RBS 2013 Annual Report Download - page 345
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Business review Risk and balance sheet management
343
Risk management*
Risk appetite setting
Country risk appetite was re-set for all countries based on the enhanced
country risk appetite framework, introduced in late 2012. This framework
has “top-down” and “bottom-up” components.
The “top-down” component is guided by the Group’s global risk appetite;
each country’s internal sovereign rating and its strategic importance to
the Group; the composition of the Group’s portfolio, as defined by tenors
and clients; the funding profile and an assessment of the potential for
losses arising from possible key country risk events. This component
provides a clear structure for the consideration of downside scenarios,
the identification of countries that pose material concentration risks to the
Group, as well as possible management actions.
“Bottom-up” analysis includes risk/return performance together with
reputational and regulatory risk.
Countries Watchlisted Amber (refer to Risk monitoring, reporting and
control below) are monitored closely. Appetite for countries Watchlisted
Red is limited to short-term business in areas such as trade finance and
derivatives, unless the country is deemed a strategic priority country.
The actual country limits and medium-term sub-limits, with allocations to
each division, are set by the GCRC (or the ERF above certain benchmark
levels). The divisions manage their exposures within their country limit
allocations. Divisions may agree re-allocations between themselves, and
may further assign sub-allocations to business units or product groups in
the division.
Country limits are set for almost all countries. The UK (and related
European special territories of Guernsey, Jersey, the Isle of Man and
Gibraltar) is an exception, given its home country status. The US is the
other exception because of the specific local risk management structure,
the size of the local portfolio and corresponding role in Group-wide risk
management, together with the country's strong ratings.
Risk monitoring, reporting and control
GCoR monitors and reports on Group-level exposures to all countries,
and follows up with the divisions in the event of Group-level or divisional
limit excesses. GCoR has delegated authority up to specified levels to
decide on country limit increases and any such decision must be reported
to the GCRC. Persistent excesses are escalated to the GCRC.
A country risk Watchlist process identifies emerging issues and facilitates
the development of mitigation strategies. Coverage of the country
Watchlist process was extended in 2013 to include all countries to which
the Group has exposure.
A monthly report that summarises and discusses the Group’s key country
risks and trends is produced for the Group Board.
*unaudited
Detailed portfolio reviews are conducted to ensure that country portfolio
compositions remain aligned with the Group’s country risk appetite, in
light of economic and political developments.
Changes in sovereign ratings or country Watchlist status trigger review of
appetite and are referred to GCRC for discussion.
Risk measurement*
In this section, country exposure includes wholesale and retail on-
balance sheet exposure (drawn amounts under lending facilities, mark-to-
market derivatives positions and issuer-risk debt securities positions in
the banking book and trading book) together with off-balance sheet
exposure (contingent obligations and undrawn commitments).
The scope of this country exposure concept is broader than the scope of
the credit risk assets concept used in the Credit risk section, as the latter
does not include debt securities or securities financing transactions.
The Group also estimates its funding mismatches at risk of
redenomination in vulnerable eurozone countries. These mismatches are
estimated in terms of potential for additional loss rather than amounts
owed and are thus determined starting from the balance sheet exposure
as defined on page 344 and excluding relevant offsetting positions. The
latter include exposures at low risk of redenomination, as identified
through consideration of the relevant documentation, particularly the
currency of exposure, governing law, court of jurisdiction, precise
definition of the contract currency (for euro facilities), and location of
payment. The Group also deducts offsets for provisions taken and
liabilities that would be expected to re-denominate at the same time.
Risk mitigation*
Part of the Group’s exposure is mitigated by guarantors or insurers
(including export credit agencies), credit default swap (CDS) protection
providers, or cash or non-cash collateral (such as commercial or
residential real estate) in third countries, which will not be directly affected
by a country event in the obligor’s country. For further details on credit
mitigation instruments, refer to the Credit risk section.
CDS contracts are used by the Group to hedge either entire portfolios or
specific individual exposures. These transactions are subject to regular
margining, which usually takes the form of cash collateral. For European
peripheral sovereigns, credit protection is purchased from a number of
major European banks, mostly outside the country of the reference entity.
In a few cases where protection was bought from banks in the country of
the reference entity, giving rise to wrong-way risk, this risk is mitigated
through specific collateralisation and monitored weekly.