CenterPoint Energy 2009 Annual Report Download - page 84

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62
Item 7A. Quantitative and Qualitative Disclosures About Market Risk
Impact of Changes in Interest Rates and Energy Commodity Prices
We are exposed to various market risks. These risks arise from transactions entered into in the normal course of
business and are inherent in our consolidated financial statements. Most of the revenues and income from our
business activities are impacted by market risks. Categories of market risk include exposure to commodity prices
through non-trading activities, interest rates and equity prices. A description of each market risk is set forth below:
• Commodity price risk results from exposures to changes in spot prices, forward prices and price volatilities
of commodities, such as natural gas, natural gas liquids and other energy commodities.
• Interest rate risk primarily results from exposures to changes in the level of borrowings and changes in
interest rates.
• Equity price risk results from exposures to changes in prices of individual equity securities.
Management has established comprehensive risk management policies to monitor and manage these market risks.
We manage these risk exposures through the implementation of our risk management policies and framework. We
manage our commodity price risk exposures through the use of derivative financial instruments and derivative
commodity instrument contracts. During the normal course of business, we review our hedging strategies and
determine the hedging approach we deem appropriate based upon the circumstances of each situation.
Derivative instruments such as futures, forward contracts, swaps and options derive their value from underlying
assets, indices, reference rates or a combination of these factors. These derivative instruments include negotiated
contracts, which are referred to as over-the-counter derivatives, and instruments that are listed and traded on an
exchange.
Derivative transactions are entered into in our non-trading operations to manage and hedge certain exposures,
such as exposure to changes in natural gas prices. We believe that the associated market risk of these instruments
can best be understood relative to the underlying assets or risk being hedged.
As of December 31, 2009, we had outstanding long-term debt, bank loans, lease obligations and obligations under
our ZENS that subject us to the risk of loss associated with movements in market interest rates.
Our floating-rate obligations aggregated $1.5 billion and $-0- at December 31, 2008 and 2009, respectively.
At December 31, 2008 and 2009, we had outstanding fixed-rate debt (excluding indexed debt securities)
aggregating $9.0 billion and $9.9 billion, respectively, in principal amount and having a fair value of $8.5 billion
and $10.4 billion, respectively. Because these instruments are fixed-rate, they do not expose us to the risk of loss in
earnings due to changes in market interest rates (please read Note 8 to our consolidated financial statements).
However, the fair value of these instruments would increase by approximately $260 million if interest rates were to
decline by 10% from their levels at December 31, 2009. In general, such an increase in fair value would impact
earnings and cash flows only if we were to reacquire all or a portion of these instruments in the open market prior to
their maturity.
As discussed in Note 6 to our consolidated financial statements, the ZENS obligation is bifurcated into a debt
component and a derivative component. The debt component of $121 million at December 31, 2009 was a fixed-rate
obligation and, therefore, did not expose us to the risk of loss in earnings due to changes in market interest rates.
However, the fair value of the debt component would increase by approximately $20 million if interest rates were to
decline by 10% from levels at December 31, 2009. Changes in the fair value of the derivative component, a
$201 million recorded liability at December 31, 2009, are recorded in our Statements of Consolidated Income and,
therefore, we are exposed to changes in the fair value of the derivative component as a result of changes in the
underlying risk-free interest rate. If the risk-free interest rate were to increase by 10% from December 31, 2009
levels, the fair value of the derivative component liability would increase by approximately $5 million, which would
be recorded as an unrealized loss in our Statements of Consolidated Income.