-240-
We disagree with petitioner’s assertion that FNBC took only
two of the available adjustments. Although FNBC labeled its
adjustments solely as credit adjustments and administrative costs
adjustments, Duffie noted that FNBC took three, and maybe four,
of the adjustments listed in the G-30 report. FNBC included an
adjustment for hedging within its administrative costs adjustment
and may have included an adjustment for funding and cost of
capital within the administrative cost adjustment.
XI. Respondent’s Method of Accounting
Respondent determined that FNBC was required to report its
swaps income by valuing its swaps at their midmarket value and
not reporting any adjustments thereto; e.g., for credit risk or
administrative costs. Petitioner argues that respondent’s method
is erroneous in that it fails to reflect FNBC’s swaps income
clearly. Petitioner notes that virtually everyone who has
considered the valuation of swaps has rejected respondent’s
position that the fair market value of a swap is its midmarket
value.
We agree with petitioner that the midmarket method, standing
alone, fails to reflect FNBC’s swaps income clearly. Midmarket
is the value of the payments but not the value of the swap
contract in that FNBC must incur administrative costs and bear
the risk that a payment might never be received.
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