Market risk management

 

This section describes the market risks that are inherent in Treasury books (see the first table of this Risk Management section) for which economic capital is calculated based on a market risk treatment. The predominant market risk drivers within NIBC are interest rate risk and credit spread risk. For both market risk drivers, de-risking was the key-word in 2008 and policy and trading changed accordingly. Currency risk at NIBC is minimal, since all activities in foreign currency are either funded in the same currency or hedged via cross-currency swaps.

 

 

Interest rate and credit spread risk parameters

NIBC’s risk measurement system calculates on a daily basis interest and credit Basis Point Value (BPV), interest Value at Risk (VaR), credit spread VaR and total VaR for individual portfolios, as well as on aggregate levels. Interest rate and credit spread BPV measure the sensitivity of the market value for a change of one basis point in each time bucket of the interest rate and credit spread, respectively. The interest VaR, credit spread VaR and total VaR measure the threshold value, which daily mark-to-market losses with a confidence level of 99% will not exceed, based upon 4 years of historical data for changes in interest rates, credit spreads and both simultaneously. Limits are set on all the indicators (BPV and VaR, interest, credit and total) and on various portfolio, aggregated department, and operating segment levels. A more defined limit framework within several portfolios is in place, consisting of possible limits per currency (interest and credit BPV), per group of securities in a specific industry segment, or per group of securities with similar maturities.

 

To complement the risk management framework, NIBC has implemented a wide set of scenarios based on historical events and possible future scenarios, including scenarios intended as stress testing and vulnerability identification.

 

Total VaR forms the basis for economic capital calculations for a significant part of the portfolios. Within those calculations, the confidence level is scaled to 99.9%. A broader insight into economic capital methodologies is given into the section Economic Capital, within this Risk Management section.

 

 

Interest rate risk

Interest rate risk within NIBC is predominantly present in the Trading portfolio and in the Mismatch portfolio. During 2007 and 2008, various portfolios that had a regulatory market risk treatment were closed. In this section, all books that had a regulatory market risk treatment are referenced as the Trading portfolio. Although the interest BPV and the interest VaR are higher for both the Trading and the Mismatch portfolios at year-end 2008 than at year-end 2007, during the year the BPV and the VaR were, on average, substantially lower.

 

Interest rate risk in the Trading portfolio

From the graph that follows, it can be clearly observed that the VaR was substantially lower during 2008 compared to 2007.

 

At the end of 2008, this portfolio consisted mainly of interest rate-driven exposures. Activities comprise short-term (up to 2 years) interest position taking, money market and bond futures trading and swap spread position taking. The interest rate spread risk between positions in swaps and bond futures is also taken into account in the VaR. The portfolio is also used for facilitating derivative transactions with corporate clients.

 

 

Trading Portfolio 2008-2007

 

 

Interest rate risk in the Mismatch portfolio

NIBC concentrates the strategic interest rate risk position of the bank in the Mismatch book. It exclusively contains swap positions, with which a view on future interest rate developments is taken. From the figures in note 57 to the Financial Statements, it can be observed that the average risk contained in this portfolio during 2008 was significantly below the risk taken in 2007.

 

Interest rate risk in other portfolios

Apart from the Trading portfolio and the Mismatch portfolio, interest rate risk is also contained in the following portfolios:

  • Debt investments portfolio;
  • Residential mortgage portfolio; and
  • Residual interest rate risk portfolio.

 

The interest rate risk in these portfolios is significantly below the risk contained in the Mismatch portfolio, as it is the policy of NIBC to hedge the interest rate risk in these portfolios. Average VaR figures for these portfolios can be found in note 57 to the Consolidated Financial Statements.

 

 

Credit spread risk

Within Treasury, credit spread risk is mainly concentrated in the Debt Investments portfolio, particularly in the Structured Credits EU portfolio. Although the de-risking of NIBC’s credit portfolios began in the second half of 2007, credit spread risk was still a very important risk factor within NIBC’s portfolios at year-end 2007. In 2008, de-risking of credit portfolios continued. These de-risking activities, together with higher credit spread levels, have significantly decreased sensitivity to credit spread changes.

 

However, over the course of 2008, a dramatic deterioration in global markets unfolded, increasing credit spreads to levels that had never been observed before. At the same time, liquidity became extremely scarce, especially for structured credits. The extreme increase in the volatility of credit spreads increased the credit VaR despite the lower credit spread sensitivity.

 

The tables that follow present an overview of the key statistics for the Structured Credits EU portfolio as at 31 December 2008 and 31 December 2007.

 

 

Key risk statistics Structured Credits EU portfolio, 2008

in EUR thousands

  

Interest rate

  

Credit spread

  

Total VaR

BPV

VaR

  

BPV

VaR

  
                 

High

  

57

744

  

(177)

6,847

  

7,221

Average

  

28

370

  

(247)

4,645

  

4,814

Low

  

7

180

  

(295)

2,319

  

2,400
                 

Year-end 2008

  

54

706

  

(177)

5,914

  

6,288

 

 

Key risk statistics Structured Credits EU portfolio, 2007

in EUR thousands

  

Interest rate

  

Credit spread

  

Total VaR

BPV

VaR

  

BPV

VaR

  
                 

High

  

11

204

  

(271)

2,700

  

2,749

Average

  

(12)

109

  

(502)

1,231

  

1,246

Low

  

(31)

64

  

(746)

291

  

293
                 

Year-end 2007

  

7

198

  

(271)

2,363

  

2,446

 

 

The following graph shows the evolution of Credit VaR, Interest VaR and Total VaR between 1 January 2007 and 31 December 2008.

 

 

Structured Credits EU 2008

 

 

Currency risk

Apart from some investments by NIBC in funds managed by Investment Management, all of NIBC’s positions in foreign currencies, including those of our subsidiaries, are hedged by either funding these investments in the appropriate foreign currency or by hedging the exposures using cross-currency swaps or foreign-exchange contracts. As a result of this policy, NIBC does not actively maintain open currency positions other than translation exposures arising from future income in foreign currencies. The Finance department determines on a monthly basis the bank’s currency positions and reports to Risk Management. When currency positions exceed NIBC’s small facilitating foreign currency exposure limits for that currency, the bank reduces its positions by FX spot or FX forward transactions. The total foreign currency position, by nominal amount, is generally under EUR 25 million, in accordance with historical figures over the last few years.