RBS 2008 Annual Report Download - page 125

Business review continued
RBS Group Annual Report and Accounts 2008124
Asset backed securities (ABS) are securities that represent an interest
in an underlying pool of referenced assets. The referenced pool can
comprise any assets which attract a set of associated cash flows but
are commonly pools of residential or commercial mortgages and, in the
case of Collateralised Debt Obligations (CDOs), the referenced pool
may be ABS or other classes of assets. The process by which the risks
and rewards of the pool are passed on to investors via the issuance of
securities with varying seniority is commonly referred to as
securitisation.
During 2008, as the problems in the sub-prime sector spread to other
asset classes on a global basis and credit spreads widened due to
concerns over creditworthiness of underlying assets, securitisation
volumes continued to be thin. Over the preceding years GBM had
established itself as an active arranger of third-party securitisations and
a secondary dealer in these securities, and GBM had therefore
accumulated assets that became difficult to sell given market
conditions.
The Group has exposures to ABS which are predominantly debt
securities but can be held in derivative form. These positions had been
acquired primarily through the Group’s activities in the US leveraged
finance market which were expanded during 2007. These include
residential mortgage backed securities (‘RMBS’), commercial mortgage
backed securities (‘CMBS’), ABS CDOs and other ABS. In many cases
the risk on these assets is hedged via credit derivative protection
purchased over the specific asset or relevant ABS indices. The
counterparty to some of these hedge transactions are monoline
insurers (see Monoline insurers on page 135).
The net exposure of the Group’s holdings of ABS increased from
£86.3 billion at 31 December 2007 to £91.9 billion by 31 December
2008, where underlying reductions have been more than offset by the
effect of exchange rates. The net exposure incorporates hedge
protection but excludes counterparty credit valuation adjustments. All
hedge protection referred to in the credit market and related exposures
section relates to economic hedges that do not qualify for hedge
accounting.
Through a sustained de-risking exercise the Group made reductions to
the overall risk through a combination of direct asset sales and
switching to lower risk assets through trading activities. As a large
proportion of the ABS are denominated in US dollars, these reductions
in exposure were partially offset due to the movement in the exchange
rate against sterling.
The majority of the Group’s RMBS portfolio at 31 December 2008, in
terms of net exposure, was AAA rated guaranteed or effectively
guaranteed securities of £51.1 billion, comprising:
•£33.5 billion of US agency securities
•£7.6 billion of Dutch government guaranteed RMBS
•£10.0 billion of European mortgage covered bonds issued by
financial institutions