Bank of Montreal 1997 Annual Report Download - page 49

Download and view the complete annual report

Please find page 49 of the 1997 Bank of Montreal annual report below. You can navigate through the pages in the report by either clicking on the pages listed below, or by using the keyword search tool below to find specific information within the annual report.

Page out of 104

  • 1
  • 2
  • 3
  • 4
  • 5
  • 6
  • 7
  • 8
  • 9
  • 10
  • 11
  • 12
  • 13
  • 14
  • 15
  • 16
  • 17
  • 18
  • 19
  • 20
  • 21
  • 22
  • 23
  • 24
  • 25
  • 26
  • 27
  • 28
  • 29
  • 30
  • 31
  • 32
  • 33
  • 34
  • 35
  • 36
  • 37
  • 38
  • 39
  • 40
  • 41
  • 42
  • 43
  • 44
  • 45
  • 46
  • 47
  • 48
  • 49
  • 50
  • 51
  • 52
  • 53
  • 54
  • 55
  • 56
  • 57
  • 58
  • 59
  • 60
  • 61
  • 62
  • 63
  • 64
  • 65
  • 66
  • 67
  • 68
  • 69
  • 70
  • 71
  • 72
  • 73
  • 74
  • 75
  • 76
  • 77
  • 78
  • 79
  • 80
  • 81
  • 82
  • 83
  • 84
  • 85
  • 86
  • 87
  • 88
  • 89
  • 90
  • 91
  • 92
  • 93
  • 94
  • 95
  • 96
  • 97
  • 98
  • 99
  • 100
  • 101
  • 102
  • 103
  • 104

Bank of Montreal 180th Annual Report 1997 43
Risk Measurement
Credit Risk
The measurement of credit risk is defined in the Asset Quality section on page 45. The primary measures for credit risk
include the provisioning ratio and gross impaired loans as a percentage of equity plus the allowance for credit losses.
A secondary measure, the coverage ratio, indicates the adequacy of the allowance. Off-balance sheet credit risks are included
in credit risk management processes and measurement.
Position Risk
We use a variety of techniques to monitor, manage and control interest rate, foreign exchange, commodity and equity risk
including gap reporting, stress testing, simulation and sensitivity analysis. Our primary measures for controlling these
risks are “earnings at risk” and “mark-to-market risk”
sensitivity analysis. These risk measurements include the
impact of changes in market rates on all our portfolios,
including the impact of embedded options, minimum
rates on deposits and trading positions. They do not take
into account actions we could take to reduce risk or actions
c
ustomers might take in response to changing rates.
“Earnings at risk” represents the 12-month impact on
net income, and “mark-to-market risk” represents the change in value of our assets and liabilities from adverse changes
in market rates over the period that would be required to eliminate open positions. Over 83% of earnings at risk and 95%
of mark-to-market risk relates to changes in interest rates. The calculation assumes different holding periods for individual
portfolios because the period of time needed to eliminate an open position is different for each of our portfolios. Addi-
tionally, adverse changes in rates are evaluated on an individual portfolio basis since we could be vulnerable to rising rates
in one portfolio and falling rates in another portfolio. The risk calculation does not take into account the effects of corre-
lation. Other key assumptions are consistent with the assumptions disclosed for the gap position in Table 7 on page 56 of
the Annual Report.
Our model of earnings at risk and mark-to-market risk is based on a statistical analysis of historical data on an individual
portfolio basis to calculate with 97.5% confidence the potential loss in earnings/change in value we might experience
if an
adverse change in market rates were to occur.
We are currently implementing a fully integrated risk management system across all business units including Nesbitt
Burns and Harris Regional Banking based on Value at Risk (VAR) methodologies. VAR measures the potential change
of the present value of future expected cash flows from each of our portfolios. VAR is the basis of calculation of position
risk capital in accordance with BIS and OSFI requirements.
Position Risk Sensitivity
(after tax in $ millions)
As at October 31
1997 1996
Cdn$ US$ Cdn$ US$
Earnings at risk
(a)
(59.6) (34.8) (70.7) (14.6)
Mark-to-market risk
(a)
(250.9) (83.2) (284.3) (55.0)
(a) Earnings at risk and mark-to-market risk include Cdn$(20.5) and US$(17.9) in 1997 and
Cdn$(20.7) and US$(13.9) in 1996 related to the trading portfolios.