6.4.1. credit risk by activity in the financial markets This section covers credit risk generated in treasury activities with clients, mainly with credit institutions. This is developed through financing products in the money market with different financial institutions, as well as derivatives to provide service to the Group’s clients.
Risk is measured with MtM methodology (replacement value of derivatives or available in committed credit lines) plus a potential future exposure (add on). In addition, the capital at risk or unexpected loss is also calculated (i.e. the loss which, once the expected loss is subtracted, constitutes the economic capital, net of guarantees and recovery).
After markets close, exposures are re-calculated by adjusting all operations to their new time frame, adjusting the
potential future exposure and applying mitigation measures (netting, collateral, etc), so that exposure can be controlled directly against the limits approved by senior management.
Risk control is done through an integrated system and in real time, enabling the exposure limit available with any counterparty, product and maturity and in any Group unit to be known at each moment.
Exposure in derivatives
The total exposure in terms of positive market value (management criteria) after applying netting and collateral agreements by derivative activities was EuR 10,997 million (EuR 48,451 million in net exposure terms) and was
concentrated in high quality counterparties (75.1% of the risk with counterparties has a rating equal to or more than A-).
Around 93% of the exposure with notional derivatives was with financial institutions and central counterparty institutions (CCP in English) with whom we operate almost entirely under netting and collateral agreements. The rest of operations with customers who are not financial institutions are, in general, operations whose purpose is hedging.
Occasionally, operations are conducted for purposes other than hedging, always with specialised clients.
DISTRIBUTION OF RISK IN OTC DERIVATIVES BY TYPE OF COUNTERPARTY
In nominal terms*
*Ratings based on equivalences between internal ratings and ratings of agencies.
OTC DERIVATIVES: DISTRIBUTION BY NOMINAL RISK AND MARKET VALUE*
Million euros
2013 2012 2011
Market value Market value Market value
Nominal Positive Negative Nominal Positive Negative Nominal Positive Negative
CDS protection acquired** 45,968 86 887 52,332 476 680 61,981 2,082 385
total exchange rate derivatives 559,233 12,940 10,380 594,358 11,231 11,388 579,072 13,523 12,496
Asset swaps 22,594 901 1,634 22,322 870 1,623 20,586 867 1,440
Call money swaps 235,981 698 608 215,404 673 1,011 237,096 584 763
Interest-rate structures 37,398 1,997 2,553 6,640 2,180 2,339 8,087 1,981 2,260
Forward interest rates- FRAs 117,011 16 18 304,041 41 49 184,242 77 114
IRS 2,711,552 58,164 54,774 2,038,235 81,091 77,005 2,153,153 72,024 68,345
Other interest-rate derivatives 230,735 3,870 3,456 251,526 4,255 3,726 259,809 3,507 12,269 total interest-rate derivatives 3,355,272 65,648 63,043 2,838,168 89,109 85,752 2,862,973 79,040 85,190
Commodities 1,363 265 78 1,871 308 104 3,479 410 192
total commodity derivatives 1,363 265 78 1,871 308 104 3,479 410 192
total gross derivatives 4,077,320 82,568 77,183 3,607,996 104,295 100,097 3,636,999 97,476 102,480
* Figures on the basis of management criteria. Excluding organised markets.
** Credit derivatives acquired including hedging of loans.
OTC DERIVATIVES: EXPOSURE IN TERMS OF MARKET VALUE AND EQUIVALENT CREDIT RISK INCLUDING MITIGATION EFFECT1 Million euros
2013 2012 2011
Market value netting effect2 18,919 22,643 21,549
Collateral received3 7,922 10,555 11,508
Netting and collateral market value effect4 10,997 12,088 10,041
Net ECR5 48,451 52,184 53,358
1. Figures with management criteria. Excluding organised markets.
2. Market value used for including the effects of mitigant agreements in order to calculate the exposure by counterparty risk.
3. Collateral received corresponding to derivatives operations.
4. Taking into account the mitigation of the netting agreements and after discounting the collateral received.
5. ECR (equivalent credit risk: net value of replacement plus the maximum potential value. Including mitigants).
NOTIONAL OTC DERIVATIVE PRODUCTS BY MATURITY*
Million euros
1 year** 1-5 years 5-10 years over 10 years totAl
CDS protection acquired*** 45,655 109 6 198 45,968
CDS protection sold 38,645 0 0 0 38,645
total credit derivatives 84,299 109 6 198 84,612
Equity forwards 2,125 0 0 0 2,125
Equity options 52,175 22 6,646 120 58,964
Equity spot 9,878 10 152 0 10,041
Equity swaps 685 0 0 0 685
total equity derivatives 64,863 33 6,798 120 71,814
Fixed-income forwards 2,438 0 622 29 3,089
Fixed-income options 0 0 0 0 0
Fixed-income spot 1,906 0 0 0 1,906
total fixed income derivatives 4,344 0 622 29 4,995
Forward and spot rates 98,633 83 2,499 1 101,216
Exchange-rate options 44,879 0 1,411 0 46,290
Other exchange rate derivatives 108 0 17 0 125
Exchange-rate swaps 377,666 8,412 21,378 4,147 411,603
total exchange rate derivatives 521,285 8,495 25,305 4,149 559,233
Asset swaps 21,202 633 193 566 22,594
Call money swaps 233,495 108 2,250 129 235,981
Interest-rate structures 34,077 874 566 1,882 37,398
Forward interest rates - FRAs 117,011 0 0 0 117,011
IRS 2,542,301 33,360 88,225 47,666 2,711,552
Other interest-rate derivatives 210,872 6,340 11,371 2,152 230,735
total interest-rate derivatives 3,158,958 41,314 102,605 52,395 3,355,272
Commodities 1,259 0 105 0 1,363
total commodity derivatives 1,259 0 105 0 1,363
total gross derivatives 3,835,008 49,950 135,441 56,891 4,077,290
* Figures on the basis of management criteria. Excluding organised markets.
** In operations under collateral agreement the period of the collateral replacement is considered as maturity.
*** Credit derivatives acquired including hedging of loans.
The distribution of risk in notional derivatives by type of counterparty was 61% with banks and 32% with clearing
houses. Companies
2%
IFI61%
Corporate 3%
Sovereign 2%
32%CCP
DISTRIBUTION OF RISK IN OTC DERIVATIVES BY TYPE OF COUNTERPARTY
As regards the geographic distribution, 43% of notional derivatives is with uK counterparties (whose weight within the total is due to the increasing use of clearing houses), 17% with uS counterparties, 11% with Spanish counterparties, 8% with French ones and among the rest of note is 16% with other European countries and 3% with Latin America.
GEOGRAPHIC DISTRIBUTION OF RISK IN DERIVATIVES
uK43%
otc derivatives, organised markets and clearing houses
The Group’s policies seek to anticipate wherever possible the implementation of measures resulting from new regulations regarding operations of OTC derivatives, both if settled by clearing house or if remaining bilateral. Since 2011, there has been a gradual standardisation of OTC operations in order to conduct clearing and settlement via houses of all new trading operations required by the new rules, as well as foster internal use of the electronic execution systems.
As regards the operations of organised markets, until 2013 credit risk was not considered as incurred for this type of operation. This risk is eliminated by the organised markets acting as counterparty in the operations, given that they have mechanisms that enable them to protect their financial position via systems of deposits and improved guarantees and processes that ensure the liquidity and transparency of transactions. As of 2014, with the entry into force of the new CRD IV (Capital Requirements Directive) and the CRR (Capital Requirements Regulations), which transpose the Basel III principles, credit risk is considered for this type of operation.
The following tables show the relative share in total derivatives of new operations settled by clearing house at the end of 2013 and the significant evolution of operations settled by clearing house since 2011.
RISK DISTRIBUTION WITH OTC DERIVATIVES ON THE BASIS OF THE CHANNEL OF CLEARING AND TYPE OF DERIVATIVE*
Nominal in million euros
Bilateral ccP**
Interest-rate derivatives 2,064,776 61.5% 1,290,496 38.5% 3,355,272 Commodities
derivatives 1,363 100.0% - 0.0% 1,363
total 2,785,117 68.3% 1,292,173 31.7% 4,077,290
* Figures based on management criteria. Excluding organised markets.
** Central counterparty institutions (CCPs).
RISK DISTRIBUTION ON THE BASIS OF SETTLEMENT IN CCPS AND BY TYPE OF DERIVATIVE AND EVOLUTION*
Gross exposure. Million euros
2013 2012 2011
Credit derivatives 949 - -
Equity derivatives 111 138 211
Fixed-income derivatives 1 33 5
Exchange-rate derivatives 616 988 425
Interest-rate derivatives 1,290,496 669,750 420,501
Commodities derivatives - - -
total 1,292,173 670,908 421,143
* Data on the basis of management criteria. Excluding organised markets.
The Group actively manages operations not settled by clearing house and seeks to optimise their volume, given the requirements of spreads and capital that the new regulations impose on them.
In general, the operations with financial institutions are done under netting and collateral agreements, and a continued effort is being made to ensure that the rest of operations are covered under this type of agreement.
Generally, the collateral agreements that the Group signs are bilateral ones with some exceptions mainly with multilateral institutions and securitisation funds.
The collateral received under the different types of collateral (CSA, OSLA, ISMA, GMRA, etc.) signed by the Group amounted to EuR 9,451 million (of which EuR 7,922 million corresponded to collateral received by derivatives), mostly effective (96.9%), and the rest of the collateral types are subject to strict policies of quality as regards the type of issuer and their rating, debt seniority and haircuts applied.
The chart below shows the geographic distribution:
GEOGRAPHIC DISTRIBUTION OF COLLATERAL RECEIVED
uK37%
Spain 54%
Chile 2% Brazil 1%
Mexico 4% Rest 2%
off-balance sheet credit risk
The off-balance sheet risk corresponding to funding and guarantee commitments with wholesale clients amounted to EuR 68,459 million and with the following distribution by products:
OFF-BALANCE SHEET EXPOSURE Million euros Financial and commercial
guarantees 2,419 3,193 824 843 7,279
Foreign trade** 440 435 60 99 1,035
total 15,804 24,646 20,724 7,285 68,459
* Mainly including credit lines committed bilaterally and syndicated.
** Mainly including stand-by letters of credit.
Activity in credit derivatives
Grupo Santander uses credit derivatives to cover loans, customer business in financial markets and within trading operations. The volume of this activity is small compared to that of our peers and, moreover, is subject to a solid environment of internal controls and minimising operational risk.
The risk of these activities is controlled via a broad series of limits such as VaR, nominal by rating, sensitivity to the spread by rating and name, sensitivity to the rate of recovery and to correlation. Jump-to-default limits are also set by individual name, geographic area, sector and liquidity.
In notional terms, the CDS position incorporates EuR 41,770 million of acquired protection9 and EuR 38,645 million of sold protection.
At 31 December 2013, for the Group’s trading activity, the sensitivity of lending to increases in spreads of one basis point was minus EuR 0.5 million, higher than 2012, and the average VaR was EuR 2.1 million, lower than in 2012 and
2011 (average VaR of EuR 2.9 million and EuR 10.6 million, respectively).
6.4.2 Risk of concentration
Control of risk concentration is a vital part of management.
The Group continuously tracks the degree of concentration of its credit risk portfolios using various criteria: geographic areas and countries, economic sectors, products and groups of clients.
The board’s risk committee establishes the policies and reviews the appropriate exposure limits for appropriate management of the degree of concentration of credit risk portfolios10.
In geographic terms, credit risk with customers is
diversified in the main markets in which the Group operates, as shown in the chart below:
Spain 26%
CREDIT RISK WITH CUSTOMERS
% of operating areas. December 2013
Some 57% of the Group’s credit risk corresponds to individual customers, who, due to their inherent nature, are highly diversified. In addition, the portfolio is also well distributed by sectors, with no significant concentrations in specific sectors. The following chart shows the distribution at the end of the year:
Transport and communications 3%
Other business services 3%
Hotel & food service 1%
Real estate 8%
Commerce 5%
Construction and civil engineering 5%
Food, beverages and tobacco 2%
Public admin. except central gov. 2%
Other manufacturing industries 2%
Prod. & distribution of elec., gas & water 3%
Other <1%
4%
Individuals 57%
RISK DIVERSIFICATION BY ECONOMIC SECTOR
9. This figure excludes around EuR 3,200 million nominal of CDS which cover loans that for accounting purposes are recorded as financial guarantees instead of credit derivatives as their change in value has no impact on resilts or reserves in order to avoid accounting asymmetry.
10. For more detail, see “Supplementary quantitative metrics of risk appetite of concentration” in section 2. “Corporate management principles, control and risk appetite.”