders in

2008.

Freddie Mac

209
Table 11.2 provides a summary of activity related to stock options under the Employee Plan and the

Directors' Plan.

Table 11.2 Ì Employee Plan and Directors' Plan Stock Options Activity

Year Ended December 31,

2003 2002 2001

Stock Weighted Average Stock Weighted Average Stock Weighted Average

Options Exercise Price Options Exercise Price Options Exercise Price

Outstanding, beginning

of year ÏÏÏÏÏÏÏÏÏÏÏÏÏ 9,231,105 $44.21 8,721,962 $37.56 9,035,859 $29.23

Granted ÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 1,216,442 53.28 1,686,285 64.12 1,444,846 67.18

ExercisedÏÏÏÏÏÏÏÏÏÏÏÏÏ (1,052,156) 23.12 (997,127) 18.44 (1,588,118) 16.18

Forfeited or expired ÏÏÏÏ (739,051) 57.18 (180,015) 51.52 (170,625) 46.31

Outstanding, end of year 8,656,340 $46.89 9,231,105 $44.21 8,721,962 $37.56

Options exercisable at

year-endÏÏÏÏÏÏÏÏÏÏÏÏ 4,755,640 $38.23 4,508,095 $29.60 4,532,265 $23.29

Weighted-average fair

value of options

granted during year ÏÏ $21.84 $28.13 $30.29

Table 11.3 provides a summary of activity related to restricted stock and RSUs under the Employee Plan

and the Directors' Plan.

Table 11.3 Ì Employee Plan and Directors' Plan Restricted Stock and RSU Activity

Year Ended December 31,

2003 2002 2001

Restricted Restricted Restricted Restricted Restricted Restricted

Stock Stock Units Stock Stock Units Stock Stock Units

Outstanding,

beginning of year ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 1,089,327 359,227 1,478,779 51,632 1,563,943 48,871

Granted(1) ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ Ì 1,146,164 Ì 325,902 367,902 28,289

Lapse of restrictionsÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ (381,103) (114,240) (383,199) (10,457) (433,023) (18,556)

Forfeited ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ (141,589) (95,429) (6,253) (7,850) (20,043) (6,972)

Outstanding,

end of year ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 566,635 1,295,722 1,089,327 359,227 1,478,779 51,632

Weighted-average fair value of awards

granted during year ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ N/A $ 55.01 N/A $ 64.22 $ 67.06 $ 65.02

(1) Prior to 2002, RSUs were granted under the Directors' Plan only. During 2003, 1,143,810 RSUs were granted under the Employee

Plan and 2,354 RSUs were granted under the Directors' Plan. During 2002, 313,740 RSUs were granted under the Employee Plan

and 12,162 RSUs were granted under the Directors' Plan.

The increase in the volume of forfeitures of stock options (shown in Table 11.2), restricted stock and

RSUs (shown in Table 11.3) during 2003 is primarily attributable to the departure of certain executives.

Freddie Mac

210
Table 11.4 provides additional information for stock options outstanding under the Employee Plan and

the Directors' Plan at December 31, 2003 by range of exercise prices.

Table 11.4 Ì Employee Plan and Directors' Plan Stock Options Outstanding

Options Outstanding Options Exercisable

Weighted Average Weighted Weighted

Outstanding at Remaining Contract Average Exercisable at Average

Range of Exercise Prices December 31, 2003 Life in Years Exercise Price December 31, 2003 Exercise Price

$9.00 to 14.99 ÏÏÏÏÏÏÏÏÏÏ 101,234 0.7 $14.21 101,234 $14.21

15.00 to 24.99 ÏÏÏÏÏÏÏÏÏÏ 1,629,904 1.6 18.40 1,629,904 18.40

25.00 to 34.99 ÏÏÏÏÏÏÏÏÏÏ 527,503 3.1 34.13 527,503 34.13

35.00 to 44.99 ÏÏÏÏÏÏÏÏÏÏ 1,265,327 5.2 41.56 750,123 41.64

45.00 to 54.99 ÏÏÏÏÏÏÏÏÏÏ 1,924,668 6.4 50.43 629,641 47.31

55.00 to 64.99 ÏÏÏÏÏÏÏÏÏÏ 2,137,973 6.2 62.83 744,002 61.93

65.00 to 67.99 ÏÏÏÏÏÏÏÏÏÏ 1,069,731 5.7 67.72 373,233 67.77

8,656,340 4.9 $46.89 4,755,640 $38.23

Compensation Expense: Compensation expense related to stock-based compensation plans charged to

Salaries and employee beneÑts was $65 million, $66 million and $61 million for the years ended December 31,

2003, 2002 and 2001, respectively. Amounts include approximately $1 million of expense each year related to

RSU dividend rights paid in cash and pre-1995 dividend rights that are not recorded through Additional paidin capital.

Table 11.5 summarizes the weighted-average assumptions used in determining the fair value of options

granted under Freddie Mac's stock-based compensation plans.

Table 11.5 Ì Assumptions Used to Determine the Fair Value of Options

Employee Stock Employee and Directors' Stock

Purchase Plan Compensation Plans

2003 2002 2001 2003 2002 2001

Dividend yield(1) ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 2.01% 1.56% 1.21% Ì Ì Ì

Expected life ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 3 months 1 year 1 year 7 years 7 years 7 years

Expected volatility ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 35.0% 21.0% 32.0% 32.0% 32.0% 32.0%

Risk-free interest rate ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 0.95% 1.75% 3.57% 3.40% 4.75% 5.00%

(1) The dividend yield assumption is zero percent for the Employee Plan and Directors' Plan since options granted under these plans

include dividend rights.

Freddie Mac

211
NOTE 12: DERIVATIVES

Freddie Mac principally uses the following types of derivatives:

‚ LIBOR-Based Interest-Rate Swaps: Interest-rate swaps are contractual agreements between two

parties for the exchange of periodic payments based on a pre-determined amount (""notional'') and

agreed-upon Ñxed and Öoating interest rates.

‚ LIBOR and Treasury-Based, Exchange-Traded Futures Contracts: Futures contracts are exchangetraded agreements that obligate one party to sell and another party to purchase a speciÑed amount of a

designated Ñnancial instrument at a speciÑed price and date.

‚ LIBOR and Treasury-Based Options and Swaptions: Options are exchange-traded or over-thecounter agreements that give the holder the right, but not the obligation, to buy or sell a speciÑed asset

or enter into a contract at a speciÑed price during a speciÑed period of time. Option holders will

generally exercise their options only if there is an economic advantage in doing so. Swaptions are

options to execute an interest-rate swap at a speciÑc date and speciÑc rates.

‚ LIBOR and Treasury-Based Interest-Rate Caps and Floors: Interest-rate caps and Öoors are

agreements in which the holder pays a one-time up-front premium to another party in exchange for the

right to receive interest payments based on a particular notional amount and the amount, if any, by

which the agreed-upon index rate exceeds a speciÑed maximum (""cap'') or by which the agreed-upon

index is below a speciÑed minimum (""Öoor'') rate.

‚ Foreign-Currency Swaps: Currency swaps are contractual agreements between two parties for the

exchange of a speciÑed amount of a designated foreign currency for a speciÑed amount of U.S. dollars

at the inception and termination of the contract. Each party will also make periodic interest payments

on the currency it receives in the swap at agreed-upon Ñxed or Öoating interest rates.

‚ Forward Purchase and Sale Commitments: Forward purchase and sale commitments are over-thecounter agreements that obligate one party to purchase (sell) and another party to sell (purchase) a

speciÑed amount of a designated Ñnancial instrument at a speciÑed price and date.

‚ Other: Certain other agreements entered into are accounted for as derivatives in accordance with

SFAS 133. This includes a prepayment management agreement, in which Freddie Mac is partially

compensated for the adverse impacts caused by disproportionately higher mortgage prepayments on

certain mortgage pools. This also includes credit risk-sharing agreements, where Freddie Mac remits or

receives payments based upon the default performance of certain mortgage loans.

Hedging Activity

No hedge designation

A signiÑcant portion of the company's derivative portfolio is not designated in hedge accounting

relationships. These derivatives are reported at their fair value as either Derivative assets, at fair value or

Derivative liabilities, at fair value on the consolidated balance sheets with changes in fair value reported in

Derivative gains (losses) on the consolidated statements of income. For interest-rate swaps that are not

designated in hedge accounting relationships, the associated interest received or paid is recognized on an

accrual basis and recorded in Derivatives gains (losses) on the consolidated statements of income. For

purchase and sale commitments of securities classiÑed as trading under SFAS 115, fair value gains and losses

are reported as Gains (losses) on investment activity on the consolidated statements of income.

Fair-value hedges

Fair-value hedges represent hedges of exposure to changes in the fair value of a recognized Ñxed-rate

asset, liability or Ñrm commitment. Freddie Mac uses interest-rate swaps, futures, and forward contracts to

hedge against the changes in fair value of Ñxed rate debt due to changes in benchmark interest rates, either the

rate on U.S. Treasury obligations or LIBOR, or foreign currency Öuctuations, or a combination of both. These

derivatives are often executed to manage interest-rate risk at an aggregate portfolio level. However, for

Freddie Mac

212
accounting purposes, Freddie Mac links its fair-value hedges to speciÑc debt positions. Therefore, to maintain

highly eÅective accounting hedges in this strategy, Freddie Mac frequently resets the amount of Ñxed-rate

debt being hedged. To accomplish this, the accounting hedges are typically terminated at the time of the reset

and the derivatives are contemporaneously redesignated in new hedge accounting relationships of Ñxed-rate

debt. For 2003, no amounts have been excluded from the assessment of eÅectiveness for derivatives designated

as fair-value hedges. For 2002 and 2001, losses of $103 million and $7 million, respectively were excluded

from the assessment of eÅectiveness for derivatives designated as fair-value hedges. The excluded component

represents the change in fair-value related to the diÅerence between the spot price and the forward price on

certain sale commitments used as hedges of existing mortgage-related securities.

Derivatives designated as fair-value hedges are reported at their fair-value as either Derivative assets, at

fair-value or Derivative liabilities, at fair-value on the consolidated balance sheets. For a derivative qualifying

as a fair-value hedge, Freddie Mac reports changes in the fair-value of the derivative as Hedge accounting

gains (losses) on the consolidated statements of income along with the changes in the fair-value of the hedged

item attributable to the risk being hedged. Hedge ineÅectiveness arises when the fair-value change of a

derivative is not equal to the fair-value change of the hedged item. For 2003, 2002 and 2001, hedge

ineÅectiveness related to fair-value hedges was a net $697 million gain, $241 million gain and $280 million

loss, respectively, and was reported in Hedge accounting gains (losses). Hedge accounting gains (losses) will

vary from period to period based on the notional amount of derivatives accounted for in hedge accounting

relationships and the extent to which diÅerences in the characteristics or terms of the derivative and the

hedged item result in fair-value changes that are not exactly oÅset. For example, a signiÑcant portion of

derivatives in our fair-value hedges are forward starting and valued using forward rates while the hedged debt

is valued using spot rates. Therefore, the diÅerence between the spot rate and the forward rate generally

produces ineÅectiveness in these fair-value hedges.

Cash-Öow hedges

Cash-Öow hedges represent hedges of exposure to the variability in the cash Öows of a recognized

Öoating-rate asset or liability or a forecasted transaction. Freddie Mac uses interest-rate swaps, futures,

foreign-currency swaps and forward contracts to hedge the changes in cash Öows associated with the

forecasted issuances of debt, forecasted purchase or sale of mortgage-related assets, and foreign currency

Öuctuations.

Derivatives designated as cash-Öow hedges are reported at their fair-value as either Derivative assets, at

fair-value or Derivative liabilities, at fair-value with changes in fair-value generally reported in AOCI, net of

taxes, on the consolidated balance sheets to the extent the hedge is eÅective. The remaining ineÅective

portion, calculated using the hypothetical derivative method, is reported as Hedge accounting gains (losses)

on the consolidated statements of income. This method requires the company to develop a hypothetical

derivative whose terms match those of the hedged item and compare estimated changes in it to changes in the

hedging derivative. For 2003, 2002 and 2001, hedge ineÅectiveness related to cash-Öow hedges was a net

$53 million loss, $54 million loss and $14 million loss, respectively. No amounts have been excluded from the

assessment of eÅectiveness for derivatives designated as cash-Öow hedges for 2003, 2002 and 2001.

The maximum length of time over which Freddie Mac hedges the exposure related to the variability in

future cash Öows on forecasted debt issuances is thirty years. However, over 90 percent of the AOCI, net of

taxes, balance at December 31, 2003 relating to cash Öow hedges, is attributable to cash Öow hedges of the

exposure related to the variability in future cash Öows on forecasted debt issuances of 15 years or less.

Under SFAS 133, AOCI amounts are reclassiÑed to earnings as the associated hedged forecasted

issuance of debt and forecasted mortgage purchase transaction aÅects earnings. During 2003, 2002 and 2001,

pre-tax amounts reclassiÑed into earnings also include net gains of $29 million, $116 million and $46 million,

respectively, resulting from the determination that it was probable that forecasted transactions related to

certain mortgage purchases and sales would not occur. As of December 31, 2003, the total AOCI, net of taxes,

related to cash-Öow hedge relationships was a loss of $7.8 billion on an after-tax basis. The $7.8 billion in

hedging losses related to cash-Öow hedges was composed of approximately $1.9 billion in net unrealized

derivatives losses on open hedges and approximately $5.9 billion in deferred derivatives net losses on closed

Freddie Mac

213
hedges. The $1.9 billion in unrealized fair-value losses on existing cash-Öow hedges can change substantially

due to future changes in interest rates. Closed cash-Öow hedges involve derivatives that have been terminated

or are no longer designated as cash-Öow hedges. Fluctuations in prevailing market interest rates have no

impact on the deferred portion of AOCI relating to losses on closed cash-Öow hedges. Assuming no changes in

interest rates or other factors aÅecting derivative valuations, the company estimates that approximately

$2.5 billion (net of taxes) of the $7.8 billion of hedging losses (of which $5.9 billion are deferred losses and

$1.9 billion are unrealized losses) in AOCI, net of taxes, at December 31, 2003 will be reclassiÑed into

earnings during 2004.

Table 12.1 presents the changes in AOCI, net of taxes, related to derivatives designated as cash-Öow

hedges. The Cumulative eÅect of change in accounting principle, net of tax beneÑt line represents the

cumulative change in fair value, after the eÅects of Freddie Mac's statutory tax rate of 35 percent, on all

derivatives that were designated as cash-Öow hedges on January 1, 2001, the date Freddie Mac adopted

SFAS 133. The ""Net change in fair value related to cash Öow hedging activities, net of tax beneÑt'' line

represents the net changes in the fair value of the derivatives, that were designated as cash-Öow hedges

throughout the year, after the eÅects of Freddie Mac's statutory tax rate of 35 percent, to the extent the

hedges were eÅective. The Net reclassiÑcations to earnings, net of tax expense line represents the AOCI

amount, after the eÅects of Freddie Mac's statutory tax rate of 35 percent, that was recognized in earnings as

the originally hedged forecasted transactions aÅected earnings unless it was deemed probable that the

forecasted transaction would not occur. If it is probable that the forecasted transaction will not occur, then the

entire deferred gain or loss associated with the hedge related to the forecasted transaction is reclassiÑed into

earnings immediately.

Table 12.1 Ì AOCI, net of taxes, Related to Cash-Flow Hedge Relationships

Year Ended December 31,

2003 2002 2001

(dollars in millions)

Beginning Balance(1) ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ $(9,877) $(4,757) $ Ì

Cumulative eÅect of change in accounting principle, net of tax beneÑt of

$1,422 for the year ended December 31, 2001 ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ Ì Ì (2,640)

Net change in fair value related to cash Öow hedging activities, net of

tax beneÑt of $(352), $(4,516) and $(1,763) for the years ended

December 31, 2003, 2002 and 2001, respectively(2) ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ (653) (8,388) (3,276)

Net reclassiÑcations to earnings, net of tax expense of $1,450, $1,760 and

$624 for the years ended December 31, 2003, 2002 and 2001,

respectively(2) ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 2,693 3,268 1,159

Ending Balance(1) ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ $(7,837) $(9,877) $(4,757)

(1) Represents the eÅective portion of the fair value of open derivative contracts (i.e., net unrealized gains and losses) and net deferred

gains and losses on closed (i.e., terminated or redesignated) cash-Öow hedges.

(2) Net reclassiÑcations to earnings, net of tax expense includes the accrual of periodic cash settlements in accordance with the

contractual terms of the derivative designated in a cash Öow hedge relationship for all periods presented above. For 2002 and 2001,

such accruals were previously reported in Net change in fair value related to cash-Öow hedging activities, net of tax beneÑt, and

totaled $2,247 million and $1,058 million, respectively, on an after-tax basis.

Freddie Mac

214
NOTE 13: LEGAL CONTINGENCIES

Freddie Mac is involved as a party to a variety of legal proceedings arising from time to time in the

ordinary course of business including, among other things, contractual disputes, personal injury claims,

employment-related litigation and other legal proceedings incidental to the company's business. Freddie Mac

is frequently involved, directly or indirectly, in litigation involving mortgage foreclosures. Freddie Mac is also

involved in proceedings arising from its termination of a seller/servicer's eligibility to sell mortgages to, and

service mortgages for, the company. In these cases, the former seller/servicer sometimes seeks damages

against Freddie Mac for wrongful termination under a variety of legal theories. In addition, Freddie Mac is

sometimes sued in connection with the origination or servicing of mortgages. These suits generally involve

claims alleging wrongful actions of seller/servicers. Freddie Mac's contracts with its seller/servicers generally

provide for them to indemnify the company against liability arising from their wrongful actions.

Freddie Mac is now subject to various legal proceedings, including regulatory investigations and

administrative and civil litigation, arising from the restatement of its previously issued consolidated Ñnancial

statements for the years 2000 and 2001 and the Ñrst three quarters of 2002 and the revision of fourth quarter

and full-year consolidated Ñnancial statements for 2002 (collectively referred to as the ""restatement'').

Freddie Mac believes that a loss in connection with the proceedings arising from the restatement is probable

and currently estimates the range of minimum loss to be from $75 million to $100 million. Freddie Mac has

established a reserve of $75 million for this loss contingency in the second quarter of 2003, the period in which

many of the legal proceedings were initiated. The ultimate resolution of these proceedings could result in

losses lower than or in excess of the estimated range of minimum loss. Litigation and claims resolution are

subject to many uncertainties and are not susceptible to accurate prediction. It is not possible for the company

to reasonably estimate the upper end of the range of any additional losses that might result from the adverse

resolution of any of these legal proceedings, or their potential eÅect on the company's Ñnancial condition or

results of operations.

Securities Class Action Lawsuits. In June 2003 and thereafter, securities class action lawsuits were

brought in three separate federal district courts against Freddie Mac and certain former executive oÇcers in

connection with the restatement. While most of the cases were voluntarily dismissed by the plaintiÅs, the two

remaining ones were consolidated and are now pending in the U.S. District Court for the Southern District of

New York.

In essence, the plaintiÅs in the consolidated action claim that the defendants improperly managed

earnings to create a misleading impression of steady earnings by Freddie Mac. PlaintiÅs further allege that

defendants engaged in a number of improper transactions that violated GAAP and that they made false and

misleading statements regarding Freddie Mac's Ñnancial status. The complaint, which covers the period from

June 15, 1999 through June 6, 2003, seeks unspeciÑed compensatory damages, costs and expenses.

In March 2004, the plaintiÅs in one of the cases, the Ohio Public Employees Retirement System and the

State Teachers Retirement System, were appointed lead plaintiÅs for the consolidated action. Freddie Mac

Ñled a motion to dismiss the action in April, which was denied by the court on July 19, 2004. The case is now

in the discovery phase.

Shareholder Derivative Lawsuits. Two shareholder derivative lawsuits were Ñled during 2003 against

Freddie Mac and certain former and current executives and members of Freddie Mac's Board of Directors

alleging breach of Ñduciary duty in connection with the restatement. Both cases were ultimately assigned to

the same judge in New York who is handling the securities class action lawsuits described above. In July 2003,

all of the then current Board members were dismissed from the lawsuits in which they were named with the

consent of the plaintiÅ. On January 16, 2004, Freddie Mac moved to dismiss one of the lawsuits because of the

plaintiÅ's failure to make a pre-suit demand. The court dismissed the case without prejudice on July 19, 2004.

That plaintiÅ has since sent a demand notice to Freddie Mac. The other lawsuit is still pending, awaiting

Freddie Mac's Board of Directors' response to the plaintiÅ's pre-suit demand notice.

ERISA Lawsuits. Two class action lawsuits were Ñled in 2003 in the U.S. District Court for the

Southern District of Ohio against Freddie Mac, certain individuals, and the company's Retirement Committee

alleging violations of the Employee Retirement Income Security Act (""ERISA''). Both actions were

consolidated and transferred to the same judge in New York who is handling the securities and derivative

Freddie Mac

215
lawsuits described above. In July 2004, Freddie Mac and the other defendants Ñled a motion to dismiss the

consolidated ERISA lawsuit. That motion is pending.

OFHEO Investigation. In June 2003, OFHEO commenced a special investigation of the company in

connection with the restatement. As part of this investigation, OFHEO took the testimony of certain Freddie

Mac employees and directors, external third parties and former employees. OFHEO also requested and

received documents from the company.

On December 9, 2003, Freddie Mac and OFHEO entered into a consent order and settlement which

concluded OFHEO's investigation of the company. Under the terms of the consent order, Freddie Mac agreed

to pay a civil money penalty of $125 million, which was recorded in the second quarter of 2003 (the period in

which OFHEO commenced its special investigation), as well as to undertake certain remedial actions relating

to governance, corporate culture, internal controls, accounting practices, disclosure and oversight. In agreeing

to the consent order, Freddie Mac made no admission regarding any wrongdoing or any asserted or implied

Ñndings.

In December 2003, OFHEO Ñled administrative notices of charges against Freddie Mac and

Messrs. Brendsel and Clarke, two former executive oÇcers of Freddie Mac. In its charge against Freddie Mac,

OFHEO seeks to have Freddie Mac take certain actions in connection with these individuals' salaries and

compensation as well as their termination status with the company. Freddie Mac and Messrs. Brendsel and

Clarke moved, among other things, to dismiss the OFHEO administrative charges. These motions are

pending.

On August 31, 2004, in a separate action, the U.S. District Court for the District of Columbia issued an

order Ñnding that OFHEO lacked the authority to freeze the compensation and beneÑts provided under

Mr. Brendsel's employment agreement. Freddie Mac was not a party to this action. An appeal could be taken

from this order. The administrative proceedings concern, among other things, OFHEO's demand to change

Mr. Brendsel's termination status and its request for penalties against him are still pending.

SEC Investigation. In June 2003, the SEC initiated a formal investigation of Freddie Mac in

connection with the restatement. As part of the investigation, the SEC subpoenaed company documents and

took the sworn testimony of various present and former Freddie Mac employees and directors, as well as third

parties.

On August 18, 2004, Freddie Mac announced that it had received a ""Wells Notice'' from the staÅ of the

SEC. The Wells Notice advised the company that the SEC staÅ is considering recommending that the SEC

initiate a civil injunctive action against the company for possible violations of federal securities laws, including

Section 10(b) of the Securities Exchange Act of 1934 and the SEC's Rule 10b-5, as well as Sections 17(a)(1), (2) and (3) of the Securities Act of 1933. The Wells Notice also indicated that the SEC staÅ

may seek a permanent injunction and a civil money penalty in connection with the contemplated action.

Freddie Mac continues to cooperate fully with the SEC's investigation as the company evaluates its response

to the Wells Notice.

U.S. Attorney's Investigation. In June 2003, the U.S. Attorney's OÇce in Alexandria, Virginia

commenced an investigation of Freddie Mac surrounding the restatement. As part of its investigation, the U.S.

Attorney's OÇce requested and received documents and information from Freddie Mac, interviewed certain

Freddie Mac employees and possibly other parties and took testimony before the grand jury. The investigation

is still pending and Freddie Mac will continue to cooperate with the U.S. Attorney's OÇce.

Department of Labor Investigation. In July 2003, the Department of Labor (""DOL'') began an

investigation of Freddie Mac's 401(k) Plan in relation to the restatement. In connection with the investigation, the

DOL sought and received documents from the company as well as interviewed certain present and former

members of Freddie Mac's Retirement Committee. The investigation is still pending and Freddie Mac continues to

cooperate fully with the DOL.

Other Inquiries. Freddie Mac received inquires from the Internal Revenue Service (""IRS'') in

connection with its regular audits of Freddie Mac's tax returns for prior years, some of which relate to matters

connected with the restatement. Freddie Mac continues to respond to these inquiries. See ""NOTE 14:

INCOME TAXES'' for more information. The Committee on Energy and Commerce of the House of

Representatives also sent Freddie Mac an inquiry relating to the restatement. Freddie Mac has responded to

the Committee's inquiry.

Freddie Mac

216
NOTE 14: INCOME TAXES

Freddie Mac is exempt from state and local income taxes. Table 14.1 presents the components of the

company's Provision for income taxes.

Table 14.1 Ì Provision for Income Taxes

Year Ended December 31,

2003 2002 2001

(dollars in millions)

Current tax provision ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ $1,465 $2,023 $1,584

Deferred tax provision ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 737 2,690 (245)

Total provision for income taxes ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ $2,202 $4,713 $1,339

Table 14.2 summarizes Freddie Mac's deferred tax asset and liability.

Table 14.2 Ì Deferred Tax Asset/(Liability)

December 31,

2003 2002

(dollars in millions)

Deferred tax assets:

Deferred fees related to securitizations ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ $ 1,550 $ 1,308

Basis diÅerences related to assets held for investment ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 195 139

Employee compensation and beneÑt plans ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 141 136

Credit related items and reserve for loan losses ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ Ì 11

Other items, net ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ Ì 61

Cash Öow hedge deferrals and unrealized (gains) losses related to available-forsale securities ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 801 Ì

Total deferred tax assets ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 2,687 1,655

Deferred tax liabilities:

Premium and discount amortization ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ (1,958) (1,826)

Basis diÅerences related to derivative instruments ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ (3,468) (2,639)

Credit related items and reserve for loan losses ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ (2) Ì

Other items, net ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ (5) Ì

Cash Öow hedge deferrals and unrealized (gains) losses related to available-forsale securities ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ Ì (1,260)

Total deferred tax liabilities ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ (5,433) (5,725)

Net deferred tax liabilities ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ $(2,746) $(4,070)

Included in deferred taxes is the tax eÅect on the (a) net unrealized (gain) loss on available-for-sale

securities and (b) net (gain) loss related to derivatives designated in cash Öow hedge relationships, which are

both reported in AOCI, net of taxes.

A valuation allowance has not been established against Freddie Mac's deferred tax assets as of

December 31, 2003 or 2002, as Freddie Mac has determined that it is more likely than not that all such tax

assets will be realized in the future.

Freddie Mac

217
Table 14.3 reconciles the statutory federal tax rate to the eÅective tax rate before the cumulative eÅects

of changes in accounting principles.

Table 14.3 Ì Reconciliation of Statutory to EÅective Tax Rate

Year Ended December 31,

2003 2002 2001

Statutory corporate rate ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 35.0% 35.0% 35.0%

Tax-exempt interest and dividends-received deductions ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ (2.1) (1.2) (3.6)

Tax credits ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ (3.0) (1.1) (2.9)

Provision (beneÑt) related to tax contingencies ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 0.4 (1.0) 1.4

OFHEO civil money penalty and loss contingency accrual ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 1.0 Ì Ì

Other ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 0.1 0.1 0.2

EÅective rate ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 31.4% 31.8% 30.1%

Impact of tax issues. The IRS has a policy to examine the income tax returns of large corporate

taxpayers, including Freddie Mac, generally every year. Management believes that an adequate provision in

accordance with SFAS 5 has been made for contingencies related to all income taxes and related interest.

However, the ultimate outcome of these tax contingencies could result in a tax beneÑt or tax provision that

could be material to Freddie Mac's quarterly or annual results of operations. Based on current knowledge and

after consultation with outside counsel, management does not believe that liabilities arising from these

matters, if any, will have a material adverse eÅect on Freddie Mac's consolidated Ñnancial condition.

Tax Years 1985 to 1990. In 1998, the IRS issued Freddie Mac a Statutory Notice which asserts income

tax deÑciencies for the company's Ñrst two tax years, 1985 and 1986. In the Ñrst quarter of 1999, Freddie Mac

Ñled a petition in the United States Tax Court (the ""Court'') to contest the deÑciencies. In the third quarter

of 1999, the IRS issued a Statutory Notice for Freddie Mac's tax years 1987 to 1990, and Freddie Mac Ñled a

petition in the Court. Subsequently, the Court combined the 1985 to 1990 tax years into one case. The

principal matters in controversy in the case involve questions of tax law as applied to Freddie Mac's transition

from non-taxable to taxable status in 1985 and primarily involve the amortization of certain intangible assets,

the two most signiÑcant of which are:

‚ Favorable Financing. A number of Ñnancing arrangements where the contract rates of interest

were less than the market rates of interest as of January 1, 1985 due to an increase in interest rates

since the date on which Freddie Mac had entered into the respective arrangements; and

‚ Customer Relationships. Freddie Mac's business relationships with a substantial number of

mortgage originating institutions that sold mortgages to Freddie Mac on a regular basis.

Tax Court Rulings. On September 4, 2003, and September 29, 2003, the Court decided favorably for

Freddie Mac on two preliminary motions involving questions of law in the case. On September 4, the Court

ruled favorably for Freddie Mac on the question whether Freddie Mac's intangibles are amortizable using, as

the adjusted basis, the higher of (a) the regular adjusted cost basis or (b) the fair market value on January 1,

1985. On September 29, the Court ruled favorably for Freddie Mac on the question whether, as a matter of

law, ""favorable Ñnancing'' (as deÑned above) was amortizable for tax purposes. As part of this case, Freddie

Mac claimed, and the Court agreed, that the economic beneÑt of this below-market Ñnancing as of January 1,

1985 is an intangible asset subject to amortization. In October 2003, the Court ruled unfavorably on two other

less signiÑcant issues in the case.

While signiÑcant, the Court's rulings do not dispose of all of the matters in controversy in the case, which,

upon Ñnal resolution by the Court of all such matters, are subject to appeal by the parties. In addition, Freddie

Mac still must demonstrate that the intangible assets in question have an ascertainable value and have a

limited useful life, the duration of which can be ascertained with reasonable accuracy.

In view of the favorable rulings described above and in accordance with GAAP, Freddie Mac recorded in

the fourth quarter of 2002 a reduction in its tax reserves in the amount of $155 million. If the IRS were to

Freddie Mac

218
appeal the Court decisions and an adverse ruling resulted, Freddie Mac may reconsider its reserves related to

this matter.

If Freddie Mac's tax position on the customer relationship amortization issue described above is upheld

through the administrative and legal process, Freddie Mac will be able to recognize additional tax beneÑts that

could be material in the quarter during which they are recognized. However, Freddie Mac is unable to provide

assurances that any such tax beneÑts will be realized.

Tax Years 1991 to 1993. The IRS examination of Freddie Mac's federal income tax returns for the

years 1991 through 1993 has been completed. In December 2001, the IRS issued a Statutory Notice for these

years. In the Ñrst quarter of 2002, Freddie Mac Ñled a petition in the Court to contest the deÑciencies. The

principal matters in controversy in this case are the same questions at issue in the 1985 to 1990 case as applied

to years 1991 to 1993, plus an additional question of tax law regarding the timing of taxation of Freddie Mac's

management and guarantee fee income.

Tax Years 1994 to 1997. In the second quarter of 2002, the IRS completed its examination of Freddie

Mac's federal income tax returns for the years 1994 through 1997. Freddie Mac is involved in discussions with

the IRS Appeals Division regarding the company's disagreement with certain aspects of the examination

report. The principal matters in controversy, other than the same questions at issue in the 1985 to 1993 cases,

involve the character of losses on dispositions of mortgage securities and certain issues relating to Freddie

Mac's REIT subsidiaries.

Tax Treatment of REITs. In February 1997, Freddie Mac formed two REIT subsidiaries that issued a

total of $4 billion in step-down preferred stock to investors. Under the IRS regulations in eÅect when the

REITs were formed, the company believed that the dividend payments by the REITs to holders of the REITs'

step-down preferred stock were fully tax deductible. In 1997, subsequent to the formation of Freddie Mac's

REIT subsidiaries, the Department of the Treasury announced its intention to propose regulations that would

eÅectively eliminate the potential tax advantages of REITs that issued step-down preferred stock. On

January 7, 2000, the Treasury issued Ñnal regulations that retroactively deny certain tax beneÑts attributable

to Freddie Mac's REIT preferred stock for tax years ending on or after February 27, 1997. Based upon this

guidance, the IRS challenged Freddie Mac's position that the REIT dividends are fully deductible. The

company has since changed its position that the REIT dividends are fully deductible. Freddie Mac has not

recorded a tax beneÑt in its consolidated Ñnancial statements for the portion of the REIT dividends that was

challenged by the IRS.

The preferred stock is redeemable by the REITs under certain circumstances described in the preferred

stock oÅering documents as a ""tax event redemption.'' Additionally, after an initial period ending December 31, 2006, the REITs may be able to retire the preferred stock under favorable Ñnancing terms in

accordance with the terms of the preferred stock. The REITs have decided not to redeem the preferred stock

at this time; however, if market conditions were viewed to be favorable in the future, the REITs may decide to

redeem the preferred stock at that time.

Tax Years 1998 to 2002. The IRS is currently examining Freddie Mac's tax returns for the years 1998

through 2002. This examination includes the years for which Freddie Mac has restated its Ñnancial reporting.

Tax Treatment of Linked Swaps. In August and September of 2001, Freddie Mac entered into a series

of nine sets of paired trade transactions known as ""Linked Swaps.'' Freddie Mac has reported and paid tax

treating each pair of Linked Swaps as a single integrated transaction for federal income tax purposes. There is

a risk, however, that the IRS could challenge Freddie Mac's tax treatment of the Linked Swaps and make an

adverse determination relating to this tax treatment. If this should occur, the potential aggregate additional tax

liability could be as much as approximately $750 million plus interest.

In addition, two additional swaps were executed in November 2001. Although the facts and circumstances surrounding these swaps were diÅerent from the Linked Swaps, Freddie Mac also reported and paid

tax treating these swaps as a single integrated transaction for federal income tax purposes. Management

believes there are no signiÑcant tax exposures related to these swaps.

Freddie Mac

219
Freddie Mac has not provided reserves for any tax issues related to these transactions because

management has determined that the potential for loss does not meet the criteria for recognition under

SFAS 5. The IRS is currently examining Freddie Mac's 2001 and 2002 tax returns, and has yet to propose any

adjustments related to these transactions. If the IRS were to propose the maximum potential aggregate

assessment and that additional tax liability was upheld through the administrative and legal process, the

recognition of such additional liability could have a material adverse impact on Freddie Mac's results of

operations in the quarter in which it was recognized. Based on current knowledge and after consultation with

counsel, management does not currently believe that the Ñnal resolution of any issues that may arise from the

Linked Swaps transactions will result in IRS adjustments that would have a material adverse impact on

Freddie Mac's consolidated Ñnancial condition.

Freddie Mac

220
NOTE 15: EMPLOYEE BENEFITS

DeÑned BeneÑt Plans

Freddie Mac maintains a tax-qualiÑed deÑned beneÑt pension plan (""Pension Plan'') covering substantially all of its employees. Pension Plan beneÑts are based on years of service and the employee's highest

average compensation (up to legal plan limits) over any consecutive 36 months of employment. Freddie Mac's

general practice is to contribute to the Pension Plan an amount equal to at least the minimum required

contribution but no more than the maximum amount deductible for federal income tax purposes each year. In

2004, Freddie Mac expects to contribute approximately $12 million to its Pension Plan. Pension Plan assets

are held in trust and investments consist primarily of listed stocks and corporate bonds. In addition to the

Pension Plan, Freddie Mac maintains nonqualiÑed, unfunded deÑned beneÑt pension plans for oÇcers and

certain other employees of the company. The related retirement beneÑts for the nonqualiÑed plans are paid

from Freddie Mac's general assets. These nonqualiÑed and qualiÑed deÑned beneÑt pension plans are

collectively referred to in this NOTE 15 as ""deÑned beneÑt pension plans.''

Freddie Mac maintains a deÑned beneÑt post-retirement health care plan that provides post-retirement

health care beneÑts on a contributory basis to retired employees age 55 or older who rendered at least ten years

of service (Ñve years of service prior to 2002) after age 35 and who, upon separation or termination,

immediately elected to commence beneÑts under the Pension Plan in the form of an annuity. The company's

post-retirement health care plan is currently unfunded and the beneÑts are paid from Freddie Mac's general

assets. This plan, along with the deÑned beneÑt pension plans, are collectively referred to in this NOTE 15 as

""deÑned beneÑt plans.''

The company is required to accrue the estimated cost of retiree beneÑts as employees render the services

necessary to earn their post-retirement beneÑts. Freddie Mac's pension and post-retirement health care costs

related to these deÑned beneÑt plans for 2003, 2002 and 2001 presented in the following tables were calculated

using assumptions as of September 30, 2002, 2001 and 2000, respectively. The funded status of Freddie Mac's

pension and post-retirement health care deÑned beneÑt plans for 2003, 2002 and 2001 presented in the

following tables were calculated using assumptions as of September 30, 2003, 2002 and 2001, respectively.

For Ñnancial reporting purposes, Freddie Mac uses a September 30th valuation measurement date for all

of its deÑned beneÑt plans.

Freddie Mac

221
Table 15.1 sets forth the changes in the beneÑt obligation, funded status and the amounts reported in the

consolidated balance sheets for the deÑned beneÑt plans at December 31, 2003 and 2002.

Table 15.1 Ì DeÑned BeneÑt Plan Obligations and Funded Status

Pension Post-Retirement

BeneÑts(1) BeneÑts

2003 2002 2003 2002

(dollars in millions)

CHANGE IN BENEFIT OBLIGATION

BeneÑt obligation at beginning of year ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ $ 230 $179 $ 54 $ 28

AmendmentÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ Ì 1 Ì (8)

Service cost ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 16 12 6 4

Interest costÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 16 14 3 3

Net actuarial loss ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 80 27 39 27

BeneÑts paid ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ (3) (3) Ì Ì

BeneÑt obligation at end of year ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 339 230 102 54

CHANGE IN PLAN ASSETS

Fair value of plan assets at beginning of year ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 160 139

Actual return (loss) on plan assetsÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 26 (13)

Employer contributions ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 46 37

BeneÑts paid ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ (3) (3)

Fair value of plan assets at end of year ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 229 160

FUNDED STATUS

Funded status at end of year ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ (110) (70) (102) (54)

Unrecognized net actuarial lossÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 120 57 60 23

Unrecognized prior service costÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 2 2 (6) (7)

Initial unrecognized net transition asset ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 1 1 Ì Ì

Net amount recognized ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ $ 13 $(10) $ (48) $(38)

AMOUNTS RECOGNIZED IN THE CONSOLIDATED BALANCE

SHEETS

Other assets:

Prepaid beneÑt cost ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ $ 29 $ 2 $ Ì $ Ì

Intangible asset ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 1 Ì Ì Ì

Other liabilities:

Accrued beneÑt liability ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ (27) (12) (48) (38)

AOCI

Minimum pension liability ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 10 Ì Ì Ì

Net amount recognized ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ $ 13 $(10) $ (48) $(38)

(1) The beneÑt obligations refer to projected beneÑt obligations.

The Amendment change for 2002 referred to in Table 15.1 for Pension BeneÑts relates to a 2001 Pension

Plan amendment to conform to a legislative change to increase the maximum annual deÑned beneÑt limit as

deÑned by IRC Section 415(b) and the maximum compensation limit as deÑned by IRC Section 401(a)(17). The Amendment change for 2002 referred to in Table 15.1 for Post-Retirement BeneÑts

includes changes in eligibility, Medicare coordination and the level of the employer-provided subsidy for

retiree medical beneÑts.

The accumulated beneÑt obligation for all deÑned beneÑt pension plans was $248 million and

$170 million at December 31, 2003 and 2002, respectively.

Freddie Mac

222
Table 15.2 provides additional information on plans with beneÑt obligations in excess of plan assets,

which are due to the unfunded deÑned beneÑt plans for oÇcers and certain other employees of the company.

Table 15.2 Ì Information for Pension Plans with an Accumulated BeneÑt Obligation 

in Excess of Plan Assets

December 31,

2003 2002

(dollars in

millions)

Projected beneÑt obligation ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ $38 $21

Accumulated beneÑt obligation ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 27 15

Fair value of plan assets ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ Ì Ì

The increase in the minimum pension liability included in AOCI, net of taxes, was $10 million and $-0-

at December 31, 2003 and 2002, respectively.

Table 15.3 presents the components of the net periodic beneÑt costs with respect to pensions and other

post-retirement beneÑts for the years ended December 31, 2003, 2002 and 2001. Net periodic beneÑt costs are

included in the line Salaries and employee beneÑts on the company's consolidated statements of income.

Table 15.3 Ì Net Periodic BeneÑt Cost Detail

Post-Retirement

Pension BeneÑts BeneÑts

Year Ended Year Ended

December 31, December 31,

2003 2002 2001 2003 2002 2001

(dollars in millions)

Service cost of current period ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ $16 $12 $12 $ 6 $4 $ 2

Interest cost on beneÑt obligation ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 16 14 12 3 3 2

Expected return on plan assetsÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ (12) (13) (13) Ì Ì Ì

Recognized net actuarial (gain) lossÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 3 Ì (1) 2 1 Ì

Recognized prior service cost ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ Ì Ì Ì (1) (1) Ì

Net periodic beneÑt costs ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ $23 $13 $10 $10 $7 $ 4

Tables 15.4 and 15.5 summarize the weighted average assumptions used to determine beneÑt obligations

at December 31, 2003 and 2002 and net periodic beneÑt costs for the years ended December 31, 2003, 2002

and 2001, respectively.

Table 15.4 Ì Weighted Average Assumptions Used to Determine Projected and Accumulated BeneÑt

Obligations

PostPension Retirement

BeneÑts BeneÑts

December 31, December 31,

2003 2002 2003 2002

MAJOR ASSUMPTIONS:

Discount rate ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 6.0% 7.0% 6.0% 7.0%

Rate of future compensation increaseÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 4.5% 4.5% Ì Ì

Freddie Mac

223
Table 15.5 Ì Weighted Average Assumptions Used to Determine Net Periodic BeneÑt Cost

Post-Retirement

Pension BeneÑts BeneÑts

Year Ended Year Ended

December 31, December 31,

2003 2002 2001 2003 2002 2001

MAJOR ASSUMPTIONS:

Discount rate ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 7.00% 7.50% 7.75% 7.00% 7.50% 7.75%

Rate of future compensation increase ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 4.50% 4.50% 4.50% Ì Ì Ì

Expected long-term rate of return on plan assets ÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 7.25% 9.00% 9.00% Ì Ì Ì

During 2003, management enhanced the methodologies underlying the assumptions in Table 15.4 and

Table 15.5 above. For 2003 year-end beneÑt obligations, Freddie Mac used the Moody's Aa Corporate Bond

Rate as a basis for selecting the discount rate shown in Table 15.4. Previously, a hypothetical bond model

portfolio was used. To estimate the return on plan assets for 2003, Freddie Mac used a portfolio return

calculator model, which considers the historical returns and the future expectations for returns for each asset

class. Previously that assumption was estimated after consideration of historical returns, the current economic

environment and surveys of expected long-term investment return rates for other Ñnancial institutions. These

changes did not result in a material eÅect on Ñnancial position or results of operations.

The assumed health care cost trend rates used in measuring the accumulated post-retirement beneÑt

obligation are 13 percent in 2004, gradually declining to an ultimate rate of 5 percent in 2009 and remaining at

that level thereafter.

Table 15.6 sets forth the eÅect on the accumulated post-retirement beneÑt obligation and the sum of the

service-cost and interest-cost components of the net periodic post-retirement beneÑt costs that would result

from a 1 percent increase or decrease in the assumed health care cost trend rate.

Table 15.6 Ì Selected Data Regarding Post-Retirement Plans

One One

Percent Percent

Increase Decrease

(dollars in millions)

EÅect on the accumulated post-retirement beneÑt obligation for health

care beneÑtsÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ $24 $(19)

EÅect on the net periodic post-retirement beneÑt cost components ÏÏÏÏÏÏÏ 2 (2)

Plan Assets

Table 15.7 sets forth Freddie Mac's pension plan weighted average asset allocations, based on fair value,

at December 31, 2003 and 2002, and target allocation by asset category.

Table 15.7 Ì Pension Plan Assets by Category

Plan Assets at Target December 31 Allocation

Asset Category 2002 - 2003 2003 2002

Equity securities ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 65.0% 52.6% 63.6%

Debt securities ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 35.0% 28.2% 30.2%

Other(1) ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ Ì 19.2% 6.2%

TotalÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 100.0% 100.0% 100.0%

(1) Consists of cash contributions made in the fourth quarter of 2003 and 2002 and not yet fully invested by December 31st.

Freddie Mac employs a total return investment approach whereby a diversiÑed blend of equities and Ñxed

income investments are used to maximize the long-term return of plan assets for a prudent level of risk. Risk

tolerance is established through careful consideration of plan liabilities, plan funded status, and corporate

Ñnancial condition. Furthermore, equity investments are diversiÑed across U.S. and non-U.S. listed companies

Freddie Mac

224
with small and large capitalizations. Derivatives may be used to gain market exposure in an eÇcient and

timely manner; however, derivatives may not be used to leverage the portfolio beyond the market value of the

underlying investments. Investment risk is measured and monitored on an ongoing basis through quarterly

investment portfolio reviews, annual liability measurements and periodic asset/liability studies.

The Pension Plan assets did not include any direct ownership of Freddie Mac securities at December 31,

2003 and 2002.

Cash Flows

Contributions

In 2004, Freddie Mac expects to contribute approximately $12 million to its deÑned beneÑt pension plans

and its other post-retirement beneÑt plan. Any contributions to the company's other post-retirement beneÑt

plan will be in the form of beneÑt payments since it is an unfunded plan.

Estimated Future BeneÑt Payments

Table 15.8 sets forth estimated future beneÑt payments expected to be paid. The expected beneÑts are

based on the same assumptions used to measure Freddie Mac's beneÑt obligation at December 31, 2003.

Table 15.8 Ì Estimated Future BeneÑt Payments

Post-Retirement

Pension BeneÑts BeneÑts

(dollars in millions)

2004 ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ $3.4 $1.0

2005 ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 4.0 1.0

2006 ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 4.9 1.3

2007 ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 6.3 1.7

2008 ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 7.4 2.2

Years 2009-2013 ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 68.9 19.2

DeÑned Contribution Plans

Freddie Mac also oÅers a tax-qualiÑed deÑned contribution pension plan (the ""Savings Plan'') to all

eligible employees. Employees were permitted to contribute from 1 percent to 15 percent of their annual

salaries to the Savings Plan, up to $14,500 in 2003, 2002 and 2001 ($12,000 pre-tax and $2,500 after tax in

2003, $11,000 pre-tax and $3,500 after tax in 2002 and $10,500 pre-tax and $4,000 after tax in 2001). The

company also maintains a non-qualiÑed deÑned contribution plan for oÇcers and certain other employees of

the company designed to make up for beneÑts lost due to limitations on eligible compensation imposed by the

IRC. Freddie Mac matches employees' contributions up to 6 percent of their salaries per pay period; the

percentage matched depends upon the length of service. Employee contributions and Freddie Mac's matching

contributions are immediately vested. In addition, Freddie Mac is authorized to make discretionary

contributions to the Savings Plan on behalf of each eligible employee, based on salary level. Employees

become vested in Freddie Mac's discretionary contributions after 5 years. Freddie Mac incurred costs of

$28 million, $22 million and $21 million for 2003, 2002 and 2001, respectively, related to these plans. These

expenses were included in Salaries and employee beneÑts on the consolidated statements of income.

See ""NOTE 13 Ì LEGAL CONTINGENCIES'' for more information regarding a DOL investigation

of Freddie Mac's Thrift/401(k) Savings Plan in relation to the restatement.

Executive Deferred Compensation Plan

The Executive Deferred Compensation Plan is an unfunded, non-qualiÑed plan that allows certain key

employees to elect to defer a portion of their annual salary and cash bonus, and certain key management

employees to defer the settlement of restricted stock units received from Freddie Mac, for any number of years

speciÑed by the employee, but under no circumstances may the period elected exceed his or her life

expectancy. Deferred salary, cash bonus and stock units are credited to an employee's accounts as of the date

Freddie Mac

225
such amounts or units would have otherwise been paid or settled by delivery of shares to the employee.

Subject to provisions for hardship withdrawals and certain terminations of employment, deferred distributions

are payable at the end of the deferral period in lump sums or reasonably equal installments over Ñve, ten or

Ñfteen years. Distributions are paid from Freddie Mac's general assets. Freddie Mac records a liability equal to

the accumulated deferred salary, cash bonus and accrued interest, net of any related distributions made to plan

participants. Freddie Mac recognizes expense equal to the interest earned on deferred salary and bonus

throughout the year. Expense associated with deferred restricted stock units is recognized as part of stockbased compensation.

Freddie Mac

226
NOTE 16: FAIR VALUE DISCLOSURES

The consolidated fair value balance sheets in Table 16.1 present Freddie Mac's estimates of the fair value

of the company's recorded assets and liabilities and oÅ-balance-sheet Ñnancial instruments as of December 31,

2003 and 2002. The consolidated fair value balance sheets include all items recorded in the consolidated

balance sheets prepared in accordance with GAAP, as well as all oÅ-balance-sheet Ñnancial instruments that

represent assets or liabilities of Freddie Mac that are not recorded in the GAAP consolidated balance sheets.

The valuations of Ñnancial instruments on the consolidated fair value balance sheets are in accordance with

GAAP fair value guidelines prescribed by SFAS No. 107, ""Disclosures about Fair Value of Financial

Instruments'' (""SFAS 107'') and other relevant pronouncements.

Table 16.1 Ì Consolidated Fair Value Balance Sheets(1)

December 31,

2003 2002

Carrying Fair Carrying Fair

Amount(2) Value(3) Amount(2) Value

(dollars in billions)

Assets

Mortgage loans ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ $ 60.2 $ 62.5 $ 63.9 $ 67.6

Mortgage-related securities(4)(5) ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 600.2 600.4 525.8 526.1

Retained portfolio ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 660.4 662.9 589.7 593.7

Cash and cash equivalents ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 23.1 23.1 10.8 10.8

Investments(6) ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 65.4 65.4 101.2 101.2

Securities purchased under agreements to resell and Federal

funds soldÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 20.6 20.6 23.0 23.0

Derivative assets ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 16.2 16.2 10.4 10.4

Guarantee asset for Participation CertiÑcates ÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 3.7 4.5 2.4 3.8

Other assets(5)(7) ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 14.0 13.2 14.7 14.4

Total assets ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ $803.4 $805.9 $752.2 $757.3

Liabilities and minority interest

Total debt securities, net ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ $739.6 $749.8 $665.7 $683.6

Guarantee obligation for Participation CertiÑcates ÏÏÏÏÏÏÏÏÏÏ 2.9 2.4 1.4 2.1

Derivative liabilities ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 0.4 0.4 1.0 1.0

Reserve for guarantee losses on Participation CertiÑcates ÏÏÏÏ 0.1 Ì 0.1 Ì

Other liabilities(7) ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 27.0 23.9 50.4 45.1

Minority interests in consolidated subsidiariesÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 1.9 2.1 2.3 2.6

Total liabilities and minority interest ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 771.9 778.6 720.9 734.4

Net assets attributable to stockholders

Preferred stockholders ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 4.6 4.4 4.6 4.6

Common stockholders ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 26.9 22.9 26.7 18.3

Total net assets ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 31.5 27.3 31.3 22.9

Total liabilities and net assets ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ $803.4 $805.9 $752.2 $757.3

(1) The consolidated fair value balance sheets do not purport to present the net realizable, liquidation or market value of Freddie Mac as

a whole. Furthermore, amounts Freddie Mac ultimately realized from the disposition of the assets or settlement of liabilities may

vary signiÑcantly from the fair values presented.

(2) Carrying amounts equal the amounts reported on Freddie Mac's GAAP consolidated balance sheets.

(3) Methodologies employed to calculate fair values are periodically changed on a prospective basis to reÖect improvements in the

underlying estimation processes. The company's estimate of the overall impact of the methodology improvements implemented

during 2003 is that they caused a partial oÅset to the increase in the fair value of net assets during the year.

(4) The fair value of mortgage-related securities reported in this table exceeds the carrying value because the fair value includes PC

residuals related to Participation CertiÑcates held in the Retained portfolio that are not recognized under GAAP.

(5) Fair value of $0.2 billion related to the credit enhancement on certain manufactured housing asset-backed securities at December 31,

2002 previously reported as Mortgage related securities has been reclassiÑed to Other assets to conform to the current presentation.

(6) Includes mortgage-related securities held in connection with PC market-making and support activities.

(7) Fair values at December 31, 2003 and 2002 include estimated income taxes on the diÅerence between the consolidated fair value

balance sheets and the consolidated GAAP balance sheets.

Freddie Mac

227
Limitations

The consolidated fair value balance sheets do not capture all elements of value that are implicit in

Freddie Mac's operations as a going concern since the consolidated fair value balance sheets only capture the

values of the current investment and securitization portfolios. For example, the consolidated fair value balance

sheets do not capture the value of new investment and securitization business that would likely replace

prepayments as they occur. In addition, the consolidated fair value balance sheets also do not capture the

value associated with future growth opportunities in Freddie Mac's investment and securitization portfolios.

Thus, the fair value of net assets attributable to stockholders presented in the consolidated fair value balance

sheets do not represent an estimate of the net realizable, liquidation or market value of Freddie Mac as a

whole.

Freddie Mac reports assets and liabilities that are not Ñnancial instruments (such as Freddie Mac's Ñxed

assets and deferred taxes), as well as certain Ñnancial instruments that are not covered by the SFAS 107

disclosure requirements (such as pension liabilities) at their GAAP carrying amounts in the consolidated fair

value balance sheets. Management believes these items do not have a signiÑcant impact on Freddie Mac's

overall Ñnancial condition or fair value results.

Valuation Methods and Assumptions

The following methods and assumptions were used to estimate the fair value of assets and liabilities at

December 31, 2003 and 2002.

Mortgage loans

Mortgage loans represent single-family and multifamily whole loans held in Freddie Mac's Retained

portfolio. For GAAP purposes, management must determine the fair value of these mortgage loans to

calculate Lower of cost or market value adjustments for mortgages classiÑed as held for sale. Management

uses this same approach when determining the fair value of all whole loans, including those held for

investment, for fair value balance sheet purposes.

Freddie Mac determines the fair value of mortgage loans based on comparisons to actively traded

mortgage-related securities with similar characteristics, with an adjustment for yield, credit and liquidity

diÅerences. SpeciÑcally, for fair value estimation purposes, Freddie Mac aggregates mortgage loans into pools

by product type, coupon and maturity and then converts the pools into notional mortgage-related securities

based on their speciÑc characteristics. Freddie Mac then calculates fair values for these notional mortgagerelated securities using the process that is described in the ""Mortgage-Related Securities'' section, below.

As described above, the fair value of these mortgage loans also includes an adjustment for yield, credit

and liquidity diÅerences. To accomplish this, the fair value of the single-family whole loans includes an

adjustment representing the estimated present value of the additional cash Öows on the mortgage coupon of

the whole loan in excess of the coupon expected on the notional mortgage-related securities. For multifamily

whole loans, the fair value adjustment is estimated by calculating the net present value of guarantee fees

expected to be retained by Freddie Mac. This retained guarantee fee is estimated by subtracting the expected

cost of funding and securitizing a multifamily whole loan of a comparable maturity and credit rating from the

coupon on the whole loan at the time of purchase.

The implied guarantee fee is also net of the related credit and other components inherent in the

company's guarantee obligation. For single-family whole loans, the process for estimating the related credit

and other guarantee obligation components is described in the ""Guarantee Obligation for Participation

CertiÑcates'' section. For multifamily whole loans, the process for estimating the related credit and other

guarantee obligation components employs a market-based approach to estimate the potential credit obligation.

This obligation is estimated by extracting the credit risk premium that multifamily whole loan investors

require from market prices on similar securities. This credit risk premium is net of expected funding, liquidity,

and other risk premiums that are embedded in the market price of the reference securities.

Mortgage-related securities

Mortgage-related securities represent passthroughs and other mortgage-related securities classiÑed as

available-for-sale and trading, which are already reÖected at fair value on the GAAP consolidated balance

sheets. Mortgage-related securities largely consist of securities issued by Freddie Mac, Fannie Mae and

Freddie Mac

228
Ginnie Mae. They also include other mortgage-related securities such as home equity, commercial mortgagebacked, and manufactured housing securities.

The fair value of securities with readily available third-party market prices is generally based on market

prices obtained from brokers and dealers, reliable third-party pricing service providers or direct market

observations. Fair value may be estimated by using third-party quotes for similar instruments, adjusted for

diÅerences in contractual terms. For other securities, a market option-adjusted spread approach is used to

estimate fair value. This option-adjusted spread approach uses a model developed from market data and

management judgment. Option-adjusted spreads for certain securities are estimated by deriving the optionadjusted spread for the most closely comparable security with an available market price, using interest-rate

and prepayment models. If necessary, management judgment is applied to estimate the impact of diÅerences

in prepayment uncertainty or other unique cash Öow characteristics related to that particular security. Fair

values for these securities are then estimated by using the estimated option-adjusted spread as an input to the

interest-rate and prepayment models, and estimating the net present value of the projected cash Öows. The

remaining instruments are priced using other modeling techniques or by using other securities as proxies.

Mortgage-related securities also include Participation CertiÑcate residuals related to PCs held by Freddie

Mac and reported in the mortgage-related securities line item. PC residuals are reported at fair value on

Freddie Mac's consolidated balance sheets. Fair value for PC residuals is estimated in the same manner as

described for guarantee assets and guarantee obligations for PCs, below.

Cash and cash equivalents

Cash and cash equivalents largely consist of highly liquid investment securities with an original maturity

of three months or less and used for cash management purposes, as well as cash collateral posted by Freddie

Mac's derivative counterparties. Given that these assets are short-term in nature with limited market value

volatility, the carrying amount on the GAAP consolidated balance sheets is assumed to be a reasonable

approximation of fair value.

Investments

Investments principally consists of non-mortgage-related securities and mortgage-related securities held

in connection with PC market-making and support activities classiÑed as either available for sale or trading,

which are reported at fair value on Freddie Mac's consolidated balance sheets. Investments also includes PC

residuals related to Freddie Mac PCs reported in the Investments line item. The fair values of Investments are

estimated using the methods described above in ""Mortgage-related securities.''

Securities purchased under agreements to resell and Federal funds sold

Securities purchased under agreements to resell and Federal funds sold principally consists of short-term

contractual agreements such as repurchase agreements involving Treasury and agency securities, Federal

funds sold and Eurodollar time deposits. Given that these assets are short-term in nature, the carrying amount

on the GAAP consolidated balance sheets is assumed to be a reasonable approximation of fair value.

Guarantee assets for Participation CertiÑcates

Freddie Mac does not establish guarantee assets (or guarantee obligations) for all PCs and Structured

Securities under GAAP. At December 31, 2003 and 2002, Freddie Mac established guarantee assets for

approximately 81 percent and 54 percent, respectively, of PCs and Structured Securities held by third parties.

For more information regarding the accounting for guarantee assets related to PCs and Structured Securities,

see ""NOTE 1: SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES.''

For fair value balance sheet purposes, a guarantee asset is reÖected for all PCs and Structured Securities

held by third parties. For fair value balance sheet purposes, guarantee fee assets are valued using the same

method as used for GAAP fair value purposes. For a description of how Freddie Mac determines the fair value

of its guarantee assets, see ""NOTE 1: SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES'' and

""NOTE 2: TRANSFERS OF SECURITIZED INTERESTS IN MORTGAGE-RELATED ASSETS.''

Derivative assets

Derivative assets, at fair value largely consists of interest-rate swaps, option-based derivatives, futures,

and forward commitments to purchase or sell securities that Freddie Mac accounts for as derivatives, which

Freddie Mac

229
are already reÖected at fair value on the GAAP consolidated balance sheets. The fair values of interest-rate

swaps are determined by using LIBOR-based yield curves to calculate the expected cash Öows for both the

Ñxed-rate and Öoating-rate components of the swap contracts. Option-based derivatives, which principally

represent call and put swaptions, are valued using an option-pricing model. This model uses market interest

rates and market-implied option volatilities, where available, to calculate the option's fair value. Marketimplied option volatilities are based on information obtained from broker-dealers. The fair value of exchangetraded futures is based on end-of-day closing prices obtained from third-party pricing sources. Derivative

forward commitments to purchase or sell securities are valued using the methods described for mortgagerelated securities valuation, above.

The fair value of derivative assets considers the impact of institutional credit risk in the event that the

counterparty does not honor its payment obligation. Freddie Mac's fair value of derivatives is not adjusted for

expected credit losses because management obtains collateral from most counterparties typically within two

business days of the daily market value calculation and substantially all of Freddie Mac's credit risk arises

from counterparties with investment-grade credit ratings of A or above.

Other assets

Other assets consists of accrued interest and other receivables, investments in qualiÑed low-income

housing tax credit (""LIHTC'') limited partnerships that are eligible for federal tax credits, Ñnancial guarantee

contracts that Freddie Mac purchased to obtain additional credit protection on certain manufactured housing

asset-backed securities, real estate owned (e.g., properties acquired primarily through foreclosure), Ñxed

assets (such as property, plant and equipment), and other miscellaneous assets.

The receivables are Ñnancial instruments under SFAS 107 and are required to be measured at fair value.

Because these receivables are short-term in nature, management believes the carrying amount on the GAAP

consolidated balance sheets is a reasonable approximation of their fair value. For the LIHTC partnerships, fair

value of expected tax beneÑts is estimated using expected cash Öows discounted at a market-based yield. For

the credit enhancements on manufactured housing asset-backed securities, fair value is based on the

diÅerence between the market price of non-credit impaired manufactured housing securities and creditimpaired manufactured housing securities that are likely to produce future credit losses, as adjusted for

management's estimate of a risk premium attributable to the Ñnancial guarantee contracts. The value of the

contracts, over time, will be determined by the actual credit-related losses incurred and, therefore, may have a

value that is higher or lower than management's market-based estimate.

The other categories of assets that comprise Other assets are not Ñnancial instruments required to be

valued at fair value under SFAS 107, such as deferred taxes. The net deferred tax asset (or liability) includes

GAAP-based deferred taxes, adjusted for estimated income taxes on the diÅerence between the consolidated

fair value balance sheets and the GAAP consolidated balance sheets, using the statutory federal tax rate of

35 percent. This adjustment represents the incremental tax asset (or liability) related to the excess

(deÑciency) of GAAP-based stockholders' equity over the fair value of net assets. For fair value balance sheet

purposes, the tax adjustment was recorded as a component of Other liabilities as of December 31, 2003 and as

a component of Other assets as of December 31, 2002.

Other non-Ñnancial assets included in Other assets represent an insigniÑcant portion of the GAAP

consolidated balance sheets. Because any change in their fair value would not be a meaningful part of Freddie

Mac's fair value of net assets business results, Freddie Mac has not adjusted the carrying amount on the

GAAP consolidated balance sheets for estimates of the fair value of these non-Ñnancial assets.

Total debt securities, net

Total debt securities, net represents short-term and long-term debt used to Ñnance Freddie Mac's assets

and, for GAAP presentation, is net of deferred items, including premiums, discounts and hedging-related basis

adjustments. It includes both non-callable and callable debt as well as short sales of Treasury securities used

for risk management purposes.

Short-term debt is valued using third-party market prices, where available, or using an option-adjusted

spread approach as described below. For long-term non-callable and callable debt with readily available thirdparty market prices, fair value is based on bid-side market prices obtained from brokers and dealers and

Freddie Mac

230
reliable third-party pricing service providers. For all other long-term non-callable and callable debt, an optionadjusted spread approach is used to estimate fair value. This option-adjusted spread approach involves using a

model based on market observations, with adjustments based on management judgment, to estimate the risk

premium an investor would require as compensation to accept liquidity, credit and interest-rate volatility risk.

Once an option-adjusted spread has been determined, fair value is calculated by using the option-adjusted

spread as an input to Freddie Mac's models to determine the estimated fair value of expected cash Öows.

Guarantee obligation for Participation CertiÑcates

As described above in ""Guarantee asset for Participation CertiÑcates,'' Freddie Mac does not establish

guarantee obligations for all PCs and Structured Securities held by third parties for GAAP purposes. In

addition, guarantee obligations are not carried at fair value for GAAP purposes in 2003. For fair value balance

sheet purposes, guarantee obligations reÖect the fair value of Freddie Mac's guarantee obligation on all PCs

held by third parties. Additionally, for fair value balance sheet purposes, guarantee obligations are valued using

the same method as used for GAAP to determine the guarantee obligation's initial fair value. For information

concerning the company's valuation methodologies and accounting policies related to guarantee-related credit

losses, see ""NOTE 1: SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES,'' and ""NOTE 2:

TRANSFERS OF SECURITIZED INTERESTS IN MORTGAGE-RELATED ASSETS.''

Reserve for guarantee losses on Participation CertiÑcates

The carrying amount of the Reserve for guarantee losses on Participation CertiÑcates on the GAAP

consolidated balance sheets represents GAAP loan loss reserves for oÅ-balance sheet PCs that are not already

accounted for under SFAS 125/140. This line item has no basis in the consolidated fair value balance sheets,

because the estimated fair value of all expected default losses is included in the guarantee obligation reported

on the consolidated fair value balance sheets, as discussed above.

Derivative liabilities

See discussion under ""Derivative assets'' above.

Other liabilities

Other liabilities principally consists of amounts due to PC investors (i.e., principal and interest), funding

liabilities associated with investments in LIHTC partnerships, accrued interest payable on debt securities and

other miscellaneous obligations of less than one year. Management believes the carrying amount of these

liabilities is a reasonable approximation of their fair value, except for funding liabilities associated with

investments in LIHTC partnerships, for which fair value is estimated using expected cash Öows discounted at

a market-based yield. Also, as described in Other assets above, management adjusts the GAAP-based

deferred taxes for consolidated fair value balance sheets purposes. As of December 31, 2003, this adjustment

was recorded in Other liabilities.

Minority interests in consolidated subsidiaries

Minority interest in consolidated subsidiaries represents interests that third parties hold in Freddie Mac's

two majority-owned REIT subsidiaries that issued certain preferred stock to outside investors. In accordance

with GAAP, Freddie Mac consolidates the REITs. The fair value of the third party minority interests in these

REITs is based on the estimated value of the underlying REIT preferred stock determined by management

based on a valuation model adjusted to consider the impact of embedded call options, using market-based

information to the extent available.

Net assets attributable to preferred stockholders

To determine the preferred stock fair value, Freddie Mac uses a market-based approach incorporating

quoted dealer prices.

Net assets attributable to common stockholders

Net assets attributable to common stockholders is equal to the fair value of net assets (the diÅerence

between the fair value of Freddie Mac's assets and the fair value of liabilities and minority interest), less the

fair value of net assets attributable to preferred stockholders.

Freddie Mac

231
NOTE 17: CONCENTRATION OF CREDIT AND OTHER RISKS

Mortgages and Mortgage-Related Securities

Table 17.1 summarizes the geographical concentration of mortgages and mortgage-related securities that

are held by Freddie Mac or that are collateral for PCs and Structured Securities excluding:

‚ $4,729 million and $8,561 million of mortgage-related securities issued by Ginnie Mae that back

Structured Securities at December 31, 2003 and 2002, respectively, because these securities do

not expose Freddie Mac to meaningful amounts of credit risk;

‚ $77,289 million and $83,707 million of agency mortgage-related securities, because these

securities do not expose Freddie Mac to meaningful amounts of credit risk;

‚ $114,772 million and $78,392 million of non-agency mortgage-related securities held in the

Retained portfolio at December 31, 2003 and 2002, respectively, because geographic information

regarding these securities is not available. With respect to these securities, Freddie Mac looks to

third party credit-enhancements (e.g., bond insurance) or other credit enhancements resulting

from the securitization structure (e.g., subordination levels) supporting such securities as a

primary means of managing credit risk; and

‚ $48,585 million and $81,674 million of non-Freddie Mac mortgage-related securities and

mortgage-related securities held in our Cash and investments portfolio in conjunction with our

PC-market marking and support activities at December 31, 2003 and 2002, respectively, because

Freddie Mac tends to hold these securities for a short time period and the geographic information

regarding these securities is not available.

See ""NOTE 5: RETAINED PORTFOLIO AND CASH AND INVESTMENTS PORTFOLIO'' for more

information about the securities Freddie Mac holds.

Table 17.1 Ì Concentration of Credit Risk

December 31,

2003 2002

Amount(1) Percentage Amount(1) Percentage

(dollars in millions)

By Region(2)

WestÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ $ 295,349 24% $ 294,681 26%

Northeast ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 285,789 24 264,843 23

North central ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 271,339 22 244,509 21

SoutheastÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 213,646 18 200,476 18

Southwest ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 151,486 12 141,440 12

$1,217,609 100% $1,145,949 100%

By State

CaliforniaÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ $ 175,030 14% $ 183,174 16%

Florida ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 70,970 6 67,753 6

Illinois ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 63,497 5 60,076 5

Texas ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 58,946 5 55,596 5

All Others ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 849,166 70 779,350 68

$1,217,609 100% $1,145,949 100%

(1) Calculated as total mortgage portfolio less mortgage-related securities issued by Ginnie Mae that back PCs and Structured Securities

as well as agency and non-agency mortgage-related securities held in the Retained portfolio.

(2) Region Designation: West (AK, AZ, CA, GU, HI, ID, MT, NV, OR, UT, WA); Northeast (CT, DE, DC, MA, ME, MD, NH,

NJ, NY, PA, RI, VT, VA, WV); North central (IL, IN, IA, MI, MN, ND, OH, SD, WI); Southeast (AL, FL, GA, KY, MS, NC,

PR, SC, TN, VI); Southwest (AR, CO, KS, LA, MO, NE, NM, OK, TX, WY).

Freddie Mac

232
Mortgage Lenders

A signiÑcant portion of Freddie Mac's single-family mortgage purchase volume is generated from several

key mortgage lenders that have entered into special business arrangements with Freddie Mac. These

individually negotiated arrangements characteristically involve a lender's commitment to sell a high proportion

of its conforming mortgage origination volume to Freddie Mac. During 2003, the four most signiÑcant of these

arrangements together accounted for almost 58 percent of Freddie Mac's volume. Wells Fargo Home

Mortgage, Inc. was the largest source and accounted for approximately 33 percent of the company's mortgage

purchase volume in 2003 while ABN Amro Mortgage Group, Inc., the second largest source, accounted for

approximately 12 percent of the company's mortgage purchase volume. In 2003, one mortgage lender that

historically provided Freddie Mac signiÑcant business volume, Bank of America, N.A. substantially reduced

its deliveries to Freddie Mac. Freddie Mac is exposed to the risk that it could lose purchase volume to the

extent these agreements are terminated or modiÑed without replacement from other lenders.

Derivative Portfolio

On an ongoing basis, Freddie Mac reviews the credit fundamentals of all of its derivative counterparties to

verify that they continue to meet internal standards. Internal ratings, credit, capital and trading limits are

assigned to each counterparty based on quantitative and qualitative analysis, and are updated and monitored

on a regular basis. Additional reviews are completed when market conditions or events aÅecting an individual

counterparty occur.

Derivative Counterparties. Freddie Mac's use of derivatives exposes the company to counterparty credit

risk. Exchange-traded derivatives, such as futures contracts, do not measurably increase the company's

counterparty credit risk because changes in the value of open exchange-traded contracts are settled daily

through a Ñnancial clearinghouse established by each exchange. Over-the-counter (""OTC'') derivatives,

however, expose the company to counterparty credit risk because transactions are executed and settled

between Freddie Mac and the counterparty. Freddie Mac's standards for entering into OTC derivative

agreements for interest-rate swaps, option-based derivatives and foreign-currency swaps include rigorous

internal credit and legal reviews. Freddie Mac's derivative counterparties carry external credit ratings among

the highest available from major rating agencies. All of these counterparties are major Ñnancial institutions

and are experienced participants in the OTC derivatives market.

Master Netting and Collateral Agreements. Freddie Mac uses master netting and collateral agreements

to reduce its credit risk exposure to its active OTC derivative counterparties for interest-rate swaps, optionbased derivatives and foreign-currency swaps. Master netting agreements provide for the netting of amounts

receivable and payable from an individual counterparty, which reduces Freddie Mac's exposure to a single

counterparty in the event of default. For example, if Freddie Mac has a gain position on one derivative and a

loss position on another derivative with the same counterparty, then the gain can be netted with the loss to

determine the amount of the company's net exposure to the counterparty. On a daily basis, the market value of

each counterparty's derivatives outstanding is calculated to determine the amount of the company's net credit

exposure, which is equal to derivatives in a net gain position by counterparty after giving consideration to

collateral posting thresholds. Freddie Mac's collateral agreements require most counterparties to post

collateral for the amount of the company's net exposure to them. Derivative exposures and collateral amounts

are monitored on a daily basis using both internal pricing models and dealer price quotes. Freddie Mac's

derivative counterparties typically transfer collateral within one to three business days based on the values of

the related derivatives. This time lag in posting collateral can aÅect Freddie Mac's net uncollateralized

exposure to derivative counterparties.

The collateral posted by counterparties serves to protect Freddie Mac against the risk of counterparty

credit losses. Collateral posted by a derivative counterparty is typically in the form of cash, U.S. Treasury

securities, agency securities or other mortgage-related securities. In the event a counterparty defaults on its

obligations under the derivatives agreement and the default is not remedied in the manner prescribed in the

agreement, Freddie Mac has the right under the agreement to direct the custodian bank to transfer the

collateral to the company or, in the case of non-cash collateral, to sell the collateral and transfer the proceeds

to the company.

Freddie Mac

233
Table 17.2 summarizes Freddie Mac's exposure to counterparty credit risk in its derivatives. This table is

useful in understanding Freddie Mac's credit risk related to its derivative portfolio.

Table 17.2 Ì Derivative Counterparty Credit Exposure

December 31, 2003

Weighted Avg.

Total Exposure, Contractual

Number of Exposure at Net of Maturity Collateral Posting

Rating(1) Counterparties(2) Notional Fair Value(3) Collateral(4) (in years) Threshold(5)

(dollars in millions)

AAA ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 2 $ 2,825 $ 283 $283 3.6 Mutually agreed upon

AA° ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 1 604 303 5 24.7 $10 million or less

AA ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 4 119,409 1,610 29 4.6 $10 million or less

AA¿ ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 7 237,048 7,091 250 4.1 $10 million or less

A° ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 6 236,944 5,922 133 5.4 $1 million or less

A ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 3 87,001 2,143 95 5.2 $1 million or less

A¿ ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 4 1,018 19 1 3.3 $1 million or less

Subtotal(6) ÏÏÏÏÏÏÏÏÏÏÏÏ 27 684,849 17,371 796 4.8

Other derivatives(7)ÏÏÏÏÏ 141,381 Ì Ì

Prepayment management

agreement ÏÏÏÏÏÏÏÏÏÏ 152,548 Ì Ì

Commitments(8) ÏÏÏÏÏÏÏ 89,320 101 101

Credit derivatives ÏÏÏÏÏÏ 15,542 7 7

Total derivatives ÏÏÏÏÏÏÏ $1,083,640 $17,479 $904

December 31, 2002

Weighted Avg.

Total Exposure, Contractual

Number of Exposure at Net of Maturity Collateral Posting

Rating(1) Counterparties(2) Notional Fair Value(3) Collateral(4) (in years) Threshold(5)

(dollars in millions)

AAA ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 2 $ 2,438 $ 386 $ 386 4.4 Mutually agreed upon

AA° ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 1 609 299 13 25.5 $10 million or less

AA ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 3 97,229 1,161 104 4.3 $10 million or less

AA¿ ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 9 205,769 3,764 307 4.9 $10 million or less

A° ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 8 214,833 2,922 183 4.6 $1 million or less

A ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 2 83,776 1,559 48 3.7 $1 million or less

A¿ ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 2 1,655 21 3 1.8 $1 million or less

Subtotal(6) ÏÏÏÏÏÏÏÏÏÏ 27 606,309 10,112 1,044 4.5

Other derivatives(7) ÏÏÏ 245,552 Ì Ì

Prepayment

management

agreement ÏÏÏÏÏÏÏÏÏ 117,219 Ì Ì

Commitments(8)ÏÏÏÏÏÏ 191,563 1,283 1,283

Credit derivativesÏÏÏÏÏ 17,301 4 4

Total derivativesÏÏÏÏÏÏ $1,177,944 $11,399 $2,331

(1) Freddie Mac uses the lower of S&P and Moody's ratings to manage collateral requirements. In this table, the rating of the legal

entity (or the guarantor of the legal entity) is stated in terms of the S&P equivalent.

(2) Based on legal entities. AÇliated legal entities are reported separately.

(3) For each counterparty, this amount includes derivatives with a net positive fair value (recorded as Derivative assets, at fair value and

Derivative liabilities, at fair value) including the related net accrued interest receivable/payable (recorded in Accounts and other

receivables, net and Accrued interest payable).

(4) Total Exposure at Fair Value less collateral held as determined at the counterparty level.

(5) Counterparties are required to post collateral when their exposure exceeds agreed-upon collateral posting thresholds. These

thresholds are typically based on the counterparty's credit rating and are individually negotiated.

(6) Consists of OTC derivative agreements for interest-rate swaps, option-based derivatives and foreign-currency swaps.

(7) Consists primarily of exchange-traded contracts. Exchange-traded derivatives do not measurably increase Freddie Mac's exposure to

counterparty credit risk because changes in value of open exchange-traded contracts are settled daily through a Ñnancial

clearinghouse established by each exchange.

(8) Consists of OTC derivative agreements for forward purchase and sale commitments.

Freddie Mac's uncollateralized exposure to counterparties for OTC interest-rate swaps, option-based

derivatives and foreign-currency swaps, after applying netting agreements and collateral, was $796 million and

$1,044 million at December 31, 2003 and 2002, respectively. In the extremely unlikely event that all of

Freddie Mac's OTC derivative counterparties for these OTC derivatives were to have defaulted simultaneFreddie Mac

234
ously on December 31, 2003, the maximum loss to Freddie Mac for accounting purposes would have been

approximately $796 million.

Freddie Mac's exposure to counterparties for OTC forward purchase and sale commitments treated as

derivatives was $101 million and $1,283 million as of December 31, 2003 and 2002, respectively. Since the

typical maturity for OTC commitments is less than one year, Freddie Mac does not require master netting and

collateral agreements for the counterparties of these commitments. Therefore, Freddie Mac's exposure to its

OTC commitments counterparties is uncollateralized. Similar to counterparties for its OTC interest-rate

swaps, option-based derivatives and foreign-currency swaps, Freddie Mac monitors the credit fundamentals of

its OTC commitments counterparties on an ongoing basis to ensure that they continue to meet internal riskmanagement standards.

Freddie Mac

235
NOTE 18: MINORITY INTERESTS

The equity and net earnings attributable to the minority shareholder interests in consolidated subsidiaries

are reported in the consolidated balance sheets as Minority interests in consolidated subsidiaries and in the

consolidated statements of income as Minority interests in earnings of consolidated subsidiaries, respectively.

The majority of the balances in these accounts relate to the company's two majority-owned REITs.

In February 1997, Freddie Mac formed two majority-owned REIT subsidiaries funded through the

issuance of common stock (99.9 percent of which is held by Freddie Mac) and a total of $4 billion of

perpetual, step-down preferred stock issued to outside investors. The dividend rate on the step-down preferred

stock is 13.3 percent from initial issuance through 2006 (the ""initial term''). Beginning in 2007, the dividend

rate will step-down to 1.0 percent. Dividends on this preferred stock accrue in arrears. The amortized balance

of the two step-down preferred stock issuances as recorded within Minority interests in consolidated

subsidiaries on the consolidated balance sheets totaled $1.9 billion and $2.3 billion at December 31, 2003 and

2002, respectively. The preferred stock is redeemable by the REITs under certain circumstances described in

the preferred stock oÅering documents as a ""tax event redemption.'' Additionally, after an initial period ending

December 31, 2006, the REITs may be able to retire the preferred stock under favorable Ñnancing terms in

accordance with the terms of the preferred stock. The REITs have decided not to redeem the preferred shares

at this time, however, if future market conditions were viewed as favorable, the REITs may decide to redeem

the preferred stock at that time. See ""NOTE 14: INCOME TAXES'' for more information concerning the

REITs.

Freddie Mac

236
NOTE 19: EARNINGS PER COMMON SHARE

Basic earnings per common share are computed as net income available to common stockholders divided

by the weighted average common shares outstanding (Weighted average common shares outstanding-basic)

for the period. Diluted earnings per common share are computed as net income available to common

stockholders divided by the weighted average common shares outstanding considering the eÅect of dilutive

common equivalent shares outstanding (Weighted average common shares outstanding-diluted) for the

period. Dilutive common equivalent shares reÖect the assumed issuance of additional common shares

pursuant to certain of the company's stock-based compensation plans (see ""NOTE 11: STOCK-BASED

COMPENSATION'') that could potentially reduce or ""dilute'' earnings per share, based on the treasury

stock method.

Table 19.1 provides computations of Freddie Mac's basic and diluted earnings per common share.

Table 19.1 Ì Earnings Per Common Share Ì Basic and Diluted

Year Ended December 31,

2003 2002(1) 2001

(dollars in millions

and shares in thousands)

Income before cumulative eÅect of change in accounting principles, net

of taxes ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ $ 4,816 $ 10,090 $ 3,115

Cumulative eÅect of change in accounting principles, net

of taxes of $24 ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ Ì Ì 43

Preferred stock dividends and issuance costs on redeemed preferred

stock (including $Ì, $5 and $Ì of issuance costs on redeemed

preferred stock) ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ (216) (239) (217)

Net income available to common stockholders(2) ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ $ 4,600 $ 9,851 $ 2,941

Weighted average common shares outstanding Ì basicÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 687,094 692,727 692,603

Dilutive potential common shares(3)ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 1,581 2,389 3,370

Weighted average common shares outstanding Ì diluted ÏÏÏÏÏÏÏÏÏÏÏÏÏ 688,675 695,116 695,973

Basic earnings per common share before cumulative eÅect of change in

accounting principles, net of taxes ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ $ 6.69 $ 14.22 $ 4.19

Cumulative eÅect of change in accounting principles, net of taxes ÏÏÏÏÏ Ì Ì 0.06

Basic earnings per common share after cumulative eÅect of change in

accounting principles, net of taxes ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ $ 6.69 $ 14.22 $ 4.25

Diluted earnings per common share before cumulative eÅect of change

in accounting principles, net of taxes ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ $ 6.68 $ 14.17 $ 4.17

Cumulative eÅect of change in accounting principles, net of taxes ÏÏÏÏÏ Ì Ì 0.06

Diluted earnings per common share after cumulative eÅect of change in

accounting principles, net of taxes ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ $ 6.68 $ 14.17 $ 4.23

(1) In accordance with the requirements of EITF D-42. Freddie Mac restated the 2002 amount of Preferred stock dividends and

issuance costs on redeemed preferred stock reported on its consolidated statements of income. For the year ended December 31,

2002, the restatement increased by $5 million the amount representing issuance costs on redeemed preferred stock and therefore

reduced Net income available to common stockholders by $5 million. This caused a reduction in both basic and diluted earnings per

share for the same year of $0.01 per share. See ""NOTE 1: SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES'' for

additional information.

(2) Net income available to common stockholders is not aÅected by dilutive potential common shares for years ended December 31,

2003, 2002 and 2001.

(3) The eÅect of dilutive common equivalent shares outstanding includes: (a) the weighted average shares related to stock options

(including the ESPP) that have an exercise price lower than the average market price during the period; (b) the weighted average of

non-vested restricted shares; and (c) all restricted stock units. Such items are excluded from weighted average common shares

outstanding Ì basic.

Options to purchase 3.4 million, 2.5 million and 1.0 million shares of common stock were excluded from

the computation of diluted earnings per common share at December 31, 2003, 2002 and 2001, respectively,

because the options' exercise price exceeded the average market price of the common shares for the years

ended December 31, 2003, 2002 and 2001, respectively.

Freddie Mac

237
CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON

ACCOUNTING AND FINANCIAL DISCLOSURE

The following discussion, together with additional information in our Proxy Statement for our November 4, 2004 annual meeting of stockholders, is presented in accordance with Item 304 of SEC Regulation S-K.

Among other things, this item requires a company that has changed its independent public accountant to

disclose certain information pertaining to those events if they occurred within the company's two most recent

Ñscal years or any subsequent interim period. Since we changed our independent public accountant in March

2002, which was within our two most recent Ñscal years, Item 304 disclosures are provided below and in our

Proxy Statement for our November 4, 2004 annual meeting of stockholders.

On March 6, 2002, we announced that our Board of Directors had appointed PwC to serve as our

independent public accountants for the year ending December 31, 2002, replacing Arthur Andersen LLP. The

Board's appointment of PwC was made upon the recommendation of the Audit Committee after our

solicitation of proposals to audit our Ñnancial statements for the year ending December 31, 2002.

The audit reports of Arthur Andersen on our consolidated Ñnancial statements for the Ñscal years ended

December 31, 2001 and 2000 did not contain any adverse opinion or disclaimer of opinion, nor were they

qualiÑed or modiÑed as to uncertainty, audit scope or accounting principles.

During the years ended December 31, 2001 and 2000 and through March 6, 2002, the date of PwC's

appointment, we had no disagreements with Arthur Andersen on any matter of accounting principles or

practices, Ñnancial statement disclosure, or auditing scope or procedure, which disagreements if not resolved

to Arthur Andersen's satisfaction would have caused them to make reference to the subject matter of the

disagreement in connection with their reports. Subsequent to PwC's appointment, we undertook a revision and

restatement of our consolidated Ñnancial statements for the years 2002, 2001 and 2000 which resulted in

signiÑcant changes in our accounting principles and practices and our Ñnancial statement disclosure.

None of the reportable events described under Item 304(a)(1)(v) of Regulation S-K occurred within

our two Ñscal years ended December 31, 2001 and the interim period through the date of PwC's appointment.

During our two Ñscal years ended December 31, 2001 and the interim period through PwC's appointment, we did not consult with PwC regarding any of the matters or events set forth in Item 304(a)(2)(i) and

(ii) of Regulation S-K.

Freddie Mac

238
DIRECTORS AND EXECUTIVE OFFICERS

Directors

Information on our Directors is set forth under ""Proposal 1: Election of Directors Ì Nominees for

Election'' of our Proxy Statement for our November 4, 2004 annual meeting and is incorporated herein by

reference.

Executive OÇcers

As of September 1, 2004, the executive oÇcers of Freddie Mac are as follows:

Year of

Name Age AÇliation Position

Richard F. Syron ÏÏÏÏÏÏÏÏÏÏÏ 60 2003 Chairman and Chief Executive OÇcer

Eugene M. McQuade ÏÏÏÏÏÏÏ 55 2004 President and Chief Operating OÇcer

Martin F. Baumann ÏÏÏÏÏÏÏÏÏ 56 2003 Executive Vice President, Finance and Chief Financial

OÇcer

Ralph F. Boyd, Jr. ÏÏÏÏÏÏÏÏÏÏ 47 2004 Executive Vice President, General Counsel and Corporate

Secretary

Patricia L. CookÏÏÏÏÏÏÏÏÏÏÏÏ 51 2004 Executive Vice President, Investments

David A. AndrukonisÏÏÏÏÏÏÏÏ 47 1980 Senior Vice President and Chief Enterprise Risk OÇcer

Margaret A. ColonÏÏÏÏÏÏÏÏÏÏ 46 1983 Senior Vice President and Chief Administrative OÇcer

Nazir G. Dossani ÏÏÏÏÏÏÏÏÏÏÏ 62 1993 Senior Vice President, Investments and Capital Markets

William I. Ledman ÏÏÏÏÏÏÏÏÏ 55 1994 Senior Vice President, Information Systems and Services

Stanley J.D. Martin ÏÏÏÏÏÏÏÏÏ 57 2004 Senior Vice President and General Auditor

Michael C. May ÏÏÏÏÏÏÏÏÏÏÏÏ 46 1983 Senior Vice President, Mortgage Sourcing, Operations and

Funding

Dwight P. Robinson ÏÏÏÏÏÏÏÏÏ 51 1998 Senior Vice President, Corporate Relations

Robert Y. Tsien ÏÏÏÏÏÏÏÏÏÏÏÏ 51 2000 Senior Vice President, Mission Division

Jerry Weiss ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 46 2003 Senior Vice President and Chief Compliance OÇcer

John F. Woods ÏÏÏÏÏÏÏÏÏÏÏÏÏ 39 2002 Senior Vice President and Principal Accounting OÇcer

The following is a brief biographical description of each executive oÇcer of Freddie Mac.

Richard F. Syron was appointed Chairman and Chief Executive OÇcer in December 2003. Prior to

joining us, Mr. Syron was Executive Chairman of Thermo Electron Corporation, a position he assumed in

November 2002. He joined Thermo Electron in June 1999 as its Chief Executive OÇcer and became its

Chairman of the Board in January 2000. Prior to that, he was Chairman and Chief Executive OÇcer of the

American Stock Exchange for Ñve years, President of the Federal Reserve Bank of Boston for Ñve years and

President of the Federal Home Loan Bank of Boston for three years.

Eugene M. McQuade was appointed President and Chief Operating OÇcer eÅective September 1, 2004.

Before joining us, Mr. McQuade was President of Bank of America Corporation. He also served as President

and Chief Operating OÇcer of FleetBoston Financial Corp., which merged with Bank of America on April 1,

2004. Mr. McQuade joined Fleet in 1992 and became Chief Financial OÇcer in 1993, Vice Chairman in

1997, and President and Chief Operating OÇcer in 2002. Prior to joining Fleet, Mr. McQuade was Executive

Vice President and Controller of Manufacturers Hanover Corp.

Martin F. Baumann was appointed Executive Vice President, Finance in April 2003 and Chief Financial

OÇcer in June 2003. Prior to joining us, Mr. Baumann worked at PwC since 1969, where he was a partner

from 1980. At PwC, he performed a variety of functions, including serving as the Deputy Chairman Ì World

Financial Services Practice and as the Global Banking Leader. He also served on PwC's U.S. and World

Financial Services Executive Committees.

Ralph F. Boyd, Jr. was appointed Executive Vice President, General Counsel and Corporate Secretary in

April 2004. Prior to joining us, Mr. Boyd was a senior partner with the law Ñrm Alston & Bird LLP since July

2003 and was U.S. assistant attorney general and head of the Justice Department's Civil Rights Division from

Freddie Mac

239
July 2001 through June 2003. From 1997 to 2001, Mr. Boyd was a trial partner with Goodwin Procter LLP,

and before that, he served for six years as an Assistant U.S. Attorney in Boston. He also was an associate at

the law Ñrm of Ropes & Gray in Boston from 1987 to 1991.

Patricia L. Cook was appointed Executive Vice President, Investments, eÅective August 2, 2004. Prior to

joining us, Ms. Cook was Managing Director and Chief Investment OÇcer, Global Fixed Income at

JPMorgan Fleming Asset Management (""JP Morgan Fleming'') since May 2003. Prior to joining JP Morgan

Fleming in May 2003, she was Managing Director and Chief Investment OÇcer, Fixed Income at Prudential

Investment Management. From June 1991 to July 2001, Ms. Cook was Managing Director at Fisher Francis

Trees and Watts. Prior to that, she worked in various management positions at Salomon Brothers, Inc. from

January 1979 to June 1991.

David A. Andrukonis was appointed Senior Vice President and Chief Enterprise Risk OÇcer in

October 2003. Prior to that he served as Senior Vice President of Single-Family Capital Deployment from

September 2001 through October 2003. He also served as Senior Vice President and Chief Credit OÇcer from

August 1998 through September 2001. Prior to that, he held various positions at Freddie Mac since joining us

in 1980, including Senior Vice President and General Manager of the Seller Division, Vice President of

Mortgage Finance, Manager of Product Development and Pricing and Senior Economist.

Margaret A. Colon was named Senior Vice President and Chief Administrative OÇcer in October 2003.

Prior to that, Ms. Colon served as Senior Vice President of Infrastructure Initiatives Program Management

from July 2002 to October 2003 and as Senior Vice President and Single-Family Chief Operating OÇcer from

June 2000 through June 2002. Prior to June 2000, she also has served in various other positions at Freddie

Mac, including Senior Vice President Ì Servicer, Vice President of Corporate Finance Operations, Vice

President and Assistant to the President, Vice President and Multifamily Controller. Prior to joining us in

1983, Ms. Colon was a senior auditor with Deloitte Haskins and Sells.

Nazir G. Dossani was named to the position of Senior Vice President, Investments and Capital Markets

in October 2003. Prior to that, he was Senior Vice President, Investments from December 1998. Mr. Dossani

joined Freddie Mac in February 1993 as Vice President, Asset and Liability Management. Prior to joining us,

he served as Vice President, Pricing and Portfolio Analysis at Fannie Mae.

William I. Ledman was appointed Senior Vice President, Information Systems and Services in January

1995. He had been Vice President, Computer and Network Operations since he joined us in February 1994.

Prior to joining us, Mr. Ledman held a variety of information systems-related positions with GEICO, a

property-casualty insurance company, between 1974 and 1994, the most recent being Vice President, Systems

and Data Processing.

Stanley J.D. Martin was appointed Senior Vice President and General Auditor in June 2004. Immediately prior to his appointment, Mr. Martin had served as interim General Auditor since February 2004. Before

that, Mr. Martin served as a consultant to HSBC Bank USA from 2000 to April 2003. From 1998 to 2000, he

was Chief Financial OÇcer and Executive Vice President of Republic New York Corporation. Prior to that,

Mr. Martin was a Partner at KPMG LLP from 1982 to 1998.

Michael C. May was appointed Senior Vice President, Mortgage Sourcing, Operations and Funding in

October 2003. Prior to that, Mr. May served as Senior Vice President and Chief Operating OÇcer of SingleFamily Operations from July 2002 to October 2003. He served as Senior Vice President, Project Enterprise

Execution from June 2000 to June 2002, Senior Vice President, Customer Services and Control from August

1998 to June 2000. Prior to that, since joining Freddie Mac in 1983, Mr. May served in various positions,

including Vice President of Loan Prospector», Vice President of Structured Finance, and Vice President of

our Securities Sales & Trading Group. Prior to joining us in 1983, he worked at the Student Loan Marketing

Association where he served as an internal auditor.

Dwight P. Robinson was appointed Senior Vice President, Corporate Relations in September 1999.

Mr. Robinson previously served as Vice President, Industry Relations. Prior to that, Mr. Robinson served as

Deputy Secretary of HUD and as President of Ginnie Mae.

Freddie Mac

240
Robert Y. Tsien was appointed Senior Vice President, Mission Division in April 2004. Prior to that, he

served as Senior Vice President, Production in the Multifamily Division from October 2003, and as our Chief

Credit OÇcer from September 2001 to October 2003. Mr. Tsien joined Freddie Mac as Vice President of

Multifamily Risk Management in April 2000. Prior to joining us, Mr. Tsien was director of risk management

and securitization pricing at Titanium Investment Company.

Jerry Weiss was appointed Senior Vice President and Chief Compliance OÇcer in October 2003. Prior to

joining us, Mr. Weiss worked from 1990 at Merrill Lynch Investment Managers, most recently as First Vice

President and Global Head of Compliance. From 1982 to 1990, Mr. Weiss was with a national law practice in

Washington, D.C., where he specialized in securities regulation and corporate Ñnance matters.

John F. Woods was named Senior Vice President and Principal Accounting OÇcer in October 2003.

Prior to that, Mr. Woods served as Senior Vice President, Control and Accounting in Funding & Investments

from April 2002 to October 2003. Prior to joining us, Mr. Woods was a consulting partner at Arthur Andersen.

Freddie Mac

241
EXECUTIVE COMPENSATION

Information regarding Freddie Mac's Executive Compensation is set forth under the section titled

""Executive Compensation'' of our Proxy Statement for our November 4, 2004 annual meeting of stockholders

and is incorporated by reference into this Information Statement.

SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND

MANAGEMENT AND RELATED STOCKHOLDER MATTERS

Security Ownership of Management

Information regarding the beneÑcial ownership of our common stock by each of our directors, certain

executive oÇcers and by all directors and executive oÇcers as a group is set forth under the section titled

""Corporate Governance-Stock Ownership'' of our Proxy Statement for our November 4, 2004 annual meeting

of stockholders and is incorporated by reference into this Information Statement.

Security Ownership of Certain BeneÑcial Owners

Information regarding the beneÑcial ownership of our common stock by each director nominee and

certain beneÑcial owners is set forth under the section titled ""Corporate Governance-Stock Ownership'' of our

Proxy Statement for our November 4, 2004 annual meeting of stockholders and is incorporated by reference

into this Information Statement.

CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS

Information regarding certain relationships and related transactions is set forth under the section titled

""Proposal 1: Election of Directors Ì Transactions with Institutions Related to Directors'' of our Proxy

Statement for our November 4, 2004 annual meeting of stockholders and is incorporated by reference into this

Information Statement.

INDEMNIFICATION AND OTHER REIMBURSEMENTS OF DIRECTORS,

OFFICERS AND EMPLOYEES

Information concerning indemniÑcation and reimbursement arrangements is set forth under the section

titled ""Proposal 1: Election of Directors Ì IndemniÑcation and Other Reimbursements of Directors, OÇcers

and Employees'' of our Proxy Statement for our November 4, 2004 annual meeting of stockholders and is

incorporated by reference into this Information Statement.

PRINCIPAL ACCOUNTANT FEES AND SERVICES

Information regarding principal accountant fees and services is set forth under the section titled

""Proposal 2: RatiÑcation of Independent Auditors'' of our Proxy Statement for our November 4, 2004 annual

meeting of stockholders and is incorporated by reference into this Information Statement.

Freddie Mac

242
CERTIFICATION*

I, Richard F. Syron, certify that:

1. I have reviewed this Information Statement of Freddie Mac;

2. Based on my knowledge, this Information Statement does not contain any untrue statement of a

material fact or omit to state a material fact necessary to make the statements made, in light of the

circumstances under which such statements were made, not misleading with respect to the period covered

by this Information Statement; and

3. Based on my knowledge, the consolidated Ñnancial statements, and other Ñnancial information

included in this Information Statement, fairly present in all material respects the Ñnancial condition,

results of operations and cash Öows of Freddie Mac as of, and for, the periods presented in this

Information Statement.

Date: September 24, 2004

/s/ RICHARD F. SYRON

Richard F. Syron

Chairman and Chief Executive OÇcer

CERTIFICATION*

I, Martin F. Baumann, certify that:

1. I have reviewed this Information Statement of Freddie Mac;

2. Based on my knowledge, this Information Statement does not contain any untrue statement of a

material fact or omit to state a material fact necessary to make the statements made, in light of the

circumstances under which such statements were made, not misleading with respect to the period covered

by this Information Statement; and

3. Based on my knowledge, the consolidated Ñnancial statements, and other Ñnancial information

included in this Information Statement, fairly present in all material respects the Ñnancial condition,

results of operations and cash Öows of Freddie Mac as of, and for, the periods presented in this

Information Statement.

Date: September 24, 2004

/s/ MARTIN F. BAUMANN

Martin F. Baumann

Executive Vice President and Chief Financial OÇcer

* These certiÑcations do not address disclosure controls and procedures because an evaluation of the eÅectiveness of these controls and

procedures was not performed as of December 31, 2003.

Freddie Mac

243
RATIO OF EARNINGS TO FIXED CHARGES(1)

Year Ended December 31,

2003 2002 2001 2000

(dollars in millions)

Income before cumulative eÅect of change in accounting

principles, net of taxesÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ $ 4,816 $10,090 $ 3,115 $ 3,666

Add:

Income tax expense ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 2,202 4,713 1,339 1,504

Minority interests in earnings of consolidated subsidiaries ÏÏÏÏ 157 184 208 231

Total interest expense(2) ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 26,509 26,876 27,577 25,483

Interest factor in rental expenses ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 5 5 5 5

Capitalized interest ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 2 3 2 1

Earnings, as adjusted ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ $33,691 $41,871 $32,246 $30,890

Fixed charges:

Total interest expense(2) ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ $26,509 $26,876 $27,577 $25,483

Interest factor in rental expenses ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 5 5 5 5

Capitalized interest ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 2 3 2 1

Total Ñxed chargesÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ $26,516 $26,884 $27,584 $25,489

Ratio of earnings to Ñxed charges(3) ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 1.27 1.56 1.17 1.21

(1) Information for the year ended December 31, 1999 is omitted because we did not restate our consolidated Ñnancial statements for

periods prior to 2000.

(2) In 2003, we reclassiÑed 2002 and 2001's amortization of net deferred gains and losses on closed (i.e., terminated or redesignated)

cash Öow hedges related to long-term debt from Income (expense) related to derivatives to the Long-term debt expense caption.

These reclassiÑcations, which increased Total interest expense and decreased Income (expense) related to derivatives, totaled

$312 million and $28 million for 2002 and 2001, respectively.

(3) Ratio of earnings to Ñxed charges is computed by dividing Earnings, as adjusted by Total Ñxed charges.

RATIO OF EARNINGS TO COMBINED FIXED CHARGES AND 

PREFERRED STOCK DIVIDENDS(1)

Year Ended December 31,

2003 2002 2001 2000

(dollars in millions)

Income before cumulative eÅect of change in accounting

principles, net of taxesÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ $ 4,816 $10,090 $ 3,115 $ 3,666

Add:

Income tax expense ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 2,202 4,713 1,339 1,504

Minority interests in earnings of consolidated subsidiaries ÏÏÏÏ 157 184 208 231

Total interest expense(2) ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 26,509 26,876 27,577 25,483

Interest factor in rental expenses ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 5 5 5 5

Capitalized interest ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 2 3 2 1

Earnings, as adjusted ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ $33,691 $41,871 $32,246 $30,890

Fixed charges:

Total interest expense(2) ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ $26,509 $26,876 $27,577 $25,483

Interest factor in rental expenses ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 5 5 5 5

Capitalized interest ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 2 3 2 1

Preferred stock dividends(3) ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 315 351 310 252

Total Ñxed charges including preferred stock dividends ÏÏÏÏÏÏÏÏ $26,831 $27,235 $27,894 $25,741

Ratio of earnings to combined Ñxed charges and preferred stock

dividends(4) ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 1.26 1.54 1.16 1.20

(1) Information for the year ended December 31, 1999 is omitted because we did not restate our consolidated Ñnancial statements for

periods prior to 2000.

(2) In 2003, we reclassiÑed 2002 and 2001's amortization of net deferred gains and losses on closed (i.e., terminated or redesignated)

cash Öow hedges related to long-term debt from Income (expense) related to derivatives to the Long-term debt expense caption.

These reclassiÑcations, which increased Total interest expense and decreased Income (expense) related to derivatives, totaled

$312 million and $28 million for 2002 and 2001, respectively.

(3) Preferred stock dividends represent pre-tax earnings required to cover any preferred stock dividend requirements using our eÅective

tax rate for the relevant periods.

(4) Ratio of earnings to combined Ñxed charges and preferred stock dividends is computed by dividing Earnings, as adjusted by Total

Ñxed charges including preferred stock dividends.

Freddie Mac

244
ADDITIONAL FINANCIAL INFORMATION CORPORATE HEADQUARTERS

8200 Jones Branch Drive For more information about Freddie Mac stock contact: McLean, VA 22102-3110

Freddie Mac (703) 903-2000

Mailstop D4O NEW YORK CITY OFFICE 1551 Park Run Drive 575 Lexington Avenue, Suite 1800 McLean, Virginia 22102-3110 New York, NY 10022-6102 Investor Relations: (571) 382-4732 (212) 418-8900 Toll Free: (800) FREDDIE

On the Internet: http://www.FreddieMac.com/investors NORTH CENTRAL REGION

333 West Wacker Drive, Suite 2500

ANNUAL MEETING Chicago, IL 60606-1287

(312) 407-7400 The annual meeting of Freddie Mac's stockholders will be

held: NORTHEAST REGION

1410 Spring Hill Road, Suite 600 November 4, 2004 PO Box 50122 9:00 a.m. Eastern Time

McLean, VA 22102-8922 8000 Jones Branch Drive

McLean, VA 22102 (703) 902-7700

SOUTHEAST REGION Proxy material will be mailed to stockholders of record by North Tower, Suite 200 the company's transfer agent in accordance with Freddie

Mac's bylaws and New York Stock Exchange 2300 Windy Ridge Parkway SE

Atlanta, GA 30339-5665 requirements. (770) 857-8800

DIVIDEND PAYMENT SOUTHWEST REGION

Approved by Freddie Mac's Board of Directors, dividends 5000 Plano Parkway

on the company's common stock and non-cumulative Carrollton, TX 75010-4902

preferred stock in 2003 and the Ñrst nine months of 2004 (972) 395-4000

were or are expected to be paid on: WESTERN REGION

March 31, 2003 21700 Oxnard Street, Suite 1900

June 30, 2003 Woodland Hills, CA 91367-3642

September 30, 2003 (818) 710-3000

December 31, 2003

March 31, 2004

June 30, 2004

September 30, 2004

Subject to approval by Freddie Mac's Board of Directors,

dividends on the company's common stock and noncumulative preferred stock in the last three months of

2004 are expected to be paid on:

December 31, 2004

Freddie Mac

245
Corporate Headquarters

8200 Jones Branch Drive | McLean, VA 22102-3110

703-903-2000 | 800-424-5401 | www.freddiemac.com