Barclays 2010 Annual Report Download - page 112

Derivatives (audited)
The Group’s use of derivative contracts is outlined on page 213.
The Group is exposed to credit risk on derivative contracts, which arises as a result of counterparty credit risk and movements in the fair value of credit
derivatives. The Group’s exposure to counterparty risk is affected by the nature of the trades, the credit worthiness of the counterparty, and netting and
collateral arrangements. Details of credit derivatives are disclosed on page 213.
Nature of derivative trades
The Group buys and sells financial instruments that are traded or cleared on an exchange, including interest rate swaps, futures and options on futures.
Holders of exchange traded instruments provide margin daily with cash or other security at the exchange, to which the holders look for ultimate
settlement.
The Group also buys and sells financial instruments that are traded over the counter, rather than on a recognised exchange. These instruments range
from commoditised transactions in derivative markets, to trades where the specific terms are tailored to the requirements of the Group’s customers.
In many cases, industry standard documentation is used, most commonly in the form of a master agreement, with individual transaction confirmations.
The existence of a signed master agreement is intended to give the Group protection in situations where a counterparty is in default.
Counterparty credit quality
The credit quality of the Group’s derivative assets according to the credit quality of the counterparty at 31st December 2010 and 2009 was as follows:
Credit quality (audited) 2010 2009
As at 31st December
AAA to BBB-
(investment
grade)
£m
BB+ to B
£m
B- and below
£m
Total
£m
AAA to BBB-
(investment
grade)
£m
BB+ to B
£m
B- and below
£m
Total
£m
Derivatives 401,242 15,598 3,479 420,319 399,534 15,565 1,716 416,815
95.5% 3.7% 0.8% 100.0% 95.9% 3.7% 0.4% 100.0%
Netting and collateral arrangements
Credit risk from derivatives is mitigated where possible through netting agreements whereby derivative assets and liabilities with the same counterparty
can be offset. Group policy requires all netting arrangements to be legally documented. The ISDA Master Agreement is the Group’s preferred agreement
for documenting OTC derivatives. It provides the contractual framework within which dealing activities across a full range of OTC products are conducted
and contractually binds both parties to apply close-out netting across all outstanding transactions covered by an agreement if either party defaults or
other predetermined events occur.
Collateral is obtained against derivative assets, depending on the creditworthiness of the counterparty and/or nature of the transaction. Any collateral
taken in respect of OTC trading exposures will be subject to a ‘haircut’ which is negotiated at the time of signing the collateral agreement. A haircut is the
valuation percentage applicable to each type of collateral and will be largely based on liquidity and price volatility of the underlying security. The collateral
obtained for derivatives is either cash, direct debt obligation government (G14+) bonds denominated in the domestic currency of the issuing country,
debt issued by supranationals or letters of credit issued by an institution with a long-term unsecured debt rating of A+/A3 or better. Where the Group
has ISDA master agreements, the collateral document will be the ISDA Credit Support Annex (CSA). The collateral document must give Barclays the
power to realise any collateral placed with it in the event of the failure of the counterparty, and to place further collateral when requested or in the event
of insolvency, administration or similar processes, as well as in the case of early termination.
Under IFRS, netting is permitted only if both of the following criteria are satisfied:
– the entity has a legally enforceable right to set off the recognised amounts; and
– the entity intends either to settle on a net basis, or to realise the asset and settle the liability simultaneously.
This results in Gross derivative assets of £420bn (2009: £417bn).
Under US GAAP, netting is also permitted, regardless of the intention to settle on a net basis, where there is a counterparty master agreement that would
be enforceable in the event of bankruptcy.
Risk management
Credit risk management continued
110 Barclays PLC Annual Report 2010 www.barclays.com/annualreport10