Ford 2002 Annual Report Download - page 59

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QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
FORD CREDIT MARKET RISKS
OVERVIEW
Ford Credit is exposed to risks in the normal course of its business activities. In addition to counterparty risk discussed
above, Ford Credit is subject to the following additional types of risks that it seeks to identify, assess, monitor and manage,
in accordance with defined policies and procedures:
•Market risk—the possibility that changes in future market interest and currency exchange rates or prices will have an
adverse impact on operating results.
•Credit risk—the possibility of loss from a customer’s failure to make payments according to contract terms.
•Residual risk —the possibility that the actual proceeds received by Ford Credit upon the sale of returned lease vehicles
at lease termination will be lower than its internal forecast of residual values.
•Liquidity risk —the possibility of being unable to meet all current and future obligations in a timely manner.
Each form of risk is uniquely managed in the context of its contribution to Ford Credit’s overall global risk. Business decisions
are evaluated on a risk-adjusted basis and products are priced consistent with these risks. Credit and residual risks are
discussed above under the caption “Critical Accounting Estimates” and liquidity risk is discussed above under the caption
“Liquidity and Capital Resources —Financial Services Sector —Ford Credit”in the “Management’s Discussion and Analysis
of Financial Condition and Results of Operations.” The following discusses Ford Credit’s market risks:
Foreign Currency Risk. To meet funding objectives, Ford Credit issues debt or, for its international affiliates, draws on local
credit lines in a variety of currencies. Ford Credit faces exposure to currency exchange rates if a mismatch exists between the
currency of its receivables and the currency of the debt funding those receivables. When possible, receivables are funded with
debt in the same currency, minimizing exposure to exchange rate movements. When a different currency is used, Ford Credit
seeks to minimize the impact of currency exchange rates on operating results by executing foreign currency derivatives. These
derivatives convert substantially all of its foreign currency debt obligations to the local country currency of the receivables.
As a result, Ford Credit’s market risk exposure relating to currency exchange rates is believed to be immaterial.
Interest Rate Risk. Interest rate risk is the primary market risk to which Ford Credit is exposed and consists principally of
“re-pricing risk” or differences in the re-pricing characteristics of assets and liabilities. An instrument’s re-pricing period is a
term used by financial institutions to describe how an interest rate-sensitive instrument responds to changes in interest rates.
It refers to the time it takes an instrument’s interest rate to reflect a change in market interest rates. For fixed-rate instruments,
the re-pricing period is equal to the maturity for repayment of the instrument’s principal because, with a fixed interest rate, the
principal is considered to re-price only when re-invested in a new instrument. For a floating-rate instrument, the re-pricing period
is the period of time before the interest rate adjusts to the market rate. For instance, a floating-rate loan whose interest rate is
reset to a market index annually on December 31st would have a re-pricing period of one year on January 1st, regardless of
the instrument’s maturity.
Ford Credit’s receivables consist primarily of fixed-rate retail installment sale and lease contracts and floating-rate wholesale
receivables. Fixed-rate retail installment sale and lease contracts are originated principally with maturities ranging between
two and six years and generally require customers to make equal monthly payments over the life of the contract. Ford Credit’s
funding sources consist primarily of short and long-term unsecured debt and sales of receivables in securitizations. In the case
of unsecured term debt, and in an effort to have funds available throughout business cycles, Ford Credit often borrows longer-
term, with five to ten year maturities. These debt instruments are principally fixed-rate and require fixed and equal interest
payments over the life of the instrument and a single principal payment at maturity.
Ford Credit is exposed to interest rate risk to the extent that a difference exists between the re-pricing profile of its assets
and debt. Specifically, without derivatives, Ford Credit’s assets would re-price more quickly than its debt.
Ford Credit’s interest rate risk management objective is to maximize its financing margin while limiting fluctuations caused by
changes in interest rates. Ford Credit achieves this objective by setting an established risk tolerance range and staying within
this tolerance range through an interest rate risk management program that includes entering into derivatives commonly known
as interest rate swaps.