Bank of Montreal 2010 Annual Report Download - page 86

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MANAGEMENT’S DISCUSSION AND ANALYSIS
MD&A
The distribution of our daily net revenue for the portfolios has been affected by periodic valuation
adjustments as outlined in the notes to the preceding Trading and Underwriting Net Revenues
versus Market Value Exposure graph.
Structural Market Risk
Structural market risk is comprised of interest rate risk arising from our
banking activities (loans and deposits) and foreign exchange risk arising
from our foreign currency operations. Structural market risk is managed
by BMO’s Corporate Treasury group in support of high-quality earnings
and maximization of sustainable product spreads.
Structural interest rate risk arises primarily from interest rate
mismatches and embedded options. Interest rate mismatches result
from differences in the scheduled maturity, repricing dates or reference
rates of assets, liabilities and derivatives. Embedded option risk results
from product features that allow customers to alter scheduled maturity or
repricing dates. Embedded options include loan prepayment and deposit
redemption privileges and committed rates on unadvanced mortgages. The
net interest rate mismatch, representing residual assets funded by common
shareholders’ equity, is managed to a target duration, which is currently
between two and three years, while embedded options are managed to
low risk levels. The net interest rate mismatch is primarily managed with
interest rate swaps and securities. Embedded option risk exposures are
managed by purchasing options or through a dynamic hedging process.
Structural foreign exchange risk arises primarily from translation
risk associated with the net investment in our U.S. operations and from
transaction risk associated with our U.S.-dollar-denominated net income.
0
5
10
15
20
25
(30)
(13)
(12)
(9)
(8)
(7)
(6)
(5)
(4)
(3)
(2)
(1)
0
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
30
42
46
69
Daily net revenues (pre-tax)
Frequency Distribution of Daily Net Revenues
November 2, 2009 to October 29, 2010 ($ millions)
Frequency in number of days
MVE Risk Factors
November 2, 2009 to October 29, 2010 ($ millions)
Interest Rate Risk (mark-to-market)
Foreign Exchange Risk
Issuer Risk
Commodity Risk
Equity Risk
Interest Rate Risk (AFS)
0
(5)
(10)
(15)
(20)
(25)
(1) December 31 – Primarily reflects normal trading activity and month-end valuation
adjustments. Daily Net Revenue $29.6MM.
(2) March 31 – Reflects normal trading activity as well as the recognition of valuation
adjustments including credit. Daily Net Revenue $68.8MM.
(3) May 10 – Reflects normal trading activity and the recognition of credit valuation adjustments.
Daily Net Revenue ($30.1MM).
(4) June 30 – Primarily reflects monthly adjustment to record the taxable equivalent basis of
certain transactions. Daily Net Revenue $41.9MM.
(5) September 30 – Reflects normal trading activity, fee income and the recognition of valuation
adjustments. Daily Net Revenue $45.6MM.
Jan 23
Nov 2
Jul 22
Oct 19
Apr 27
0
(25)
(50)
25
50
Total MVE
Revenue Total MVE excluding interest rate risk (AFS)
Trading and Underwriting Net Revenues versus Market Value Exposure
November 2, 2009 to October 29, 2010 ($ millions)
(1)
(2)
(3)
(4) (5)
Material in blue-tinted font above is an integral part of the 2010 annual consolidated financial statements (see page 75).
Trading revenues include amounts from all trading and underwriting
activities, whether accounted for as trading securities or AFS
securities, as well as certain fees and commissions directly related
to those activities.
84 BMO Financial Group 193rd Annual Report 2010