Risk Management

During 2007 a fundamental problem in the US mortgage market was uncovered, particularly in the sub-prime segment, inflicting losses on investors in mortgage backed securities based on sub-prime loans. Since many of these securities had been repackaged into more complex structured credit products, the losses spread to a much wider circle of investors. The result was a loss of confidence in the entire class of asset backed securities, followed by a loss of confidence in any fund or institution known or suspected to have exposure to them.

 

Financial institutions struggled to fund themselves in the wholesale markets and large mark-to-market losses forced them to replenish their capital. In autumn 2008, some institutions had such acute liquidity shortages and capital needs that a number of them were recapitalised by their governments, partially or fully nationalised or, in exceptional cases, allowed to fail.

 

The impact of the crisis has far outgrown the fundamental problem of sub-prime mortgages in the US. Other weaknesses in the financial system amplified the problem, such as excessively complex structured credit, overleveraging of financial institutions, a drive to bring too much exposure off the balance sheet, excessive concentrations of credit and market risk in certain institutions, too little attention to liquidity risk in the wholesale markets, and dependency on credit ratings as a substitute for proper analysis.

 

The result has been a paralysed banking system and, consequently, a corporate economy starved of financing possibilities.

 

NIBC was significantly affected by the financial crisis from its start in spring 2007, and Risk Management was a major focus throughout 2008.

 

The emerging losses on NIBC’s US residential and commercial real estate securities portfolios became visible earlier for us than for almost any other institution, because much of our balance sheet is accounted on a fair-value basis. This led us to take early action in our Risk Management activities, with considerable de-risking of our balance sheet.

 

Since the spring of 2007, our exposure to market risks has been significantly reduced:

  • NIBC disposed of its US residential securities portfolio back in August 2007;
  • NIBC considerably reduced its US commercial real estate portfolio in 2007 and transferred it to NIBC Holding. Early in 2008, the US commercial real estate portfolio was further marked down to a very conservative level; and
  • Other non-client related portfolios of securities held by the bank were also drastically reduced and marked down. NIBC has almost no proprietary trading activities anymore.

 

While exposure to market risk has been significantly reduced, market volatility has very much increased. In the bank, market risk continued to receive the undiminished attention of the Risk Management group. A new CRO was appointed in February 2008, and management and staffing of the Asset & Liability Management and Market Risk departments were strengthened. More background on these disciplines is given in the respective sections below.

 

The credit risk profile of the corporate loan book was somewhat reduced and the size of the mortgage portfolio remained stable. Exposure in the equity/mezzanine book grew. Overall, the appetite for these risks, which has always been conservative within NIBC, was further scaled back in anticipation of a severe economic recession.

 

A major focus of the Risk Management group is controlling NIBC’s liquidity. The long-term funding from the wholesale market, which the bank used to attract, dried up due to the financial crisis. In response, we put in place a closely controlled liquidity plan very early on. This highly detailed planning and control process was supported by the fact that most of NIBC’s cash flows are fully predictable. Historically, the bank has been funded by its own equity and long-term bonds. In 2008, the main developments in this area were:

  • NIBC Holding raised EUR 400 million cash equity from its shareholders in the first quarter of 2008;
  • NIBC successfully introduced NIBC Direct, its online retail savings programme, which reached the EUR 1 billion mark at year-end;
  • EUR 1.4 billion was issued under the Dutch State’s Credit Guarantee Scheme; and
  • Collateralised funding was raised via a covered bond programme set up in May 2008.

 

The liquidity planning process is back-tested quarterly. More specific information is given in the relevant section that follows.

 

As of 1 January 2008, NIBC received approval from the Dutch Central Bank (DNB) to use the Advanced Internal Ratings Based (AIRB) approach for calculating solvency requirements.

 

Notes 56, 57, 58 and 59 to the Consolidated Financial Statements contain more detailed information on Risk Management.