Bank of Montreal 2014 Annual Report Download - page 130

Notes
Credit Enhancement Facilities
Where warranted, we provide partial credit enhancement facilities for
transactions within ABCP programs administered by either us or third
parties. Credit enhancement facilities are included in backstop liquidity
facilities.
Derivatives
Certain of our derivative instruments meet the accounting definition of a
guarantee when they require the issuer to make payments to reimburse
the holder for a loss incurred because a debtor fails to make payment
when due under the terms of a debt instrument. In order to reduce our
exposure to these derivatives, we enter into contracts that hedge the
related risks.
Written credit default swaps require us to compensate a
counterparty following the occurrence of a credit event in relation to a
specified reference obligation, such as a bond or a loan. The maximum
amount payable under credit default swaps is equal to their notional
amount of $11,983 million as at October 31, 2014 ($13,288 million in
2013). The terms of these contracts range from less than one year to 10
years. The fair value of the related derivative liabilities included in
derivative instruments in our Consolidated Balance Sheet was
$124 million as at October 31, 2014 ($102 million in 2013).
Exchange and Clearinghouse Guarantees
We are a member of several securities and futures exchanges and
clearinghouses. Membership in certain of these organizations may
require us to pay a pro rata share of the losses incurred by the
organization in the event of default of another member. Such
obligations vary with different organizations. These obligations may be
limited to members who dealt with the defaulting member, an amount
related to our contribution to a member’s guarantee fund, or an amount
specified in the membership agreement. It is difficult to estimate our
maximum exposure under these membership agreements, since this
would require an assessment of future claims that may be made against
us that have not yet occurred. Based on historical experience, we expect
the risk of loss to be remote.
Indemnification Agreements
In the normal course of operations, we enter into various agreements
that provide general indemnifications. These indemnifications typically
occur in connection with sales of assets, securities offerings, service
contracts, membership agreements, clearing arrangements, derivative
contracts and leasing transactions. We also have a securities lending
business that lends securities owned by clients to borrowers who have
been evaluated for credit risk using the same credit risk process that is
applied to loans and other credit assets. In connection with these
activities, we provide an indemnification to lenders against losses
resulting from the failure of the borrower to return loaned securities
when due. All borrowings are fully collateralized with cash or
marketable securities. As securities are loaned, we require borrowers to
maintain collateral which is equal to or in excess of 100% of the fair
value of the securities borrowed. The collateral is revalued on a daily
basis. The amount of securities loaned subject to indemnification was
$5,269 million as at October 31, 2014 ($4,778 million in 2013). No
amount was included in our Consolidated Balance Sheet as at
October 31, 2014 and 2013 related to these indemnifications.
Note 8: Asset Securitization
Periodically, we securitize loans to obtain alternate sources of funding.
Securitization involves selling loans to trusts (“securitization vehicles”),
which buy the loans and then issue either interest bearing or discounted
investor certificates.
We use a bank securitization vehicle to securitize our Canadian
credit card loans. We are required to consolidate this vehicle. See Note 9
for further information. We also sell Canadian mortgage loans to third-
party Canadian securitization programs, including the Canadian Mortgage
Bond program, and directly to third-party investors under the National
Housing Act Mortgage-Backed Securities program.
We assess whether the loans qualify for off-balance sheet
treatment based on the transfer of the risks and rewards.
Under these programs, we are entitled to the payment over time of
the excess of the sum of interest and fees collected from customers, in
connection with the loans that were sold, over the yield paid to
investors in the securitization vehicle or third-party securitization
program, less credit losses and other costs.
The loans sold to third-party securitization programs or directly to
third parties do not qualify for off-balance sheet recognition as we have
determined that the transfer of these loans has not resulted in the
transfer of substantially all the risks and rewards, since we continue to
be exposed to substantially all of the prepayment, interest rate and/or
credit risk associated with the securitized loans. We continue to
recognize the loans in our Consolidated Balance Sheet, and we
recognize the instruments issued as a liability representing a secured
financing. The carrying amount of assets in the table below reflects the
value of the securitized mortgages, as well as payments received on
securitized mortgages that are held in the vehicle or designated
accounts. The interest and fees collected, net of the yield paid to
investors, is recorded in net interest income using the effective interest
method over the term of the securitization. Credit losses associated with
the loans are recorded in the provision for credit losses. During the year
ended October 31, 2014, we sold $5,564 million of loans to third-party
securitization programs ($6,704 million in 2013), which does not include
amounts that were transferred and repurchased during the year.
The following table shows the carrying amounts related to securitization activities with third parties that are recorded in our Consolidated Balance
Sheet, together with the associated liabilities, for each category of asset on the balance sheet:
(Canadian $ in millions) 2014 (1) 2013
Carrying
amount of
assets
Associated
liabilities
Carrying
amount of
assets
Associated
liabilities
Residential mortgages 9,569 9,956
Other related assets (2) 8,382 8,660
Total 17,951 17,546 18,616 18,235
(1) The fair value of the securitized assets is $18,078 million and the fair value of the associated
liabilities is $17,858 million, for a net position of $220 million. Securitized assets are those
which we have transferred to third parties, including other related assets.
(2) Other related assets represent payments received on account of loans pledged under
securitization that have not been applied against the associated liabilities. The payments
received are held on behalf of the investors in the securitization vehicles until principal
payments are required to be made on the associated liabilities. In order to compare all
assets supporting the associated liabilities, this amount is added to the carrying value of the
securitized assets in the table above.
BMO Financial Group 197th Annual Report 2014 143