Quarterly report pursuant to Section 13 or 15(d)

Fair Value Disclosures

v2.4.0.6
Fair Value Disclosures
 3 Months Ended
Mar. 31, 2013
Fair Value Disclosures [Abstract]  
Fair Value Disclosures
Note 4.  
Fair Value Disclosures

Fair Value Accounting

Fair Value Hierarchy

In accordance with Fair Value Accounting, Merrill Lynch has categorized its financial instruments, based on the priority of the inputs to the valuation technique, into a three-level fair value hierarchy.

The fair value hierarchy gives the highest priority to quoted prices in active markets for identical assets or liabilities (Level 1) and the lowest priority to unobservable inputs (Level 3).

Financial assets and liabilities recorded on the Condensed Consolidated Balance Sheets are categorized based on the inputs to the valuation techniques as follows:

Level 1.   Financial assets and liabilities whose values are based on unadjusted quoted prices for identical assets or liabilities in an active market that Merrill Lynch has the ability to access (examples include active exchange-traded equity securities, exchange-traded derivatives, U.S. Government securities, and certain other Non-U.S. government obligations).

Level 2.   Financial assets and liabilities whose values are based on quoted prices in markets that are not active or model inputs that are observable either directly or indirectly for substantially the full term of the asset or liability. Level 2 inputs include the following:

a)  Quoted prices for similar assets or liabilities in active markets (examples include restricted stock and U.S. agency securities);

b)  Quoted prices for identical or similar assets or liabilities in non-active markets (examples include corporate and municipal bonds, which can trade infrequently);

c)  Pricing models whose inputs are observable for substantially the full term of the asset or liability (examples include most over-the-counter derivatives, including interest rate and currency swaps); and

d)  Pricing models whose inputs are derived principally from or corroborated by observable market data through correlation or other means for substantially the full term of the asset or liability (examples include certain residential and commercial mortgage-related assets, including loans, securities and derivatives).

Level 3.   Financial assets and liabilities whose values are based on prices or valuation techniques that require inputs that are both unobservable and significant to the overall fair value measurement. These inputs reflect management's view about the assumptions a market participant would use in pricing the asset or liability (examples include certain private equity investments, certain residential and commercial mortgage-related assets and long-dated or complex derivatives).

As required by Fair Value Accounting, when the inputs used to measure fair value fall within different levels of the hierarchy, the level within which the fair value measurement is categorized is based on the lowest level input that is significant to the fair value measurement in its entirety. For example, a Level 3 fair value measurement may include inputs that are observable (Level 1 and 2) and unobservable (Level 3). Therefore gains and losses for such assets and liabilities categorized within the Level 3 reconciliation below may include changes in fair value that are attributable to both observable inputs (Levels 1 and 2) and unobservable inputs (Level 3). Further, the following reconciliations do not take into consideration the offsetting effect of Level 1 and 2 financial instruments entered into by Merrill Lynch that economically hedge certain exposures to the Level 3 positions.

A review of fair value hierarchy classifications is conducted on a quarterly basis. Changes in the observability of valuation inputs may result in a reclassification for certain financial assets or liabilities. Reclassifications are reported as transfers in or transfers out of the Level as of the beginning of the quarter in which the reclassifications occur. Therefore, Level 3 gains and losses represent amounts recognized during the period in which the instrument was classified as Level 3. See the recurring and non-recurring sections within this Note for further information on transfers between levels.

Valuation Processes and Techniques

Merrill Lynch has various processes and controls in place to ensure that its fair value measurements are reasonably estimated. A model validation policy governs the use and control of valuation models used to estimate fair value. This policy requires review and approval of models by personnel who are independent of the front office and periodic re-assessments to ensure that models are continuing to perform as designed. In addition, detailed reviews of trading gains and losses are analyzed on a daily basis by personnel who are independent of the front office. A price verification group, which is also independent of the front office, utilizes available market information including executed trades, market prices and market observable valuation model inputs to ensure that fair values are reasonably estimated. Merrill Lynch executes due diligence procedures over third party pricing service providers in order to support their use in the valuation process. Where market information is not available to support internal valuations, independent reviews of the valuations are performed and any material exposures are escalated through a management review process.

While Merrill Lynch believes its valuation methods are appropriate and consistent with other market participants, the use of different methodologies or assumptions to determine the fair value of certain financial instruments could result in a different estimate of fair value at the reporting date.

During the first quarter of 2013, there were no changes to Merrill Lynch's valuation techniques that had or are expected to have, a material impact on its condensed consolidated financial position or results of operations.

The following outlines the valuation methodologies for Merrill Lynch's material categories of assets and liabilities:

U.S. Government and agencies

U.S. Treasury securities U.S. Treasury securities are valued using quoted market prices and are generally classified as Level 1 in the fair value hierarchy.

U.S. agency securities U.S. agency securities are comprised of two main categories consisting of agency issued debt and mortgage pass-throughs. The fair value of agency issued debt securities is derived using market prices and recent trade activity gathered from independent dealer pricing services or brokers. Generally, the fair value of mortgage pass-throughs is based on market prices of comparable securities. Agency issued debt securities and mortgage pass-throughs are generally classified as Level 2 in the fair value hierarchy.

Non-U.S. governments and agencies

Non-U.S. government obligations Non-U.S. government obligations are valued using quoted prices in active markets when available. To the extent quoted prices are not available, fair value is determined based on reference to recent trading activity and quoted prices of similar securities. These securities are generally classified in Level 1 or Level 2 in the fair value hierarchy, primarily based on the issuing country.

Municipal debt

Municipal bonds The fair value of municipal bonds is calculated using recent trade activity, market price quotations and new issuance levels. In the absence of this information, fair value is calculated using comparable bond credit spreads. Current interest rates, credit events, and individual bond characteristics such as coupon, call features, maturity, and revenue purpose are considered in the valuation process. The majority of these bonds are classified as Level 2 in the fair value hierarchy.

Auction Rate Securities (“ARS”) Merrill Lynch holds investments in certain ARS, including student loan and municipal ARS. Student loan ARS are comprised of various pools of student loans. Municipal ARS are issued by states and municipalities for a wide variety of purposes, including but not limited to healthcare, industrial development, education and transportation infrastructure. The fair value of the student loan ARS is calculated based upon a number of assumptions including weighted average life, coupon, discount margin and liquidity discounts. The fair value of the municipal ARS is calculated based upon projected refinancing and spread assumptions. In both cases, recent trades and issuer tenders are considered in the valuations. Student loan ARS and municipal ARS are classified as Level 3 in the fair value hierarchy.

Corporate and other debt

Corporate bonds Corporate bonds are valued based on either the most recent observable trade and/or external quotes, depending on availability. The most recent observable trade price is given highest priority as the valuation benchmark based on an evaluation of transaction date, size, frequency, and bid-offer. This price may be adjusted by bond or credit default swap spread movement. When credit default swap spreads are referenced, cash-to-synthetic basis magnitude and movement as well as maturity matching are incorporated into the value. When neither external quotes nor a recent trade is available, the bonds are valued using a discounted cash flow approach based on risk parameters of comparable securities. In such cases, the potential pricing difference in spread and/or price terms with the traded comparable is considered. Corporate bonds are generally classified as Level 2 or Level 3 in the fair value hierarchy.

Commercial loans and commitments The fair values of commercial loans and loan commitments are based on market prices and most recent transactions when available. When not available, a discounted cash flow valuation approach is applied using market-based credit spreads of comparable debt instruments, recent new issuance activity or relevant credit derivatives with appropriate cash-to-synthetic basis adjustments. Commercial loans and commitments are generally classified as Level 2 in the fair value hierarchy. Certain commercial loans, particularly those related to emerging market, leveraged and distressed companies have limited price transparency. These loans are generally classified as Level 3 in the fair value hierarchy.

Mortgages, mortgage-backed and asset-backed

Residential Mortgage-Backed Securities (“RMBS”), Commercial Mortgage-Backed Securities (“CMBS”), and other Asset-Backed Securities (“ABS”) RMBS, CMBS and other ABS are valued based on observable price or credit spreads for the particular security, or when price or credit spreads are not observable, the valuation is based on prices of comparable bonds or the present value of expected future cash flows. Valuation levels of RMBS and CMBS indices are used as an additional data point for benchmarking purposes or to price outright index positions.

When estimating the fair value based upon the present value of expected future cash flows, Merrill Lynch uses its best estimate of the key assumptions, including forecasted credit losses, prepayment rates, forward yield curves and discount rates commensurate with the risks involved, while also taking into account performance of the underlying collateral.

RMBS, CMBS and other ABS are classified as Level 3 in the fair value hierarchy if external prices or credit spreads are unobservable or if comparable trades/assets involve significant subjectivity related to property type differences, cash flows, performance and other inputs; otherwise, they are classified as Level 2 in the fair value hierarchy.

Collateralized loan obligations ("CLO") are valued based upon the present value of expected future cash flows, utilizing yields that are derived from those of comparable securities. CLOs are generally classified as Level 3 in the fair value hierarchy.

Equities

Exchange-Traded Equity Securities Exchange-traded equity securities are generally valued based on quoted prices from the exchange. These securities are classified as either Level 1 or Level 2 in the fair value hierarchy, primarily based on the exchange on which they are traded.

Convertible debentures Convertible debentures are valued based on observable trades and/or external quotes, depending on availability. When neither observable trades nor external quotes are available, the instruments are valued using a discounted cash flow approach based on risk parameters of comparable securities. In such cases, the potential pricing difference in spread and/or price terms with the traded comparable is considered. Convertible debentures are generally classified as Level 2 in the fair value hierarchy.

Derivative contracts

Listed Derivative Contracts Listed derivatives that are actively traded are generally valued based on quoted prices from the exchange and are classified as Level 1 in the fair value hierarchy. Listed derivatives that are not actively traded are valued using the same approaches as those applied to OTC derivatives; they are generally classified as Level 2 in the fair value hierarchy.

OTC Derivative Contracts OTC derivative contracts include forwards, swaps and options related to interest rate, foreign currency, credit, equity or commodity underlyings.

The fair value of OTC derivatives is derived using market prices and other market based pricing parameters such as interest rates, currency rates and volatilities that are observed directly in the market or gathered from independent sources such as dealer consensus pricing services or brokers. Where models are used, they are used consistently and reflect the contractual terms of and specific risks inherent in the contracts. Generally, the models do not require a high level of subjectivity since the valuation techniques used in the models do not require significant judgment and inputs to the models are readily observable in active markets. When appropriate, valuations are adjusted for various factors such as liquidity and credit considerations based on available market evidence. In addition, for most collateralized interest rate and currency derivatives the requirement to pay interest on the collateral may be considered in the valuation. The majority of OTC derivative contracts are classified as Level 2 in the fair value hierarchy.

OTC derivative contracts that do not have readily observable market based pricing parameters are classified as Level 3 in the fair value hierarchy. Examples of derivative contracts classified within Level 3 include contractual obligations that have tenures that extend beyond periods in which inputs to the model would be observable, exotic derivatives with significant inputs into a valuation model that are less transparent in the market and certain credit default swaps (“CDS”) referenced to mortgage-backed securities. For example, derivative instruments, such as certain CDS referenced to RMBS, CMBS, other ABS and collateralized debt obligations (“CDOs”), may be valued based on the underlying mortgage risk where these instruments are not actively quoted. Inputs to the valuation will include available information on similar underlying loans or securities in the cash market. The prepayments and loss assumptions on the underlying loans or securities are estimated using a combination of historical data, prices on recent market transactions, relevant observable market indices such as the Asset Backed Securities Index (“ABX”) or Commercial Mortgage Backed Securities Index (“CMBX”) and prepayment and default scenarios and analyses.

CDOs The fair value of CDOs is derived from a referenced basket of CDS, the CDO's capital structure, and the default correlation, which is an input to a proprietary CDO valuation model. The underlying CDO portfolios typically contain investment grade as well as non-investment grade obligors. After adjusting for differences in risk profile, the correlation parameter for an actual transaction is estimated by benchmarking against observable standardized index tranches and other comparable transactions. CDOs are classified as either Level 2 or Level 3 in the fair value hierarchy.

Investment securities non-qualifying

Investments in Private Equity, Real Estate and Hedge Funds Merrill Lynch has investments in numerous asset classes, including: direct private equity, private equity funds, hedge funds and real estate funds. Valuing these investments requires significant management judgment due to the nature of the assets and the lack of quoted market prices and liquidity in these assets. Initially, the transaction price of the investment is generally considered to be the best indicator of fair value. Thereafter, valuation of direct investments is based on an assessment of each individual investment using various methodologies, which include publicly traded comparables derived by multiplying a key performance metric (e.g., earnings before interest, taxes, depreciation and amortization ("EBITDA")) of the portfolio company by the relevant valuation multiple observed for comparable companies, acquisition comparables, entry level multiples and discounted cash flows. These valuations are subject to appropriate discounts for lack of liquidity. Certain factors which may influence changes to fair value include but are not limited to, recapitalizations, subsequent rounds of financing, and offerings in the equity or debt capital markets. For fund investments, Merrill Lynch generally records the fair value of its proportionate interest in the fund's capital as reported by the fund's respective managers.

Investment securities non-qualifying include equity securities that have recently gone through initial public offerings or secondary sales of public positions. These investments are primarily classified as either Level 1 or Level 2 in the fair value hierarchy. Level 2 classifications generally include those publicly traded equity investments that have a legal or contractual transfer restriction. All other investments in private equity, real estate and hedge funds are classified as Level 3 in the fair value hierarchy due to infrequent trading and/or unobservable market prices.

Resale and repurchase agreements

Merrill Lynch elected the fair value option for certain resale and repurchase agreements. For such agreements, the fair value is estimated using a discounted cash flow model which incorporates inputs such as interest rate yield curves and option volatility. Resale and repurchase agreements for which the fair value option has been elected are generally classified as Level 2 in the fair value hierarchy.

Long-term and short-term borrowings

Merrill Lynch and its consolidated VIEs issue structured notes that have coupons or repayment terms linked to the performance of debt or equity securities, indices, currencies or commodities. The fair value of structured notes is estimated using valuation models for the combined derivative and debt portions of the notes when the fair value option has been elected. These models incorporate observable, and in some instances unobservable, inputs including security prices, interest rate yield curves, option volatility, currency, commodity or equity rates and correlations between these inputs. The impact of Merrill Lynch's own credit spreads is also included based on Merrill Lynch's observed secondary bond market spreads. Structured notes are classified as either Level 2 or Level 3 in the fair value hierarchy.

Recurring Fair Value
The following tables present Merrill Lynch’s fair value hierarchy for those assets and liabilities measured at fair value on a recurring basis as of March 31, 2013 and December 31, 2012, respectively.

(dollars in millions)
 
Fair Value Measurements on a Recurring Basis
 
as of March 31, 2013
 
Level 1
 
Level 2
 
Level 3
 
Netting
Adj(1)
 
Total
Assets:
 
 
 
 
 
 
 
 
 
Securities segregated for regulatory purposes or deposited with clearing organizations:
 
 
 
 
 
 
 
 
 
Non-U.S. governments and agencies
$
—

 
$
2,680

 
$
—

 
$
—

 
$
2,680

U.S. Government and agencies
4,425

 
250

 
—

 
—

 
4,675

Total securities segregated for regulatory purposes or deposited with clearing organizations
4,425

 
2,930

 
—

 
—

 
7,355

Receivables under resale agreements
—

 
89,969

 
—

 
—

 
89,969

Receivables under securities borrowed transactions
—

 
1,282

 
—

 
—

 
1,282

Trading assets, excluding derivative contracts:
 
 
 
 
 
 
 
 
 
Equities
24,421

 
11,298

 
175

 
—

 
35,894

Convertible debentures
—

 
3,898

 
14

 
—

 
3,912

Non-U.S. governments and agencies
31,441

 
3,395

 
417

 
—

 
35,253

Corporate debt
—

 
15,592

 
1,840

 
—

 
17,432

Preferred stock
—

 
169

 
208

 
—

 
377

Mortgages, mortgage-backed and asset-backed
—

 
6,197

 
4,368

 
—

 
10,565

U.S. Government and agencies
20,258

 
23,593

 
—

 
—

 
43,851

Municipals and money markets
1,580

 
8,468

 
1,079

 
—

 
11,127

Physical commodities and other
—

 
647

 
—

 
—

 
647

Total trading assets, excluding derivative contracts
77,700

 
73,257

 
8,101

 
—

 
159,058

Derivative contracts(2)
5,043

 
576,851

 
5,437

 
(559,824
)
 
27,507

Investment securities available-for-sale:
 
 
 
 
 
 
 
 
 
U.S. Government and agencies
403

 
—

 
—

 
—

 
403

Securities, mortgage-backed and asset backed
 
 
 
 
 
 
 
 
 
     Non-agency MBS
—

 
37

 
—

 
—

 
37

     Corporate ABS
—

 
167

 
8

 
—

 
175

Total investment securities available-for-sale
403

 
204

 
8

 
—

 
615

Other debt securities carried at fair value (3)
 
 
 
 
 
 
 
 
 
    Non-U.S. governments and agencies
7,202

 
300

 
—

 
—

 
7,502

    Corporate debt
—

 
10

 
—

 
—

 
10

Total other debt securities carried at fair value
7,202

 
310

 
—

 
—

 
7,512

Investment securities non-qualifying
1,777

 
1,320

 
288

 
—

 
3,385

Total investment securities
9,382

 
1,834

 
296

 
—

 
11,512

Securities received as collateral
12,016

 
1,350

 
—

 
—

 
13,366

Loans, notes and mortgages
—

 
657

 
1,436

 
—

 
2,093

   Other
—

 
—

 
1,086

 
—

 
1,086

Liabilities:
 
 
 
 
 
 
 
 
 
Payables under repurchase agreements
—

 
47,842

 
—

 
—

 
47,842

Short-term borrowings
—

 
2,401

 
—

 
—

 
2,401

Trading liabilities, excluding derivative contracts:
 
 
 
 
 
 
 
 
 
Equities
17,799

 
2,747

 
—

 
—

 
20,546

Convertible debentures
—

 
157

 
—

 
—

 
157

Non-U.S. governments and agencies
27,483

 
1,409

 
—

 
—

 
28,892

Corporate debt
—

 
9,642

 
16

 
—

 
9,658

Preferred stock
—

 
216

 
—

 
—

 
216

U.S. Government and agencies
18,388

 
447

 
—

 
—

 
18,835

Municipals, money markets and other
574

 
25

 
42

 
—

 
641

Total trading liabilities, excluding derivative contracts
64,244

 
14,643

 
58

 
—

 
78,945

 Derivative contracts(2)
3,834

 
577,207

 
4,255

 
(561,389
)
 
23,907

Obligation to return securities received as collateral
12,016

 
1,350

 
—

 
—

 
13,366

Other payables — interest and other
—

 
45

 
4

 
—

 
49

Long-term borrowings
—

 
32,283

 
1,285

 
—

 
33,568

 
 
 
 
 
 
 
 
 
 
(1) 
Represents counterparty and cash collateral netting.
(2) 
See Note 6 for product level detail.
(3) 
Certain assets that are used for liquidity management purposes were reclassified from Trading assets to Other debt securities carried at fair value during the three months ended March 31, 2013. Prior period amounts have been reclassified to conform with the current period presentation.

During the three months ended March 31, 2013, approximately $500 million of assets were transferred from Level 1 to Level 2, primarily due to a restriction that became effective for a non-qualifying investment security.

(dollars in millions)
 
Fair Value Measurements on a Recurring Basis
 
as of December 31, 2012
 
Level 1
 
Level 2
 
Level 3
 
Netting
Adj(1)
 
Total
Assets:
 
 
 
 
 
 
 
 
 
Securities segregated for regulatory purposes or deposited with clearing organizations:
 
 
 
 
 
 
 
 
 
Non-U.S. governments and agencies
$
—

 
$
1,833

 
$
—

 
$
—

 
$
1,833

U.S. Government and agencies
3,558

 
250

 
—

 
—

 
3,808

Total securities segregated for regulatory purposes or deposited with clearing organizations
3,558

 
2,083

 
—

 
—

 
5,641

Receivables under resale agreements
—

 
93,715

 
—

 
—

 
93,715

Receivables under securities borrowed transactions
—

 
961

 
—

 
—

 
961

Trading assets, excluding derivative contracts:
 
 
 
 
 
 
 
 
 
Equities
23,813

 
12,340

 
178

 
—

 
36,331

Convertible debentures
—

 
4,272

 
15

 
—

 
4,287

Non-U.S. governments and agencies
26,834

 
2,936

 
353

 
—

 
30,123

Corporate debt
—

 
16,068

 
1,900

 
—

 
17,968

Preferred stock
—

 
116

 
253

 
—

 
369

Mortgages, mortgage-backed and asset-backed
—

 
5,799

 
4,814

 
—

 
10,613

U.S. Government and agencies
26,201

 
28,363

 
—

 
—

 
54,564

Municipals and money markets
1,292

 
9,201

 
1,295

 
—

 
11,788

Physical commodities and other
—

 
692

 
—

 
—

 
692

 Total trading assets, excluding derivative contracts
78,140

 
79,787

 
8,808

 
—

 
166,735

  Derivative contracts(2)
2,691

 
657,621

 
5,677

 
(641,138
)
 
24,851

Investment securities available-for-sale:
 
 
 
 
 
 
 
 
 
U.S. Government and agencies
390

 
—

 
—

 
—

 
390

Securities, mortgage-backed and asset backed
 
 
 
 
 
 
 
 
 
     Non-agency MBS
—

 
40

 
—

 
—

 
40

     Corporate ABS
—

 
218

 
8

 
—

 
226

Total investment securities available-for-sale
390

 
258

 
8

 
—

 
656

Other debt securities carried at fair value (3)
 
 
 
 
 
 
 
 
 
    Non-U.S. governments and agencies
7,422

 
300

 
—

 
—

 
7,722

Total other debt securities carried at fair value
7,422

 
300

 
—

 
—

 
7,722

Investment securities non-qualifying
2,254

 
1,056

 
287

 
—

 
3,597

Total investment securities
10,066

 
1,614

 
295

 
—

 
11,975

Securities received as collateral
15,426

 
587

 
—

 
—

 
16,013

Loans, notes and mortgages
—

 
1,396

 
1,681

 
—

 
3,077

Other
—

 
12

 
1,534

 
—

 
1,546

Liabilities:
 
 
 
 
 
 
 
 
 
Payables under repurchase agreements
—

 
42,639

 
—

 
—

 
42,639

Short-term borrowings
—

 
3,283

 
—

 
—

 
3,283

Trading liabilities, excluding derivative contracts:
 
 
 
 
 
 
 
 
 
Equities
16,225

 
2,557

 
—

 
—

 
18,782

Convertible debentures
—

 
175

 
—

 
—

 
175

Non-U.S. governments and agencies
18,382

 
1,325

 
—

 
—

 
19,707

Corporate debt
—

 
7,912

 
31

 
—

 
7,943

Preferred stock
—

 
83

 
—

 
—

 
83

U.S. Government and agencies
19,276

 
910

 
—

 
—

 
20,186

Municipals, money markets and other
487

 
43

 
32

 
—

 
562

Total trading liabilities, excluding derivative contracts
54,370

 
13,005

 
63

 
—

 
67,438

Derivative contracts(2)
2,449

 
659,271

 
4,133

 
(645,285
)
 
20,568

Obligation to return securities received as collateral
15,426

 
587

 
—

 
—

 
16,013

Other payables — interest and other
—

 
50

 
7

 
—

 
57

Long-term borrowings
—

 
29,559

 
1,316

 
—

 
30,875

 
 
 
 
 
 
 
 
 
 
(1) 
Represents counterparty and cash collateral netting.
(2) 
See Note 6 for product level detail.
(3) 
Certain assets that are used for liquidity management purposes were reclassified from Trading assets to Other debt securities carried at fair value during the three months ended March 31, 2013. Prior period amounts have been reclassified to conform with the current period presentation.

During the year ended December 31, 2012, $2,040 million and $350 million of assets and liabilities, respectively, were transferred from Level 1 to Level 2, and $785 million and $40 million of assets and liabilities, respectively, were transferred from Level 2 to Level 1.  Of the asset transfer from Level 1 to Level 2, $940 million was due to restrictions that became effective for non-qualifying investment securities during 2012, while $535 million of the asset transfer from Level 2 to Level 1 was due to the lapse of such restrictions during 2012.  The remaining transfers were the result of additional information associated with certain equities, derivative contracts and investment securities non-qualifying.
Level 3 Financial Instruments
The following tables provide a summary of changes in Merrill Lynch’s Level 3 financial assets and liabilities for the three months ended March 31, 2013 and March 31, 2012.

(dollars in millions)
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Level 3 Financial Assets and Liabilities
Three Months Ended March 31, 2013
 
 
 
Total Realized and Unrealized
Gains or (Losses) included in Income
 
Total Realized
and Unrealized Gains
or (Losses)
included in Income
 
Unrealized
Gains or (Losses) to
OCI
 
Sales
 
Purchases
 
Issuances
 
Settlements
 
 
 
 
 
 
 
Beginning
Balance
 
Principal
Transactions
 
Other
Revenue
 
Interest
 
 
 
 
 
 
 
Transfers
In
 
Transfers
Out
 
Ending
Balance
Assets:
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Trading assets, excluding derivative contracts:
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Equities
$
178

 
$
20

 
$
—

 
$
—

 
$
20

 
$
—

 
(50
)
 
23

 
$
—

 
—

 
$
7

 
$
(3
)
 
$
175

Convertible debentures
15

 
—

 
—

 
—

 
—

 
—

 
(2
)
 
—

 
—

 
—

 
2

 
(1
)
 
14

Non-U.S. governments and agencies
353

 
51

 
—

 
—

 
51

 
—

 
(1
)
 
15

 
—

 
—

 
—

 
(1
)
 
417

Corporate debt
1,900

 
54

 
—

 
—

 
54

 
—

 
(235
)
 
187

 
—

 
(121
)
 
158

 
(103
)
 
1,840

Preferred stock
253

 
22

 
—

 
—

 
22

 
—

 
(59
)
 
6

 
—

 
—

 
1

 
(15
)
 
208

Mortgages, mortgage-backed and asset-backed
4,814

 
162

 
—

 
—

 
162

 
—

 
(635
)
 
653

 
—

 
(629
)
 
3

 
—

 
4,368

Municipals and money markets
1,295

 
25

 
—

 
—

 
25

 
—

 
(651
)
 
355

 
—

 
(1
)
 
56

 
—

 
1,079

Total trading assets, excluding derivative contracts
8,808

 
334

 
—

 
—

 
334

 
—

 
(1,633
)
 
1,239

 
—

 
(751
)
 
227

 
(123
)
 
8,101

Derivative contracts, net
1,544

 
(186
)
 
—

 
—

 
(186
)
 
—

 
(226
)
 
92

 
—

 
(91
)
 
76

 
(27
)
 
1,182

Investment securities available-for-sale :
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Corporate ABS
8

 
—

 
—

 
—

 
—

 
—

 
—

 
—

 
—

 
—

 
—

 
—

 
8

Total investment securities available-for-sale
8

 
—

 
—

 
—

 
—

 
—

 
—

 
—

 
—

 
—

 
—

 
—

 
8

Investment securities non-qualifying
287

 
—

 
(3
)
 
—

 
(3
)
 
—

 
(7
)
 
11

 
—

 
—

 
—

 
—

 
288

Total investment securities
295

 
—

 
(3
)
 
—

 
(3
)
 
—

 
(7
)
 
11

 
—

 
—

 
—

 
—

 
296

Loans, notes and mortgages
1,681

 
—

 
(52
)
 
7

 
(45
)
 
—

 
(186
)
 
—

 
—

 
(14
)
 
—

 
—

 
1,436

Other
1,534

 
—

 
(448
)
 
—

 
(448
)
 
—

 
—

 
—

 
—

 
—

 
—

 
—

 
1,086

Liabilities:
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Trading liabilities, excluding derivative contracts:
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Corporate debt
31

 
—

 
—

 
—

 
—

 
—

 
2

 
(5
)
 
—

 
—

 
8

 
(20
)
 
16

Municipals, money markets and other
32

 
—

 
—

 
—

 
—

 
—

 
11

 
(2
)
 
1

 
—

 
—

 
—

 
42

Total trading liabilities, excluding derivative contracts
63

 
—

 
—

 
—

 
—

 
—

 
13

 
(7
)
 
1

 
—

 
8

 
(20
)
 
58

Other payables - interest and other
7

 
—

 
—

 
—

 
—

 
—

 
—

 
—

 
—

 
(2
)
 
—

 
(1
)
 
4

Long-term borrowings
1,316

 
22

 
(4
)
 
—

 
18

 
—

 
4

 
(69
)
 
36

 
(47
)
 
185

 
(122
)
 
1,285

 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 


Transfers in and out for corporate debt primarily relate to changes in market liquidity for certain corporate loans and securities. Transfers in and out related to long-term borrowings are primarily due to changes in the impact of unobservable inputs on the value of certain equity-linked structured notes.
 


 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 




(dollars in millions)
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Level 3 Financial Assets and Liabilities
Three Months Ended March 31, 2012
 
 
 
Total Realized and Unrealized
Gains or (Losses) included in Income
 
Total Realized
and Unrealized Gains
or (Losses)
included in Income
 
Unrealized
Gains or (Losses) to
OCI
 
Sales
 
Purchases
 
Issuances
 
Settlements
 
 
 
 
 
 
 
Beginning
Balance
 
Principal
Transactions
 
Other
Revenue
 
Interest
 
 
 
 
 
 
 
Transfers
In
 
Transfers
Out
 
Ending
Balance
Assets:
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Trading assets, excluding derivative contracts:
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Equities
$
179

 
$
1

 
$
—

 
$
—

 
$
1

 
$
—

 
$
(39
)
 
$
41

 
$
—

 
$
(9
)
 
$
7

 
$
(2
)
 
$
178

Convertible debentures
99

 
2

 
—

 
—

 
2

 
—

 
(53
)
 
—

 
—

 
—

 
5

 
(10
)
 
43

Non-U.S. governments and agencies
342

 
24

 
—

 
—

 
24

 
—

 
(81
)
 
273

 
—

 
—

 
—

 
(12
)
 
546

Corporate debt
3,962

 
85

 
—

 
—

 
85

 
—

 
(523
)
 
368

 
—

 
(154
)
 
56

 
(376
)
 
3,418

Preferred stock
227

 
12

 
—

 
—

 
12

 
—

 
(70
)
 
38

 
—

 
(1
)
 
1

 
—

 
207

Mortgages, mortgage-backed and asset-backed
3,199

 
90

 
—

 
—

 
90

 
—

 
(230
)
 
166

 
—

 
(80
)
 
736

 
(113
)
 
3,768

Municipals and money markets
2,047

 
(6
)
 
—

 
—

 
(6
)
 
—

 
(132
)
 
134

 
—

 
(11
)
 
—

 
(23
)
 
2,009

Total trading assets, excluding derivative contracts
10,055

 
208

 
—

 
—

 
208

 
—

 
(1,128
)
 
1,020

 
—

 
(255
)
 
805

 
(536
)
 
10,169

Derivative contracts, net
4,495

 
(701
)
 
—

 
—

 
(701
)
 
—

 
(258
)
 
353

 
—

 
(375
)
 
59

 
(366
)
 
3,207

Investment securities available-for-sale :
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Corporate ABS
47

 
—

 
(2
)
 
—

 
(2
)
 
—

 
—

 
—

 
—

 
—

 
—

 
—

 
45

Total investment securities available-for-sale
47

 
—

 
(2
)
 
—

 
(2
)
 
—

 
—

 
—

 
—

 
—

 
—

 
—

 
45

Investment securities non-qualifying
574

 
—

 
(7
)
 
—

 
(7
)
 
—

 
(13
)
 
9

 
—

 
(142
)
 
—

 
—

 
421

Total investment securities
621

 
—

 
(9
)
 
—

 
(9
)
 
—

 
(13
)
 
9

 
—

 
(142
)
 
—

 
—

 
466

Loans, notes and mortgages
1,726

 
—

 
95

 
7

 
102

 
—

 
—

 
4

 
—

 
(23
)
 
—

 
—

 
1,809

    Other assets
1,349

 
—

 
(47
)
 
—

 
(47
)
 
—

 
—

 
—

 
—

 
—

 
—

 
—

 
1,302

Liabilities:
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Trading liabilities, excluding derivative contracts:
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Corporate debt
52

 
—

 
—

 
—

 
—

 
—

 
19

 
(38
)
 
—

 
—

 
1

 
(34
)
 
—

Preferred stock
16

 
(2
)
 
—

 
—

 
(2
)
 
—

 
—

 
(4
)
 
—

 
—

 
—

 
—

 
14

Municipals, money markets and other
45

 
1

 
—

 
—

 
1

 
—

 
6

 
(6
)
 
1

 
—

 
—

 
—

 
45

Total trading liabilities, excluding derivative contracts
113

 
(1
)
 
—

 
—

 
(1
)
 
—

 
25

 
(48
)
 
1

 
—

 
1

 
(34
)
 
59

Other payables - interest and other
10

 
—

 
3

 
—

 
3

 
—

 
—

 
(1
)
 
—

 
—

 
—

 
(3
)
 
3

Long-term borrowings
2,186

 
(139
)
 
(44
)
 
—

 
(183
)
 
—

 
33

 
(68
)
 
28

 
(377
)
 
222

 
(464
)
 
1,743

 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 


Transfers out for corporate debt primarily relates to increased market liquidity for certain corporate loans. Transfers in for mortgages, mortgage-backed and asset-backed is primarily the result of additional information related to certain CLOs. Transfers out for mortgages, mortgage-backed and asset-backed relates to increased market activity (i.e., executed trades) for certain loans backed by commercial real estate. Transfers out for derivative contracts, net primarily relates to increased price observability (i.e., market comparables) for certain total return swaps ("TRS") and foreign exchange swaps. Transfers in and out related to long-term borrowings are primarily due to changes in the impact of unobservable inputs on the value of certain equity-linked structured notes.
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 






The following tables provide the portion of gains or losses included in income for the three months ended March 31, 2013 and March 31, 2012 attributable to unrealized gains or losses relating to those Level 3 assets and liabilities held at March 31, 2013 and March 31, 2012, respectively.
(dollars in millions)
 
 
 
 
 
 
 
Unrealized Gains or (Losses) for Level 3
Assets and Liabilities Still Held
 
 
Three Months ended March 31, 2013
 
 
Principal
Transactions
 
Other
Revenue
 
Total
Assets:
 
 
 
 
 
 
Trading assets, excluding derivative contracts:
 
 
 
 
 
 
Equities
 
$
21

 
$
—

 
$
21

Non-U.S. governments and agencies
 
51

 
—

 
51

Corporate debt
 
38

 
—

 
38

Preferred stock
 
12

 
—

 
12

Mortgages, mortgage-backed and asset-backed
 
89

 
—

 
89

Municipals and money markets
 
8

 
—

 
8

Total trading assets, excluding derivative contracts
 
219

 
—

 
219

Derivative contracts, net
 
(245
)
 
—

 
(245
)
Investment securities non-qualifying
 
—

 
(3
)
 
(3
)
Loans, notes and mortgages
 
—

 
(53
)
 
(53
)
Other
 
—

 
(448
)
 
(448
)
Liabilities:
 
 
 
 
 
 
Long-term borrowings
 
21

 
(4
)
 
17



(dollars in millions)
 
 
 
 
 
 
 
Unrealized Gains or (Losses) for Level 3
Assets and Liabilities Still Held
 
 
Three Months Ended March 31, 2012
 
 
Principal
Transactions
 
Other
Revenue
 
Total
Assets:
 
 
 
 
 
 
Trading assets, excluding derivative contracts:
 
 
 
 
 
 
Equities
 
$
6

 
$
—

 
$
6

Convertible debentures
 
2

 
—

 
2

Non-U.S. governments and agencies
 
13

 
—

 
13

Corporate debt
 
62

 
—

 
62

Preferred stock
 
3

 
—

 
3

Mortgages, mortgage-backed and asset-backed
 
50

 
—

 
50

Municipals and money markets
 
(8
)
 
—

 
(8
)
Total trading assets, excluding derivative contracts
 
128

 
—

 
128

Derivative contracts, net
 
(613
)
 
—

 
(613
)
Investment securities non-qualifying
 
—

 
(10
)
 
(10
)
Total investment securities
 
—

 
(10
)
 
(10
)
Loans, notes and mortgages
 
—

 
96

 
96

Other assets
 
—

 
(47
)
 
(47
)
 
 
 
 
 
 
 
Liabilities:
 
 
 
 
 
 
Trading liabilities, excluding derivative contracts:
 
 
 
 
 
 
Preferred Stock
 
(2
)
 
—

 
(2
)
Municipals, money markets and other
 
1

 
—

 
1

Total trading liabilities, excluding derivative contracts
 
(1
)
 
—

 
(1
)
Other payables — interest and other
 
—

 
3

 
3

Long-term borrowings
 
(129
)
 
(44
)
 
(173
)









Level 3 Significant Inputs
The following tables present information about significant unobservable inputs related to material components of Merrill Lynch's Level 3 financial assets and liabilities at March 31, 2013 and December 31, 2012.
Quantitative Information about Level 3 Fair Value Measurements at March 31, 2013
(dollars in millions)
 
 
 
 
 
Financial Instrument
Fair Value
Valuation Techniques
Significant Unobservable Inputs
Ranges of Inputs
Weighted Average
Loans and Securities
 
 
 
 
 
Instruments backed by residential real estate assets
$
1,337

Discounted Cash Flow
Yield
2% to 25%
7
%
Loans, notes and mortgages
972

Prepayment Speeds (CPR)
6% to 8%
7
%
Trading assets - Mortgages, mortgage-backed and asset-backed
365

Default Rates (CDR)
1% to 3%
2
%
 


Loss Severities
35% to 45%
41
%
Instruments backed by commercial real estate assets


Discounted Cash Flow
Yield
5%
5
%
Other
$
1,086

Loss Severities
51% to 100%
80
%
Commercial loans, debt securities and other
$
6,307

Discounted Cash Flow, Market Comparables
Yield
0% to 33%
5
%
Loans, notes and mortgages
464

Enterprise Value/EBITDA multiple
2x to 17x
6
x
Trading assets - Mortgages, mortgage-backed and asset-backed
4,003

Prepayment Speed
5% to 40%
20
%
Trading assets - Corporate debt
1,840

Default Rates
1% to 5%
4
%
 


Loss Severity
25% to 40%
35
%
Auction Rate Securities


Market Comparables




Trading assets - Municipals and money markets
$
1,079

Projected tender price / re-financing level
50% to 100%
92
%
Long-term borrowings
$
1,285

Industry Standard Derivative Pricing (1)
Equity Correlation
30% to 97%
73
%
 


Long- Dated Volatilities
15% to 115%
26
%
(1) Includes models such as Monte Carlo simulation and Black-Scholes.

CPR = Constant Prepayment Rate
CDR = Constant Default Rate










Quantitative Information about Level 3 Fair Value Measurements at March 31, 2013
(dollars in millions)
 
 
 
Financial Instrument
Fair Value
Valuation Techniques
Significant Unobservable Inputs
Ranges of Inputs
Weighted Average
Net Derivative Contracts
 
 


 
   Credit derivatives
$
1,448

Discounted Cash Flow, Stochastic Recovery Correlation Model
Yield
2% to 25%
13
%
 


Credit spreads
37bps to 346bps
200 bps

 


Upfront points
12 to 100 points
64 points

 


Spread to index
-1,657 bps to 1,988bps
421 bps

 


Credit correlation
21% to 75%
41
%
 


Prepayment speed (CPR)
4% to 30%
8
%
 


Default rates (CDR)
1% to 5%
4
%
 


Loss severity
25% to 40%
35
%
   Equity derivatives
$
(880
)
Industry Standard Derivative Pricing (1)
Equity Correlation
30% to 97%
73
%
 


Long-Dated Volatilities
15% to 115%
26
%
   Commodity derivatives
$
(4
)
Discounted Cash Flow
Natural gas forward price
$3/MMBtu to $12/MMBtu
$7/MMBtu

   Interest rate derivatives
$
618

Industry Standard Derivative Pricing (1)
Correlation (IR/IR)
19% to 99%
62
%
 


Correlation (FX/IR)
-65% to 50%
2
%
 


Long-Dated Inflation Rates
2% to 3%
2
%
 


Long-Dated Inflation Volatilities
0% to 2%
1
%
Total net derivative contracts
$
1,182

 
 
 
 
(1) 
Includes models such as Monte Carlo simulation, Black-Scholes and other methods that model the joint dynamics of interest, inflation and foreign exchange rates.

IR = Interest Rate
FX = Foreign Exchange
CPR = Constant Prepayment Rate
CDR = Constant Default Rate
MMBtu = Million British thermal units








Quantitative Information about Level 3 Fair Value Measurements at December 31, 2012
(dollars in millions)
 
 
 
 
 
Financial Instrument
Fair Value
Valuation Techniques
Significant Unobservable Inputs
Ranges of Inputs
Weighted Average
Loans and Securities
 
 
 
 
 
Instruments backed by residential real estate assets
$
1,608

Discounted Cash Flow
Yield
4% to 25%
7
%
Loans, notes and mortgages
1,231

Prepayment Speeds (CPR)
3% to 10%
7
%
Trading assets - Mortgages, mortgage-backed and asset-backed
377

Default Rates (CDR)
1% to 3%
2
%
 
 
Loss Severities
35% to 45%
41
%
Instruments backed by commercial real estate assets

Discounted Cash Flow
Yield
5%
5
%
Other
$
1,534

Loss Severities
51% to 100%
88
%
 
 
 
 
 
 
Commercial loans, debt securities and other
$
6,787

Discounted Cash Flow, Market Comparables
Yield
0% to 25%
5
%
Loans, notes and mortgages
450

Enterprise Value/EBITDA multiple
2x to 11x
6
x
Trading assets - Mortgages, mortgage-backed and asset-backed
4,437

Prepayment Speed
5% to 30%
20
%
Trading assets - Corporate debt
1,900

Default Rates
1% to 5%
4
%
 
 
Loss Severity
25% to 40%
35
%
Auction Rate Securities
 
Market Comparables
 
 
 
Trading assets - Municipals and money markets
$
1,295

Projected tender price / re-financing level
50% to 100%
90
%
 
 
 
 
 
 
Long-term borrowings
$
1,316

Industry Standard Derivative Pricing (1)
Equity Correlation
30% to 97%
(2) 

 
 
Long- Dated Volatilities
20% to 70%
(2) 

(1) Includes models such as Monte Carlo simulation and Black-Scholes.
(2) For further information on the ranges of inputs for equity correlation and long-dated volatilities, see the qualitative equity derivatives disclosure below.

CPR = Constant Prepayment Rate
CDR = Constant Default Rate










Quantitative Information about Level 3 Fair Value Measurements at December 31, 2012
(dollars in millions)
 
 
 
 
Financial Instrument
Fair Value
Valuation Techniques
Significant
Unobservable Inputs
Ranges of Inputs
Net Derivative Contracts
 
 
 
 
   Credit derivatives
$1,632
Discounted Cash Flow, Stochastic Recovery Correlation Model
Yield
2% to 25%
 
 
Credit spreads
58bps to 615bps
 
 
Upfront points
25 to 99 points
 
 
Spread to index
-2,080bps to 1,972bps
 
 
Credit correlation
19% to 75%
 
 
Prepayment speed (CPR)
3% to 30%
 
 
Default rates (CDR)
1% to 5%
 
 
Loss severity
25% to 40%
   Equity derivatives
$
(814
)
Industry Standard Derivative Pricing (1)
Equity Correlation
30% to 97%
 
 
Long-Dated Volatilities
20% to 70%
   Commodity derivatives
$
(5
)
Discounted Cash Flow
Natural gas forward price
$3/MMBtu to $12/MMBtu
   Interest rate derivatives
$
731

Industry Standard Derivative Pricing (1)
Correlation (IR/IR)
15% to 99%
 
 
Correlation (FX/IR)
-65% to 50%
 
 
Long-Dated Inflation Rates
2% to 3%
 
 
Long-Dated Inflation Volatilities
0% to 1%
 
 
Long-Dated Volatilities (FX)
5% to 36%
 
 
Long-Dated Swap Rates
8% to 10%
Total net derivative contracts
$
1,544

 
 
 
(1) 
Includes models such as Monte Carlo simulation, Black-Scholes and other methods that model the joint dynamics of interest, inflation and foreign exchange rates.

IR = Interest Rate
FX = Foreign Exchange
CPR = Constant Prepayment Rate
CDR = Constant Default Rate
MMBtu = Million British thermal units

In the tables above, instruments backed by residential and commercial real estate assets include RMBS, CMBS, whole loans, mortgage CDOs and net monoline exposure. Commercial loans, debt securities and other include corporate CLOs and CDOs, commercial loans and bonds, and securities backed by non-real estate assets. Structured notes primarily include equity-linked notes that are accounted for under the fair value option.

In addition to the instruments disclosed in the tables above, Merrill Lynch holds $288 million and $287 million of Investment securities non-qualifying as of March 31, 2013 and December 31, 2012, respectively, that are primarily comprised of certain direct private equity investments and private equity funds that are classified as Level 3.  Valuations of direct private equity investments are prepared internally based on the most recent portfolio company financial information. Inputs generally include market and acquisition comparables, entry level multiples, as well as other variables.  Merrill Lynch selects a valuation methodology (e.g., market comparables) for each investment and, in certain instances, multiple inputs are weighted to derive the most representative value.  Discounts are applied as appropriate to consider the lack of liquidity and marketability versus publicly traded companies.  For private equity funds, fair value is generally determined using the net asset value as provided by the individual fund's general partner.
Merrill Lynch uses multiple market approaches in valuing certain of its Level 3 financial instruments. For example, market comparables and discounted cash flows are used together. For a given product, such as corporate debt securities, market comparables may be used to estimate some of the unobservable inputs and then these inputs are incorporated into a discounted cash flow model. Therefore, the balances disclosed encompass both of these techniques.

The level of aggregation and diversity within the products disclosed in the tables above result in certain ranges of inputs being wide and unevenly distributed across asset and liability categories. Weighted averages have been provided for all ranges of inputs as of March 31, 2013. At December 31, 2012, weighted averages were provided for all ranges of inputs except for those related to long-term borrowings and derivative contracts, for which a qualitative discussion is presented below.

For credit derivatives at December 31, 2012, the range of credit spreads represented positions with varying levels of default risk to the underlying instruments. The lower end of the credit spread range typically represented shorter-dated instruments and those with better perceived credit risk. The higher end of the range comprised longer-dated instruments and those referencing debt issuances which were more likely to be impaired or non-performing. At December 31, 2012, the majority of inputs were concentrated in the lower end of the range. Similarly, the spread to index could vary significantly based on the risk of the instrument. The spread was positive for instruments that had a higher risk of default than the index (which was based on a weighted average of its components) and negative for instruments that had a lower risk of default than the index. At December 31, 2012, inputs were distributed evenly throughout the range for spread to index. In addition, for yield and credit correlation, the majority of the inputs were concentrated in the center of the range. Inputs were concentrated in the middle to lower end of the range for upfront points. The range for loss severity reflected exposures that were concentrated in the middle to upper end of the range, while the ranges for prepayment speed and default rates reflected exposures that were concentrated in the lower end of the range.

For equity derivatives at December 31, 2012, including those embedded in long-term debt, the range for equity correlation represented exposure primarily concentrated toward the upper end of the range. The range for long-dated volatilities represented exposure primarily concentrated toward the lower end of the range.

For interest rate derivatives at December 31, 2012, the diversity in the portfolio was reflected in wide ranges of inputs because the variety of currencies and tenors of the transactions required the use of numerous foreign exchange and interest rate curves. Since foreign exchange and interest rate correlations were measured between curves and across the various tenors on the same curve, the range of potential values could include both negative and positive values. For the correlation (IR/IR) range, the exposure represented the valuation of interest rate correlations on less liquid pairings and was concentrated at the upper end of the range at December 31, 2012. For the correlation (FX/IR) range, the exposure was the sensitivity to a broad mix of interest rate and foreign exchange correlations and was distributed evenly throughout the range as of December 31, 2012. For long-dated inflation rates and volatilities as well as long-dated volatilities (FX), the inputs were concentrated in the middle of the range.

Sensitivity of Fair Value Measurements to Changes in Unobservable Inputs

Loans and Securities

For instruments backed by residential real estate assets, commercial real estate assets, and commercial loans, debt securities and other, a significant increase in market yields, default rates or loss severities would result in a significantly lower fair value for long positions. Short positions would be impacted in a directionally opposite way. The impact of changes in prepayment speeds would have differing impacts depending on the seniority of the instrument and, in the case of CLOs, whether prepayments can be reinvested.

For student loan and municipal auction rate securities, a significant increase in projected tender price/refinancing levels would result in a significantly higher fair value.

Structured Notes and Derivatives

For credit derivatives, a significant increase in market yield, including spreads to indices, upfront points (i.e., a single upfront payment made by a protection buyer at inception) or credit spreads, default rates or loss severities would result in a significantly lower fair value for protection sellers and higher fair value for protection buyers. The impact of changes in prepayment speeds would have differing impacts depending on the seniority of the instrument and, in the case of CLOs, whether prepayments can be reinvested.

Structured credit derivatives, which include tranched portfolio CDS and derivatives with derivative product company ("DPC") and monoline counterparties, are impacted by credit correlation, including default and wrong way correlation. Default correlation is a parameter that describes the degree of dependence between credit default rates within a credit portfolio that underlies a credit derivative instrument. The sensitivity of this input on the fair value varies depending on the level of subordination of the tranche. For senior tranches that are net purchases of protection, a significant increase in default correlation would result in a significantly higher fair value. Net short protection positions would be impacted in a directionally opposite way. Wrong-way correlation is a parameter that describes the probability that as exposure to a counterparty increases, the credit quality of the counterparty decreases. A significantly higher degree of wrong-way correlation between a DPC counterparty and underlying derivative exposure would result in a significantly lower fair value.

For equity derivatives, equity-linked long-term debt (structured notes) and interest rate derivatives, a significant change in long-dated rates and volatilities and correlation inputs (e.g., the degree of correlation between an equity security to an index, between two different interest rates, or between interest rates and foreign exchange rates) would result in a significant impact to the fair value. However, the magnitude and direction of the impact depends on whether Merrill Lynch is long or short the exposure.

Non-recurring Fair Value
Certain assets and liabilities are measured at fair value on a non-recurring basis and are not included in the tables above. The tables below show the fair value hierarchy for assets and liabilities measured at fair value on a non-recurring basis as of March 31, 2013 and December 31, 2012.

(dollars in millions)
 
 
 
 
Non-Recurring Basis
 
Gains/(Losses)
 
Gains/(Losses)
 
as of March 31, 2013
 
Three Months Ended
 
Three Months Ended
 
 
Level 2
 
Level 3
 
Total
 
March 31, 2013
 
March 31, 2012
Assets:
 
 
 
 
 
 
 
 
 
 
Loans, notes and mortgages
 
$
—

 
$
144

 
$
144

 
$
(82
)
 
$
12

Other
 
—

 
2

 
2

 
—

 
—


(dollars in millions)
 
Non-Recurring Basis
 
as of December 31, 2012
 
 
Level 2
 
Level 3
 
Total
Assets:
 
 

 
 

 
 

Loans, notes and mortgages
 
$
1

 
$
221

 
$
222

Other
 
—

 
2

 
2

 
 
 
 
 
 
 


Loans, notes and mortgages includes held for sale loans that are carried at the lower of cost or fair value and for which the fair value was below the cost basis at March 31, 2013 and December 31, 2012. It also includes certain impaired held for investment loans where an allowance for loan losses has been calculated based upon the fair value of the loans or collateral. Level 3 assets as of March 31, 2013 and December 31, 2012 primarily relate to commercial real estate loans that are classified as held for sale where there continues to be significant illiquidity in the loan trading and securitization markets.

Fair Value Option Election
The fair value option election allows companies to irrevocably elect fair value as the initial and subsequent measurement attribute for certain financial assets and liabilities. Changes in fair value for assets and liabilities for which the election is made will be recognized in earnings as they occur. The fair value option election is permitted on an instrument by instrument basis at initial recognition of an asset or liability or upon an event that gives rise to a new basis of accounting for that instrument. As discussed above, certain of Merrill Lynch’s financial instruments are required to be accounted for at fair value under Investment Accounting and Derivatives Accounting, as well as industry level guidance. For certain financial instruments that are not accounted for at fair value under other applicable accounting guidance, the fair value option election has been made.
The following tables provide information about the line items in the Condensed Consolidated Statements of Loss where changes in fair values of assets and liabilities, for which the fair value option election has been made, are included for the three months ended March 31, 2013 and March 31, 2012.

(dollars in millions)
 
Changes in Fair Value For the Three Months Ended March 31, 2013, for Items Measured at Fair Value Pursuant to the Fair Value Option Election
 
 
Changes in Fair Value For the Three Months Ended March 31, 2012, for Items Measured at Fair Value Pursuant to the Fair Value Option Election
 
Gains
(Losses)
Principal
Transactions
 
Gains
(Losses)
Other
Revenues
 
Total
Changes
in Fair
Value
 
 
Gains
(Losses)
Principal
Transactions
 
Gains
(Losses)
Other
Revenues
 
Total
Changes
in Fair
Value
Assets:
 
 
 
 
 
 
 
 

 
 

 
 

Receivables under resale agreements
$
38

 
$
—

 
$
38

 
 
$
(34
)
 
$
—

 
$
(34
)
Investment securities
—

 
—

 
—

 
 
—

 
5

 
5

Loans
15

 
(56
)
 
(41
)
 
 
26

 
92

 
118

Other
—

 
3

 
3

 
 
 
 
 
 
 
Liabilities:
 
 
 
 
 
 
 
 
 
 
 
 
Payables under repurchase agreements
(20
)
 
—

 
(20
)
 
 
(34
)
 
—

 
(34
)
Short-term borrowings
(39
)
 
—

 
(39
)
 
 
7

 
—

 
7

Other payables — interest and other
—

 
13

 
13

 
 
—

 
49

 
49

Long-term borrowings
(932
)
 
—

 
(932
)
 
 
(2,433
)
 
—

 
(2,433
)

 
 
 
 
 
 
 
 
 
 
 
 
 
The following describes the rationale for electing to account for certain financial assets and liabilities at fair value, as well as the impact of instrument-specific credit risk on the fair value.
Resale and repurchase agreements
Merrill Lynch elected the fair value option for certain resale and repurchase agreements and, to a lesser extent, securities borrowing agreements. The fair value option election was made based on the tenor of the agreements, which reflect the magnitude of the interest rate risk. The majority of resale and repurchase agreements collateralized by U.S. Government securities was excluded from the fair value option election as these contracts are generally short-dated and therefore the interest rate risk is not considered significant. Amounts loaned under resale agreements require collateral with a market value equal to or in excess of the principal amount loaned, resulting in minimal credit risk for such transactions.
Loans and loan commitments

Merrill Lynch elected the fair value option for certain loans that are risk managed on a fair value basis. Upon the acquisition of Merrill Lynch by Bank of America, Merrill Lynch also elected the fair value option for certain mortgage, commercial, and leveraged loans and loan commitments. The changes in the fair value of loans and loan commitments, for which the fair value option was elected, that were attributable to changes in borrower-specific credit risk were not material for the three months ended March 31, 2013 and March 31, 2012.
As of March 31, 2013 and December 31, 2012, the aggregate fair value of loans for which the fair value option election has been made that were 90 days or more past due was $19 million and $115 million, respectively, and the aggregate fair value of loans that were in non-accrual status was $26 million and $25 million at March 31, 2013 and December 31, 2012, respectively. As of March 31, 2013 and December 31, 2012, the unpaid principal amount due exceeded the aggregate fair value of such loans that are 90 days or more past due and/or in non-accrual status by $49 million and $153 million, respectively.
Short-term and long-term borrowings

Merrill Lynch elected the fair value option for certain short-term and long-term borrowings that are risk managed on a fair value basis (e.g., structured notes) and/or for which hedge accounting under Derivatives Accounting had been difficult to obtain. The majority of the fair value changes on long-term borrowings are from structured notes with coupon or repayment terms that are linked to the performance of debt and equity securities, indices, currencies or commodities. Excluding gains (losses) related to changes in Merrill Lynch's credit spreads, the majority of the gains (losses) for the respective periods are offset by gains (losses) on derivatives and securities that economically hedge these borrowings and that are accounted for at fair value. The changes in the fair value of liabilities for which the fair value option election was made that were attributable to changes in Merrill Lynch's credit spreads were net losses of approximately $34.0 million and $2.1 billion for the three months ended March 31, 2013 and March 31, 2012, respectively. Changes in Merrill Lynch specific credit risk are derived by isolating fair value changes due to changes in Merrill Lynch's credit spreads as observed in the secondary cash market.

The fair value option election was also made for certain non-recourse long-term borrowings and secured borrowings issued by consolidated VIEs. The fair value of these borrowings is not materially affected by changes in Merrill Lynch's creditworthiness.

The following tables present the difference between fair values and the aggregate contractual principal amounts of receivables under resale agreements, receivables under securities borrowed transactions, loans and long-term borrowings for which the fair value option election has been made as of March 31, 2013 and December 31, 2012.

(dollars in millions)
 
 
 
 
 
 
Fair Value at
 
Principal
Amount
Due Upon
Maturity
 
 
 
March 31, 2013
 
 
Difference
Assets:
 

 
 

 
 

Receivables under resale agreements
$
89,969

 
$
89,608

 
$
361

Receivables under securities borrowed transactions
1,282

 
1,272

 
10

Loans (1)
3,108

 
3,802

 
(694
)
Liabilities:
 
 
 
 
 
Long-term borrowings (2)
33,568

 
34,023

 
(455
)
(1) 
Includes trading loans with a fair value of $742 million and margin loans with a fair value of $273 million.
(2) 
The majority of the difference between the fair value and principal amount due upon maturity at March 31, 2013 relates to the impact of changes in Merrill Lynch's credit spreads, as well as the fair value of the embedded derivative, where applicable.
(dollars in millions)
 
 
 
 
 
 
Fair Value at
 
Principal
Amount
Due Upon
Maturity
 
 
 
December 31, 2012
 
 
Difference
Assets:
 

 
 

 
 

Receivables under resale agreements
$
93,715

 
$
93,433

 
$
282

Receivables under securities borrowed transactions
961

 
892

 
69

Loans (1)
4,063

 
4,835

 
(772
)
Liabilities:
 
 
 
 
 
Long-term borrowings(2)
30,875

 
32,151

 
(1,276
)
(1) 
Includes trading loans with a fair value of $715 million and margin loans with a fair value of $271 million.
(2) 
The difference between the fair value and principal amount due upon maturity at December 31, 2012 relates to the impact of changes in Merrill Lynch's credit spreads, as well as the fair value of the embedded derivative, where applicable.