Bank of Montreal 2010 Annual Report Download - page 67

MD&A
(91% in 2009) of the municipal bond portfolio is rated investment grade,
including the benefits of the insurance guarantees. Approximately 85%
(approximately 77% in 2009) of the municipal bond holdings have
ratings exclusive of the insurance guarantees and all of those are rated
investment grade.
BMO-Sponsored Securitization Vehicles
BMO sponsors various vehicles that fund assets originated by either
BMO (bank securitization vehicles) or its customers (Canadian customer
securitization vehicles and U.S. customer securitization vehicle).
We earn fees for providing services related to the securitizations in the
customer securitization vehicles, including liquidity, distribution and
financial arrangement fees for supporting the ongoing operations of
the vehicles. These fees totalled approximately $97 million in 2010 and
$93 million in 2009. Further disclosure on the impact of IFRS on these
vehicles is provided on pages 70 to 73.
Bank Securitization Vehicles
Periodically, we sell loans to off-balance sheet entities or trusts, either
for capital management purposes or to obtain alternate sources of
funding. Gains on sales to the securitization vehicles, as well as revenues
paid to us for servicing the loans sold, are recognized in income.
BMO has retained interests in our three bank securitization vehicles,
as we sometimes choose to or are required to purchase subordinated
interests or maintain cash deposits in the entities, and we have also
recorded deferred purchase price amounts. These latter amounts
represent the portion of gains on sales to securitization vehicles that
have not been received in cash. Retained interests recorded as assets
in our Consolidated Balance Sheet as at October 31, 2010 and 2009
were $916 million and $1,015 million, respectively. In the event there are
defaults on certain of the assets held by the vehicles, retained interests
in those assets may not be fully recoverable and would then be written
down. In addition, prepayments and changes in interest rates will affect
the expected cash flows from the vehicles, which may result in partial
write-downs of retained interests. During the year ended October 31,
2010, there was a $13 million write-down of retained interests in bank
securitization vehicles ($12 million of write-downs in 2009).
The assets of two of the vehicles consist of Canadian residential
mortgages and the third holds Canadian credit card loans transferred
from BMO. Our investment in the asset-backed commercial paper (ABCP)
of vehicles that hold residential mortgages was $105 million ($55 million
in 2009). ABCP issued by the vehicles holding mortgages is rated
R-1 (high) by DBRS Limited (DBRS) and Prime-1 by Moody’s. We have
provided $5.1 billion in liquidity facilities to the two vehicles that
hold residential mortgages and no amounts had been drawn against
these facilities at October 31, 2010. We have not provided liquidity
facilities to the vehicle that holds credit card loans as it issues longer-
term asset-backed securities and not ABCP. We hold subordinated notes
issued by the credit card securitization vehicle with a face value of
$257 million ($269 million in 2009). The asset-backed securities issued
to third-party investors by the vehicle holding credit card loans are
rated AAA by DBRS and Aaa by Moody’s. Further information on the impact
of securitization activities on the consolidated financial statements is
outlined in Note 8 on page 126 of the financial statements.
Canadian Customer Securitization Vehicles
The customer securitization vehicles we sponsor in Canada assist our
customers with the securitization of their assets to provide them with an
alternate source of funding. These vehicles provide clients with access to
financing in the ABCP markets by allowing them to sell their assets into
these vehicles, which then issue ABCP to investors to fund the purchases.
In all cases, the sellers continue to service the transferred assets and
are first to absorb any realized losses on the assets.
Our exposure to losses relates to our investment in ABCP issued by
the vehicles, derivative contracts we have entered into with the vehicles
and the liquidity support we provide through backstop liquidity facilities.
We use our credit adjudication process in deciding whether to enter
into these agreements just as we do when extending credit in the form
of a loan.
BMO sometimes enters into derivative contracts with these vehicles
to enable them to manage their exposures to interest rate and foreign
exchange rate fluctuations. The fair value of such contracts at October 31,
2010 was $14 million, which was recorded as a derivative asset in our
Consolidated Balance Sheet (derivative asset of $44 million in 2009).
Most customer securitization vehicles are funded in the market,
while some are funded directly by BMO. BMO consolidates the accounts
of the customer securitization vehicles where BMO provides the funding,
as the majority of the gains or losses of those vehicles are expected to
accrue to BMO. Included in the total assets of the bank-funded vehicles
of $290 million at year end were $4 million of mortgage loans with
subprime or Alt-A characteristics. No losses have been recorded on BMO’s
exposure to these vehicles.
BMO’s investment in the ABCP of the market-funded vehicles
totalled $46 million at October 31, 2010 ($328 million in 2009). No losses
have been recorded on these investments.
BMO provided liquidity support facilities to the market-funded
vehicles totalling $3.0 billion at October 31, 2010 ($5.8 billion in 2009).
This amount comprised part of other credit instruments outlined in
Note 5 on page 122 of the financial statements. All of these facilities
remain undrawn. The assets of each of these market-funded customer
securitization vehicles consist primarily of diversified pools of Canadian
automobile receivables and Canadian residential mortgages. These
two asset classes represent 65% of the aggregate assets of these vehicles.
Included in these assets are $210 million of Canadian residential
mortgage loans with subprime or Alt-A characteristics.
In the event we choose to or are required to terminate our relation-
ship with a customer securitization vehicle, we would be obligated
to hold any associated derivatives until their maturity. We would no
longer receive fees for providing services relating to the securitizations,
as previously described.
U.S. Customer Securitization Vehicle
We sponsor a U.S. ABCP multi-seller vehicle. This customer securitization
vehicle assists our customers with the securitization of their assets
to provide them with alternative sources of funding. The vehicle provides
funding to diversified pools of portfolios through 75 (81 in 2009)
individual securitization transactions with an average facility size of
US$59 million. The size of the pools ranged from US$0.7 million to
US$301 million at October 31, 2010. Residential mortgages classified
as subprime or Alt-A comprise 0.4% of the portfolio.
Approximately 63% of the vehicle’s commitments have been
rated by Moody’s or S&P, and almost all of those are rated A or higher.
Approximately $141 million of the commitments are insured by mono-
lines, primarily MBIA Inc. and Ambac Financial Group. The guarantees
relate to assets comprising debt secured by middle-market corporate
loans, state lottery cash flows and pharmaceutical royalty cash flows.
None of the insurance guarantees involve mortgages, asset-backed
securities or structured-finance CDOs. The vehicle holds exposures
secured by a variety of asset classes, including mid-market and corporate
loans, commercial real estate and auto loans.
The vehicle had US$3.2 billion of commercial paper outstanding
at October 31, 2010 (US$4.4 billion in 2009). The ABCP of the vehicle
is rated A1 by S&P and P1 by Moody’s. BMO has not invested in the
vehicle’s ABCP. Outstanding commercial paper has consistently been
purchased by third-party investors, notwithstanding market disruptions
during the financial crisis, and pricing levels are in line with those of
top-tier ABCP vehicles in the United States. BMO provides committed
liquidity support facilities to the vehicle. The amount of the facilities was
US$3.8 billion at October 31, 2010 (US$5.7 billion in 2009), all of which
was undrawn. During 2010, in accordance with the terms of the supporting
liquidity agreements, BMO directly funded six of the vehicle’s commercial
BMO Financial Group 193rd Annual Report 2010 65