RBS 2009 Annual Report Download - page 280

Notes on the accounts continued
RBS Group Annual Report and Accounts 2009278
11 Financial instruments continued
Valuation of financial instruments carried at fair value
Control environment
The Group’s control environment for the determination of the fair value
of financial instruments includes formalised protocols for the review and
validation of fair values independent from the businesses entering into
the transactions. There are specific controls to ensure consistent pricing
policies and procedures, incorporating disciplined price verification.
The Group ensures that appropriate attention is given to bespoke
transactions, structured products, illiquid products and other
instruments which are difficult to price.
A key element of the control environment is the independent price
verification (‘IPV’) process. Valuations are first performed by the
business which entered into the transaction. Such valuations may be
directly from available prices, or may be derived using a model and
variable model inputs. These valuations are reviewed, and if necessary
amended, by a team, independent of those trading the financial
instruments, in the light of available pricing evidence. IPV is performed
at a frequency to match the availability of independent data. For liquid
instruments IPV is performed daily. The minimum frequency of review in
the Group is monthly for exposures in the regulatory trading book, and
six monthly for exposures in the regulatory banking book. The IPV
control includes formalised reporting and escalation of any valuation
differences in breach of established thresholds. The Global Pricing Unit
determines IPV policy, monitors adherence to that policy, and performs
additional independent reviews on highly subjective valuation issues for
GBM and Non-Core.
Certain assets in the non-core business are comparably more difficult
and subjective to value. The valuations of these portfolios are subject to
a further level of review through an additional Non-Core valuation
committee comprising senior representatives of the trading function, risk
management and the Global Pricing Unit which meets regularly and are
responsible for monitoring, assessing and enhancing the adequacy of
the valuation techniques being adopted for these instruments.
Valuation models are subject to a review process which requires
different levels of model documentation, testing and review, depending
on the complexity of the model and the size of the Group’s exposure. A
key element of the control environment over model use in the Group is a
modelled product review committee, made up of valuations experts
from several functions within the Group. This committee sets the policy
for model documentation, testing and review, and prioritises models with
significant exposure for review by the Group’s Quantitative Research
Centre. Potential valuation uncertainty is a key input in determining
model review priorities at these meetings. The Quantative Research
Centre, which is independent of the trading businesses, assesses the
appropriateness of the application of the model to the product, the
mathematical robustness of the model, and (where appropriate),
considers alternative modelling approaches.
GBM’s senior management valuations control committee meets formally
monthly to discuss independent pricing, reserving and valuation issues
relating to both GBM and Non-Core exposures. All material methodology
changes require review and ratification by this committee. The
committee includes valuation specialists representing several
independent review functions including Market Risk, the quantitative
research centre and finance.
The Group Executive Valuation Committee discusses the issues
escalated by the modelled product review committee, GBM senior
management valuations control committee and other relevant issues.
The committee covers key material and subjective valuation issues
within the trading business. The committee will provide ratification to the
appropriateness of areas with very high residual valuation uncertainty.
Committee membership includes the Group Finance Director, the Group
Chief Accountant, Head of Group Market Risk, GBM CFO and Non-
Core CFO, and representation from front office trading and Finance.