BB&T 2008 Annual Report Download - page 40

which are uncertain. These events may include, but are not limited to, fluctuations in overall interest rates,
political conditions, legislation that may directly or indirectly affect the banking industry and economic conditions
affecting specific geographical areas and industries in which BB&T conducts business. The methodology used to
determine an estimate for the reserve for unfunded lending commitments is inherently similar to the
methodology used in calculating the allowance for loans and leases adjusted for factors specific to binding
commitments, including the probability of funding and exposure at the time of funding. A detailed discussion of
the methodology used in determining the allowance for loan and lease losses and the reserve for unfunded lending
commitments is included in the “Overview and Description of Business—Allowance for Loan and Lease Losses
and Reserve for Unfunded Lending Commitments.”
Fair Value of Financial Instruments
A significant portion of BB&T’s assets and certain liabilities are financial instruments carried at fair value.
This includes securities available for sale, trading securities, derivatives, certain loans held for sale, residential
mortgage servicing rights, certain short-term borrowings and venture capital investments. At December 31,
2008, the percentage of total assets and total liabilities measured at fair value was 24.3% and less than 1%,
respectively. The vast majority of assets and liabilities carried at fair value are based on either quoted market
prices or market prices for similar instruments. At December 31, 2008, 4.6% of assets measured at fair value were
based on significant unobservable inputs. This is less than 1% of BB&T’s total assets. See Note 18 “Disclosures
about Fair Value of Financial Instruments” in the “Notes to Consolidated Financial Statements” herein for
additional disclosures regarding the fair value of financial instruments.
Securities
The fair values for available-for-sale and trading securities are generally based upon quoted market prices or
observable market prices for similar instruments. These values take into account recent market activity as well
as other market observable data such as interest rate, spread and prepayment information. When market
observable data is not available, which generally occurs due to the lack of liquidity for certain trading securities,
the valuation of the security is subjective and may involve substantial judgment. As of December 31, 2008, BB&T
had approximately $1.1 billion of available-for-sale and trading securities, which is less than 1% of total assets,
valued using unobservable inputs. These securities were primarily non-agency mortgage-backed securities.
Mortgage Servicing Rights
BB&T has a significant mortgage loan servicing portfolio and related mortgage servicing rights (“MSRs”).
BB&T has two classes of MSRs for which it separately manages the economic risk: residential and commercial.
Residential MSRs are carried at fair value with changes in fair value recorded as a component of mortgage
banking income each period. BB&T uses various derivative instruments to mitigate the income statement effect
of changes in fair value, due to changes in valuation inputs and assumptions, of its residential MSRs. MSRs do not
trade in an active, open market with readily observable prices. While sales of MSRs do occur, the precise terms
and conditions typically are not readily available. Accordingly, BB&T estimates the fair value of residential
MSRs using an option adjusted spread (“OAS”) valuation model to project MSR cash flows over multiple interest
rate scenarios, which are then discounted at risk-adjusted rates. The OAS model considers portfolio
characteristics, contractually specified servicing fees, prepayment assumptions, delinquency rates, late charges,
other ancillary revenue, costs to service and other economic factors. BB&T reassesses and periodically adjusts
the underlying inputs and assumptions in the OAS model to reflect market conditions and assumptions that a
market participant would consider in valuing the MSR asset. When available, fair value estimates and
assumptions are compared to observable market data and to recent market activity and actual portfolio
experience. Due to the nature of the valuation inputs, MSRs are classified within level 3 of the valuation
hierarchy. The value of MSRs is significantly affected by mortgage interest rates available in the marketplace,
which influence mortgage loan prepayment speeds. In general, during periods of declining interest rates, the
value of MSRs declines due to increasing prepayments attributable to increased mortgage-refinance activity.
Conversely, during periods of rising interest rates, the value of MSRs generally increases due to reduced
refinance activity. Commercial MSRs are carried at lower of cost or market and amortized over the estimated
period that servicing income is expected to be received based on projections of the amount and timing of
estimated future cash flows. The amount and timing of servicing asset amortization is updated based on actual
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