Barclays 2014 Annual Report Download - page 120

118 I Barclays PLC Annual Report 2014 barclays.com/annualreport
Material existing and emerging risks
Material existing and emerging risks to the Group’s future performance
Risk review
c) Large single name losses
The Group has large individual exposures to single name
counterparties. The default of obligations by such counterparties could
have a significant impact on the carrying value of these assets. In
addition, where such counterparty risk has been mitigated by taking
collateral, credit risk may remain high if the collateral held cannot be
realised or has to be liquidated at prices which are insufficient to
recover the full amount of the loan or derivative exposure. Any such
defaults could have a material adverse effect on the Group’s results due
to, for example, incurring higher impairment charges.
Market risk
The Group’s financial position may be adversely affected by changes
in both the level and volatility of prices leading to lower revenues and
may include:
i) Major changes in quantitative easing programmes (emerging risk)
The trading business model is focused on client facilitation in the
wholesale markets, involving market making activities, risk
management solutions and execution. A prolonged continuation of
current quantitative easing programmes, in certain regions, could lead
to a change and a decrease of client activity which could result in lower
fees and commission income.
The Group is also exposed to a rapid unwinding of quantitative easing
programmes. A sharp movement in asset prices could affect market
liquidity and cause excess volatility impacting the Group’s ability to
execute client trades and may also result in portfolio losses.
ii) Adverse movements in interest and foreign currency exchange
rates (emerging risk)
A sudden and adverse movement in interest or foreign currency
exchange rates has the potential to detrimentally impact the Group’s
income arising from non-trading activity.
The Group has exposure to non-traded interest rate risk, arising from
the provision of retail and wholesale (non-traded) banking products
and services. This includes current accounts and equity balances which
do not have a defined maturity date and an interest rate that does not
change in line with base rate changes. The level and volatility of interest
rates can impact the Group’s net interest margin, which is the interest
rate spread earned between lending and borrowing costs. The potential
for future volatility and margin changes remains in key areas such as in
the UK benchmark interest rate, to the extent such volatility and margin
changes are not entirely neutralised by hedging programmes.
The Group is also at risk from movements in foreign currency exchange
rates as these will impact the sterling equivalent value of foreign
currency denominated assets in the banking book, and therefore
exposing the Group to currency translation risk.
While the impact is difficult to predict with any accuracy, failure to
appropriately manage the Group’s balance sheet to take account of
these risks could have an adverse effect on the Group’s financial
prospects due to reduced income and volatility of the regulatory capital
measures.
iii) Adverse movements in the pension fund
Adverse movements between pension assets and liabilities for defined
benefits pension schemes could contribute to a pension deficit. The
liabilities discount rate is a Key Risk and, in accordance with
International Financial Reporting Standards (IAS 19), is derived from
the yields of high quality corporate bonds (deemed to be those with
AA ratings) and consequently includes exposure to both risk-free yields
and credit spreads. Therefore, the Group’s defined benefits scheme
valuation would be adversely affected by a prolonged fall in the
discount rate or a persistent low rate environment. Inflation is another
key risk driver to the pension fund, as the net position could be
negatively impacted by an increase in long term inflation expectation.
iv) Non-Core assets
As part of the assets in the Non-Core business, the Group holds a UK
portfolio of generally longer term loans to counterparties in Education,
Social Housing and Local Authorities (ESHLA) sectors which are
measured on a fair value basis. The valuation of this portfolio is subject
to substantial uncertainty due to the long-dated nature of the
portfolios, the lack of a secondary market in the relevant loans and
unobservable loan spreads. As a result of these factors, the Group may
be required to revise the fair values of these portfolios to reflect, among
other things, changes in valuation methodologies due to changes in
industry valuation practices and as further market evidence is obtained
in connection with the Non-Core asset run-off and exit process. In
2014, the Group recognised a reduction of £935m in the fair value of
the ESHLA portfolio. Any further negative adjustments to the fair value
of the ESHLA portfolio may give rise to significant losses to the Group.
For further information refer to Note 18 of the Group’s consolidated
financial statements.
Funding risk
The ability of the Group to achieve its business plans may be
adversely impacted if it does not effectively manage its capital
(including leverage) and liquidity ratios.
The Group may not be able to achieve its business plans due to: i)
being unable to maintain appropriate capital ratios; ii) being unable to
meet its obligations as they fall due; iii) rating agency methodology
changes; and iv) adverse changes in foreign exchange rates on capital
ratios.
i) Being unable to maintain appropriate capital ratios
Should the Group be unable to maintain or achieve appropriate capital
ratios this could lead to: an inability to support business activity; a
failure to meet regulatory requirements including the requirements of
regulator set stress tests; increased cost of funding due to deterioration
in credit ratings; restrictions on distributions including the ability to
meet dividend targets; and/or the need to take additional measures to
strengthen the Group’s capital or leverage position. Basel III and CRD IV
have increased the amount and quality of capital that the Group is
required to hold. While CRD IV requirements are now in force in the
United Kingdom, changes to capital requirements can still occur,
whether as a result of further changes by EU legislators, binding
regulatory technical standards being developed by the European
Banking Authority (EBA) or changes to the PRA interpretation and
application of these requirements to UK banks. Such changes, either
individually and/or in aggregate, may lead to further unexpected
enhanced requirements in relation to the Group’s CRD IV capital.
Additional capital requirements will also arise from other regulatory
reforms, including both UK, EU and US proposals on bank structural
reform, current EBA ‘Minimum Requirement for own funds and Eligible
Liabilities’ (MREL), proposals under the EU Bank Recovery and
Resolution Directive (BRRD) and Financial Stability Board (FSB) Total
Loss-Absorbing Capacity (TLAC) proposals for Globally Systemically
Important Banks (G-SIBs). Given many of the proposals are still in draft
form and subject to change, the impact is still being assessed. Barclays
is participating in an FSB Quantitative Impact Study (QIS) to determine
the quantum and composition of TLAC requirements. However, it is
likely that these changes in law and regulation will have an impact on
the Group as they would require changes to the legal entity structure of
the Group and how businesses are capitalised and funded. Any such
increased capital requirements may also constrain the Group’s planned
activities, lead to forced asset sales and balance sheet reductions and
could increase the Group’s costs, impact on the Group’s earnings and
restrict the Group’s ability to pay dividends. Moreover, during periods of
market dislocation, or when there is significant competition for the
type of funding that the Group needs, increasing the Group’s capital
resources in order to meet targets may prove more difficult and/or costly.
ii) Being unable to meet its obligations as they fall due
Should the Group fail to manage its liquidity and funding risk
sufficiently, this may result in the Group, either not having sufficient
financial resources available to meet its payment obligations as they fall
due or, although solvent, only being able to meet these obligations at
excessive cost. This could cause the Group to fail to meet regulatory
liquidity standards, be unable to support day to day banking activities
or no longer be a going concern.