Bank of Montreal 2013 Annual Report Download - page 123

Notes
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
Note 3: Securities
Securities are divided into four types, each with a different purpose and
accounting treatment. The types of securities we hold are as follows:
Trading securities are securities that we purchase for resale over a
short period of time. We report these securities at their fair value and
record the fair value changes and transaction costs in our Consolidated
Statement of Income in trading revenues.
Securities Designated at Fair Value
Securities designated at fair value through profit or loss are financial
instruments that are accounted for at fair value, with changes in fair
value recorded in income provided they meet certain criteria. Securities
designated at fair value through profit or loss must have reliably
measurable fair values and satisfy one of the following criteria:
(1) accounting for them at fair value eliminates or significantly reduces
an inconsistency in measurement or recognition that would otherwise
arise from measuring assets or liabilities or recognizing the gains and
losses on them on a different basis; (2) the securities are part of a group
of financial assets, financial liabilities or both that is managed and has
its performance evaluated on a fair value basis, in accordance with a
documented risk management or investment strategy, and is reported
to key management personnel on a fair value basis; or (3) the securities
are hybrid financial instruments with one or more embedded derivatives
that would otherwise have to be bifurcated and accounted for
separately from the host contract. Financial instruments must be
designated on initial recognition, and the designation is irrevocable. If
these securities were not designated at fair value, they would be
accounted for as available-for-sale securities with unrealized gains and
losses recorded in other comprehensive income.
We designate certain securities held by our insurance subsidiaries
that support our insurance liabilities at fair value through profit or loss
since the actuarial calculation of insurance liabilities is based on the fair
value of the investments supporting them. This designation aligns the
accounting result with the way the portfolio is managed on a fair value
basis. The fair value of these investments as at October 31, 2013 of
$5,766 million ($5,561 million in 2012) is recorded in securities, trading
in our Consolidated Balance Sheet. The impact of recording these
investments at fair value through profit or loss was a decrease of $178
million in non-interest revenue, insurance income for the year ended
October 31, 2013 (increase of $286 million in 2012). Changes in the
insurance liability balances are also recorded in non-interest revenue,
insurance income.
We designate investments held by our credit protection vehicle and
our structured investment vehicle (our “structured credit vehicles”) at
fair value through profit or loss, which aligns the accounting result with
the way the portfolio is managed on a fair value basis. At October 31,
2013, these vehicles held only cash. The fair value of the investments
held in these vehicles at October 31, 2012 was $1,849 million and was
recorded in securities, trading in our Consolidated Balance Sheet. The
impact of recording these investments at fair value through profit or loss
was a decrease in non-interest revenue, trading revenues of $40 million
for the year ended October 31, 2013 (increase of $183 million in 2012).
We recognized offsetting amounts for derivative contracts that are held
to hedge changes in the fair value of these investments. Additional
information regarding our structured credit vehicles is included in
Note 9.
We designate certain investments held in our merchant banking
business at fair value through profit or loss, which aligns the accounting
result with the way the portfolio is managed. The fair value of these
investments as at October 31, 2013 of $488 million ($654 million in
2012) is recorded in securities, other in our Consolidated Balance Sheet.
The impact of recording these investments at fair value through profit or
loss was a decrease in non-interest revenue, securities gains, other than
trading of $18 million in our Consolidated Statement of Income for the
year ended October 31, 2013 (decrease of $41 million in 2012).
Available-for-sale securities consist of debt and equity securities that
may be sold in response to or in anticipation of changes in interest rates
and resulting prepayment risk, changes in foreign currency risk, changes
in funding sources or terms, or to meet liquidity needs.
Available-for-sale securities are initially recorded at fair value plus
transaction costs. They are subsequently re-measured at fair value with
unrealized gains and losses recorded in unrealized gains (losses) on
available-for-sale securities in our Consolidated Statement of
Comprehensive Income until the security is sold. Gains and losses on
disposal and impairment losses are recorded in our Consolidated
Statement of Income in non-interest revenue, securities gains, other
than trading. Interest income earned and dividends received on
available-for-sale securities are recorded in our Consolidated Statement
of Income in interest, dividend and fee income, securities.
Investments held by our insurance operations are classified as
available-for-sale or other securities, except for those investments that
support the policy benefit liabilities on our insurance contracts, which
are designated at fair value through profit or loss as discussed above.
Interest and other fee income on available-for-sale securities is
recognized when earned in our Consolidated Statement of Income in
non-interest revenue, insurance income.
Held-to-maturity securities are debt securities that we have the
intention and ability to hold to maturity. These securities are initially
recorded at fair value plus transaction costs and subsequently re-
measured at amortized cost using the effective interest method. Gains
and losses on disposal and impairment losses are recorded in our
Consolidated Statement of Income in securities gains (losses), other
than trading. Interest income earned and amortization of premiums or
discounts on the debt securities are recorded in our Consolidated
Statement of Income in interest, dividend and fee income, securities.
Other securities are investments in companies where we exert
significant influence over operating, investing and financing decisions
(companies in which we own between 20% and 50% of the voting
share) and certain securities held by our merchant banking business.
We account for all of our securities transactions using settlement date
accounting in our Consolidated Balance Sheet. Changes in fair value
between the trade date and settlement date are recorded in net income.
For available-for-sale securities, changes in fair value between the trade
date and settlement date are recorded in other comprehensive income.
Impairment Review
For available-for-sale, held-to-maturity and other securities, impairment
losses are recognized if there is objective evidence of impairment as a
result of an event that reduces the estimated future cash flows from the
security and the impact can be reliably estimated.
For equity securities, a significant or prolonged decline in the fair
value of a security below its cost is objective evidence of impairment.
The impairment loss on available-for-sale securities is the
difference between the cost/amortized cost and current fair value, less
any previously recognized impairment losses. The impairment loss on
held-to-maturity securities is measured as the difference between a
security’s carrying amount and the present value of estimated future
cash flows discounted at the asset’s original effective interest rate.
If there is objective evidence of impairment, a write-down is
recorded in our Consolidated Statement of Income in securities gains,
other than trading.
134 BMO Financial Group 196th Annual Report 2013