Decision-making on funding and liquidity is based on a deep understanding of the Group’s current situation (environment, strategy, balance sheet and state of liquidity), of the future liquidity needs of the various units and businesses (projection of liquidity), as well as access to and the situation of funding sources in the wholesale markets.
The objective is to ensure the Group maintains optimum levels of liquidity to cover its short and long-term needs with stable funding sources, optimising the impact of its cost on the income statement.
This requires monitoring of the structure of balance sheets, forecasting short and medium-term liquidity and establishing the basic metrics.
At the same time, various analyses of scenarios are conducted which take into account the additional needs that could arise from various extreme, unlikely but possible, events. These could affect the various items of the balance sheet and/funding sources differently (degree of renewal of wholesale funding, deposit outflows, deterioration in the value of liquid assets, etc), whether for global market reasons or specific ones of the Group.
1. Group strategy 5. Funding markets in stress conditions 2. Current situation of liquidity 3. Projection of the balance sheet and need for liquidity 4. Balance sheet in
stress conditions Analysis of
liquidity
Analysis of the balance sheet and measurement
of liquidity risk
The inputs for drawing up the Group’s various contingency plans are obtained from the results of the analysis of balance sheets, forecasts and scenarios, which, in turn, enable a whole spectrum of potential adverse circumstances to be anticipated.
All these actions are in line with the practices being fostered by the Basel Committee and the various regulators in the European Union and the European Banking Authority to strengthen the liquidity of banks. Their objective is to define a framework of principles and metrics that, in some cases, are close to being implemented and, in others, still being developed.
Greater detail on the measures, metrics and analysis used by the Group and its subsidiaries to manage and control liquidity risk is set out below:
Methodology for monitoring and controlling liquidity risk The Group’s liquidity risk metrics aim to:
• Achieve greater efficiency in measuring and controlling liquidity risk.
• Support financial management, with measures adapted to the form of managing the Group’s liquidity.
• Alignment with the regulatory requirements derived from the transposition of Basel III in the European Union (basically CRDIV in EU and others), in order to avoid conflicts between limits and facilitate management.
• Serve as an early warning system, anticipating potential risk situations by monitoring certain indicators.
• Attain the involvement of countries. The metrics are developed on the basis of common and homogeneous concepts that affect liquidity, but they require analysis and adaptation by each unit.
There are two types of basic metrics used to control liquidity risk: short term and structural. The first category basically includes the liquidity gap and the second one the balance sheet’s net structural position. As an additional element, the Group develops various stress scenarios. These three metrics are as follows:
a) Liquidity gap
The liquidity gap provides information on the potential cash inflows and outflows for a certain period of time, both contractual and estimated. They are drawn up for each of the currencies in which the Group operates.
The gap provides information on the sources and uses of funds expected in specific time periods, in relation to the total on- and off-balance sheet items. This analysis tool is obtained from the net of the structure of maturities and flows for each period established. The liquidity available is contrasted with the needs arising from maturities.
In practice, and given the different performances of a same item in the Group’s subsidiaries, there are common standards and methodologies to homogenize the building of liquidity risk profiles for each unit, so they can be presented in a comparable way to the Bank’s senior management.
As a result, and given that this analysis must be conducted at the individual level of each subsidiary for its autonomous management, a consolidated view of the liquidity gaps is of very limited use for managing and understanding liquidity risk. Of note in the various analysis made using the liquidity gap is that for wholesale funding. On the basis of this analysis a metric has been defined whose objective is to guarantee that sufficient liquid assets are maintained in order to attain a minimum liquidity horizon, under the assumption of not renewing wholesale funding at maturity.
The minimum liquidity horizons are determined in a corporate and homogeneous way for all units/countries, which must calculate their wholesale liquidity metric in the main currencies in which they operate.
Bearing in mind the market tensions in the last few years of global crisis, this wholesale liquidity gap is closely monitored in the parent bank and in the euro zone units.
At the end of 2014, all units were in a comfortable position in the horizons established for this scenario.
b) Net structural position
The objective of this metric is to determine the reasonability of the funding structure of the balance sheet. The Group’s criterion is to ensure that the structural needs (lending, fixed assets, etc) are covered by an adequate combination of wholesale sources and a stable base of retail deposits, to which is added the capital and the rest of permanent liabilities.
Each unit draws up its liquidity balance sheet in accordance with the features of their businesses and compares them with the various funding sources they have. The main factors taken into account when determining this metric are the recurrence of the businesses to be financed, the stability of funding sources and the capacity of assets to become liquid.
In practice, each subsidiary draws up its liquidity balance sheet (different from the accounting one), classifying the various asset and liability items and off-balance sheet ones on the basis of their type for the purposes of liquidity. This determines the funding structure that must be met at all times with a key premise: basic businesses must be financed with stable funds and medium- and long-term funding. All of this guarantees the Bank’s sound financial structure and the sustainability of business plans. At the end of 2014, the Group had a structural liquidity surplus of around EUR 153,000 million (15% of net liabilities as against 16% in 2013). This surplus is almost five times higher than that at the start of the crisis (EUR 33,000 million and 4% of net liabilities in December 2008), thanks to the efforts made during these years.
c) Analysis of scenarios
As an additional element to the metrics, the Group develops various stress scenarios. The main objective is to identify the critical aspects of potential crisis and define the most appropriate management measures to tackle each of these situations.
Generally speaking the units take into account three scenarios in their liquidity analysis: idiosyncratic, local systemic and global systemic. These scenarios represent the minimum standard analysis established for all the Group’s units and which are provided to senior management. Each of the units also develops ad hoc scenarios that replicate significant historic crises or specific liquidity risks of their environment.
The main features of the three basic scenarios are:
• An idiosyncratic crisis only affects the Bank but not its
environment. This is basically reflected in wholesale funds and in retail deposits, with various percentages of outflows depending on the severity defined.
Within this category a specific crisis scenario that a local unit could suffer as a result of a crisis in the parent bank (Banco Santander) is studied. This scenario was particularly relevant in 2012 because of strong tensions registered by markets on Spain and the rest of countries on the periphery of the euro zone, a situation amply overcome since then.
• A local systemic crisis is an attack by the international financial markets on the country where the unit is located. Each unit would be affected to varying degrees, depending on its relative position in the local market and the image of soundness it transmits. Among other factors which would be affected in this scenario are, for example, the wholesale funding lines from the closure of markets or the liquid assets linked to the country that would be significantly reduced.
• Global systemic crisis. In this scenario some of the factors mentioned in the scenarios above are stressed. Particular attention is paid to the most sensitive aspects from the standpoint of the unit’s liquidity risk.
Defining scenarios and calculating the metrics under each of them are directly linked to the process by the financial management area of drawing up and executing the contingency plan, which is the responsibility of the financial management area.
At the end of 2014, and in a scenario of a potential systemic crisis affecting the wholesale funding of units in Spain (following the previously mentioned 2012 scenario), Grupo Santander maintained an adequate liquidity position. The wholesale liquidity metric horizon in Spain (included within the liquidity gap measures) showed levels higher than the minimums established, during which the liquidity reserve would cover all the maturities of wholesale funding, in the event of not being renewed.
As well as these three metrics a series of internal and market variables was defined as early warning indicators of possible crises, which can also state their nature and severity. Their integration into daily liquidity management enables situations that could affect the Group’s liquidity risk to be anticipated. Although these alerts vary from country to country and from bank to bank on the basis of specific determinants, some of the parameters used are common in the Group, such as Banco Santander’s CDS level, the evolution of deposits from customers and the official interest rate trend of central banks.
8.2.3. Management adapted to business needs
As already pointed out, Grupo Santander’s liquidity management is carried out at the level of subsidiaries and/or business units in order to finance their recurring activities in appropriate maturities and prices. The main balance sheet items related to business and funding the Group’s largest business units are as follows: