2018 Dodd-Frank Act Stress Test 

Severely Adverse Scenario Results

August 7, 2018
© Freddie Mac 2

Executive Summary

 Freddie Mac is required to conduct annual stress tests to assess capital adequacy under the Federal Housing Finance Agency (FHFA) 

rule implementing the Dodd-Frank Wall Street Reform and Consumer Protection Act (Dodd-Frank) stress testing requirements. 

» FHFA’s stress test specifications include a Severely Adverse scenario, which reflects a 30% decline in house prices and a severe global 

market shock vs. 25% decline in house prices in 2017 stress test.

 The 2018 Dodd-Frank Act Stress Test (DFAST) is Freddie Mac’s fifth year of public disclosure of the Severely Adverse scenario 

results.

 Freddie Mac has been operating under conservatorship since September 6, 2008 under the direction of the FHFA, as Conservator.

 Freddie Mac entered into a Preferred Stock Purchase Agreement (PSPA) with the U.S. Department of the Treasury (Treasury) 

pursuant to which Treasury purchased Senior Preferred Stock of Freddie Mac and agreed to make certain funding available to Freddie 

Mac as needed to prevent Freddie Mac from having a negative net worth. 

» Freddie Mac has drawn $71.6 billion under the PSPA and currently has $140.2 billion of remaining funding available to it. 

» The PSPA provides for a quarterly dividend equal to Freddie Mac’s net worth in excess of an amount of capital that is $3 billion. Because of 

the sweep dividend requirement, Freddie Mac cannot accumulate or retain capital in excess of the $3 billion of capital permitted by the PSPA. 

 As prescribed by FHFA, Freddie Mac is disclosing the results of the stress test in the Severely Adverse scenario in two different 

versions – one that does not reflect having to establish the valuation reserve on our deferred tax assets (DTA) and one that reflects 

having to establish the DTA valuation allowance.

 Stress test results show sufficient funding available under the PSPA after exhausting the $3 billion of capital that the company is 

allowed to retain under the PSPA. 

» The Severely Adverse scenario (without establishing a valuation allowance (VA) on our DTA) indicates $22 billion of additional draws, leaving 

$118 billion of remaining PSPA funding.

» The Severely Adverse scenario (with establishing a VA on our DTA) indicates $35 billion of additional draws, leaving $105 billion of remaining 

PSPA funding.

Stress test results are not expected outcomes. They are modeled projections based on hypothetical 

economic conditions prescribed by FHFA. Actual outcomes may be very different. 
© Freddie Mac 3

Stress Test Overview

Background

 Dodd-Frank requires certain financial companies with more than $10 billion in assets that are regulated by a primary federal 

financial regulatory agency to perform annual stress tests to assess capital adequacy

 For the GSEs, the FHFA-prescribed stress test assesses capital adequacy through the sufficiency of the remaining funding 

commitment under the PSPA(1)

 FHFA provided the key scenario assumptions for the 2018 Dodd-Frank annual stress test in March 2018. The nine quarter 

planning horizon includes 1Q18 to 1Q20, beginning with the 12/31/2017 balance sheet information

 The 2018 stress test results were submitted to FHFA and the Federal Reserve (sent by FHFA) on May 18, 2018

 Overall stress test results were reviewed by Freddie Mac’s Board of Directors, Chief Executive Officer, Chief Financial 

Officer, Chief Enterprise Risk Officer, and other key stakeholders

Key Economic Variables for the Severely Adverse Scenario as prescribed by FHFA

Macroeconomic Variables 2018 DFAST 2017 DFAST

 Residential House Prices (9-Quarter Decline) -30% -25%

 Commercial Real Estate (9-Quarter Decline) -40% -35%

 Real Gross Domestic Product (peak-to-trough) -7.3% -6.5%

 Unemployment Rate (Peak) 10% 10%

Interest-Rate Variables

 30-yr Mortgage Rate (Peak) 6.0% 4.6%

 10-yr Treasury Rate (Ending) 2.4% 1.5%

 Short-term Rate (Ending) 0.1% 0.1%

Global Market Shock

 Instantaneous Price Shocks on Non-agency securities RMBS: up to -69%; RMBS: up to -92%

CMBS up to -20% CMBS up to -20%

 Option-Adjusted-Spread (OAS) Shocks MBS OAS: +192 bps MBS OAS: +158bps 

(1) Including $3.0 billion permitted capital reserve at January 1, 2018.
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Severely Adverse Scenario

Stress test results are not expected outcomes. They are modeled projections based on

hypothetical economic conditions prescribed by FHFA. Actual outcomes may be very different.

Note: Numbers may not foot due to rounding

$140.2 $22.2

$118.0

PSPA funding

commitment as of

December 31, 2017

Treasury draw

required

PSPA funding

commitment as of

March 31, 2020

($ in billions) PSPA Funding Commitment 

Without Re-establishing VA 

on DTA

$140.2 $34.9

$105.2

PSPA funding

commitment as of

December 31, 2017

Treasury draw

required

PSPA funding

commitment as of

March 31, 2020

($ in billions)

PSPA Funding Commitment 

With Re-establishing VA on 

DTA
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Severely Adverse Scenario Results

Stress test results are not expected outcomes. They are modeled projections based on

hypothetical economic conditions prescribed by FHFA. Actual outcomes may be very different.

 Billions of dollars 

Percent of average 

assets6

 Billions of dollars 

Percent of average 

assets6

 1 Pre-provision net revenue1

 12.7 0.61% 12.7 0.62%

 2 (Provision) benefit for credit losses (23.5) (23.5)

 3 Mark-to-market gains (losses)2

 (2.1) (2.1)

 4 Global market shock impact on trading securities (7.8) (7.8)

and counterparty

 5 Net income before taxes (20.7) -1.00% (20.7) -1.00%

 6 (Provision) benefit for taxes 4.3 (12.7) (8.4)

 7 Other comprehensive income (loss)3

 (5.7) (5.7)

 8 Total comprehensive income (loss)

 (22.1) -1.06% (12.7)

 (34.8) -1.68%

 9 Dividends paid - -

1 0 PSPA funding commitment as of December 31, 2017 140.2 140.2

1 1 Treasury draws required 22.2 12.7 34.9

1 2 Remaining PSPA funding commitment

 118.0 (12.7) 105.2

1 3 Credit losses4

 (7.4) (7.4)

1 4 Credit losses (% of average portfolio balance)5 0.34% 0.34%

Note: Numbers may not foot due to rounding

1

 Includes net interest income, security impairments, operational risk losses, foreclosed property income (expense), and other non-interest income/expenses.

2

 Includes fair value gains (losses) on derivative and trading securities, and other gains (losses) on investment securities and not included in global market shocks.

3

 Includes global market shock impact on available-for-sale securities

4

 Credit losses are defined as charge-offs, net plus foreclosed property expenses.

5

 Average portfolio balance over the nine-quarter planning horizon.

6

 Average total assets over the nine-quarter planning horizon. 

Cumulative Projected Financial Metrics

(Q1 2018 - Q1 2020)

 Results without

establishing valuation allowance on 

deferred tax assets 

 Results with

establishing valuation allowance on 

deferred tax assets 

 Impact of 

establishing 

valuation allowance 

on deferred tax 

assets 
© Freddie Mac 6

Appendix:

Stress Test Assumptions 

and Methodologies
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Stress Test Components

Pre-Provision Net 

Revenue (PPNR)

Net interest income, security impairments, estimated operational risk losses, foreclosed 

property income (expense), and other non-interest income (expense)

Loan Loss Provision

Credit loss provision expenses related to estimated single-family (SF) credit losses, 

troubled debt restructurings (TDRs), potential losses from recovering less than 100% of the 

company’s exposure to mortgage insurer (MI) counterparties, and multifamily (MF) credit 

provisions 

Mark-to-Market

Gains (Losses)

Mark-to-market gains (losses) related to changes in fair value of derivatives and trading 

securities, and other gain (losses) on investment securities not included in global market 

shock

Global Market Shock

(net of tax)

Instantaneous global shocks of interest rates, volatility, agency MBS OAS, and non-agency 

MBS prices applied to trading and AFS securities, and the estimated impact of a default of 

the company’s largest capital markets counterparty. Includes tax benefit on AFS securities 

that the company intends to hold to recovery
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Description

 Reflects projections of net interest income, security impairments, estimated operational risk losses, foreclosed 

property income (expense), and other non-interest income (expense) over the nine-quarter planning horizon. 

 Material risks covered include interest-rate risk, credit risk for non-agency MBS, and operational risk.

Methodologies 

 Projects cash flows using a third-party model, incorporating internal business assumptions and FHFA-provided 

scenario interest-rate paths. 

 Estimates operational risk losses based on model that combines results from historical data and forward-looking 

scenario analyses. Model uses reasonably conservative assumptions when combining results from different data.

Pre-Provision Net Revenue (PPNR)
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Description

 Reflects credit loss provision expenses related to estimated SF credit losses, TDRs, potential losses from recovering less 

than 100% of the company’s exposure to MI counterparties, and MF credit provisions.

 Captures mortgage credit risk.

Methodologies 

 Estimates SF provision expenses using Freddie Mac’s internal models, enhanced credit loss forecasting methodology and 

key house-price and interest-rate inputs provided by FHFA. 

 Incorporates estimated impacts of other relevant FHFA-provided macroeconomic variables, such as unemployment rate 

and GDP decline. 

 SF loss projections also reflect haircuts to MI payment obligations and the assumption that current loan modification 

programs will continue. 

 Estimates MF loan loss provision using regression of material macroeconomic variables provided by FHFA

(unemployment, 3-month Treasury yield, commercial real estate price index) versus Freddie Mac’s historical loan loss 

reserves.

Loan Loss Provision (LLP)
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Mark-to-Market Gains (Losses) (MTM)

Description

 Reflects mark-to-market gains (losses) from changes in fair value of derivatives, and trading securities, and other gains 

(losses) on investment securities due to changes in interest rates not included in global market shock.

 Material risk covered includes interest-rate risk.

Methodologies 

 Applies FHFA-specified interest rate paths to estimate changes in fair value of derivatives and trading securities, and 

other gains (losses) on investment securities.

Global Market Shock (GMS)

Description

 The GMS is an instantaneous loss on Freddie Mac’s trading and AFS securities in the first quarter that is not recovered 

during the nine-quarter planning horizon. This shock is treated as an add-on to the macroeconomic and financial 

market environment specified in the stress test.

 Includes impact of a default of the company’s largest capital markets counterparty or mortgage insurer. 

Methodologies

 Applies FHFA-specified shocks for interest rates, volatility, agency MBS OAS, and non-agency price shocks to the 

company’s MBS holdings. 

 Includes tax effect on AFS securities that the company has both the intent and ability to hold to recovery.

 Estimated impact of default of largest counterparty in the stress test. Assumes instantaneous default in the first quarter 

of the planning horizon with zero recovery. 

Other Components
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Description of Key Drivers

Mortgage

Credit Risk 

 Mortgage credit risk is the risk that a borrower fails to make timely payments on a mortgage owned or guaranteed by Freddie Mac.

 SF credit risk varies significantly by book year. Since 2008, Freddie Mac has enhanced its credit and underwriting policies and

purchased fewer loans with higher risk characteristics, which has contributed to improvements in the credit quality of the SF

guarantee business. Freddie Mac has also entered into risk transfer transactions on SF loans to reduce credit risk on these loans.

 MF credit risk is substantially reduced as a result of the K-deal securitization program, where Freddie Mac guarantees only the 

most senior tranches of K-deals, resulting in a significant portion of credit risk being transferred to the investors in subordinated 

tranches. 

Interest-Rate 

and Other 

Market Risk

 Interest-rate risk is the risk that changes in interest rates could result in a loss of value or future earnings. Freddie Mac is exposed 

to interest-rate risk primarily in its retained portfolio. 

 The retained portfolio also exposes the firm to spread risk, where changes in the spread between retained portfolio assets and 

related funding and derivatives could result in a loss. 

Counterparty

Credit Risk

 Counterparty risk is the risk that a counterparty will fail to meet its contractual obligations to Freddie Mac. The company’s

counterparty credit exposures include, but are not limited to, MIs, counterparties to derivative and repurchase agreement 

transactions and single-family seller/servicers that sell mortgage loans to the company and service the loans.

Operational

Risk

 Operational risk is the risk of direct or indirect loss resulting from inadequate or failed internal processes, systems, human factors, 

or external events. Operational risk is inherent in the company’s business activities and can manifest itself in various ways, 

including accounting or operational errors, business interruptions, fraud and technology failures.