Citibank 2013 Annual Report Download - page 151

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CREDIT DERIVATIVES
Citigroup makes markets in and trades a range of credit derivatives on behalf
of clients and in connection with its risk management activities. Through
these contracts, Citi either purchases or writes protection on either a single-
name or portfolio basis. Citi primarily uses credit derivatives to help mitigate
credit risk in its corporate loan portfolio and other cash positions, and to
facilitate client transactions.
Credit derivatives generally require that the seller of credit protection
make payments to the buyer upon the occurrence of predefined events
(settlement triggers). These settlement triggers, which are defined by the
form of the derivative and the referenced credit, are generally limited to
the market standard of failure to pay indebtedness and bankruptcy (or
comparable events) of the reference credit and, in a more limited range
of transactions, debt restructuring. Credit derivative transactions referring
to emerging market reference credits will also typically include additional
settlement triggers to cover the acceleration of indebtedness and the risk of
repudiation or a payment moratorium. In certain transactions on a portfolio
of referenced credits or asset-backed securities, the seller of protection may
not be required to make payment until a specified amount of losses has
occurred with respect to the portfolio and/or may only be required to pay for
losses up to a specified amount.
Citi generally has a mismatch between the total notional amounts of
protection purchased and sold, and it may hold the reference assets directly,
rather than entering into offsetting credit derivative contracts as and when
desired. The open risk exposures from credit derivative contracts are largely
matched after certain cash positions in reference assets are considered and
after notional amounts are adjusted, either to a duration-based equivalent
basis or to reflect the level of subordination in tranched structures.
Citi monitors its counterparty credit risk in credit derivative contracts. As
of December 31, 2013 and December 31, 2012, approximately 97% of the
gross receivables are from counterparties with which Citi maintains collateral
agreements. A majority of Citi’s top 15 counterparties (by receivable balance
owed to Citi) are banks, financial institutions or other dealers. Contracts
with these counterparties do not include ratings-based termination events.
However, counterparty ratings downgrades may have an incremental effect by
lowering the threshold at which Citi may call for additional collateral.
The ratings of the credit derivatives portfolio presented in the following
table are based on the assigned internal or external ratings of the referenced
asset or entity. Where external ratings are used, investment-grade ratings are
considered to be ‘Baa/BBB’ and above, while anything below is considered
non-investment grade. Citi’s internal ratings are in line with the related
external rating system. On certain underlying referenced credits or entities,
ratings are not available. Such referenced credits are included in the “not
rated” category and are primarily related to credit default swaps and other
derivatives referencing investment grade and high yield credit index products
and customized baskets.